Critical Economic Analysis

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Recent articles:
  • Limits to regulation and the inherent contradiction in the nature of banks
  • It's not all about flows - four issues missing from the G20 debate
  • New Zealand Job Summit - Proposal for a Nine Day Fortnight           Video
  • Why zombie banks won't be nationalized
  • Putting Obama's plan to the simplicity test
  • Government subsidies and the auto industry
  • China's Three "No"s to the U.S. But is Washington listening?
  • The Fiscal Package: Hope meets Two Big Challenges
  • Our Plague of Uncertainty: How to Get Business Moving Again
  • Trust - not confidence - is the issue facing Geithner
  • Eight structural factors undermining any turn-around
  • The Crunch in 2010
    Recent musings on The Economist, Reuters, VoxEU, Prudent Bear, Seeking Alpha et al:

    March 1, 2009: A Game of Confidence
    Basic economics tells us that:
    (1) Confidence levels will impact on the economy via decisions by households, firms and foreign lenders and borrowers as to how they dispose their income and assets.
    (2) Confidence is impacted by events in the real economy.
    This article looks mainly at some aspects of (1) but pays little attention to (2).
    Confidence (or lack thereof) is an attempt to look ahead and adjust behaviour accordingly; e.g. if house prices will continue to rise at 10% per annum, then I can continue to borrow lots of money.
    A lot of chat suggests that if we could just restore confidence levels, then all would be well. So, over to you, Mr President.
    But the fact is that confidence for much of the decade has been running too high - leading to the problems we know only too well of excess asset prices, debt, and over investment in capacity. So, the reduction in confidence is a necessary adjustment. The problem for us all is finding the right level, when a great deal of government action is likely to make matters worse in the longer term.

    Feb 15, 2009: What Eight Central Bankers Think
    Follow the link to the Bank for International Settlements web site and you will see that there are numerous recent papers by central bankers and many of them are sensible and thoughtful pieces - though inevitably tending toward the technical end of the spectrum. Common points (without having read them all):
    - Confidence that in terms of liquidity, the central banks have got it sorted.
    - No indication of much inflation concern.
    - To get through this the central banks have used a wider array of techniques than usual; the problem is how to wind back from these extra supports so that the financial sector does not become dependent upon them.
    - Maybe asset price inflation is a problem(!)
    - Smarter regulation needed.
    - Combination of loose monetary policy and light handed regulation in the U.S. created the conditions for the bubble (i.e. thank you Dr Greenspan).
    Given they're central banks, they can't comment much (publicly) on their various governments' fiscal positions. So, the big message is they can keep the financial system working. In which case why not get tough with weaker commercial banks and generally focus in on the underlying national and governmental debt issues.

    Feb 8, 2009: This Is Just the Beginning
    I took two critical points from Schiff's article:
    First, that a decline in the U.S. $ will trigger inflationary pressures. Second, (though he doesn't quite put it this way) the big increases in money supply are currently being offset by hoarding / saving by banks and consumers. A movement upward in prices could unravel that fast and lead to huge inflationary pressure.
    So, everything depends on the rest of the world accepting increasing U.S. debt and dollars. They have so far but at some point unknown the costs of existing U.S. assets will be less than the increasing incredibility of U.S. commitment to repay in non-hyper inflated $s.
    The present situation is v convenient for those seeking a staged withdrawal from the U.S. $.
    Contra expatsp, there are plenty of countries (including some of the big Euro members) with much better fundamentals than the U.S. and most will be issuing plenty of bonds to fund their own stimulus and rescue packages. Place your bets...

    Jan 29, 2009: Take-aways from Greenspan's time at the Fed
    One more take-away: Don't expect professionals to behave well.
    Throughout his time at the Fed, Greenspan encapsulated a narrow view of "homo oeconomicus." He repeatedly insisted that professionals in the financial arena knew what they were doing, and should be subject to minimal (if any) regulation. After all, it was not in their best interests to fail, and who knew better than they what the risks were. For example, ""Regulation of derivatives transactions that are privately negotiated by professionals is unnecessary," (Greenspan at Senate Agriculture Committee hearing, July 30, 1998). That is like saying that drivers of big rigs shouldn't be regulated because they are professionals and they don't want to have an accident.
    I suppose Thain (Merrill Lynch) and Fuld (Lehmanns) were very polite and respectful towards Greenspan. But many in the industry were aware of the character of some of their leaders. A tranche of major writings in economics has looked at how individual behaviour is often short sighted, poorly informed, opportunistic and self-interested; i.e. don't be naive about trusting truck drivers or bankers.
    But, even amidst the bust, Greenspan still didn't quite get it. At a Georgetown University speech in October 2008, Greenspan said that the problem is that people "got greedy. A lack of integrity spawned the crisis." Notice the "got greedy". Greenspan is astonished to find greed lurking on Wall St! Gordon Gecko must be a surprise 21st C phenomenon.

    Jan 24, 2009: Geithner on Yuan: Misstep or Warning Shot?
    China is dependent on the U.S. for trade. But the U.S. also benefits in that it gets cheap goods.
    The U.S. is dependent on China to fund its debt. But China also benefits in that it funds the U.S. purchases of its goods and finds a "safe" home for its money.
    Without access to Chinese goods, the U.S. would become uncompetitive on world markets. Without access to Chinese cash, the U.S. is bankrupt.
    Without access to U.S. markets, China faces a severe economic downturn and social disorder. Without lending to the U.S., China would undermine its key market and, in weakening the dollar, undermine world trade and its own savings in the U.S.
    That is a heavy set of inter-dependencies. So, let's hope the two governments can keep it cool.
    Over time, it will be easier for China to reduce its dependency on the U.S. than vice-versa. China can redeploy to other markets and investment areas and build domestic markets. It's moving to do so already.
    The U.S. is building its mountain of debt and thus becoming more dependent on creditors, notably China, all the time. Therefore, at some stage, if needled enough, China will cash in the U.S.'s chips. What's holding them back is:

  • general caution and wish to maintain (some) good will
  • the impact globally and thus uncertainty about full knock on effects
  • fear of domestic disorder.
    Jan 22: Preventing the Greatest Heist in History
    Government puts new money into a business in order to rescue it, but then subordinates its claims to the old money being rescued. As Whitney Tilson says, this seems ridiculous and amounts to the prudent majority funding the imprudent minority. BUT, three possibly sensible reasons for doing it with the big banks:
  • The government is desperate to retain a private ownership structure, as management by politics is bad news. Keeping a private ownership structure may help attract capital when (if) the market recovers.
  • Nationalising one bank and letting private equity and debt owners take the hit could trigger a rush for the exit by such owners with other banks (which is sort of happening anyway).
  • Overseas interests that would lose out also have very large holdings elsewhere in the economy. They (China, Saudi) are in position to threaten the U.S. government though, if they took action against the U.S., it would also hit them. There appears to be debate in China currently about how aggressive to be with the U.S.
    My guess is that it is a mixture of all three factors, rather than cronyism, that's behind current policy.

    Jan 13, 2009: Returning to a Gold Standard Is a Bad Idea
    I agree. Returning to a Gold Standard Is a Bad Idea. If it is to be meaningful, a gold standard requires that the quantity of money issued by a monetary authority is tied in some way to the quantity of gold it holds.
    If it isn't, then the so-called gold standard is meaningless - smoke and mirrors. If it is, then the distribution of gold and changes to the total quantity of gold available for monetary purposes largely determine the quantity of money.
    But MV=PQ. So price levels and industrial production become tied to ownership of gold. Either a permanent deflation - that is fall in price levels - is forced or gold must continually inflate in value so that more money can be issued on the basis of gold holdings whose net growth will be slower than the growth in world production. Either way, basically productive investment is hobbled in favour of gold.
    Better to have competing currencies and let the US $ fall off its throne as the reserve currency of the world.



  • Copyright 2008 Simon Smelt