A Couple of Gems
on January 4th, 2009 at 10:38 am
One blog participant brought a post by George Monbiot to my attention. I frequently comment that the financial regime initiated after WWII omitted key ideas that Keynes proposed–in particular, a new currency for international trade and controls on the behaviour of surplus nations as well as those running deficits. Monbiot provides the historic detail of these proposals and their defeat. It is well worth a read.
A link to my site from another blog alerted me to another post, from the opposite end of the spectrum, which is a cert for my “Brickbats” page–both for its content and its timing. On January 19, 2007, Gerard Baker of The Times editorialised that “Historians will marvel at the stability of our era“. An excerpt for you:
“Economists are debating the causes of the Great Moderation enthusiastically and, unusually, they are in broad agreement. Good policy has played a part: central banks have got much better at timing interest rate moves to smoothe out the curves of economic progress. But the really important reason tells us much more about the best way to manage economies.
It is the liberation of markets and the opening-up of choice that lie at the root of the transformation. The deregulation of financial markets over the Anglo-Saxon world in the 1980s had a damping effect on the fluctuations of the business cycle. These changes gave consumers a vast range of financial instruments (credit cards, home equity loans) that enabled them to match their spending with changes in their incomes over long periods.
In the City of London and New York, the creation of the secondary mortgage market, cushioned banks from the effect of a sharp downturn in their core business. The globalisation of finance meant that downturns in one market could be offset by strength overseas. The economies that took the most aggressive measures to free their markets reaped the biggest rewards.”
Yeah, right. In this context, I can’t help quoting myself from 1995, in the conclusion to my paper on modelling Minsky’s Financial Instability Hypothesis for the Journal of Post Keynesian Economics:
“From the perspective of economic theory and policy, [Minsky's] vision of a capitalist economy with finance requires us to go beyond that habit of mind which Keynes described so well, the excessive reliance on the (stable) recent past as a guide to the future. The chaotic dynamics explored in this paper should warn us against accepting a period of relative tranquility in a capitalist economy as anything other than a lull before the storm.”
PS Paul Amery provided a link to a paper by Bernanke on “The Great Moderation” too, but it was not the correct link. Here it is–written in 2004 so it’s not as outrageously badly timed as Baker’s blather. But I wonder how often Ben goes to bed wondering “How on earth did it all come to this?”
prudentsaver, go and try to dump US$2T of treasuries and see what you will get, certainly not $2T.
Prudentsaver, you are not making a valid comparison. The composition of the U.S. Feds. present day balance sheet is not the same as in the 70′s, 80′s or 90′s. The composition of the balance sheet as well as many other factors, which did not exist in the 70′s and 80′s, like for example, BRIC countries participation in world trade does matter.
The manner by which you make comparison will yield outcomes that are not real world.
In china the money multiplier, and the upwards long term trend in their bond yields is so strong, that I think China have the potential to take over with the reserve currency if the dollar was to crash, as china have a money multiplier around 5, and a lot of room to grow domestic credit growth if they choose to do so, the only possible problem in China are overheating. It’s so wildly different to the US, where it’s impossible to get the money flowing where it should. I think China might have ambitions to make an Asian currency zone, where the renminbi is the reserve currency, or even make it the world currency. I think it’s not long before our bonds break, simply because they lack any backing in comparison to China, that have plenty of backing for their bonds.
Ernie,
misread your post.
Yes, I am aware that they are not steralising as they would under normal circumstances. They have been expanding the liability side of their balance sheet, but by no means in the manner the Japanese performed quantitative easing.
In any case, my retort regarding steralising was in reference to prudentsavers proposition that there is a supposed bond bubble and that when there is a big sell off, yield will do a moon shot and inflation will ensue.
I am suggesting that following the money is not that simple!
The model that prudentsaver puts up as a justification for inflation can be considered far to simplified.
The point is that if they buyers are not there, the price will crash, and then there will be a vacuum, my guess is that currencies that the renminbi will be floated and fixed to gold in a moment like that, the Yen also acts as a reserve currency above the dollar, the moves in the currency markets clearly show the Yen is a emperor to the dollar. The Yuan is not a currency that’s a joke like the dollar. However. Fantasies, aside. I think the stag deflation of Roubini is interesting. It’s a remote possibility, that we will fall into something like japan, where the whole devenloped world experience a combination of domestic deflation and imported inflation from the BRIC countries. In that sense, the lack of union power from the seventies, ,etc, will cause us to avoid the wage price spiral, that will take hold in the emerging world, in reality causing a complete reversal of the trends of globalisation. Where food, gas, the things that matters will creep up very bad, and the things that don’t matters to most, the price of services, goes down.
iconoclast
I think this is somehow interesting:
http://vixandmore.blogspot.com/2008/12/double-tops-in-vix.html
I think we are in something that mirrors 1998, and are on the way out. There was a huge problem with inflation earlier this year. In my book, inflation ends when interest rates are raised. That have not happened yet, so I assume that bonds will sell off like in 99, and will flow into something, that will cause a bubble, I just don’t know what yet. That will cause interest rates to go up, and then the inflation we did see in june will be killed in the traditional fashion.
Hi iconoclast, I am curious about the assets you say the Fed can sell to sterilise the Treasuries they buy?? What will the get for the toxic waste CDO’s, Fanny and Freddie debt and AIG shares that are on their balance sheet?? I have a feeling that there will be as much interest in those “assets” as there was when the Fed overpaid for them, zero.
prudentsaver,
China has the potential to take up the role of a the world hegemon in the future, no doubt about that. However, they are not there in the here and now, and there are many things that can go wrong with the CPC plans. What matters is what is happening now, not may happen in twenty years time.
I think China’s economy is the second largest economy in the world. If you measure it properly.
I don’t think it’s as far away. If it ends with them as with japan in 1989, (I think china now is like japan in 1975), or if they achieve world dominance remains to be seen.
ned, my take on that matter is that the fed only needs to worry about those assets after the economy recover, and then value will recover to the toxic waste to, perhaps, but not likely making them a profit after adjusting for inflation, it will then help them take money out of the economy.
ned,
the Fed has purchased MBS, CMBS, high quality commercial paper, major stakes in the recapitalised banking and insurance industry all with significant haircuts, which are also earning them money as well.
The toxic junk is already written off, the tax payer will cop that fair and square between the eyes!
Anyone who suggests that ballooning of the Feds. balance sheet represent inflationary pressure or the Fed monetising the deficit simply doesn’t know what they’re talking about. Banks are sitting on the reserves, not withdrawing them as cash. When markets settle down, the Fed can and will absorb those reserves back in with sterilising sales of Treasury securities, just as it did in 2001 or after the more modest spike in August 2007.
Providing new reserves aggressively is absolutely and unquestionably the way the Fed needs to respond to this kind of development.
prudentsaver, you suggest there will be a vacuum, because there will be no buyers, well there will be a buyer, the Fed. The buyer of last resort if necessary.
If that happens, then I think the dollar will enter free fall, the only remedy for that will be for the fed to increase interest rates like crazy. I think it’s similar to the asian crisis, only it’s kind of reverse, the devenloping world having borrowed to the devenloped, hence, the devenloped are ending up with hiking interest rates, and crashing currencies ,to desperately attract buyers, from the devenloping world.
http://www.economist.com/finance/displaystory.cfm?story_id=11402856
prudentsaver,
they will of course steralise those purchases.
This whole game is going to be played out in the forex market, with readjustments in some currencies but not others that are fixated on pegging to the U.S.
It may all end up in trade tensions and resolved under the WTO, on the other hand the Black Swan always likes to show itself during these times, and it could all turn very nasty.
Hi Prudent and Icon,
You guys have been going for it.
The thing I love about you Prudent is that you just don’t quit. A very admirable quality.
I do agree with Icon, I think your analysis is shallow. You are ignoring debt levels, risk aversion/sentiment changes and deleveraging/debt deflation and wealth destruction.
What concerns me greatly, is that I don’t think you are reading and accepting what Steve and the other bloggers on this site (and other bearish sites like Mish) are saying. I don’t understand why you bother reading this site. You do not seem to accept any of the theories proposed.
You may well be right, time will tell. Certainly to date there is no leading indicators or recent historical data to support you predictions.
My fear is that you have taken huge bullish positions based on your predictions. I try to trade just like that. That is, predicting the future as opposed to following the herd. Well in theory anyway!
Please take care. The Macro economy and sentiment measures are crashing. These are leading indicators for falling demand. These do not support a quick turn around.
Despite this, I do expect a large multi month relief rally in equities and commodities during 2009. But I expect it to be all bad, very bad by the end of 2009. Anyway, what do I know?
Please be cautious as the bears are ruling and that trend has not changed yet. Despite what CNBC and all the “hope it will improve soon” crew says.