austerity Archives - the patient investor

July 1, 2014

Explaining Richard Koo to Paul Krugman | SNBCHF.com

George Dorgan writes:

….Prof. Steve Keen’s and Richard Koo’s recipe is to increase public debt, when the private sector is de-leveraging and to reduce public debt when the private sector is leveraging. According to Keen, the Americans are currently doing the complete opposite of what they should do. They should continue reducing private liabilities, but they should increase public spending.

The Fed wants the average American to spend, even deficit spending, while the state is doing austerity. According to Keen, the current increase of private US debt could lead to a new recession.

May 12, 2013

The monetary policy revolution

James Alexander, head of Equity Research at UK-based M&G Equities, sums up the evolution of central bank thinking. He describes the traditional problem of inadequate response by central banks to market shocks like the collapse of Lehman Brothers:

Although wages hold steady when nominal income falls, unemployment tends to rise as companies scramble to cut costs. In the wake of the crash, rising joblessness created a vicious circle of declining consumption and investment that proved very difficult to reverse, particularly as central banks remained preoccupied with inflation.

Failure of both austerity and quantitative easing has left central bankers looking for new alternatives:

…..Economist Michael Woodford presented a paper [at Jackson Hole last August] suggesting that the US Federal Reserve (Fed) should give markets and businesses a bigger steer about where the economy was headed by adopting a nominal economic growth target. In September, the Fed announced its third round of QE, which it has indicated will continue until unemployment falls below 6.5% – the first time US monetary policy has been explicitly tied to an unemployment rate. US stocks have since soared, shrugging off continued inaction surrounding the country’s ongoing debt crisis.

While targeting unemployment is preferable to targeting inflation, it is still a subjective measure that can be influenced by rises or falls in labor participation rates and exclusion of casual workers seeking full-time employment. Market Monetarists such as Scott Sumner and Lars Christensen advocate targeting nominal GDP growth instead — a hard, objective number that can be forecast with greater accuracy. Mark Carney, due to take over as governor of the BOE in July, seems to be on a similar path:

Echoing Michael Woodford’s comments at Jackson Hole, he advocated dropping inflation targets if economies were struggling to grow. He has since proposed easing UK monetary policy, adopting a nominal growth target and boosting recovery by convincing households and businesses that rates will remain low until growth resumes.

While NGDP targeting has been criticized as a “recipe for runaway inflation”, experiences so far have not borne this out. In fact NGDP targeting would have the opposite effect when growth has resumed, curbing inflation and credit growth and preventing a repeat of recent housing and stock bubbles.

April 24, 2013

Debunking austerity claims makes no difference to Europe’s monks and zealots | Telegraph Blogs

Ambrose Evans-Pritchard attacks euro-zone austerity:

Britain’s public debt was 260pc of GDP in 1816 at the end of near perma-wars: Seven Years War, American War of Independence, and the Napoleonic Wars. This was whittled down to 24pc over the next century by the magical compound effects of economic growth. The debt reached 220pc in 1945, the price for defeating fascism. This was certainly a drag on the post-War recovery, but it did not stop debt falling to 36pc by the mid-1990s.

Britain twice recovered from massive debt through a combination of growth and inflation — not necessarily in that order — but they had control of their own currency. The states of Europe are strait-jacketed by a currency dominated by the austerity-minded Bundesbank.

March 24, 2013

Cyprus: The Operation Was a Success. Shame the Patient Died. | Some of it was true…

Pawelmorski (pseudonym for a london-based fund manager) gives this opinion of the EU ‘rescue’ of Cyprus :

How bad is the damage?

Bloody appalling…… Take a moment to realise the scale of what’s been done here. No human agency has achieved so much economic destruction in such a short time without the use of weapons. The combination of laying waste to the financial sector and tearing up the savings of thousands of residents means that Cyprus won’t return to current levels of output for a decade, a funeral pyre which bears comparison only with Greece. There are four shocks happening at once; the bog-standard austerity shock; the trauma of bank withdrawal controls; the wealth shock; and the structural shock of wiping out the financial sector. The bailout bill is certainly going to get a lot higher too, as a larger amount of debt is piled onto a smaller economy.

March 20, 2013

Unintended consequences: Rewarding failure

Robert Shiller summarizes the arguments for raising taxes and increasing government spending at Project Syndicate:

……while that [austerity] approach to debt works well for a single household in trouble, it does not work well for an entire economy, for the spending cuts only worsen the problem. This is the paradox of thrift: belt-tightening causes people to lose their jobs, because other people are not buying what they produce, so their debt burden rises rather than falls.

There is a way out of this trap, but only if we tilt the discussion about how to lower the debt/GDP ratio away from austerity – higher taxes and lower spending – toward debt-friendly stimulus: increasing taxes even more and raising government expenditure in the same proportion. That way, the debt/GDP ratio declines because the denominator (economic output) increases, not because the numerator (the total the government has borrowed) declines.

What he does not consider, however, is the message we are sending to government. In much the same way as bailouts increase moral hazard — with too-big-to-fail institutions taking on bigger risks secure in the knowledge that the taxpayer will bail them out if the bets don’t pay off — we encourage bad behavior from politicians if we allow them to raise taxes and increase government spending every time they screw up the economy. Federal government spending in the US economy has grown from 12.5% of GDP in 1950 to nearly 25% of GDP today. Seems like they are getting the wrong message.

Federal Spending as % of GDP

That is like giving someone a promotion or a raise every time they mess up. When politicians fail, they need to get the right message — and not only at the next election. Cutting budgets when the economy is in recession is the right response, but how can we achieve this while saving the economy from a deflationary spiral?

The only way I can think of is to cut taxes and government expenditure, but encourage private investment in productive infrastructure through Treasury-backed low-interest or even interest-free development loans. These could be administered by an independently-elected infrastructure body with representatives from all parties. There are dangers, and the process would have to be closely monitored, but the risks are minor compared to rewarding failure.

December 12, 2012

Ray Dalio Explains The Rare Set Of Circumstances That's Making Him Bearish On Markets | Business Insider

Joe Weisenthal reports on hedge fund guru Ray Dalio’s outlook:

His novel set of circumstances he sees is an economy that faces austerity (due to the Fiscal Cliff, etc.) coupled with a Fed that’s mostly blown its bazooka, and can’t get much more juice out of QE.

Yields can’t go down anymore.

Austerity is coming.

Economy is running out of steam.

QE is losing its efficacy.

Rate turn probably finally coming late in 2013.

December 7, 2012

Reid: Eurozone's 2013 Nightmare Scenario | Business Insider

In his 2013 outlook, titled In Authorities We (have to) Trust, Deutsche Bank credit strategist Jim Reid warns that Europe is headed for tough times in 2013.

Matthew Boesler at BusinessInsider writes:

Reid highlights three major issues.

To start, European stocks – and stocks in markets around the world, for that matter – are considerably overvalued based on historical correlations to PMI data….

The second problem is austerity. Most accept that austerity measures weigh on economic growth in the short term, yet euro-area governments are moving forward with plans attempting to bring fiscal budgets back into balance anyway.

…. the third problem: namely, that governments have consistently set economic forecasts too high and then failed to meet their own targets.

November 11, 2012

Europe’s Populists at the Gate by Barry Eichengreen – Project Syndicate

Barry Eichengreen writes:

In focusing on summit declarations and promises of far-reaching reforms of EU institutions, investors are missing the real risk: the collapse of public support for, or at least public acquiescence to, the austerity policies required to work down heavy debt burdens – and for the governments pursuing these policies. Mass anti-austerity protests are one warning sign. Another is growing popular support for neo-Nazi movements like Golden Dawn, now the third-largest political party in Greece.

The rise to power of a “rejectionist” European government – that is, one that unilaterally rejects the policy status quo – would immediately bring the crisis to a head…….

via Europe’s Populists at the Gate by Barry Eichengreen – Project Syndicate.

October 8, 2012

IMF: Coping with high debt and sluggish growth [video]

The World Economic Outlook (WEO) presents the IMF staff’s analysis and projections of economic developments at the global level, in major country groups (classified by region, stage of development, etc.), and in many individual countries.

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[time: 38 minutes]

September 25, 2012

Fiscal consolidation in Sweden: A role model? | vox

By Martin Flodén, Associate Professor at Stockholm University

Fiscal austerity was effective during the Swedish economic crisis, but that insight is not particularly helpful today. Austerity would have been more complicated both economically and politically if it had not been supported by currency depreciation and strong external demand, and crisis countries today do not benefit from such developments. Attempts to consolidate before growth had resumed failed in Sweden. One possible interpretation of these observations is that prospects to consolidate are bleak until competitiveness has been restored in crisis economies…….

via Fiscal consolidation in Sweden: A role model? | vox.

Hat tip to Delusional Economics