Authored by David Stockman via Contra Corner blog, Goldilocks is a conceit of monetary central planning and its erroneous predicate that falsifying financial asset prices is the route to prosperity. In fact, it only leads to immense and unstable financial bubbles which eventually crash - monkey-hammering the purported Goldilocks Economy as they do. It also leads to a complete corruption of the economic and financial narrative on both ends of the Acela Corridor. To wit, the Fed's serial financial bubbles on Wall Street are falsely celebrated as arising from a booming main street economy. In fact, they are an economic dagger that bleeds it of investment and cash and exposes it to "restructuring" mayhem from the C-suites when the egregious inflation of share prices and stock option values finally gets crushed by another financial meltdown. In this context, the Washington Post (WaPo) is out this morning with brutal takedown of our friend Larry Kudlow for his ebullient whistling past the graveyard on the eve of the financial crisis and Great Recession. It would be an understatement to say he didn't see it coming, but it's also completely unfair not to acknowledge that 95% of Wall Street and 100% of the FOMC were equally bubble-blind. In fact, when Larry Kudlow waxed eloquently in a piece in the National Review about the awesome economy the George Bush Administration had produced in December 2007, he was just delivering the Wall Street consensus forecast for the coming year: There’s no recession coming. The pessimistas were wrong. It’s not going to happen. At a bare minimum, we are looking at Goldilocks 2.0. (And that’s a minimum). Goldilocks is alive and well. The Bush boom is alive and well. It’s finishing up its sixth consecutive year with more to come. Yes, it’s still the greatest story never told.......In fact, we are about to enter the seventh consecutive year of the Bush boom. Well, not exactly. The worst recession since the 1930s actually incepted that very month and 10 months latter came Washington's hair-on-fire moment when the monetary and fiscal spigots were opened far wider than ever before--- bailing out everything that was collapsing, tottering, moving or even standing still. Still, Kudlow (like most of Wall Street) was not about to give up on his love affair with Goldilocks until she positively betrayed him. Thus, by February 2008 when the economic clouds were gathering, Kudlow insisted that, Maybe we are going to have a mild correction. Maybe not,” adding: “I’m going to bet that the economy will be rebounding sometime this summer, if not sooner. We are in a slow patch. That’s all. It’s nothing to get up in arms about.” By summer, of course, there was no economic rebound and the housing market was going down for the count. But Larry was not about to give up on Goldilocks, and, in fact, espied the bottom of the housing crunch and better times for the economy straight ahead: Media reports painted a pessimistic picture of today’s release on existing home sales, which fell 15 percent from a year ago and recorded higher inventories. But inside the report was an awful lot of very good new news, which appear to be pointing to a bottom in the housing problem; in fact, maybe the tiniest beginnings of a recovery.....For example, the median existing home price has increased four consecutive months and is up 10 percent since February. The point here, however, is not to make Larry Kudlow look especially foolish; he was just a more colorful and cogent consensus peddler than most of his bubblevision compatriots. Instead, what is powerfully enlightening about Kudlow's National Review piece and his subsequent Goldilocks swooning is the reasons he gave for his ebullient outlook on the future. To wit, he kept doing a perfect Janet Yellen imitation, reciting all the flashing green indicators on the main street economy that were showing up on his dashboard. What he had to say back then, in fact, is nearly identical to what the Wall Street and Fed economists are saying today. In the original National Review piece he argued that the "in-coming data" couldn't be more upbeat, meaning that the few stray voices of pessimism beginning to emerge at year-end 2007 were dead wrong: The pessimistas are a persistent bunch. In 2006, they were certain a recession was just around the corner. They were wrong. Instead, the economy posted two consecutive quarters of near or above four-percent growth. Earlier today, a doom and gloom economic forecast from Macro Economic Advisors was released predicting zero percent growth in the fourth quarter. This report is off by at least two percentage points. These guys are going to wind up with egg on their faces. As it happened, Q4 2007 GDP came in slightly positive, but it was all downhill from there. It was Kudlow who got the egg---along with nearly the entirety of mainstream Keynesian economists. For example, the Bush Administration's hapless chief economist and freshwater Keynesian, Ed Lazear, insisted as late as May 2008 that no recession was insight; and the FOMC spent the whole summer of 2008 debating whether or not the unexpected economic "slowdown" then materializing was only a temporary blip. Still, Larry Kudlow was just getting started with his egg-in-your face bluster in December 2007. Here's the gravamen of his confidence, and it was all about the swell numbers pouring in from main street: Here are the facts: Americans are working. The 4.7 percent unemployment number remains at an historical low. On a three-month rolling basis, the U.S. economy has added over 100,000 jobs. Meanwhile, the household job count shows that an average of 303,000 jobs have been added in the last three months. This is noteworthy because it suggests that the job market is turning around. Hours worked are growing more than 1-percent annually, while workers’ wages are running 3.8 percent, a full percentage point ahead of inflation. As for this week’s productivity report, it was nothing short of spectacular: the 6.3 percent productivity gain was the best in four years. A rise in productivity is good for growth. It’s good for profits. And it’s good for low inflation. Speaking of inflation, business inflation is down from 3.5 percent just over a year ago to 1.5 percent today. Meanwhile, oil prices have retreated to $88. And, to top it all off, last night we received a tremendous new number showing household net wealth has headed even higher. It stands at a record $59 trillion dollars. That’s more than seven percent above a year ago. Well, let's see. Relative to the 303,000 monthly average gain on the household (HH) survey that Kudlow was hyping back then, it turns out that the HH survey rose by an average of 430,000 jobs during the three months ending in February 2018---so maybe we are now ahead of the game. Then again, maybe not. If you average the last six months the number drops to 277,000; and over any reasonable period of recent time it's been all over the lot, and in fact has averaged just 204,000 new jobs per month since the eve of the 2016 election. We wouldn't call the above February surge anything but another random oscillation in a survey that is virtually junk from a statistical integrity viewpoint, and, in any case, doesn't even measure employed people. That is, second, third, and fourth part time jobs all count as another point on the BLS scoreboard. That said, our more essential point is that the BLS numbers are generated by a trend-cycle statistical model, not an honest-to-goodness body count, or even sample extrapolation, from the actual main street economy. So these goal-seeked numbers (i.e. the Fed is stimulating, so full-employment must happen) are notoriously unreliable at cyclical turning points like late 2007 and early 2018, as well. Accordingly, such times become a cherry-picker's delight, and Larry Kudlow was no slouch as a cherry-picker----even by Wall Street standards. In fact, here is the same 16-month trailing chart for the HH survey at the time Kudlow espied the 303,000 monthly job gain back in December 2007. Can you say, Larry, I'll have another bowl of them cherries! Turns out that the 16-month average was even weaker than today. Job gains averaged just 133,000 per month. That was just one-third of the monthly rate cited by Kudlow, and like the above 16-month chart for the current period, the monthly changes were flopping all around the deck. Well, that's until they started cliff-diving---thereby putting in mind Ronald Reagan's famous story about the little boy, who upon being shown into a room full of horse manure, began to frolic around joyfully. Said he, "there's got to be a pony in there somewhere!" Needless to say, Kudlow picked the cherries and found the pony, too. And he was by no means alone----either back then or once again, now. As shown below, the big November surge that got Kudlow his 303,000 per month job gain was the last hurrah. The main street economy would soon be taken down by a collapsing housing/mortgage bubble; and then be plastered by the Wall Street meltdown when its own financial meth labs---which had concocted the subprime securitizations that fueled the housing mania---blew up in its face. All told, 8 million jobs disappeared over the next two years. Indeed, the high water mark of 146.6 million HH jobs that Kudlow hung his hat on was not regained until September 2014-----nearly seven full years later! Likewise, the 1% growth rate of labor hours didn't foretell anything, either. After Q4 2007, the US economy shed more than 15 billion labor hours during the next six quarters. The long and short of it is that the incoming data from the Washington statistical mills is overwhelmingly and inherently a lagging indicator---meaning that economists and Wall Street cheerleaders, as the case may be, can always dig up enough favorable monthly and quarterly deltas to keep the Goldilocks narrative going. The danger of lagging indicators, in fact, could not be better illustrated than by the cherry that capped off Kudlow's December 2007 encomium to Goldilocks. To wit, the fact that household net worth had been reported at an all-time high the previous quarter (Q3 2007) and was up 7% from the prior year. Needless to say, September 2007 was about as close as you please to the tippy-top of the Greenspan housing/Wall Street bubble, and those twin bubbles were dully reflected in the Fed's quarterly net worth calculations (flow-of-funds report). So by Q1 2009 the household net worth number was down by the tidy sum of $12 trillion or nearly 20%. And it took four years of madcap money printing at the Fed to reflate housing and the stock markets sufficiently to regain the Q3 2007 level that Kudlow had sighted as evidence that Goldilocks was headed for near eternal life, world without end. We dwell on Kudlow's 2007-2008 Goldilocks affair because it's exceedingly timely, and in more than one way. That is, it's a reminder that the leading indicators are embedded in the Wall Street bubbles, not the main street labor, business and GDP data; and that the next recession will arrive as a great shock and surprise when the bubble finally splatters. Besides that, Larry Kudlow is now in a great position to help accelerate the latter's arrival. That's because his newly appointed task will be to dig through Ronald Reagan's proverbial room full of horse manure to reassure the Donald that there is a pony in there somewhere. In fact, as we said on bubblevision yesterday, Larry Kudlow is one of the most talented and persistent data miners around. In a word, Larry Kudlow can be counted upon to reassure the Donald that a boom is just around the corner, and that the nation's skyrocketing budget deficits are nothing to worry about. As he told CNBC yesterday, we are on the very cusp of it----meaning that economic growth will make it all go away: LOOK, THE ECONOMY IS STARTING TO BOOM THE TAX CUTS ARE WORKING, THE DEREGULATION IS WORKING......WE ARE ALREADY, I BELIEVE, ON THE FRONT END OF A TREMENDOUS INVESTMENT BOOM. Au contraire. At 105 months of age, the current business expansion is already running out of steam, and is in no position to absorb another thundering bubble collapse in the casino without again buckling like it did in 2008. At the same time, the current third and greatest central bank bubble of this century absolutely cannot endure the "yield shock" that is baked into the cake for next fall. That's when the rock of $1.2 trillion in new government borrowing smashes into the hard place of the Fed's $600 billion annual bond dumping program. Not unsurprisingly, the Donald is so oblivious to the fiscal calamity he is charging into that he has now even started tweeting about a second tax cut. That's utter madness, of course, but Larry Kudlow----Goldilocks in hand---is just the man to sleepwalk him into the fiscal inferno. In the interim, there is this. Even as Larry Kudlow was headed to Washington vainly hoping to fill some of the economic darkness lurking under the Orange Combover, the latter was off to celebrate the Trumpian economic boom at Boeing's (BA) plant in St. Louis. Now there's a canary in the wind tunnel, if there ever was one! The Donald is on the verge of unleashing a bloody trade conflagration with China. But given the immense operating leverage embedded in Boeing's huge commercial aircraft manufacturing business, it cannot afford to miss a beat in terms of sales and shipments to it biggest customer. Especially not after its market cap has soared from $75 billion to $200 billion in the last two years and it is being valued at a nosebleed 20X operating free cash flow. Stated differently, Boeing is not fixing to make the American economy great again. Its hideously inflated stock price is a crash waiting to happen---just like the rest of the casino's endless sea of bubbles. That is the topic of Part 3.
There were lots of good answers after my previous post. Commenters dlr (first) and then Rajat provided my preferred answer, and there were some other good options as well (Friedman, Lucas, etc.) Here I'll explain the special connection between Coase and Krugman. In 1960, Coase developed a radically new way of thinking about externalities. At the time, Pigou's interwar theory of externalities was very well established, almost unquestioned. When a person or company does something that imposes external costs on others, there is a market failure. The optimal public policy is a remedial tax, equal to the size of the external cost. Coase's alternative view was the sort of shocking "bolt from the blue" that almost never occurs in a mature science like economics. There was a famous seminar at the University of Chicago, where almost everyone went in convinced Coase was wrong, and he convinced them all, one by one. Coase's basic insight is that external costs, by themselves, are not market failures. The victim would have an incentive to bribe the entity imposing external costs. That bribe has a similar impact to an optimal tax. Thus before Coase, economists thought there was an economic rationale for government regulation of indoor smoke. After Coase, economists recognized that the owner of the property, not the government, should regulate indoor smoke. But Coase did not stop there. He also showed that when many people are harmed by externalities, there may be "transactions costs" in privately negotiating an agreement. In that case, Pigou's suggestion that a remedial tax is needed might be correct. But the real problem is not externalities, it's transactions costs. In 1998, Krugman came up with a radically different way of thinking about liquidity traps. During the interwar period, Keynes had argued that monetary policy may become largely ineffective at zero interest rates, as money and bonds become very close substitutes. He recommended government actions such as fiscal stimulus. Krugman showed that even at zero interest rates, monetary injections should be effective. That's because the liquidity trap is presumably not expected to last forever (an assumption that Krugman himself later questioned) and thus an increase in the money supply should raise prices once the liquidity trap had ended. Krugman showed that in a rational expectations model, the mere expectation of a higher future price level would tend to raise the expected long-term rate of inflation, and reduce real interest rates on long-term bonds. Thus monetary policy would continue to be effective at zero interest rates. And if real interest rates did not decline, then nominal rates would rise, which would end the liquidity trap---also making monetary policy effective. No need for activist governments engaging in fiscal stimulus But Krugman didn't stop there. He noted that (conservative) central banks might not be able to convince the public that currency injections are permanent. In that case, future expected inflation would not rise, and the monetary injections would be ineffective. Krugman argued that the real problem was not that cash and bonds are perfect substitutes at zero rates, producing a "liquidity trap", but rather that central banks might not be able to convince the public that they will allow higher inflation in the future, creating what Krugman called an "expectations trap." If there is an expectations trap, then the original Keynesian policy of fiscal stimulus might make sense, but not for the reason assumed by Keynes. This is similar to Coase's argument that corrective taxes might be called for, but not for the reason originally assumed by Pigou. But Krugman also indicated that something like a higher inflation target ("promising to be irresponsible") was a first best policy, and indeed Krugman recently cited Abe's decision to raise Japan's inflation target to 2% as an example of what he had in mind (although Krugman would probably prefer an even more aggressive target.) I'll add my own wrinkle here. In a 1999 Economic Inquiry piece I argued that the constraints of the gold standard were always lurking in the background of Keynes's thinking. When I first wrote that paper, I was not aware of Krugman's 1998 paper. But in retrospect, I was claiming that the gold standard created a sort of expectations trap, which prevented central banks from raising the expected rate of inflation. My previous post was not just intended to be a diverting puzzle. I believe that seeing these sorts of underlying similarities allows us to better understand each theory separately. Indeed being a good economist is largely a matter of seeing common underlying factors behind a lot of seemingly disparate phenomena. This sort of intuition is what puts Coase and Krugman ahead of most economists. Coase had written a paper back in 1937, pointing out how "transactions costs" help to explain why firms are big. If transactions costs did not exist, the principle/agent problem would cause films to contract out almost every single specific task they do to other smaller and more specialized firms--even to individuals. Big firms would be almost completely hollowed out. Then, 23 years later, Coase recognized that these same transactions costs explain why the private sector may have trouble negotiating solutions to complex externality problems. I can't disagree with people who pointed to Friedman and Phelp's insight that it's not high inflation that matters, but rather higher than expected inflation. That was a really important breakthrough. But the way Coase and Krugman reframed the longstanding dogma on externalities and liquidity traps seems like more of a radical intellectual shift--not just adding one derivative. And in both cases the original policy suggestion became a sort of special case, a policy that is called for when other options are not available. (11 COMMENTS)
Authored by David Stockman via Contra Corner blog, One of Wall Street's most misbegotten memes is the Goldilocks Economy notion. They invariably trot her out near the end of a business cycle in order to keep the mullets buying stocks and the Fed heads as anesthetized as possible. The theory, of course, is that with the economy in a perfect and endless growth equilibrium, punters should be eager to buy equities and the central bank should be in no rush to remove the punch bowl. So not surprisingly, when the alleged "blow-out" jobs number for February was followed by a purportedly "cooling" CPI print, bubblevision became rife with goldilocks spottings. As JPMorgan's stock peddler in chief, who also doubles as an "economist", noted: "These figures should satisfy Fed policymakers that inflation is not too cold, as last spring's numbers hinted at, or too hot, as might have been inferred from the January print," said Michael Feroli, an economist at JPMorgan in New York. That statement is risible nonsense. To the contrary, the great David Rosenberg, an honest economist who finally fled the Wall Street sell-side for Toronto, where he runs an honest-to-goodness subscription service, noted that core inflation is accelerating rapidly. To wit, on a year-over-year basis the CPI less food and energy printed at "only" 1.8%, but that embodies a huge base effect owing to the aberrational plunge in telecom services last March. By contrast, on a three month rolling basis, the core CPI has risen from 1.9% in November, to 2.3% in December, 2.9% in January and 3.1% in February! In fact, the 3.1% three-month annualized rate in February was the highest it's been since before the Lehman induced melt-down in September 2008. Moreover, we are talking about "core" CPI here with no wild oil price fluctuations confusing the picture. And that also means that when the huge telecom adjustment drops out of the CPI less food and energy base next month, the Y/Y figure will also sharply accelerate. Then came along this AM's punk retail sales number for the third month in a row. Indeed, it seems that the December-February monthly average of $492.4 billion is actually nearly a billion below the level reported back in November. Then again, why should anyone be surprised? It is well known that US consumers apparently did shop until they dropped during their on-line Christmas buying mania, and they did so by massively tapping their credit cards: The monthly rate of borrowing gains actually nearly doubled in the final quarter last year. Now, apparently, consumers are attempting to pay back some of that debt, including using their February tax refunds and fattened after-tax paychecks for that purpose. Never mind, of course, that the debt they apparently have paid down was, on the margin, borrowed by Uncle Sam to make it all possible. But we get ahead of ourselves. The Federal borrowing spree cranking up for FY 2019 is exactly what is going to put to heavenly sleep what remains of Goldilocks at present (see Part 2). Needless to say, three months of slipping retail sales hardly heralds a booming Q1 print for personal consumption expenditures (retail sales are 60% of the total) and real GDP, but the talking heads had an answer for that, too. To wit, late tax refunds! Now think about that one. The withholding tables were adjusted to reflect the ballyhooed Trump tax cut as of early February, which for individual taxpayers peaks in the first year at an $190 billion annual rate of reduction. But never mind, the refunds slipped. Well, actually they didn't. Last February (2017), tax refunds totaled $113 billion and this February the figure was nearly $129 billion. Likewise, the February PPI for final sales of goods printed at 2.8% year/year, but predictably the stock cheerleaders at MarketWatch headlined "inflation tamer in February" because, well, the print was a tad lower than January's 3.1% Y/Y. In fact, the financial press is so lost in the decimal point weeds that MarketWatch included this helpful chart to support its "tamer" inflation headline. Really? When we say that the Wall Street narrative has been totally corrupted by the Fed's endless monetary juice and price keeping operations, that's exactly what we mean. No one from the real world would ever espy anything "tamer" in the above. So we have faltering retail sales and resurgent inflation, yet again this morning we heard on bubblevision one of the usual suspects, Joe Lavorgna of Nataxis, insisting that there is "no inflation" and no recession in sight, and that accordingly 2018 will be a bang-up year for stocks. That is, according to Lavorgna, if the Fed doesn't do anything rash and deprive the carry trade gamblers of negative real money market interest rates too soon. After all, short term rates used to finance speculation in carry trades and the options market have been negative in real terms since the fall of 2008. Why not another year of free money? The truth of the matter, of course, is that there is so much noise in the incoming monthly deltas that neither Lavorgna and his group-think Wall Street colleagues nor their Keynesian clones at the Fed have any clue about where the near-term economy is heading, or even where it is right at this moment. That was evident by the scramble to downgrade Q1 GDP forecasts after today's retail sales report. What was supposed to be a blow-out quarter owing to the Trump tax cut is now being hurriedly ratcheted back to the same old 2% (or less) slog. As far as paint-by-the-numbers GDP forecasting goes, in fact, the technical folks at the Atlanta Fed are about as good as anyone else. They have some very complex, time-tested equations which allow them to plug into algorithms the key monthly numbers as they come in a highly mechanical, non-discretionary manner. So here's the rather dramatic skunk in the woodpile. In just 50 days, their "plug and play" model forecast for Q1 real GDP has dropped from a booming 5.4% to a rapidly deflating 1.9% rate. That's about the same thing as saying, "folks, we don't have a clue!". It's also a way of saying that Keynesian monetary central planning is an epic scam. Its essential modus operandi is based on short-term macroeconomic forecasting, but even the Fed's most sophisticated, data-driven mechanical model is coming up with noise. So the 12 members of the FOMC can't possibly deftly tweak the dials on their crude instruments of money market interest rates and balance sheet expansion/contraction so as to guide the short-term path of the economy. Not only do they not know where they are at turning points like the present, but their instruments of control are far too frail to steer a $20 trillion capitalist economy, anyway. And most especially, not one that is integrally embedded in an $80 trillion global economy subject to massive state intervention, including by their own all-powerful central banks. As it happened, today's discordant data and recent Goldilocks happy talk got us thinking about what happened last time around. That is, in the summer and fall of 2007 when Wall Street was rife with it, and the S&P 500 kept plowing higher, peaking at 1570 in October. In a word, there was allegedly no sign of accelerating inflation, decelerating economic growth or a hint that the worst of both worlds---stagflation---was just around the corner. It was, and to the very month. In November 2007, year/year retail sales growth peaked at 5.3%, but it was under 2.0% by April, hit the flat-line in September, and then plunged to negative 12% on a year-over year basis in December 2008. At the same time, the PPI less food and energy went the other way. From a 2.2% Y/Y rate in November 2007, it accelerated to 3.0% by May and then north of 4.0% by the fall of 2008. And that excludes energy and the direct impact of the massive oil shock at $150 per barrel in July 2008. At the end of the day, you can't find a worse chart for the stock market than that for the 14 months below. Yet enthrall to the alleged Goldilocks Economy, no one on Wall Street saw it coming. The consensus operating earnings forecast for 2008, in fact, was north of $110 per share on the S&P 500. As it happened, operating earnings for the year ahead actually came out at $49 per share. A Goldilocks moment it most definitely wasn't. In Part 2, we will document why the kind of unexpected macro-shock embodied in the above chart is about ready to happen again. And the spoiler alert is this: The crashing Wall Street bubble in the fall of 2008 is what took the main street economy down. And like now, it was visible for all to see if you were monitoring the casino, not the monthly deltas from the Washington statistical mills. Moreover, like then, the American consumer has again borrowed to the hilt because they can and because Wall Street and the Fed have sounded the "all clear". That will soon prove to be the same huge mistake is was last time around. R.I.P, Goldilocks.
Authored by Daniel Nevins via FFWiley.com, “This reminds me of the late 1960s when we experimented with low rates and fiscal stimulus to keep the economy at full employment and fund the Vietnam War. Today we don’t have a recession, let alone a war. We are setting the stage for accelerating inflation, just as we did in the late ‘60s.” —Paul Tudor Jones As soon as the GOP followed its long-promised tax cuts with damn-the-deficit spending increases (who cares about the kids, right?), you knew to be ready for the Lyndon B. Johnson reminders. And it’s worth remembering that LBJ pushed federal spending higher, pushed his central bank chairman against the wall (figuratively and, by several accounts, also literally) and eventually pushed inflation to post–Korean War highs. Inflation kept climbing into Richard Nixon’s presidency, pausing for breath only during a brief 1970 recession (although without falling as Keynesian economists predicted) and then again during an attempt at wage and price controls that ended badly. Nixon’s controls disrupted commerce, angered businesses and consumers, and helped clear a path for the spiraling inflation of the mid- and late-1970s. So naturally, when Donald Trump and the Republicans pulled off the biggest stimulus years into an expansion since LBJ’s guns, butter and batter the Fed chief, it should make us think twice about inflation risks—I’m not saying we shouldn’t do that. But do the 1960s really tell us much about the inflation outlook today, or should that outlook reflect a different world, different economy and different conclusions? I would say it’s more the latter, and I’ll give five reasons why. 1—Technology I’ll make my first reason brief, because the deflationary effects of technology are both transparent and widely discussed, even if model-wielding economists often ignore them. When some of your country’s largest and most impactful companies are set up to help consumers pay lower prices, that should help to, well, contain prices. 2—Globalization Globalization is another well-worn theme (I can hear the yawns), but it still gets overlooked. In the 1960s, developing countries hadn’t yet found much of a path to US consumers and businesses, such that America’s economy was protected from hundreds of millions of potential dollar-a-day workers. That’s no longer the case, and inflation fundamentals are no longer the same. As long as trade pathways remain open (watch the tariff war), policy makers should find it much harder to cook up inflation than they did fifty years ago. As a measure of globalization, the chart below shows imports of goods separated by whether they come from developed or emerging markets (imports from emerging markets being more likely to dampen inflation) and comparing 1965 to 2017: Of course, inflation responds not only to specific imports but also to the general threat posed by foreign competition. Nonetheless, the chart confirms the obvious—2018’s economy is less prone to inflation than the insular 1965 economy. 3—Private Debt Just as increasing debt brings spending forward (more today, less tomorrow), it also brings inflation risks forward (again, more today, less tomorrow). If you borrow enough to drive private debt-to-GDP ratios well above 100%—as modern, developed nations tend to do—that can set up a disinflationary counterweight to crush any rise in inflation. The mechanism works like this: Inflation rises The inflation increase spooks bond investors and the central bank, lifting interest rates higher. In an economy that’s heavy with private debt, the increase in rates puts a dent in spending while stifling further credit creation. As credit dries up, pricing power disappears and disinflationary forces overwhelm the initial impetus to inflation. In other words, in a debt-dependent economy, inflation breeds deflation. Where does that leave us in our discussion of whether the 1960s should influence the inflation outlook today? At a current reading of 150% of GDP, private nonfinancial debt is about two-thirds of GDP higher than it was in 1965, when it was only 84% of GDP. That’s relevant because 1965 was just before inflation began its ascent—core inflation climbed from 1.5% in 1965 to 3.1% in 1966 and 1967 and 4.7% in 1968. Private nonfinancial debt is also only 15% of GDP lower than it was in 2007, when it reached 165% of GDP, just before the global financial crisis seized up credit markets. You’ll surely interpret those figures in your own special way, but to me they make the 1960s–70s experience a reach for today’s economy. That’s not to say we won’t see another severe inflation–interest rate spiral at some time in the future—we could see exactly that when investors give up on America’s public finances and force a debt restructuring. But that’s unlikely to happen anytime soon. In my opinion, America won’t restructure her federal debt until the 2040s at the earliest, because the Treasury market has enough history, inertia and central bank sponsorship to overcome junk-bond fundamentals. I expect a few more contractions in private credit markets—either with or without the inflation increase included in the steps above—before bond traders start treating Treasuries like they treated subprime adjustable-rate mortgages ten years ago. 4—Wage Growth But how about a wage–price spiral—that’s how tax cuts and government spending increases should spark inflation, right? Maybe so, but once again the 1960s don’t travel well to the third millenium. In the 1960s, both sides of the wage-negotiation table operated differently than they do today. Wage earners bargained extra aggressively in the decades immediately after World War 2, thanks to union-friendly legislation in the 1930s and 1940s. In addition to annual pay gains of as much as 5% or more, they demanded substantial increases in pension and health benefits. And to make sure inflation volatility wouldn’t dilute their negotiating wins, they insisted on indexation—pay that automatically ratchets higher with each year’s inflation outcome. Wage payers, meanwhile, were confident they could both inflate and grow their way into higher wages. They drew that confidence from a dearth of foreign competition, a belief the economy was more resilient than ever before (some thought the “New Economics” embraced by John F. Kennedy and then LBJ would abolish the business cycle), and in some industries, protective regulations that have long since been dismantled. Even more importantly, wage payers were less profit-centric and more likely to apply a “stakeholder” approach to corporate governance. They protected the interests of each of their stakeholders, and wage earners were near the top of that list. In other words, higher wages didn’t send executives to the window ledge—companies just resolved to cover growing wage bills by selling more widgets while charging a higher price for each one. So in hindsight the 1960s practically ordered up a wage–price spiral, as if selecting a flavor from Howard Johnson’s 28 choices. Needless to say, conditions in 2018 aren’t quite the same. Compared to the 1960s, businesses are more likely to fight wage increases and less able to raise prices. And that’s not all, because the comparison should also consider how long it takes for a spiral to become established. I would say it takes quite a while, and here’s a chart that supports my position: The chart’s blue line shows wage growth increasing from close to 3% to about 4% during 1965, just ahead of the beginning of the rise in core inflation. By comparison, the red line shows wage growth stuck at 2.5% as of the last data release. In other words, inflation didn’t begin its 1960s climb until wage growth was about two-thirds higher than the current rate. Of course, productivity growth was also higher in the 1960s, but that doesn’t explain away the stability of wage inflation as of this writing. So what’s the bottom line when it comes to wage–price spirals? Well, the cool kids will continue to call for rising wages, as they’ve been doing for several years now. This may be the year they get it right, but I wouldn’t put too much of your own pay package behind that bet. In fact, I recommend waiting it out. Considering “spiral” is something of a misnomer (unless it comes from a commodity shock, cost-push inflation is more like a slow stroll), let’s wait for real evidence of rising wages before sounding any alarms. With the current expansion soon to be nine years old, there’s an excellent chance of the business cycle ending after only a mini-spiral—one similar to the last three expansions—or even no spiral at all. 5—The Circular Flow My final reason for discounting the 1960s might be the most important, because it gets at the types of imbalances that have triggered many high inflation episodes in world history. It relies on a variation on Monetarism that corrects for the Monetarists’ flawed treatment of money and banks. In particular, leading Monetarists based their theories on research connecting money supply growth to GDP growth (both real growth and inflation), but without realizing their data was mostly showing a connection between bank lending and GDP growth. Instead of allowing that bank loans bring money into existence, they modeled banks as conduits, not creators, of the “initial monetary impulse.” The Monetarists’ mistake wasn’t fatal, at first, because the monetary aggregates they followed, such as M2, correlated strongly with bank lending. But after the aggregates helped them predict inflation successfully in the late 1960s and 1970s, correlations weakened and the Monetarists’ forecasts became unreliable. Confusing? I recently covered this topic in detail, such as in last month’s “An Inflation Indicator to Watch.” In that 3-part article, I explained how we can spot both inflationary and disinflationary imbalances in the “circular flow,” referring to the circular relationship between spending and income. Here are the most important examples: Inflationary imbalances can arise when bank lending injects purchasing power into the circular flow, boosting spending above the prior period’s income. This is the piece that modifies Monetarism, by replacing the money measures Monetarists favor, such as M2, with measures that correlate more strongly with purchasing power and GDP, such as bank-created money. Disinflationary imbalances can arise when spending doesn’t adequately recycle back to income, opening a leak in the circular flow, which can happen, for example, when a country runs a substantial trade deficit. Putting the types of imbalances together, we can construct an indicator that gives us a birds-eye view of inflation risks. When the indicator rises, inflation risks are high, and when it falls, inflation is likely to be contained apart from cyclical volatility. Here are the indicator’s readings for the current expansion versus the 1960s expansion: The chart provides yet another perspective on differences between the 1960s and today. It shows that inflationary circular-flow patterns were prevalent in the 1960s, whereas patterns of recent years have been benign. (For diagrams that depict the patterns I’m describing, see “An Inflation Indicator to Watch,” or for even more background, see my recently published book, Economics for Independent Thinkers.) Conclusions For a variety of reasons, I don’t buy the argument that we’re about to take a 1960s–70s-style inflation ride. I get the LBJ comparisons, and I can appreciate them, but current policy makers should find it harder to lift inflation than at the post–WW2 high water mark for insularity, labor strength and stakeholder-friendly corporatism. Moreover, private debt levels and circular flow analysis both suggest any inflation increase would be short-lived. In other words, LBJ never faced America’s current mix of disinflationary forces, and those forces are no pushovers. * * * Author’s note: As far as I can tell, only two authors have written trade books that focus mostly on America’s 1960s, 1970s and early 1980s battle with high inflation: William Greider (Secrets of the Temple) and Robert Samuelson (The Great Inflation and Its Aftermath). Greider’s book was widely read and praised (I’ve cited it in past articles), whereas Samuelson’s didn’t receive the attention it deserved. Samuelson not only blamed inflation on the macroeconomics profession’s arrogance and ineptitude (not a good strategy for winning mainstream acceptance) but had the misfortune of releasing the hardcover just as the financial sector imploded in autumn 2008. In any case, both books helped inform my article above.
Existing research offers little guidance to policymakers who want to understand the interactions between economic fluctuations, growth, and stabilisation policies. This column introduces a Keynesian growth framework that provides a theory of long-run growth, built on a Keynesian approach to economic fluctuations. In the model, pessimistic expectations about future growth can give rise to stagnation traps. It suggests that monetary policy during a stagnation trap is hindered by credibility issues.
Authored by Brandon Smith via Birch Group, It is generally well known in economic circles and in the general public that precious metals, including gold, tend to be the go-to investment during times of fiscal uncertainty. There is a good reason for this. Precious metals have foundation qualities that provide trade stability; these include inherent rarity (rather than artificially engineered rarity such as that associated with cryptocurrencies), tangibility (you can hold gold in your hand, and it is relatively difficult to destroy accidentally), and precious metals are easy to trade. Unless you are attempting to make transactions overseas, or in denominations of billions of dollars, precious metals are the most versatile, tangible trading platform in existence. There are some limitations to metals, but the most commonly parroted criticisms of gold are in most cases incorrect. For example, consider the argument that the limited quantities of gold and silver stifle liquidity and create a trade environment where almost no one has currency to trade because so few people can get their hands on precious metals. This is a naive notion built upon a logical fallacy. Gold backed paper currencies existed for centuries in tandem with the metals trade. Liquidity was rarely an issue, and when such events did occur, they were short lived. In fact, the last great liquidity crisis occurred in 1914, the same year the Federal Reserve began operations and the same year that WWI started. This crisis was, as always, practically fabricated by central banks around the globe. Benjamin Strong, the head of the New York Fed in 1914 and an agent of the JP Morgan syndicate, had interfered with the normal operations of gold flows into the U.S. and thus sabotaged the natural functions of the gold standard. Central banks in Germany, France and England also applied influence to disrupt currency and gold flows, causing a global panic. This engineered disruption seemed to take place through conscious co-operation between central banks. Does any of this sound familiar? For those who are interested, the history of the 1914 liquidity crisis is outlined in detail in the book ‘Lords Of Finance: The Bankers Who Broke The World’, by Liaquat Ahamed. When gold and currency are tied together, gold prices tend to remain rather stable, as they are often set by the national treasury. In 1914, the price of gold was $20 per ounce and had maintained that approximate value for decades. To give some perspective on value, in 1914 the average house cost $3,500, or 175 ounces of gold. But what happens when gold and national currencies become disjointed from each other? Take a look at the hyperinflationary crisis in Weimar Germany. The price of gold per ounce went from 170 marks to 87 trillion marks within five years! Over that same five year period, gold value in Germany had increased at almost TWICE the rate of inflation, indicating that gold not only kept up with the devaluing mark, but made anyone holding gold rather rich in the process. This is a very important fact. The common argument against gold is that the metal is not really a wealth creating investment, but merely protects your buying power. As the Weimar crisis shows, this is not always the case. In some circumstances, often during times of economic disaster, precious metals can in fact generate more wealth than what you put into them. Then there is the issue of government interference in gold markets and trade during crisis. As the Great Depression in the U.S. began to take hold, investors turned aggressively to gold and silver as a means to offset the crashing values of most other assets. In a highly controversial move in 1933, President Roosevelt outlawed the private ownership of gold bullion and set the price of gold at $35 per ounce. Keynesian economists like Ben Bernanke often try to assert that the gold standard was the reason why interest rates had to be hiked as the depression was escalating, and that this was the cause of a greater crash. They are only half correct. Increased rates did indeed cause a larger and more prolonged crisis, but this had little to do with the gold standard. Clearly, in 2008 the U.S. and most of the world was NOT on a gold standard, yet we suffered a very similar collapse in credit and equities as happened in the Great Depression. Also, there is no gold standard forcing the Federal Reserve to raise interest rates today, yet they are doing so despite escalating negative indicators in the real economy. Whether or not this will cause an even more violent economic catastrophe remains to be seen, but Jerome Powell, the new Fed Chairman himself, warned in 2012 that this is exactly what could happen. Jerome Powell has stated in no uncertain terms that rate hikes will continue under his watch in 2018. Central banks were the core institutions to blame for the Great Depression, not the gold standard, considering the fact that central banks did NOT follow a true classical gold standard exchange internationally, and instead tried to establish a global basket exchange system of multiple currencies and gold in what they called the “gold exchange standard”. Add to this the unnecessary interest rate hikes as deflation was pummeling assets, and you have a perfect recipe for calamity. Even Ben Bernanke, in a 2002 speech to honor Milton Friedman, openly admitted that the Fed was the root cause of the prolonged economic carnage during the Great Depression: “In short, according to Friedman and Schwartz, because of institutional changes and misguided doctrines, the banking panics of the Great Contraction were much more severe and widespread than would have normally occurred during a downturn. Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great Depression. You’re right, we did it. We’re very sorry. But thanks to you, we won’t do it again.” The use of gold prohibition had mixed results. Obviously, it did not stop the freight train of the Great Depression. In fact it probably exacerbated difficulties in trade and savings. Black markets took over and precious metals were still highly sought after. As far as the crash of 2008 is concerned (a crash which is still ongoing today), we all know what happened with gold markets. In the lead up to the crash, from 2004 to 2008, gold doubled in value. Then, after the initial crash from 2008 to 2012, it doubled again. Despite predictions by mainstream economic naysayers, gold has not collapsed back down to pre-crash levels. In fact, gold has remained one of the most effective investment performers for years. The question is, what happens next? Setting aside gold confiscation as a factor (a factor which I believe would be impossible to enforce in today’s markets), we can see that massive fiat stimulus as a means to artificially support a deflationary fiscal system, as well as central bank intervention in general, leads to collapse and a flight to hard assets like gold. Even with rising interest rates and the potential for a spike in the dollar index, if the rest of the economy is in steep decline, investors and others will still turn towards precious metals. As I have mentioned in previous articles, the initial reaction of gold prices to faster interest rate hikes may be negative. That said, I do not believe gold will drop as dramatically as mainstream economists expect. Once higher interest rates kill the stock market bubble as well as the renewed housing and credit bubble, gold will skyrocket as one of the only asset classes with tangible real world value.
Authored by David Stockman via Contra Corner blog, Yesterday we noted that financial markets have become completely uncoupled from reality and that the recent feeble bounces between the 20-day and 50-day chart points were essentially the rigor mortis of a dead bull. As it happened, we were able to share those sentiments with what remains of CNBC's audience of carbon-based units: As we also noted as per the chart point mavens, the 20-day average down at 2703 (red line) on the S&P 500 was supposed to represent "support" while the 50-day average (blue line) purportedly functioned as "resistance". Well, upon the official announcement of the Donald's lunatic trade war, there she sat at yesterday's close---less than one point under the 50-day moving average at 2739.8 (blue line). But rather than "resistance", which the raging robo-machines ripped through today like a hot knife through butter, we'd say the blue line represents the last frontier of sanity. That's because a stock market trading at 25X earnings under today's baleful circumstances is nothing less than a brobdingnagian bubble (i.e. a huuuge one) frantically searching for the proverbial pin. We essay the razor sharp aspects of the pin below, but suffice it to say here that the cyclical calendar has just plain run out of time. It is way, way too late in the cycle at 105 months of age to be "pricing-in" anything except the end of the party. And this bubblicious party has embodied the most spectacular central-bank fueled mania yet---meaning that the morning after is going to bring a truly hellacious hangover. Among the many sharp edges of the pin are these: the virtual certainly of a recession within the next two years and a typical 30%-50% drop in earnings; the epochal Fed pivot to QT (with other major central banks to follow) and the consequent massive drainage of cash from the bond pits; the mad man in the Oval Office and (among other follies) his swell new Trade War, which absolutely will get out of hand globally; the impending "yield shock" which will thunder through the financial markets when Federal borrowing hits $1.2 trillion in the coming year--on the way to $2 trillion+ annual deficits as far as the eye can see; a deeply impaired underlying main street economy which is groaning under $68 trillion of public and private debt and a reverse robin hood financial regime that has left 80% of the population on welfare or struggling to make ends meet on earnings that barely keep up with inflation; and the swaying giant red elephant in the global economic room---meaning China's historically unprecedented and freakish explosion of debt, manic building, monumental speculation, systematic lying and fraud and serpentine centralized command-and-control that is destined to end in a spectacular implosion. Yet the financial system has been so corrupted by the central bank's long-running regime of financial asset inflation and price falsification that it no longer recognizes anything that is important, fundamental and persisting. Instead, owing to the cult of an ever rising stock market, Wall Street is hopelessly enthrall to recency bias and context-free short-term deltas in the incoming monthly data. The latter are virtually meaningless under today's central bank driven Bubble Finance regime, of course, because the direction of economic causation has been reversed. To wit, clumsy central banks in the pre-1987 world often fueled overheated credit on main street. Rising wage and consumer inflation then forced them to garrote the banking system, thereby triggering a collapse of housing, big ticket durables and CapEx. So the early on-set warning indicators and the eventual fact of main street recession caused the stock market to dive. By contrast, in a debt saturated global economy run by a linked-convoy of central banks, monetary "stimulus" does not inflate main street or real economies when they are impaled on Peak Debt. It simply inflates monumental financial bubbles in the money and capital markets----ever expanding bubbles which eventually burst. These episodically bursting bubbles, in turn, shock the C-suites of the corporate world into desperate sprees of liquidation. That is, the dumping of employees, inventories, fixed assets and restructuring plans designed to brake the fall of their artificially inflated share prices and stock options. Consequently, neither central bankers nor Wall Street ever see these new style recessions coming because, in fact, they can't be detected from even an astute reading of the macro-economic tea-leaves. Self-evidently, that's because the triggers for recession are embedded in the interstitial bubbles of the financial markets; and while the latter may be obvious to the outsider or even a visiting Martian, they are adamantly denied by the Wall Street stock peddling apparatus and are invisible to the Fed's financially clueless Keynesian academics and policy apparatchiks who remain glued to their macroeconomic dashboards. Alas, the sheer resilience of main street capitalism keeps these dashboards mostly flashing green, most of the time. And it doesn't take much to impress the bubble-besotted financial commentariat and day traders, as this current anemic recovery has amply demonstrated. In a system so addled by phony bubble wealth, in fact, it apparently doesn't even matter that the current expansion has generated real final sales growth of only one-third its historic rate; and that even the 1.2% growth rate shown below probably overstates the case owing to systematic and deliberate under-measurement of inflation by Washington's officialdom. Stated differently, the macroeconomic "new normal" has been so tepid that it has barely lifted the main street economy out of the deep hole trigged by the last financial bubble meltdown in 2008-2009. Yet as long as the monthly indicators show a smidgeon of green----- as capitalism trudges uphill against the headwinds of debt and central bank induced strip-mining of corporate cash flows and balance sheets----it is apparently enough to keep the recovery narrative going. Needless to say, we had a classic case of that this AM with the so-called "blow-out" jobs print at 313,000 for the month of February. Indeed, that number seems pretty impressive----that is, until you read the fine print on the chart below. It seems that during the 12 month period depicted in the chart, there were five months in which the BLS establishment survey reported a gain of @300,000 or more jobs, and an average gain of 240,000 per month for the period as a whole. Except, except. This chart ends in spring 2006! And about 20 months later the US economy was plunging into the Great Recession. Moreover, by October 2009, every single one of these jobs had disappeared on a net basis. In fact, the 136.1 million jobs beneath the +300,000 print in March 2006 tumbled all the way to 129.7 million before it was over. As it happened, the March 2006 high water mark depicted above, was not recovered until July 2013----seven full years later! Needless to say, back then that did not stop the talking heads of bubblevision from celebrating the Goldilocks Economy and claiming that it was smooth sailing ahead because there wasn't a hint of recession in sight. Au contraire. There most definitely were numerous neon-lights flashing recession warnings, but they were domiciled in the canyons of Wall Street, not the BLS reports. The imminent threat to goldilocks was the manic sub-prime, credit and stock market bubbles that were being fostered there by the Greenspan Fed. Although the Great Recession technically incepted in December 2007, the real plunge did not occur until the stock market meltdown of September-October 2008, which caused the C-suites of corporate America to begin pitching labor, inventories and assets overboard with virtually reckless abandon. The corporate mayhem only stopped in mid-to-late 2009 (i.e. that's when the massive monthly layoffs and inventory liquidations essentially ended) when Bernanke's tripling of the Fed's balance sheet caused the stock market to begin to convincingly reflate. At that, the C-suites got their options packages re-priced to far lower levels, thereby permitting business as usual to begin slowly climbing out of the deep hole triggered by the bursting Wall Street bubble. Still, it took seven full years as documented in the chart below for the establishment payroll count to recapture its Goldilocks level of March 2006. It is also worth noting that the BLS report made its last monthly print at 300,000 in March 2006 (actually it has now been revised multiple times to 297K, which is close enough for government work). That was month # 52 of the Greenspan/housing expansion. By contrast, the US economy is now in month #105 of the Bernanke/Yellen Everything Bubble. Still, during the last 12 months there have been only two 300,000+ prints and the average monthly employment gain has been just 190,000. That's 21% below the 240,000 average in the 2006 chart above, and its in a context in which the potential labor force has grown by 29 million or 13%. Likewise, back in 2006 the Red Ponzi was still in its relative infancy, the Fed had restored some semblance of sanity to the money market with the funds rate at 5.25% by mid-2006, and no one had yet heard of the idea of QT (quantitative tightening) because QE (quantitative easing) has not yet been invented---at least in the US context. Stated differently, the Fed's balance sheet was about $700 billion and had plenty of headroom to the upside. Now it is trying to crawl off the ledge at $4.4 trillion---with a destination at +/- $2.5 trillion, as the new Janet in ties and trousers explained to the Congress last week. In as word, we don't think the February print means anything at all----not in month #105 of a feeble business expansion which is confronting all of the headwinds described above. But as we shall explore further next week, here is the ultimate measure of Wall Street's big, bloated, manic bubble begging to find the pin. To wit, the new quarterly data on household net worth to disposable personal income is literally off-the-charts; it reflects the massive inflation of financial assets and real estate during this third and greatest central bank bubble of this century. But here's the thing. The underlying level of income, which is now effectively capitalized at a record 6.8X is the lowest quality income in modern times. Fully 22% of it is accounted for by transfer payments----a figure which has more than doubled since the turn of the century. Yet how can you capitalize at more than 0.0X "income" that is extracted from producers, not generated by new output and wealth? Likewise, the real growth of wage and salary income relative to the pre-crisis peak has slowed to a virtual crawl. Moreover, as we will also elaborate next week, the bottom half of wage and salary workers, or 80 million persons, earned total annual wages of less than $30,000 in 2016 and averaged just $13,000 each. What it boils down to is this: The top 1% and 10% of the population, which own 40% and 80% of the financial assets, respectively, are riding high. But, alas, that is way too high for the underlying level and quality of income and the 90% of the population on which they sit. So the Great Pin is surely coming - and it may be wielding torches and pitchforks when it arrives.
BofAML's Savita Subramanian notes that populism is gaining momentum around the world, exacerbated by mass population displacements and surging income inequality. Concerns over immigration, autonomy and global competition have played a role in political campaigns across the globe. The Trump administration’s latest announcement to levy tariffs on steel and aluminum imports is consistent with anti-globalist shifts seen in this presidency. It's "Autarky Malarkey" according to BofAML's Michael Hartnett. Simply put, as global QE ends, protectionism begins; and the war on inequality will now be fought via Protectionism, Keynesianism, Redistribution. Monetary & Fiscal policy is now spent, leaving markets to discount protectionism & global tariffs. And while Trump's actions could impact many nations negatively, China is without doubt the most vulnerable to a US trade war, according to BofAML's latest report. So how to trade a trade war? Hartnett concludes, the ultimate China-US trade war play is short the Hong Kong dollar (which, as we noted previously, is currently trading at weakest level since peg introduced October 1983). For a little better context, HKD has cratered in recent months... (testing the lows of the peg band) On the heels of capital outflows and an ever-growing carry trade, enabled by a hawkish Fed... Selling Hong Kong Dollars is a more liquid, cleaner proxy on china outflows (and less easily manipulated than CNY), plus USDHKD has dramatic downside if the peg breaks... which it might because standing in the way of The Fed rate-hike-driven carry trade avalanche will be very expensive. It is a traditional devaluation play (asymmetric to the CHF peg break) And already it appears, some speculators are betting on the peg snapping. Bloomberg reports that USD/HKD call options struck at 7.8730 have transacted today (upper right corner of chart below), suggesting that at least one punter sees the chance of the band (green-to-red lines on chart) breaking within the next year. The pair hasn't quite hit 7.8500 so far, but that could happen in the next few days as the HKMA shows no inclination to soak up excess HKD liquidity just yet, but instead told citizens who are seeing their currency lose value to "stay calm."
Add one more paradox to a market that seemingly refuses to follow any logic. In a week in which the S&P did not suffer one down day despite the "Cohn Gone" scare and Trump's trade war announcement, US stocks suffered "massive" - in Reuters' words - outflows, according to BofA analysts and EPFR data, which found that investors rushed into government bonds and other safer assets. Yet while investors bailed on stocks, someone else was clearly buying, as seen by the S&P's weekly performance. How is this possible? Two words - stock buybacks. Looking at the past week, as investors allocated modest capital to European, Japanese and EM funds (+0.1$BN, +$4.1BN and +$0.8BN respectively), they pulled money out of the US at a frantic pace, redeeming $10.3 billion from U.S. equity funds. The risk-off mood drove investors to put money into the safest of venues, money market funds, whose assets jumped to $2.9 trillion, the highest level since 2010. Gold also saw inflows of $0.4 billion. Confirming that retail investors were spooked by trade war fears, U.S. small caps "were sheltered from the storm" and enjoyed a tiny $0.03 billion in inflows, offset by $10.1 billion in large-cap outflows. That said, Trump's backing down and exempting of Canada and Mexico from the final tariffs announced late on Thursday eased investors fears, while news the U.S. president would meet with North Korean President Kim Jong Un caused crude prices to rise. "US-DPRK detente suggests protectionism can remain at "bark" not "bite" stage," argued strategists. Still, BofA's Michael Hartnett is less sanguine, pointing out that "as QE ends, protectionism begins." He adds that the upcoming "war on Inequality" will be fought via Protectionism, Keynesianism, Redistribution, and warns that with "monetary & fiscal policy now spent" it leaves markets to discount Protectionism, even as global tariffs are very low (for now as shown below). This is offset by the US-DPRK détente, which suggests that "protectionism can remain at “bark” not “bite” stage." Furthermore, as we noted earlier another latent risk is the imminent end of QE: with just 116 trading days until SPX enters the longest bull market all-time, "bullish QE is peaking as Fed/ECB/BoJ have bought $11tn of financial assets since LEH" while in 2018 the Fed will sell $400bn in assets, the ECB tapers in Sept, and by year-end Fed/ECB/BoJ asset purchases turn -ve YoY. The approaching end to quantitative easing also caused outflows from rate-sensitive credit markets, driving BAML's "Bull & Bear" indicator of market sentiment down to 6.8, down from 7.6 in the previous week. The indicator's 10-point scale ranges from most bearish at zero to most bullish at 10. It's not just equities: junk bond outflows are also accelerating, with redemptions for eight straight weeks and $3.1BN redeemed in the latest week, while investment grade inflows continue to lose momentum as IG bonds remain some of the worst YTD performers amid rising rates. Yet nothing appears able to dent what is going on in the tech sector: while global tech funds did slip last week, losing $0.2 billion, they have drawn in record inflows of $42 billion so far this year, even as the market cap of U.S. tech stocks already dwarfs the combined market cap of emerging markets' and euro zone equities. Finally, going back to the growing risk of protectionism, here Hartnett writes that the ideal fund to capitalize on global trade war would be: "long “stagflation”…long cash, commodities, real estate, equity volatility, growth defensive sectors e.g. health care " There was some good news for long-suffering carbon-based fund managers: the silver lining was that active management continued its comeback, if only for the time being - actively managed funds saw their biggest inflows year-to-date since 2013.
The bull market for stocks turns nine years old on Friday: while the S&P hit its famous "generational" intraday low of 666.79 on March 6, it was not only three days later, March 9, 2009 that the S&P actually closed at the post-crisis low price of 676.53. The gains since - uninterrupted by a drop of 20% or more - rank this bull market stretch as the second longest ever and about 6 months behind the bull run from October 1990 to March 2000 during the tech boom. So "as a bit of fun" Deutsche Bank's Jim Reid decided to take a look at the "winner and losers" over this period, and has updated his usual performance review charts for the 9 year period since that historic moment. As shown below, the S&P 500 has actually outperformed all other assets in the bank's sample, delivering a total return of a whopping 389%. The Russian MICEX (+369%), Hang Seng (+271%), Nikkei (+256%), DAX (+235%) and Stoxx 600 (+226%) follow with similarly impressive returns. Only one equity markets is in negative territory over that time and, not surprisingly, it’s the Greek Athex (-34%). It’s paid to be in credit markets too with returns anywhere from +57% (EU Fin Sen) to +209% (EU HY). Sovereign bond markets have lagged although returns are unsurprisingly still positive. EM Bonds (+77%) and BTPs (+61%) stand out the most while Treasuries (+23%) have underperformed. Commodity markets on the other hand are a lot more mixed. Copper (+88%) prices are up, along with Gold (+43%) however Brent (-43%) is the biggest underperformer in the sample of assets. All in all 35 out of the 39 assets in Deutsche Bank's sample (which sadly excludes cryptos) have delivered a positive total return in local currency terms with the average return a fairly staggering 111%. Looking at the same dataset, BofA CIO Michael Hartnett notes that this has all been due to one thing: QE, which has delivered "big global annualized returns since QE start Mar’09…stocks up 16%, HY bonds 13%, IG 7%, govt bonds 3%, cash 0%; global stock market cap up epic $60tn to $90tn." Hartnett also looks at the next milestone, although here he is a little more skeptical: with just 116 trading days until the S&P500 hits the longest bull market all-time, he is worried that bullish QE is peaking. After all, Fed/ECB/BoJ have bought $11tn of financial assets since Lehman, and yet in ‘18 Fed sells $400bn, ECB tapers Sept, by year-end Fed/ECB/BoJ asset purchases turn -ve YoY. When will stocks notice? Other, such as Reuters, are more sanguine, and in a note this morning the newswire notes that "the bull market for stocks turns nine years old on Friday and, despite being long in the tooth, appears poised to set the record as the longest in history, buoyed by global economic growth and stronger company earnings." “Bull markets just don’t die of old age, they die of recessions and economic slowdowns,” said Art Hogan, chief market strategist at B. Riley FBR in New York. “The earnings growth picture for this year continues to get better on a weekly basis,” added Hogan. Still, not everyone is convinced: The strong earnings growth could turn into a headwind, however, as results this year will be tough to top in 2019. “When you look to 2019, it’ll be very hard to repeat those numbers,” said Jonathan Mackay, investment strategist at Schroders Investment Management in New York. “Next year will probably not be as good. Then you’re probably getting into the last stages of the cycle.” Concerns about an overheating economy could further derail the bull market: “If your economy can’t handle that growth that quickly, then we run into shortages and then we have a business cycle on our hands,” said Jack Ablin of Cresset Wealth in Chicago. But the biggest concern, at this point, is the shift from "QE to protectionism" according to BofA: the possibility of a global trade war in light of recent tariffs announced by the Trump administration are also cause for concern. “Obviously anything trade talk, political event risk, certainly could create problems but right now there is certainly a valid concern out there that ripping up NAFTA would create a whole litany of uncertainties,” said Ablin. According to Hartnett adds, "as QE ends, protectionism begins; War on Inequality to be fought via Protectionism, Keynesianism, Redistribution; monetary & fiscal policy now spent leaving markets to discount Protectionism & global tariffs." In other words, the fate of the bull market, and whether it becomes the longest in history, is now squarely in the hands of one man: Donald Trump. And, incidentally, should stocks crash, it will also be on Trump: he now "owns" the market, and anything that happens in the next few years.
Authored by Charles Hugh Smith via OfTwoMinds blog, The percentage of household assets invested in stocks fell from almost 40% in 1969 to a mere 13% in 1982, after thirteen years of grinding losses. The conventional wisdom of financial advisors--to save money and invest it in stocks and bonds "for the long haul"--a "buy and hold" strategy that has functioned as the default setting of financial planning for the past 60 years--may well be disastrously wrong for the next decade. This "buy and hold" strategy is based on a very large and unspoken assumption: that every asset bubble that pops will be replaced by an even bigger (and therefore more profitable) bubble if we just wait a few years. The last time this conventional wisdom came into serious question was in the stagflationary 1970s, when stocks and bonds, when adjusted for inflation, lost over 40% of their value. The decade was punctuated by numerous rallies, but each one petered out. The only way to profit in this sort of market is to trade, i.e. buy the lows and sells the highs. Buy and hold is a disastrously wrongheaded strategy when the underpinnings of the status quo are eroding. The 36-year bull market in bonds is drawing to a close, as yields are rising even if official inflation is moribund. Buying and holding bonds will guarantee steadily increasing losses as existing bonds lose value as rates rise. Stocks have risen solely on the back of central bank stimulus, which is now being reduced/ended. In my view, the political blowback of soaring income inequality due to central banks rewarding capital at the expense of labor will place limits on future central bank largesse. These long-term reversals of trend make everyone a trader, whether they like it or not: buying and holding might work for real-world assets if inflation really gathers steam, but if markets gyrate in the winds of uncertainty, every asset might rise and fall or simply stagnate. Being a trader simply means selling an asset when it has topped out relative to other asset classes, and shifting the proceeds into assets that have been crushed and are beginning an up-cycle. It sounds so absurdly simple: buy low, sell high. But it's not that easy to accomplish in the real world. It takes discipline to buy when others are selling (the low point of any asset cycle) and to sell when when everyone else is confident (and greedy for even more gains). As a general rule, letting others take the risks required to skim the last 10% of gains is a prudent strategy: take profits when they arise, and don't assume uptrends of the sort we've enjoyed for the past 9 years will last. As a trader as well as an investor, I've learned the hard way that the barriers to successful trading are largely psychological/emotional: we are all too easily swayed by the emotions of greed, fear and group-think. Buying and holding is a relatively painless strategy in a rising tide that raises all boats. But when markets gyrate up and down, only those able and willing to trade--to take a modest profit and then buy another asset and then sell that when profits arise--will actually prosper in terms of increasing the purchasing power of their holdings. The final and perhaps most difficult piece of trading is to gain the ability to recognize a decision to buy an asset isn't working as planned, and to sell the asset for a loss. Nothing is more difficult for humans than admitting to ourselves that we were wrong and a decision isn't playing out as planned. Taking a loss is remarkably difficult as well. Modern psychology informs us that the sting of losses is far more potent than the euphoria of reaping gains, and mastery of trading requires the trader to "make all things equal," to use the Taoist phrase: losses and gains are treated equally. Like the football quarterback, we can't dwell on the interception we just threw; we must clear our minds for the next successful throw/completion. This discipline takes much practice, and most participants in the markets are ill-prepared to acquire the necessary discipline. Here's another metaphor: sailing in calm seas and light, steady breezes makes sailing seem easy to the beginner. But when the seas roughen and the wind gusts unpredictably, it doesn't seem so easy any more. Everyone who buys or owns any asset from now on --currency, cash, real estate, cryptocurrency tokens, stocks, bonds, options, farmland, copper futures, oil wells, everything--is a trader. Those who don't understand this may suffer potentially catastrophic losses. From now on, everything is a trade that might have to be sold to avoid losses. "Buy and hold" is based on the belief that each popped bubble will be replaced by an even bigger bubble. As I've discussed before, there are solid reasons to suspect that there won't be a fourth bubble after this one finally pops: three bubbles and you're out. It's instructive to refer to a chart of the percentage of household assets invested in the stock market. Buy the dip and buy and hold worked consistently from 1950 until 1969, when the wheels fell off the stock market. (The wheels fell off the bond market a few years later.) Households kept putting more and more of their assets into the "can't lose" stock market until the stagflationary losses of the 1970s destroyed their stock portfolios and their belief in buy and hold. The percentage of household assets invested in stocks fell from almost 40% in 1969 to a mere 13% in 1982, after thirteen years of grinding losses--a process punctuated by numerous sharp rallies, each of which faded. President Richard Nixon famously observed, "We're all Keynesians now," indicating the triumph of Keynesian policies within the political system. Perhaps in a few years someone will mutter "we're all traders now," and that utterance will mark the passing of buy and hold as the status quo's "can't fail" strategy. * * * My new book Money and Work Unchained is $9.95 for the Kindle ebook and $20 for the print edition. Read the first section for free in PDF format. If you found value in this content, please join me in seeking solutions by becoming a $1/month patron of my work via patreon.com.
Summary: Labor Losses in an Economy with Imperfect Competition May Be Even Greater than Labor Losses in a Perfectly Competitive Economy, Which Themselves are SizableTwo kinds of distortions are both important and easy to handle in the standard models of capital taxation: the distortion in terms of the total amount of capital and the distortion of the distribution of capital among activities that are differentially taxed. In the long run, the deadweight loss of these distortions and other distortions comes entirely out of wages.Raising the corporate-income tax rate adds to the total-capital and capital-composition distortions. Therefore wages are reduced more in the long run than revenue is enhanced (if at all). In other words, labor pays more than 100 percent of the corporate-income tax.But proponents of corporate-income taxation have asserted that, not withstanding the above, labor is scarcely harmed by the tax because of the prevalence of “monopoly.” If such assertions are to be taken seriously, they need to be accompanied by some more detailed economic reasoning, which is provided below.The abbreviated version is this: if policy goals (e.g., fighting monopolies) are pursued with oblique policy instruments (e.g., the corporate-income tax or, in New-Keynesian fashion, monetary policy), then unintended consequences abound.Market Power is UnevenAny reasonable view of market power has to acknowledge that market power is uneven: that industries, regions, etc., have different percentage gaps between price and marginal cost; between factor prices and marginal products. If market power is important, then even a low-rate corporate-income tax likely adds significantly to already existing distortions because the tax-free economy is not well approximated as first best (in terms of the amount of capital or its composition).Rent Seeking: People Like Profits and Will Pursue ThemA third type of distortion has to do with rent seeking, which refers to activities that people and businesses do to obtain market power or government favors. These include advertising, inventing new products, merging businesses, or lobbying public officials.A number of factors determine the direction of the effect of corporate taxation on the deadweight losses associated with rent seeking (hereafter, DWRS). One is whether the social return to rent seeking exceeds the private return. Arguably inventing new products or merging businesses could benefit consumers beyond its benefit to the businesses taking these actions. One element in the rent seeking calculus is therefore to quantify the gap between social and private return. The gap may well be negative, but it is usually too extreme to assert that all rent seeking is a waste.The second element is the direction and magnitude of the effect of the corporate tax on rent seeking. Are corporations more rent-seeking intensive than noncorporations? Are corporations able to deduct their rent-seeking efforts from income for the purpose of determining their corporate-income tax liability? Will the extra treasury revenue itself motivate socially costly rent seeking to influence how it is distributed? This last point is particularly important because, in the neighborhood of a zero tax rate, the corporate tax creates far more tax revenue than it destroys rewards to monopoly (at large tax rates, see below).These are all reasons why a higher corporate rate could encourage rent-seeking. To the extent that the corporate tax encourages rent seeking in some instances and discourages it in others, we need to know the net effect, weighted by the social benefit or damage associated with each instance.With all of these factors determining the DWRS, we cannot rule out the possibility that corporate taxation adds to DWRS and therefore adds to the amount that the tax reduces wages as compared to the amount it would reduce wages in an economy with no rent seeking, which itself is in excess of the amount of revenue obtained from the tax. If so, we can conclude even more confidently that labor pays more than 100 percent of the corporate-income tax because all three types of deadweight loss are adding to the tax’s burden on labor (a specific and rigorous demonstration is here as pdf and here as executable Mathematica notebook).An interesting and ironic case is when rent seeking is labor-intensive, or otherwise deductible from the corporate income tax. Here the corporate tax encourages rent seeking by reducing the price of rent-seeking inputs. Ironically, if you use monopoly as a pejorative term, then you have to acknowledge that yet another cost of the corporate-income tax is wasteful rent seeking. On the other hand, if you think that monopoly rents motivate socially valuable R&D, then one of the benefits of the corporate tax is that it encourages that R&D (but see my advice below on using less oblique policy measures).A Proper Tax-Incidence Formula Does Not Merely Enter the "Monopoly Profit Share" as a SubtractionThe amount of DWRS is related to the amount of rents to be sought, which we might roughly describe as the “share of corporate profits that represent monopoly rents.” The amount would be small if there are few rents to be had.In contrast, the amount of the other two deadweight losses (capital amount and composition) depends on the level of the tax rate. At high tax rates, the capital amount and composition dominate DWRS, and labor is paying more than 100 percent of the corporate-income tax at the margin.Note that even if the corporate-income tax reduces DWRS more than enough to offset what it adds to the other two deadweight losses, that does not mean that labor benefits from the tax. It means that labor pays less than 100 percent of it. Moreover, for the reasons cited above, simply subtracting the monopoly-rent share in a tax-incidence analysis is a wild exaggeration, if not directionally incorrect, of how the true incidence differs from simpler models that have no DWRS.Advice: Forgo Oblique and Uncertain Policy InstrumentsPerhaps most important, the deadweight costs of capital amount and composition are direct consequences of the corporate tax. In contrast, the benefit, if any, of corporate taxation coming through DWRS is indirect and uncertain, and presumably we could do better by attacking these problems more directly with antitrust enforcement, policing election fraud, supporting well-designed systems to encourage the supply of intellectual property, etc.  The capital-composition distortion could in principle get better if (a) the non-corporate tax rate were sufficiently greater than the corporate rate and (b) little of the corporate activity could avoid the tax (e.g., through loopholes). We might get lucky that the corporate tax falls on the sectors that already have too much capital and sales, although the assertion that the corporate sector is full of monopolies suggests the opposite (the usual complaint about monopolies is that they charge too much and produce too little). There is also the concern that the corporate tax falls on sectors that are labor-intensive (Harberger 1962) thereby depressing the aggregate demand for labor even beyond its effect on the capital stock. Arguably the people and businesses most productive at rent seeking have already obtained tax exemptions for themselves, so that raising the tax rate only encourages more exemption seeking.
Authored by Adam Taggart via PeakProsperity.com, Economists are supposed to monitor and analyze the economy, warn us if risks are getting out of hand, and advise us on how to make things runs more effectively -- right? Well, even though that's what most people expect from economists, it's not at all how they see their role, warns CFA and and behavioral economist Daniel Nevins. Economists, he cautions, are modelers. They pursue academic lines of thought in order to make their models more perfect. They live in a universe of equations and presumptions about equilibrium states and other chimerical mathematical perfections that don't exist in real life. In short, they are the wrong people to advise us, Nevins claims, as they have no clue how the imperfect world we live in actually works. In his book Economics For Independent Thinkers, he argues that we need a new, more accurate and useful way of studying the economy: However far you go back, you can find economists who had a more realistic approach to how humans actually behave, than the way that mainstreamers assume they behave in the models that the Fed uses to pick winners and losers. You mentioned credit cycles, business environment, and behavioral economics. What I’ve done is to say, “Okay. We know that the modeling approach, the systems of equations approach doesn’t work. But instead of starting completely from scratch, what can we find in the economics literature that is maybe more realistic?” And the interesting thing is that if you look at the work that was done, the state of the profession before the 1930s, before Keynesianism took hold, you can find a lot of work that was quite sensible. I think where that points is towards this notion that when we think about economic volatility, there are really three things that we need to bring together: One is the behavioral side. And we have to be realistic about the way that people really process information, the way that they truly make decisions. The second has to do with the way businesses operate and all the challenges that businesses face to gain and retain profitability. That’s something that economists were intently focused on before Keynesianism and then it became kind of sidelined afterwards because all of these models assumed that businesses didn’t have any challenges. If you pick apart the standard models that the Fed uses that are taught in PhD programs, they assume that business are always profitable, they always sell all of their output instantaneously, and they know exactly what their customers want, and businesses don’t struggle. So, that’s another thing we need to correct that you can find a lot of useful research if you know where to look (before Keynesianism and at the nontraditional schools that have continued in the older approaches). And then the third thing is the credit side where mainstream economics is just so off-target, especially in their models that exclude any role for banks. Effectively, mainstream economists have made assumptions about the way money works and the way banks work that just flat do not match how they actually work in real life. That’s something that’s hugely critical to understanding economic volatility and understanding financial crises. But even regular business cycles have a lot to do with the ebbs and flows of bank lending. And banks just aren’t included in standard macroeconomic models(...) Until you understand that the economic profession is really not doing anything like what I would say they should be doing—studying these things that go wrong, the recessions and depressions and crises—you might not realize that we shouldn’t really be relying on mainstream economists to tell us how policies should be crafted, to tell us what risks might be out there. We need a different approach. Click the play button below to listen to Chris' interview with Daniel Nevins (46m:19s).
The Optimal Inflation Target and the Natural Rate of Interest -- by Philippe Andrade, Jordi Gali, Herve Le Bihan, Julien Matheron
We study how changes in the value of the steady-state real interest rate affect the optimal inflation target, both in the U.S. and the euro area, using an estimated New Keynesian DSGE model that incorporates the zero (or effective) lower bound on the nominal interest rate. We find that this relation is downward sloping, but its slope is not necessarily one-for-one: increases in the optimal inflation rate are generally lower than declines in the steady-state real interest rate. Our approach allows us not only to assess the uncertainty surrounding the optimal inflation target, but also to determine the latter while taking into account the parameter uncertainty facing the policy maker, including uncertainty with regard to the determinants of the steady-state real interest rate. We find that in the currently empirically relevant region for the US as well as the euro area, the slope of the curve is close to -0.9. That finding is robust to allowing for parameter uncertainty
Authored by Daniel Lacalle via The Mises Institute, In recent weeks, the euro has been at its highest level, relative to the US dollar, that we've seen in the last three years. This is a movement that surprises when the European Central Bank is carrying out the most aggressive monetary expansion in the world after the Bank of Japan. A strong euro is not a problem for any European citizen. European households keep a large part of their financial wealth in deposits. Additionally, a strong euro curbs inflation in imported products, mainly energy and food, generating a significant wealth effect. If we look at the commodity index between January 6, 2017 and January 12, 2018, we can see that it has fallen by more than 12% in euros, while it is slightly up in US dollars. For the average European citizen, a stable or strong euro is a blessing, and one of the essential factors for the recovery of household disposable income. A strong euro has not been a problem either for exports. Spain, for example, has increased by 53% the weight of exports in GDP in the last five years and Eurozone exports in 2017 marked a record, growing more than the average of global trade and with a record trade surplus, which is one of the decisive factors explaining the euro strength. But a strong euro is bad news for central planners, indebted states and obsolete or low value-added sectors that need the hidden subsidy of devaluation. A strong euro destroys the ECB expectations of inflation, the increase in estimated profits of the low productivity sectors and puts in danger the debt reduction of inefficient states, which have been unable to reduce their deficits quickly enough. The ECB´s monetary policy, which becomes an assault on the savers and efficient sectors to subsidize the inefficient and indebted, does not work in a globalized world with open economies. And, ironically, that is good for European families, who see their wealth in deposits strengthen and stable disposable income because inflation is low. Although the European Central Bank maintains ultra-low rates and monthly repurchases of 30,000 million euros, they are unable to devalue as they would like. The European central planner must scratch its head thinking why. The US economy accelerates its growth, inflation expectations rise, the trade deficit is at decade-lows, the Federal Reserve is raising interest rates … And the US dollar does not strengthen. The main explanation lies in the trade surplus of China and the Eurozone. Central banks should know it is difficult to have rising trade profits and weakening currencies. A weak dollar while the US economy grows as it is, means an opportunity for the Federal Reserve. It can raise rates and strengthen options ahead of a global slowdown without worrying about its currency. Will Powell use this opportunity? The problem for the European Union is that if the ECB keeps trying to create inflation by decree it does not get it, and also creates greater imbalances. If it tries to contain the euro, it puts Europe in even worse risks, that may generate greater problems in the medium term. And if it the ECB tries to contain the increasing risks, the euro will revalue. This means goodbye to the ECB inflation expectations. My estimates suggest that twelve consecutive months with the euro/US dollar above 1.21 would bring inflation expectations in the Eurozone to 1.3% compared to the 2% target, bring the Eurostoxx 100 earnings growth estimates from +8%, go to 0%, as low added-value exporters would suffer lower sales and banks see weaker margins due to low inflation and low rates. Another factor is China, which tries to strengthen its global position by selling dollars. But China has increased its debt in 2017 by more than the UK’s GDP, and its trade surplus suffers from a weak US dollar and an artificially high yuan. All this proves that currency wars are useless in open economies. Central planners and their batteries of Keynesian analysts are surprised that economies do not work as their Excel spreadsheets assume. Expected correlations and causations fail. But they do not admit their own mistakes. They do not attribute it to the fact that their correlations and estimates are obsolete and wrong, but that “not enough was done” and “it would have been worse” ( read Paul Romer ) and their religious faith in interventionism remains untouchable. The ECB should be concerned about what it can really do, which is to monitor the risks of excess debt, bubbles, and disconnection between bond yields and reality. It should worry, for example, that the Greek two-year bond trades at a lower yield than the US 2-year bond, which is a monstrosity. Do not worry. If it explodes, they will tell us that it was due to lack of regulation.
Authored by David Stockman via Contra Corner blog, This is getting pretty ridiculous. For old times sake, we recently checked on the Federal debt level during the month we arrived in the Imperial City as a 24-year old eager beaver. That was June 1970 and the Federal debt held by the public was $275 billion. Mind you, while that number wasn't exactly diminutive, it had taken all of 188 years to accumulate. That is to say, Uncle Sam had borrowed an average of $28,000 per week during the 9,776 weeks since George Washington was sworn in as the nation's first president. We are ruminating about this seeming historical obscuranta because it just so happens that the US treasury this very week will be selling $258 billion of government debt. That's right. Uncle Sam's scheduled debt emission this week will nearly equal his cumulative borrowing during the nation's first 188 years and its first 37 presidents! And, yes, there has been some considerable inflation since June 1970. And not the least because exactly 13 months later Tricky Dick Nixon decided to pull the plug on Bretton Woods and the dollar's anchor to a fixed weight of gold. Needless to say, the financial discipline of gold-backed money during that interval of guns and butter excess would most certainly have triggered a recession and a heap of inconvenience for Nixon's 1972 reelection prospects. As it happened, the American economy got a heap of inflation and destructive financialization over the next half century, instead. Accordingly, the price level today is 5X higher as measured by the GDP deflator. So in today's dollars of purchasing power, the 1970 debt figure would be about $1.2 trillion. This is by way of explaining that it hasn't been for nothing that we have labeled the Donald as the King of Debt and the Congressional Republicans as fiscal Benedict Arnolds. Their now enacted budget plan----which they have the gall to crow about from one end of the country to the other----is to borrow as much money in apples-to-apples dollars during the year ahead (FY 2019) as did the first 37 presidents of the United States! Accordingly, Keynesians, beltway politicians of both parties and Wall Street punters, alike, know this: The US has a monumental debt problem, and it is most definitely not "priced-in". So our purpose in this two-part series is to explain how it came to be not priced-in, and why that anomalous state of affairs is coming hard upon its sell-by date. To be clear, we are not talking about just the $21 trillion of public debt that will be on the books after this week's borrowing binge, but the entire $67 trillion albatross of public and private debt that now strangles the US economy. We refer to the latter as the lamentable outcome of the rolling national LBO that the US economy has undergone since June 1970. The fact is, the $1.5 trillion of total public and private debt outstanding back then amounted to 150% of GDP. And that implicit 1.5X national leverage ratio had essentially remained unchanged for the prior 100 years of robust economic growth and 25-fold rise in real income per capita. By contrast, at $67 trillion of total debt today, the US leverage ratio stands at nearly 3.5X, and therein lies the giant financial skunk in the woodpile. Had the historically proven leverage ratio of 1.5X national income not been upended by Tricky Dick's perfidy, there would be $30 trillion of total debt on the US economy today, not $67 trillion. So those two-extra turns of leverage amount to $37 trillion-----an economic millstone that is grinding capitalist growth steadily lower, and which has now put the main street and Wall Street economy alike in harm's way. That's because the massive growth of central bank credit unleashed by the Camp David folly of 1971 has finally reached its limit---even by the lights of our overtly Keynesian central bankers. So they are now embarking upon an epochal balance sheet reversal that will drastically alter the fundamental dynamics of the financial system, and expose the vast falsification of financial asset values that are actually "priced-in" to today's Wall Street house of cards. Indeed, it was today's Keynesian mind-frame that caused Nixon to jettison gold in the first place: He was advised by what we have called the "freshwater Keynesians" around Milton Friedman, who were every bit as statist on the matter of money and macro-economic management from Washington as were their "saltwater" compatriots in Cambridge, MA. They merely differed on technique as between monetary versus fiscal policy tools. Alas, when practiced over a long enough time frame, however, Keynesians---and the politicians and apparatchiks who find it convenient to embrace their fatally flawed model---literally loose their minds. That is, insofar as historical memory is concerned. Stated differently, they become incurably infected with "recency bias", and so doing end-up absolutely blind to the unsustainable errors and anomalies on which they whole debt-fueled scheme is predicted. For instance, had your editor also checked in at the Eccles Building during his taxi ride from national airport to his new digs on Capitol Hill in June 1970, he would also have found that the Fed's balance sheet stood at a mere $55 billion. And that was after 56 years in the money printing business. What happened during the next 48 years, of course, was nothing less than a monetary eruption----the very thing that Nixon's Camp David folly enabled. To wit, the Fed's balance sheet exploded by 82X or by nearly 10% per annum over the course of a half century. It goes without saying that you could not have found one economist (or even layman) in Washington, Cambridge or Chicago in June 1970 who would have recommended or even imagined an 82X explosion of the central banks balance sheet during the next 50 years. Even the reining monetary populist and crackpot of the day, Congressman Wright Patman of Texas and Chairman of the House banking and currency committee, would have never countenanced such a thing. The rest is history, of course, and it couldn't have been imagined, either.That is, the 82X explosion of central bank credit gave rise to the freakish chart below. To wit, in June 1970 the GDP was $1.1 trillion and it has since expanded by 18X to $19.6 trillion. By contrast, total public and private debt outstanding was $1.58 trillion and has since expanded by 42X to $67 trillion. Needless to say, to grow these unsustainably divergent trends for even another decade would lead to an outright absurdity. To wit, $35 trillion of nominal GDP and $150 trillion of total debt. In fact, the ridiculousness of it perhaps explains why the Fed stopped publishing the total credit market debt figure in its quarterly "Flow of Funds" report in Q4 2015 when the number stood at $63.5 trillion. But the components are still there and they do add to $67 trillion. Needless to say, this chart makes all the difference in the world for the impending era of interest rate normalization and quantitative tightening (QT). It is one thing to permit interest rates to rise by 200-300 basis points in a context when the economy is carrying $30 trillion of debt; it's an altogether different kettle of fish, of course, when the burden is $67 trillion. In short, recency bias is going to prove to be the Achilles heel of the now ending era of Bubble Finance. The US economy has been borrowing and printing money so long that its position on the economic and financial map has been lost sight of---meaning that the impact of the coming epochal reversal at the central bank is not even remotely appreciated. Take the matter of the Fed's balance sheet. Even had the US followed Milton Friedman's fixed money growth rule at approximately 3% per annum, the Fed's $55 billion balance sheet of June 1970 would stand at just $230 billion today. Do we think that $4.2 trillion of extra central bank credit has changed everything? Yes, we do---as we will amplify in Part 2. In the interim, however, here is the singular chart that should scare the bejesus out of casino gamblers who remain drunk on the trading charts embedded in robo-machines and the fancy bespoke trades peddled by Wall Street brokers. Up to $2 trillion of central bank balance sheet shrinkage has never happened before. Nor has the impact been any more imagined at present than had been the 82X explosion of the Fed's balance sheet back in June 1970.
**Should-Read**: Once again: I believe this fundamentally misconceives the origins and the utility of New Keynesian models. There are things that they are good for. But there are things that they are not good for. Getting a sensitivity of aggregate demand to the real interest rate via an Euler equation is not a good thing. Calvo pricing is not a good thing. Technology shocks as putting the residual from a production function on the right hand side and claiming it as a primitive shock is not a good thing. And what else is there in a New Keynesian model? A money demand function (or an interest rate rule). That is not very much that is useful. The things that make New Keynesian models different from VARs are, pretty much, things that make them less accurate and valuable. Do a VAR. And then argue about what the underlying shocks behind the VAR shocks really are, and how the VAR impulse response coefficients constrain the underlying structural shock ones: **David Vines and Samuel Wills**: [rebuilding macroeconomic theory project: an analytical assessment](https://academic.oup.com/oxrep/article/34/1-2/1/4781821): "We asked a number of leading macroeconomists to describe how the benchmark New Keynesian model might be rebuilt... >...The need to...
David Beckworth has an excellent post discussing the Fed's confused relationship with the Phillips Curve. Recall that the Fed has the Keynesian interpretation of the Phillips Curve---which basically says that rising inflation is caused by an overheating economy. Or more simply; inflation is procyclical. In fact, whether inflation is procyclical or countercyclical is up to the Fed---it depends on the monetary policy regime. David shows that the Bank of Israel makes inflation countercyclical by producing a nice smooth path of NGDP growth. Rather than being some sort of fundamental law of nature, the Phillips Curve is actually the outcome of policy choices. Check out David's very interesting graphs of Israeli inflation, RGDP growth and NGDP growth. David also has a tweet that directed me to the FOMC minutes: Almost all participants who commented agreed that a Phillips curve-type of inflation framework remained useful as one of their tools for understanding inflation dynamics and informing their decisions on monetary policy. Policymakers pointed to a number of possible reasons for the difficulty in estimating the link between resource utilization and inflation in recent years. These reasons included an extended period of low and stable inflation in the United States and other advanced economies during which the effects of resource utilization on inflation became harder to identify, the shortcomings of commonly used measures of resource gaps, the effects of transitory changes in relative prices, and structural factors that had made business pricing more competitive or prices more flexible over time. It was noted that research focusing on inflation across U.S. states or metropolitan areas continued to find a significant relationship between price or wage inflation and measures of resource gaps. This reminds me of (highly flawed) cross sectional studies of the relationship between fiscal policy and output. I can't emphasize enough that you cannot draw macro conclusions from regional studies. Even if (as I claim) there is no reliable Phillips curve relationship at the macro level---that any observed relationship reflects bad monetary policy---you would expect this sort of correlation at the regional level. You'd expect higher inflation in booming regions than in depressed regions. PS. I will be interviewed on monetary policy by Charlie Deist for 1 hour tomorrow morning (8-9am Sunday, Pacific time, or 11-12am, EST) Here is the link. HT: Inklet (4 COMMENTS)
Something that has puzzled me for quite a while: Keynes's _General Theory_ contains remarkably few references to fiscal policy in any form: * "Government spending": no matches... * "Government purchases": no matches... * "Fiscal policy": 6 matches: * Four in one paragraph about how fiscal policy is the fifth in an enumerated list of factors affecting the marginal propensity to consume... * One about how an estate tax changes the marginal propensity to consume... * One about how fiscal policy in ordinary times is "not likely to be important"... * "Public works": 10 matches: * Three in a paragraph about how the multiplier amplifies the employment effect from public works... * Two in a paragraph warning that multiplier calculations are overoptimistic because of import, interest rate, and confidence crowding-out... * Four on how public works have a much bigger effect when unemployment is high and "public works even of doubtful utility may pay for themselves..." * One a criticism of Pigou's logic... And yet it also contains this one paragraph: >In some other respects the foregoing theory is moderately conservative in its implications. For whilst it indicates the vital importance of establishing certain central controls in matters which are now...
2016 год ознаменовал восьмидесятилетнюю годовщину публикации одной из самых влиятельных книг по теме экономики когда-либо увидевших свет. Эта книга – “Общая теория занятости, процента и денег” Джона Мейнарда Кейнса – нанесла непоправимый экономический и политический ущерб Западному миру и другим… читать далее → Запись Antoniusaquinas.com: Джон Мейнард Кейнс “Общая теория”: Восемьдесят лет спустя впервые появилась .
Глобальный кризис формирует экономико-политическую повестку. Она требует переосмысления многих выводов экономической теории и практики, которые до сих пор считались общепринятыми. В статье ректор Российской академии народного хозяйства и государственной службы при Президента РФ и Владимир Мау и Министр экономического развития РФ Алексей Улюкаев, опубликованной в журнале "Вопросы экономики" (11/2014) анализируют ключевые вопросы экономического развития на среднесрочную перспективу. В числе важных для формирования новой модели экономического поста проблем рассматриваются: темпы роста и вероятность долгосрочной стагнации, новые вызовы макроэкономической политики в связи с широким распространением ее нерадиационных инструментов, неравенство и экономический рост, контуры нового социального государства, перспективы глобализации,а также реиндустриализация в развитых странах. В. Мау , А. Улюкаев Глобальный кризис и тенденции экономического развития* Аннотация на русском, ключевые слова, коды JEL Глобальные кризисы – общее и особенное Экономическое развитие ведущих стран определяется прежде всего предпосылками и характером глобального кризиса, который начался в 2008 г. и продолжается по настоящее время. Это кризис особого рода: он не описывается одним-двумя параметрами (например, спадом производства и ростом безработицы), а является многоаспектным, охватывая разные сферы социально-экономической жизни, и, как правило, имеет серьезные социально-политические последствия. Это системный кризис, и в этом отношении он аналогичен кризисам 1930-х и 1970-х годов (Мау, 2009). Разумеется, здесь не может быть прямых аналогий. Структурные кризисы уникальны, то есть опыт, накопленный в ходе преодоления каждого из них, практически нельзя использовать в новых условиях. Тем не менее есть ряд качественных характеристик, которые позволяют относить их к одному классу, то есть эти кризисы можно сравнивать, учитывать их особенности, но не прилагать рецепты антикризисной политики, эффективные в одном случае, к другому. Можно выделить следующие черты системных кризисов. Первое. Такой кризис одновременно и циклический и структурный. Он связан с серьезными институциональными и технологическими изменениями, со сменой технологической базы (некоторые экономисты используют термин «технологические уклады»). Эти изменения выводят экономику на качественно новый уровень эффективности и производительности труда. Системное обновление технологической базы на основе новейших достижений науки и техники – важнейшее условие успешного выхода из кризиса. Второе. Существенным элементом системного кризиса выступает финансовый кризис. Именно наложение последнего на собственно экономический кризис (спад производства и падение занятости) затрудняет выход из него, обусловливает необходимость проведения комплекса структурных и институциональных реформ для выхода на траекторию устойчивого роста. Третье. Неизбежным результатом кризиса выступает формирование новой модели экономического роста: она предполагает структурную модернизацию как развитых, так и развивающихся стран, что связано с созданием новых технологических драйверов. Возникновение новых отраслей и секторов реального производства, их географическое перемещение по миру определяют новую глобальную экономическую реальность и одновременно создают предпосылки для появления новых вызовов и инструментов экономической политики. Эту тенденцию хорошо отражает появившийся в 2009 г. термин «новая нормальность» – newnormal (Улюкаев, 2009). Четвертое. Отметим серьезные геополитические и геоэкономические сдвиги, формирование новых балансов сил (отдельных стран и регионов) в мировой политике. В начале кризиса можно было предположить, что он приведет к закреплению двухполярной модели, на сей раз основанной на противостоянии США и Китая, которых иногда обозначают как G2 – «большую двойку» (Brzezinski, 2009), а Н. Фергюсон назвал «Кимерикой» (Chimerica = China + America; см.: Ferguson, 2008). Однако постепенно все отчетливее проступают контуры многополярного мира, который хотя и не отрицает наличия двух-трех ключевых экономических центров, на практике означает возврат к хорошо известной по XIX в. модели «концерта стран», балансирующих интересы друг друга. С поправкой на нынешние реалии речь может идти, скорее, о балансе интересов ключевых региональных группировок. Пятое. В ходе системного кризиса происходит смена модели регулирования социально-экономических процессов. В 1930-е годы завершился переход к индустриальной стадии развития и закрепились идеология и практика «большого государства», сопровождаемого ростом налогов, бюджетных расходов, государственной собственности и планирования, а в некоторых случаях – и государственного ценообразования. Напротив, кризис 1970-х годов привел к масштабной либерализации и дерегулированию, к снижению налогов и приватизации – словом, к тому, чего требовал переход к постиндустриальной технологической фазе. В начале последнего кризиса создавалось впечатление, что мир вновь вернется к модели, основанной на доминирующей роли государства в экономике (появился даже термин «примитивное кейнсианство» – Crass-Keynesianism). Практика, впрочем, пока не подтверждает такую тенденцию. Роль государственного регулирования действительно возрастает, однако это относится преимущественно к сфере регулирования финансовых рынков на национальном и глобальном уровнях. Действительно, в настоящее время важнейшим противоречием выступает конфликт между глобальным характером финансов и национальными рамками их регулирования. Важно выработать механизм регулирования глобальных финансов в отсутствие глобального правительства. Шестое. Системный кризис ставит на повестку дня вопрос о новой мировой финансовой архитектуре. В результате кризиса 1930-х годов сформировался мир с одной резервной валютой – долларом. После 1970-х годов сложилась бивалютная система (доллар и евро). Направление эволюции валютных систем после новейшего кризиса пока не определилось. Можно предположить усиление роли юаня, а также региональных резервных валют, если значение региональных группировок в мировом балансе сил возрастет. Множественность резервных валют могла бы поддержать тенденцию к многополярности мира и способствовать росту ответственности денежных властей соответствующих стран (поскольку резервные валюты будут конкурировать между собой). Седьмое. Начнет формироваться новая экономическая доктрина, новый мейнстрим в науке (по аналогии с кейнсианством и неолиберализмом в ХХ в.). Из всего сказанного вытекают важные выводы относительно перспектив преодоления системного кризиса и соответствующих механизмов. Во-первых, системный кризис связан с масштабным интеллектуальным вызовом, требующим глубокого переосмысления его причин, механизмов развертывания и путей преодоления. Как генералы всегда готовятся к войнам прошлого, так и политики и экономисты готовятся к прошлым кризисам. До поры до времени это срабатывает, пока приходится иметь дело с экономическим циклом, то есть с повторяющимися проблемами экономической динамики. Поэтому сначала для борьбы с системным кризисом пытаются применить методы, известные из прошлого опыта. Применительно к 1930-м годам – это стремление правительства Г. Гувера (прежде всего его министра финансов Э. Меллона) не вмешиваться в естественный ход событий, жестко балансировать бюджет и укреплять денежную систему, основанную на золотом стандарте. Как свидетельствовал опыт предшествующих 100 лет, кризисы обычно рассасывались примерно за год и никакой специальной политики для этого не требовалось. Аналогично в 1970-е годы с началом кризиса попытались задействовать традиционные для того момента методы кейнсианского регулирования (бюджетное стимулирование в условиях замедления темпов роста и даже государственный контроль за ценами в исполнении республиканской администрации Р. Никсона), но это обернулось скачком инфляции и началом стагфляционных процессов. К системным кризисам плохо применимы подходы экономической политики, выработанные в предыдущие десятилетия. Возникает слишком много новых проблем, изначально не ясны механизмы развертывания кризиса и выхода из него, его масштабы и продолжительность. В ХХ в. на преодоление системных кризисов требовалось порядка десяти лет. Именно на это обстоятельство указывал П. Волкер, когда в июле 1979 г., в разгар предыдущего системного кризиса, вступил в должность руководителя ФРС: «Мы столкнулись с трудностями, которые до сих пор еще не встречались в нашей практике. У нас больше нет эйфории…, когда мы возомнили, что знаем ответы на все вопросы, касающиеся управления экономикой». Во-вторых, системный кризис не сводится к рецессии, росту безработицы или панике вкладчиков банков. Он состоит из ряда эпизодов и волн, охватывающих отдельные секторы экономики, страны и регионы. Это предопределяет его продолжительность – примерно десятилетие, которое можно назвать турбулентным. Более того, статистические данные могут неточно или даже неадекватно отражать происходящие в экономике процессы. Сам факт технологического обновления может искажать (причем существенно) динамику производства, поскольку новые секторы сначала плохо учитываются традиционной статистикой. Проблемы создает и статистика занятости. Если в ходе циклического кризиса одним из важных показателей его преодоления выступает рост занятости, то при системном кризисе этот критерий действует лишь в конечном счете. Технологическое обновление предполагает качественно новые требования к трудовым ресурсам, то есть серьезные структурные изменения на рынке труда. Поэтому для выхода из системного кризиса характерно запаздывающее восстановление занятости, когда высокая безработица сохраняется на фоне экономического роста. Возникает своеобразный конфликт между новой экономикой и старой статистикой, и для его разрешения требуется определенное время. В-третьих, нельзя преодолеть системный кризис лишь мерами макроэкономической политики, макроэкономического регулирования при всей важности бюджетных и денежно-