The value of world trade will fall 9% in 2009 compared to growth of a miserable 2% (not 4.5% as forecast) in 2008 the WTO said on Monday. World production will fall by 1-2% in 2009, the first fall since the 1930s. Further falls in trade can be anticipated as the recession intensifies - the unavailability of trade finance is proving a constraint for developing countrie and declines in exports have strong multiplierr effects on all trading economies.
The economic crisis that has descended on the globe will not end quickly. A move toward protectionism would naturally worsen things.
Showing posts with label macroeconomics. Show all posts
Showing posts with label macroeconomics. Show all posts
Thursday, March 26, 2009
Wednesday, March 25, 2009
Visualising the financial crisis
Jonathon Jarvis provides this exceedingly clear view of the global financial crisis. One of the best I have seen.
Saturday, February 28, 2009
World economic growth
(Correctly measured, quarter-to-quarter) Chinese economic growth in final quarter 2008 was zero or negative. The US economy shrunk at an annual rate of 6.2%. The Japanese economy is shrinking at 12.7% annually with exports falling 45% on a year ago. European data suggests a more severe contraction there than in the US - although that claim was made before recent downward revisions in final quarter US growth. Italy and Britain are two of the worst performing countries though Germany - the world's biggest exporter - is taking a hammering though the contraction in world trade.
The Australian quarterly figures will be released March 4 - there is some optimism that positive growth will be sustained. Difficult to believe but good news if it proves so.
The 'wobbliest' emerging economies in terms of their potential exposure to financial contagion are claimed by The Economist to be South Africa, Pakistan and Poland. The Asian countries - apart from South Korea - look reasonably safe as does China but the smaller European countries are exposed.
The Australian quarterly figures will be released March 4 - there is some optimism that positive growth will be sustained. Difficult to believe but good news if it proves so.
The 'wobbliest' emerging economies in terms of their potential exposure to financial contagion are claimed by The Economist to be South Africa, Pakistan and Poland. The Asian countries - apart from South Korea - look reasonably safe as does China but the smaller European countries are exposed.
Thursday, February 26, 2009
Limits of redistribution
Barack Obama has an enormously expansionary fiscal program to get demand moving but promises to halve the budget deficit by the end of his (first) term. This is a tricky promise to deliver on since he has also guaranteed not to tax US households earning less than $250,000US an extra cent. 3.8 million Americans earn more than $200,000 (the $250,000 point is not configured) and paid $522 billion in tax in 2006. The top marginal rate is 35% and Obama is proposing to raise it only a little to $39.6%. One can see that this would yield something less than about another $68 billion* which is more than a fair bit short of the $1.5 trillion deficit that many expect will prevail over the coming year.
To pull off the halving of the deficit the tax hikes would either need to be draconian (the WSJ argues that even 100% taxes on the top 2% of income earners would not do the trick) or otherwise taxes will have to be increased on people earning much lower incomes as well. Nor will unwinding the war in Iraq do the trick though it will help.
Don't forget either that Obama has some fairly large spending plans in health, alternative energy and infrastructure.
I don't think that the good President Obama's economic policies are internally consistent. I think this guy has the potential to be a great President but he should level with the American people. They will need to pay much higher taxes to fund the current expansionary moves.
* This is optimistic since many will experience income losses as a consequence of the recession.
Update: Paul Krugman takes a slightly more optimistic view. He notes that the budget will benefit from $645 billion (over the next decade?) and from the sale of emission quotas - a very promising sign. He also notes with approval $634 billion devoted to health reform.But Krugman also notes"And even if fundamental health care reform brings costs under control, I at least find it hard to see how the federal government can meet its long-term obligations without some tax increases on the middle class. Whatever politicians may say now, there’s probably a value-added tax in our future".
To pull off the halving of the deficit the tax hikes would either need to be draconian (the WSJ argues that even 100% taxes on the top 2% of income earners would not do the trick) or otherwise taxes will have to be increased on people earning much lower incomes as well. Nor will unwinding the war in Iraq do the trick though it will help.
Don't forget either that Obama has some fairly large spending plans in health, alternative energy and infrastructure.
I don't think that the good President Obama's economic policies are internally consistent. I think this guy has the potential to be a great President but he should level with the American people. They will need to pay much higher taxes to fund the current expansionary moves.
* This is optimistic since many will experience income losses as a consequence of the recession.
Update: Paul Krugman takes a slightly more optimistic view. He notes that the budget will benefit from $645 billion (over the next decade?) and from the sale of emission quotas - a very promising sign. He also notes with approval $634 billion devoted to health reform.But Krugman also notes"And even if fundamental health care reform brings costs under control, I at least find it hard to see how the federal government can meet its long-term obligations without some tax increases on the middle class. Whatever politicians may say now, there’s probably a value-added tax in our future".
Monday, February 23, 2009
Instrument instability & the global economic crisis
Robert Holbrook in 1972 drew attention to the issue of policy instrument instability. Essentially an economic policy can become infeasible if policy needs to adjust more intensively to offset past effects of policy - the policy itself becomes an unstable process. This type of instability is particularly likely if we try to pursue stabilisation of the economy too completely. An example arose when money supplies needed to grow at ever faster rates to try to keep unemployment down. As Jeff Sachs suggests (HT Greg Mankiw) in relation to the current batch of US economic policies:
A number of policy theorists have described current policy as a 'paradox' - incurring a bit more debt to resolve America's debt-induced problems. I think it is just dangerous policy and a potential instance of instrument instability. Barack Obama must see something of the same difficulty - he is committed to reducing the US fiscal deficit by half during his first term. I think he is an able man but this is a very tough objective.
We are due for a recession and a severe economic downturn. This is inevitable and the attempt to eliominate its consequences too completetely can be futile and induce worse future economic problems.
* The same is true to a less extent for Australia. Eventually house prices must fall very substantially. Australian real estate remains some of the most expensive on earth even though we have a small population and abundant land. That is true even if we live in a 'highly urbanised' country (one of the standard reasons advanced for our high prices). .
"Massive deficits and zero interest rates might temporarily perk up spending but at the risk of a collapsing currency, loss of confidence in the government and growing anxieties about the government’s ability to pay its debts. That outcome could frustrate rather than speed the recovery of private consumption and investment. Deficit spending in a recession makes sense, but the deficits should remain limited (less than 5% of GNP) and our interest rates should be kept far enough above zero to avoid wild future swings.The source of the current crisis is that US citizens have borrowed too much and saved too little over the past decade partly because interest rates and taxes have been excessively low. Private citizens have not produced enough goods and services to achieve the lifestyle (and to fund their wars and tax cuts) they wanted, they have not exported enough and instead have financed their consumption binge mainly by borrowing against the value of their real estate whose prices were inflated by a debt-funded real estate bubble. Equilibrium will be established once debts have been reduced and savings rates increased and once the value of real estate falls back into line with consumer incomes*. Adding extra government debt (and equivalently, cutting taxes) as well as setting close to zero interest rates might provide a short-term palliative but - whatever else it might do - does not at all resolve the underlying problems. The danger is apocalyptic - continued borrowing can lead to a US public sector bankruptcy, a consequent (or precedent) collapse of the US dollar that would then destroy large segments of the world economy and a global depression that will make current events look seem like a Sunday school picnic.
We should also avoid further gutting the government’s revenues with more rounds of tax cuts. Tax revenues are already too low to cover the government’s bills, especially when we take into account the unmet and growing needs for outlays on health, education, state and local government, clean energy and infrastructure. We will in fact need a trajectory of rising tax revenues to balance the budget within a few years".
A number of policy theorists have described current policy as a 'paradox' - incurring a bit more debt to resolve America's debt-induced problems. I think it is just dangerous policy and a potential instance of instrument instability. Barack Obama must see something of the same difficulty - he is committed to reducing the US fiscal deficit by half during his first term. I think he is an able man but this is a very tough objective.
We are due for a recession and a severe economic downturn. This is inevitable and the attempt to eliominate its consequences too completetely can be futile and induce worse future economic problems.
* The same is true to a less extent for Australia. Eventually house prices must fall very substantially. Australian real estate remains some of the most expensive on earth even though we have a small population and abundant land. That is true even if we live in a 'highly urbanised' country (one of the standard reasons advanced for our high prices). .
Sunday, February 15, 2009
Pointless fiscal expansions that swamp us with debt but don't reduce unemployment
I liked this article by Henry Ergas on the likely ineffectiveness of the $42 billion fiscal package introduced by the Rudd Government as it accords with my own macroeconomic priors. For a small open economy like Australia fiscal actions make sense in a standard Mundell-Fleming macroeconomic context if the exchange rate is fixed. Monetary policy then does not work in this setting since, with international capital mobility, a monetary expansion to drive down interest rates is simply offset by an outflow of capital seeking higher international interest rates abroad. This was one reason for seeking exchange rate flexibility - to give local monetary policy more bite. Monetary policy effects were then 'bottled up' in an economy and had a real impact.
With flexible exchange rates however, while monetary policy has bite, fiscal actions do not. The only effect of fiscal expansion is to drive up local interest rates attracting capital from abroad and hence appreciating the exchange rate. This reduces our exports and nullifies the effects of the fiscal expansion. The standard theory result is that fiscal actions have zero effect if exchange rates care flexible. Monetary policy is a preferred means of expanding an economy.
As Ergas states:
The standard objection to the Mundell-Fleming model that it is designed for settings where inflation and inflationary expectations don't have a role is not relevant. We have close to zero inflation. Another objection might be that capital mobility is low because of the financial crisis itself. That might be true right now but not so if and when the international economy recovers - and the effects of these fiscal measures will operate with long lags.
Those on the left seem to me to support the Rudd fiscal expansion because they support Rudd not because they understanding Keynesian macroeconomics in an open economy. I wish to know why expenditures of $42 billion by Rudd and his mates - which look likely to leave Australia with a huge eventual debt - were so self-evidently correct. Debate itself - and even quibbling about the size of the package - was portrayed by Rudd as something unpatriotic and unreasonable. Was it that the $42 billion package was primarily designed to threatrically demonstrate that the government was 'doing something'? Indeed to save one job - Kevin Rudd's? The handouts of course appealed to those who simply like handouts.
We will live with the consequences of ineffective fiscal actions which raise debt, but which do not stimulate economic activity, for decades. If the current measures fail there will be inevitable calls by the Keynesian slobs for more and more and our debts will mount. I am pessimistic.
With flexible exchange rates however, while monetary policy has bite, fiscal actions do not. The only effect of fiscal expansion is to drive up local interest rates attracting capital from abroad and hence appreciating the exchange rate. This reduces our exports and nullifies the effects of the fiscal expansion. The standard theory result is that fiscal actions have zero effect if exchange rates care flexible. Monetary policy is a preferred means of expanding an economy.
As Ergas states:
"Australia is a small, open economy with a flexible exchange rate. There is consequently a real possibility that any increase in demand caused by fiscal easing will merely raise interest rates, induce capital inflow from abroad, appreciate the currency and reduce net exports.
With growth in China and Japan slowing significantly, why implement measures that could exacerbate Australia's expected export downturn?
In the Keynesian framework, monetary policy, on the other hand, is actually more effective in an open economy. A monetary policy-induced reduction in interest rates boosts aggregate demand and induces capital outflow, leading to a depreciation of the exchange rate and a reduction imports.
As a result, even if we take the Keynesian approach seriously, fiscal stimulus may not only be ineffective, but by impeding or slowing further reductions in interest rates may stand in the way of a more effective response. As Treasury concluded in 2002, "higher budget deficits (or lower surpluses) can have a significant effect on interest rates in Australia", with the result that the "automatic stabilisers are likely to be relatively more effective than discretionary changes in policy". The federal Government must explain why those findings no longer apply".Of course the Mundell-Fleming approach is only a simplified model - macroeconomists have a range of Ripley-Believe-It-or-Not macroeconomic models that justify any sort of policy action - but I would like to know why the effects the MF model stresses are not appropriate here. The argument that we might be in a liquidity trap where monetary policy is ineffective does not improve the case for expansionary fiscal actions. IMoreover if monetary expansions are taken to keep the exchange rate low then it is these expansions not the debt-incurring fiscal actions that are providing the stimulus. If the fiscal actions are funded using debt as they will be then although huge debts will be imposed on future generations there will be no immediate stimulus now as would be the case were they money-financed.
The standard objection to the Mundell-Fleming model that it is designed for settings where inflation and inflationary expectations don't have a role is not relevant. We have close to zero inflation. Another objection might be that capital mobility is low because of the financial crisis itself. That might be true right now but not so if and when the international economy recovers - and the effects of these fiscal measures will operate with long lags.
Those on the left seem to me to support the Rudd fiscal expansion because they support Rudd not because they understanding Keynesian macroeconomics in an open economy. I wish to know why expenditures of $42 billion by Rudd and his mates - which look likely to leave Australia with a huge eventual debt - were so self-evidently correct. Debate itself - and even quibbling about the size of the package - was portrayed by Rudd as something unpatriotic and unreasonable. Was it that the $42 billion package was primarily designed to threatrically demonstrate that the government was 'doing something'? Indeed to save one job - Kevin Rudd's? The handouts of course appealed to those who simply like handouts.
We will live with the consequences of ineffective fiscal actions which raise debt, but which do not stimulate economic activity, for decades. If the current measures fail there will be inevitable calls by the Keynesian slobs for more and more and our debts will mount. I am pessimistic.
Friday, February 06, 2009
Taxes vs. expenditure stimuli - on the one hand & on the other...
Paul Krugman slams the moves for tax cuts arguing that the US economy is about to fall into an abyss*. The question really is the size of the cuts - if big enough they can provide as much stimulation as a fiscal expansion. At times Krugman allows his Republican hatreds to override his reason.
Greg Mankiw on the other hand argues that the US should utilise a revenue neutral payroll tax cut coupled with a gradually increasing tax on gasoline. One conspicuous advantage is that tax cuts have an immediate impact whereas well-planned fiscal investments have significant implementation lags.
The Mankiw move has its attractions. It replaces a stupid tax on jobs which damages employment with an environmentally sensitive tax that (however imperfectly) helps reduce congestion, pollution and of course greenhouse gas emissions. We could think about similar sorts of moves in Australia where rates of payroll tax are comparable to those paid in the US.
* That is not an exaggerated claim. 598,000 jobs were lost in the US in January 2009 with unemployment up to 7.6% of the workforce compared to 4.9% in January 2008.
Greg Mankiw on the other hand argues that the US should utilise a revenue neutral payroll tax cut coupled with a gradually increasing tax on gasoline. One conspicuous advantage is that tax cuts have an immediate impact whereas well-planned fiscal investments have significant implementation lags.
The Mankiw move has its attractions. It replaces a stupid tax on jobs which damages employment with an environmentally sensitive tax that (however imperfectly) helps reduce congestion, pollution and of course greenhouse gas emissions. We could think about similar sorts of moves in Australia where rates of payroll tax are comparable to those paid in the US.
* That is not an exaggerated claim. 598,000 jobs were lost in the US in January 2009 with unemployment up to 7.6% of the workforce compared to 4.9% in January 2008.
Wednesday, February 04, 2009
Turnbull opposes Labor $42 billion package
I am sympathetic to Malcolm Turnbull's rejection of the Rudd stimulus package and to his proposed more modest alternative of bringing tax cuts forward. I think the recession does have a long way to go and that disposing of all available fiscal ammunition immediately is unwise - a conservative package of something less than half Labor's proposal makes more sense. Indeed Labor's moves show all the signs of panic as well as a simple-minded socialist justification for increasing the role of the state in the economy. Sound extreme? Rudd this afternoon was attacking Turnbull for not rebuilding schools. Rudd is a hypocrite and a liar. This was never the justification for the spending.
I don't want a repeat of the previous Labor Government's record $96 billion public debt that took 10 years to wind down. The Coalition's proposed job subsidies - by subsidising the superannuation costs of small firms for 2 years - makes sense. They are direct policies and directly address the excess supply of Labor.
The employment effects of Labor's package are, on the other hand, derisively small (70,000) and incredibly expensive (nearly $500,000 per saved job). The implied addition to debt is, however, huge. Is it foolish to be risk-averse in relation to this package. The debt will definitely arrive.
Rudd's immediate and insulting rejection of Turnbull's counter-package shows Australia what type of man Rudd is. His populism is obscene. Why no counterarguments Kevin? What not a willingness to discuss the issues? A $42 billion package without intellectual or other justification beyond 'let'd do something and let's make it big' and Rudd demands immediate acceptance without debate of a dubious package.
I am pleased too that Turnbull is displaying political courage despite the short-term flack his move is bound to have. The Coalition should have stuck to its guns in suppporting WorkChoices in the face of the job-destroying policies of Labor. It is inevitable that the Australian economy is in for a difficult few years - hundreds of thousands will have their lives damaged as they lose their jobs. We will all face much higher taxes to repay Labor's debt which, at current rates of growth, will amount to $200 billion or $9,500 per person within a few years.
Even if Turnbull cannot attract the votes of minor parties in the Senate to force a change it makes sense for Turnbull to stick to conservative principles as the ensuing recession and failed policy responses bury the Labor Party. Turnbull is doing his job as an opposition leader and a fiscal expansion of the type proposed by Rudd deserves scrutiny. He can't demand uncritical acceptance on the grounds of 'obviousness' or of 'crisis'.
The moronic left at LP debunk Turnbull not because of any perceived deficiency in his package but because voters will hammer him for not awarding them another handout. I don't think voters are as stupid as this lot - some will realise that they are paying for the handout now and in the future.
Update: Mark Crosby - level-headed macroeconomist newly arrived at CoreEcon - supports my skepticism toward the Rudd package. He also shares the Turnbull concern with the massive emerging debt that we know will stem from the Rudd package.
I don't want a repeat of the previous Labor Government's record $96 billion public debt that took 10 years to wind down. The Coalition's proposed job subsidies - by subsidising the superannuation costs of small firms for 2 years - makes sense. They are direct policies and directly address the excess supply of Labor.
The employment effects of Labor's package are, on the other hand, derisively small (70,000) and incredibly expensive (nearly $500,000 per saved job). The implied addition to debt is, however, huge. Is it foolish to be risk-averse in relation to this package. The debt will definitely arrive.
Rudd's immediate and insulting rejection of Turnbull's counter-package shows Australia what type of man Rudd is. His populism is obscene. Why no counterarguments Kevin? What not a willingness to discuss the issues? A $42 billion package without intellectual or other justification beyond 'let'd do something and let's make it big' and Rudd demands immediate acceptance without debate of a dubious package.
I am pleased too that Turnbull is displaying political courage despite the short-term flack his move is bound to have. The Coalition should have stuck to its guns in suppporting WorkChoices in the face of the job-destroying policies of Labor. It is inevitable that the Australian economy is in for a difficult few years - hundreds of thousands will have their lives damaged as they lose their jobs. We will all face much higher taxes to repay Labor's debt which, at current rates of growth, will amount to $200 billion or $9,500 per person within a few years.
Even if Turnbull cannot attract the votes of minor parties in the Senate to force a change it makes sense for Turnbull to stick to conservative principles as the ensuing recession and failed policy responses bury the Labor Party. Turnbull is doing his job as an opposition leader and a fiscal expansion of the type proposed by Rudd deserves scrutiny. He can't demand uncritical acceptance on the grounds of 'obviousness' or of 'crisis'.
The moronic left at LP debunk Turnbull not because of any perceived deficiency in his package but because voters will hammer him for not awarding them another handout. I don't think voters are as stupid as this lot - some will realise that they are paying for the handout now and in the future.
Update: Mark Crosby - level-headed macroeconomist newly arrived at CoreEcon - supports my skepticism toward the Rudd package. He also shares the Turnbull concern with the massive emerging debt that we know will stem from the Rudd package.
Tuesday, February 03, 2009
Rudd's big package
It is $42,000,000,000 distributed among 21,580, 428 people or around $1,900 per capita. It will not create but it will 'save' 90,000 jobs which is something short of $500,000 per job. Can we celebrate?
Well the budget will be $22 billion in deficit this year and $35 billion next year. That's $55 billion of extra debt. Australia will soon have the debt that Labor left after the Keating years and Labor will have an excuse for having created it. On the other hand John Howard's Government - which eliminated the previous debt and drove unemployment and inflation to record lows - will be portrayed as neoliberal destroyers who forced Labor to borrow.
Update: George Megalogenis has sensible remarks about the packing. Modest employment outcomes expected - it also assumes that the international economy is on the mend. Peter Costello describes Kevin Rudd as a closet Whitlamite.
Well the budget will be $22 billion in deficit this year and $35 billion next year. That's $55 billion of extra debt. Australia will soon have the debt that Labor left after the Keating years and Labor will have an excuse for having created it. On the other hand John Howard's Government - which eliminated the previous debt and drove unemployment and inflation to record lows - will be portrayed as neoliberal destroyers who forced Labor to borrow.
Update: George Megalogenis has sensible remarks about the packing. Modest employment outcomes expected - it also assumes that the international economy is on the mend. Peter Costello describes Kevin Rudd as a closet Whitlamite.
Monday, February 02, 2009
Australian economy & Labor
Australia is a small open economy that takes economically what is dished out by the world economy. We don't significantly affect world events. The world has dished us out a really bad serve. The terms of trade we face have moved against us -despite a recent tick upturn - so we will export less and the value of many of our local productive assets have fallen. The crisis we face is primarily an external economic shock.
We therefore face the prospects of a fairly sustained decline in economic activity. Longer-term we cannot offset this decline through monetary and fiscal actions seeking to expand the local economy since it is externally induced. If we assume the crisis will only last for a year or so the best we can do is to smoothe our consumption standards by borrowing a lot - running huge* public deficits - and by so doing seeking to build an economy that will be ready to take on the world when things recover when we then have to repay the debts we have incurred. If we are pessimistic and assume that the world decline will last for at least several years - I am in this camp - then the alternative appropriate policy response is to be more moderate and to accept that our living standards will fall and to then get on with our lives by learning to live with the inevitably reduced living standards and lower growth rates. To fritter public resources away in this latter case is just to leave a weakened economy with reduced public resources and lower capacity to adapt as well as a much bigger than necessary long-term public debt.
The banal arguments about the precise way of creating a domestic boom to offset the externally induced recession draw attention away from from this fact.
The obstacles to accepting gracefully a fall in living standards include monopolistic trade unions which enforce downward wage rigidity when things get tougher. The mining sector layoffs are a direct function of the absurdly high wages the unions have 'gained' for the soon to be unemployed in this sector. Other obstacles include the uncritical belief that undirected government spending programs and attempts to underpin inflated asset prices can offset adverse world economic circumstances.
Not all unpleasant economic facts of life can be dissolved by policy.
Kevin Rudd's claim that he will 'do what he can' to reverse the effects of a negative terms of trade shock might do for university campus meetings of enthusiasts but the claims are, for the more balanced, just hopeless words. The attempt to throw money at anything - e.g. the pre-Xmas handouts or providing insulation for housing - without regard for economics or for considerations of rebuilding the economy in anticipation of better times is a foolish political response - 'we are acting' - to a real crisis.
We will all suffer from waste induced from these attempts but, of course, those who are poor and disadvantaged will suffer most once public resources evaporate. They might take solace in the fact that they at least had a decisive say in electing the 'leadership' who will now plausibly add to their miseries.
* The deficits will be $15 billion or so over the next few years without accounting for wasteful public expenditure programs.
We therefore face the prospects of a fairly sustained decline in economic activity. Longer-term we cannot offset this decline through monetary and fiscal actions seeking to expand the local economy since it is externally induced. If we assume the crisis will only last for a year or so the best we can do is to smoothe our consumption standards by borrowing a lot - running huge* public deficits - and by so doing seeking to build an economy that will be ready to take on the world when things recover when we then have to repay the debts we have incurred. If we are pessimistic and assume that the world decline will last for at least several years - I am in this camp - then the alternative appropriate policy response is to be more moderate and to accept that our living standards will fall and to then get on with our lives by learning to live with the inevitably reduced living standards and lower growth rates. To fritter public resources away in this latter case is just to leave a weakened economy with reduced public resources and lower capacity to adapt as well as a much bigger than necessary long-term public debt.
The banal arguments about the precise way of creating a domestic boom to offset the externally induced recession draw attention away from from this fact.
The obstacles to accepting gracefully a fall in living standards include monopolistic trade unions which enforce downward wage rigidity when things get tougher. The mining sector layoffs are a direct function of the absurdly high wages the unions have 'gained' for the soon to be unemployed in this sector. Other obstacles include the uncritical belief that undirected government spending programs and attempts to underpin inflated asset prices can offset adverse world economic circumstances.
Not all unpleasant economic facts of life can be dissolved by policy.
Kevin Rudd's claim that he will 'do what he can' to reverse the effects of a negative terms of trade shock might do for university campus meetings of enthusiasts but the claims are, for the more balanced, just hopeless words. The attempt to throw money at anything - e.g. the pre-Xmas handouts or providing insulation for housing - without regard for economics or for considerations of rebuilding the economy in anticipation of better times is a foolish political response - 'we are acting' - to a real crisis.
We will all suffer from waste induced from these attempts but, of course, those who are poor and disadvantaged will suffer most once public resources evaporate. They might take solace in the fact that they at least had a decisive say in electing the 'leadership' who will now plausibly add to their miseries.
* The deficits will be $15 billion or so over the next few years without accounting for wasteful public expenditure programs.
Saturday, January 31, 2009
Olivier Blanchard on uncertainty & the financial crisis
Blanchard's solution: commit to expansionary policies now and, if necessary, in the future so that people will no longer believe that a financial apocalypse is around the next corner. In addition, recycle the proceeds of government security sales into riskier assets and get the government to spend more on retail as well as encouraging the public to spend now (temporary subsidies and tax cuts?) rather than to 'wait and see'.
Apart from some inventory adjustment shenagins the US economy contracted by 5% in the December quarter. It will do worse than that in the March quarter. Given close to zero interest rates the key policy options do reduce to public expenditure and tax cut measures.
"And, within a year or less, we can be on the path to recovery".That's hopeful and based on obvious policy optimism! The general policy prescription is the conventional wisdom but, in my view, there must be a certain amount of inevitable pain in deleveraging overextended economies. My question is how far to go in promoting expansion through further debt funded government spending. Hopefully not so far that we are left with an impoverished public and private sector. Partly this depends on Blanchard's assumption that things will be on the way to being hunky dory in a 'year or less'.
Apart from some inventory adjustment shenagins the US economy contracted by 5% in the December quarter. It will do worse than that in the March quarter. Given close to zero interest rates the key policy options do reduce to public expenditure and tax cut measures.
Thursday, January 29, 2009
IMF forecast worst world economic performance for 60 years
The IMF revise their growth forecast for the world in 2009 from 2.2% two months ago to 0.5% now. Growth has virtually stopped. 50 million jobs will be lost globally.
The developed countries will experience major declines. The US economy will contract by 2%, Britain by 2.8% (the worst in the developed world), Japan 2.6%, mainland Europe 1.6% and a group known as "other advanced economies", which includes Australia, 2.4%. China will grow at 6.7% half its rate in 2007. India will grow at 5%.
The volume of world trade will contract by nearly 3%.
In one sense the forecasts are optimistic - there is forecast to be a recovery to 3% world growth in 2010 due to expansionary monetary and fiscal policies around the globe.
The developed countries will experience major declines. The US economy will contract by 2%, Britain by 2.8% (the worst in the developed world), Japan 2.6%, mainland Europe 1.6% and a group known as "other advanced economies", which includes Australia, 2.4%. China will grow at 6.7% half its rate in 2007. India will grow at 5%.
The volume of world trade will contract by nearly 3%.
In one sense the forecasts are optimistic - there is forecast to be a recovery to 3% world growth in 2010 due to expansionary monetary and fiscal policies around the globe.
Sunday, January 25, 2009
Monetary mop-ups
This graph shows the US monetary base - the 'high powered' money that generates the money supply - for the last 100 years. I assume that this base is generating a less than proportionate growth in the US money stock - M3 grew in 2008 at only about 15% - because of the much-publicised decline in lending. But if lending were resumed how would the astounding consequent growth in the money supply be 'wound back'?
I am not a macroeconomist so better answers than I can conjecture intrigue me. Are we in for a massive bout of global inflation as the depression/recession we are going to experience over the next year or so (hopefully) eventually peters out? Or are such massive increases in base money easily reversed by open market sales of bonds (sounds implausible) or increased reserve requirements (also sounds implausible)?
Couple the monetary moves with the latest $819 billion fiscal package and the monetary moves look very expansionary.
One reason for my caution is that econometric models are operating entirely in out-of-sample territory in trying to estimate the effects of these policies. I don't believe any model-based forecasts at this stage.
Comments welcome.
Tuesday, January 06, 2009
Pessimistic views on the global economy
Stock markets have been strong in recent weeks – in anticipation of an Obama fiscal-led recovery - and many financial analysts are predicting the end of the panic and a reversal toward economic normality. That is a false perspective – the US, Chinese and European economies are in free fall. As with the Great Depression the dramatically low interest rates are not doing the trick and there are inevitable political difficulties in getting an effective fiscal stimulus package to work.
US job losses in 2008 are the worst since the end of WW2 – 2.4 million Americans lost their job in 2008 and yet the severe financial jolts occurred late in the year. Clearly the worst is yet to come as deleveraging throughout the economy occurs to offset decades of excessive borrowing.
Paul Krugman has come out and said it plainly* – this looks like a ‘second’ Great Depression. Janet Yellen has described the downturn as likely to be the longest and most severe since the Great Depression.
I am a pessimist and view the current stock market mini recovery not as a leading indicator of future prosperity but as a false dawn. The real effects of the disastrous financial crisis are only beginning to be felt.
* Excerpts of Krugman's views:
" Let’s not mince words: This looks an awful lot like the beginning of a second Great Depression.
... We weren’t supposed to find ourselves in this situation. For many years most economists believed that preventing another Great Depression would be easy. In 2003, Robert Lucas ... in his presidential address to the American Economic Association, declared that the “central problem of depression-prevention has been solved, for all practical purposes, and has in fact been solved for many decades.”
Milton Friedman, in particular, persuaded many economists that the Federal Reserve could have stopped the Depression in its tracks simply by providing banks with more liquidity, which would have prevented a sharp fall in the money supply. Ben Bernanke, the Federal Reserve chairman, famously apologized to Friedman on his institution’s behalf: “You’re right. We did it. We’re very sorry. But thanks to you, we won’t do it again.”
...Yet credit remains scarce, and the economy is still in free fall.
Friedman’s claim that monetary policy could have prevented the Great Depression was an attempt to refute the analysis of John Maynard Keynes (but) The failure of monetary policy in the current crisis shows that Keynes had it right the first time. And Keynesian thinking lies behind Mr. Obama’s plans....
But these plans may turn out to be a hard sell. News reports say that Democrats hope to pass an economic plan with broad bipartisan support. Good luck with that.
In reality, the political posturing has already started, with Republican leaders setting up roadblocks to stimulus legislation while posing as the champions of careful Congressional deliberation — which is pretty rich considering their party’s behavior over the past eight years.
More broadly, after decades of declaring that government is the problem, not the solution, not to mention reviling both Keynesian economics and the New Deal, most Republicans aren’t going to accept the need for a big-spending, F.D.R.-type solution to the economic crisis.
The biggest problem facing the Obama plan, however, is likely to be the demand of many politicians for proof that the benefits of the proposed public spending justify its costs — a burden of proof never imposed on proposals for tax cuts.
This is a problem with which Keynes was familiar: giving money away, he pointed out, tends to be met with fewer objections than plans for public investment “which, because they are not wholly wasteful, tend to be judged on strict ‘business’ principles.” What gets lost in such discussions is the key argument for economic stimulus — namely, that under current conditions, a surge in public spending would employ Americans who would otherwise be unemployed and money that would otherwise be sitting idle, and put both to work producing something useful.
All of this leaves me concerned about the prospects for the Obama plan. I’m sure that Congress will pass a stimulus plan, but I worry that the plan may be delayed and/or downsized. And Mr. Obama is right: We really do need swift, bold action.
Here’s my nightmare scenario: It takes Congress months to pass a stimulus plan, and the legislation that actually emerges is too cautious. As a result, the economy plunges for most of 2009, and when the plan finally starts to kick in, it’s only enough to slow the descent, not stop it. Meanwhile, deflation is setting in, while businesses and consumers start to base their spending plans on the expectation of a permanently depressed economy — well, you can see where this is going.
So this is our moment of truth. Will we in fact do what’s necessary to prevent Great Depression II?"
Update: earlier views that the recovery of US employment reflected spurious seasonal effects are confirmed. In December US unemployment jumped by 525,000 to 7.2% of the workforce. This is a 16 year high. 2.6 million Americans lost their jobs in 2008. In total 11 million Americans are unemployed. My earlier forecast that US unemployment will hit 10% looks close to the mark - official forecasts are around 9% by end of 2009. The US economy is in freefall.
US job losses in 2008 are the worst since the end of WW2 – 2.4 million Americans lost their job in 2008 and yet the severe financial jolts occurred late in the year. Clearly the worst is yet to come as deleveraging throughout the economy occurs to offset decades of excessive borrowing.
Paul Krugman has come out and said it plainly* – this looks like a ‘second’ Great Depression. Janet Yellen has described the downturn as likely to be the longest and most severe since the Great Depression.
I am a pessimist and view the current stock market mini recovery not as a leading indicator of future prosperity but as a false dawn. The real effects of the disastrous financial crisis are only beginning to be felt.
* Excerpts of Krugman's views:
" Let’s not mince words: This looks an awful lot like the beginning of a second Great Depression.
... We weren’t supposed to find ourselves in this situation. For many years most economists believed that preventing another Great Depression would be easy. In 2003, Robert Lucas ... in his presidential address to the American Economic Association, declared that the “central problem of depression-prevention has been solved, for all practical purposes, and has in fact been solved for many decades.”
Milton Friedman, in particular, persuaded many economists that the Federal Reserve could have stopped the Depression in its tracks simply by providing banks with more liquidity, which would have prevented a sharp fall in the money supply. Ben Bernanke, the Federal Reserve chairman, famously apologized to Friedman on his institution’s behalf: “You’re right. We did it. We’re very sorry. But thanks to you, we won’t do it again.”
...Yet credit remains scarce, and the economy is still in free fall.
Friedman’s claim that monetary policy could have prevented the Great Depression was an attempt to refute the analysis of John Maynard Keynes (but) The failure of monetary policy in the current crisis shows that Keynes had it right the first time. And Keynesian thinking lies behind Mr. Obama’s plans....
But these plans may turn out to be a hard sell. News reports say that Democrats hope to pass an economic plan with broad bipartisan support. Good luck with that.
In reality, the political posturing has already started, with Republican leaders setting up roadblocks to stimulus legislation while posing as the champions of careful Congressional deliberation — which is pretty rich considering their party’s behavior over the past eight years.
More broadly, after decades of declaring that government is the problem, not the solution, not to mention reviling both Keynesian economics and the New Deal, most Republicans aren’t going to accept the need for a big-spending, F.D.R.-type solution to the economic crisis.
The biggest problem facing the Obama plan, however, is likely to be the demand of many politicians for proof that the benefits of the proposed public spending justify its costs — a burden of proof never imposed on proposals for tax cuts.
This is a problem with which Keynes was familiar: giving money away, he pointed out, tends to be met with fewer objections than plans for public investment “which, because they are not wholly wasteful, tend to be judged on strict ‘business’ principles.” What gets lost in such discussions is the key argument for economic stimulus — namely, that under current conditions, a surge in public spending would employ Americans who would otherwise be unemployed and money that would otherwise be sitting idle, and put both to work producing something useful.
All of this leaves me concerned about the prospects for the Obama plan. I’m sure that Congress will pass a stimulus plan, but I worry that the plan may be delayed and/or downsized. And Mr. Obama is right: We really do need swift, bold action.
Here’s my nightmare scenario: It takes Congress months to pass a stimulus plan, and the legislation that actually emerges is too cautious. As a result, the economy plunges for most of 2009, and when the plan finally starts to kick in, it’s only enough to slow the descent, not stop it. Meanwhile, deflation is setting in, while businesses and consumers start to base their spending plans on the expectation of a permanently depressed economy — well, you can see where this is going.
So this is our moment of truth. Will we in fact do what’s necessary to prevent Great Depression II?"
Update: earlier views that the recovery of US employment reflected spurious seasonal effects are confirmed. In December US unemployment jumped by 525,000 to 7.2% of the workforce. This is a 16 year high. 2.6 million Americans lost their jobs in 2008. In total 11 million Americans are unemployed. My earlier forecast that US unemployment will hit 10% looks close to the mark - official forecasts are around 9% by end of 2009. The US economy is in freefall.
Thursday, January 01, 2009
Recessions & depressions
This Economist piece pins down the distinction between recessions (2 consecutive quarters of negative growth) and depressions (declines of GPD which either exceeded 10% in a year or which persist for more than 3 years) and analyses when and where they each occur. Depressions were more common in the past because bank failures were more often permitted and because the share of government in the economy was smaller. These days depressions are much more common in emerging economies - Russia had a dozy 1989-1998 when GDP fell 45%. ASEAN countries experienced depressions following the 1997 Asian crisis.
It remains an open question whether the US will experience a depression now. Most economists say not (fiscal actions and support of financial institutions the reason) but in the current disturbed environment these forecasts have limited (I would say close to zero) value. Model-based forecasts are only valid in the range of experience the models are based on and the current situation is something distant from recent experience. What is true is that the US economy declined 6% on an annualised basis in the December quarter.
The price paid at Intrade for a US depression outcome implies a depression probability of about 30% compared to a probability of 10% in November 2008. See:
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It remains an open question whether the US will experience a depression now. Most economists say not (fiscal actions and support of financial institutions the reason) but in the current disturbed environment these forecasts have limited (I would say close to zero) value. Model-based forecasts are only valid in the range of experience the models are based on and the current situation is something distant from recent experience. What is true is that the US economy declined 6% on an annualised basis in the December quarter.
The price paid at Intrade for a US depression outcome implies a depression probability of about 30% compared to a probability of 10% in November 2008. See:
Friday, November 21, 2008
George Soros: The crisis & what to do about it.
Thursday, November 20, 2008
Now for the really bad news
The Dow Jones last night fell another 5% to end up below 8,000 - its lowest level for 5 years. Banking stocks were again savaged as were auto producers - a large slab of the US auto industry faces the prospects of collapse. In addition the US is experiencing deflation - the US CPI dropped 1% in October. The December Share Price Index Futures was down 4.6% in Australia so a future dramatic rout on Australian equity markets will occur today driven in part by an overnight commodity price retreat. The All Ordinaries is at half its peak level of about one year ago. Indeed the betting agency Intrade are selling bets on the possibility of the US going into Depression in 2009 with GNP falling by 10% or more (HT Gregory Mankiw) . The current implied depression probability is around 0.15. It is not a negligible disaster probability.
The problem for Australian and the world is that people all want to save more because they see their residential and share market wealth decreasing. This has created a 'paradox of thrift' - in seeking improvement in individual financial positions by saving more they bring about a sharp contraction in demand and therefore economic activity that makes society as a whole worse-off. Indeed they end up saving less. The RBA is not convinced that lower interest rates will succeed in expanding the economy - the real need is for a traditional Keynesian fiscal expansion.
The share market collapse is a leading indicator that Australia is in for very tough economic times ahead. That is for sure.
The problem for Australian and the world is that people all want to save more because they see their residential and share market wealth decreasing. This has created a 'paradox of thrift' - in seeking improvement in individual financial positions by saving more they bring about a sharp contraction in demand and therefore economic activity that makes society as a whole worse-off. Indeed they end up saving less. The RBA is not convinced that lower interest rates will succeed in expanding the economy - the real need is for a traditional Keynesian fiscal expansion.
The share market collapse is a leading indicator that Australia is in for very tough economic times ahead. That is for sure.
Tuesday, November 04, 2008
RBA backflip
In hindsight the RBA overreacted to inflation in making interest rate hikes up to March 5 this year when rates peaked at 7.25%. After being cut by 100 basis points last month they were cut by another 75 points today to be 5.25%. Global deflationary forces have removed the risk of inflation and the clear, substantial risk is a severe recession in Australia accompanied by our own mini debt crisis if house prices really crash. Official interest rates are at their lowest level since December 2003 but still remain high relative to those abroad.
Can we save the world economy?
This panel discussion (George Soros, Nouriel Roubini, Jeffrey Sachs) moderated by CNN's John Roberts on saving the global economy. You need to reserve some time - its about 90 minutes - but worthwhile.
Sunday, November 02, 2008
Robert Shiller on bubbles
Robert Shiller - the 'rational exhuberance' man - sees speculative bubbles as an instance of 'group-think' (yes, that is well-known) where, among experts, few will stick their neck out to present a divergent view. It seems that taxi drivers with basic powers of observation (their eyes open?) can outperform MIT-trained PhDs in economics. Might I suggest:
Meta-Theorem 1: When situations seem ridiculous they probably are.
Last year I asked:
It is not only private sector heads who should roll in the current crisis. The comforting noises made by the RBA were misleading.
Update: To be fair there were many misleading voices. James Galbraith estimates only 2 or 3 out of 15,000 economists in the US foresaw the mortgage crisis. Gregory Mankiw estimates about 10 or 12. we all need to eat a bit of humble pie over this one but macroeconomists should be assigned large slices.
Meta-Theorem 1: When situations seem ridiculous they probably are.
Last year I asked:
'Despite the attempts of my macroeconomic colleagues to convince me all is fine I still find it hard to understand how Australians can be in a sound credit position when 16 years into an economic expansion our credit aggregates are growing at 15.9% annually and our money stocks are growing at 15.4%. This is during a phase where inflation looks like peaking at around 3%'.I have still not heard anything like a sensible answer to this question but I will 'stick my neck out' and make the bold prediction that the answer to this question will, in the medium-term, determine Australia's fate in the current financial crisis. Who needs economists and finance experts? Give me astute taxi drivers anyday. The RBA told us that our low savings rates were an illusion because our investments in the stock market and the capital gains were were earning on our debt-financed love-affair with housing made us, in fact, one of the highest savings countries in the developed world - only the US beat us!
It is not only private sector heads who should roll in the current crisis. The comforting noises made by the RBA were misleading.
Update: To be fair there were many misleading voices. James Galbraith estimates only 2 or 3 out of 15,000 economists in the US foresaw the mortgage crisis. Gregory Mankiw estimates about 10 or 12. we all need to eat a bit of humble pie over this one but macroeconomists should be assigned large slices.
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