Tuesday, 27 June 2017

Random charts. 27.

Text in pink on these charts was added by me.













Wednesday, 21 June 2017

Economics prof tries to write article on high UK house prices.


That’s this Financial Times article entitled “Outrage at Grenfell Tower is a chance to fix housing policy.” It’s written by Diane Coyle: economics prof at Manchester University, UK.

Her professional colleagues were getting all excited about this article on the internet yesterday. I’m less than impressed.

Essentially her explanation for high house prices is in this passage of hers: “The reason is simple: private developers, on the whole, will never want to increase housing supply enough to bring prices down. They sell too many properties on the promise of capital gains.”

Well Prof Coyle’s first year students ought to be able to spot the flaw there. In case you haven’t spotted it, the flaw is thus.

It’s blindingly obvious that “private developers, on the whole, will never want to increase housing supply enough to bring prices down.” By the same token, used car dealers don’t want the number of cars for sale to increase dramatically: that would cause the price of used cars to fall too quickly for their liking. And fruit sellers don’t want the price of fruit to fall.

But that does not explain, as Prof Coyle suggests it does, why house prices in the UK do not fall. That is, if competitive forces are working properly, they certainly ought to fall.

Moreover private developers didn’t want house prices to fall twenty or forty years ago. Thus the Coyle’s “don’t want prices to fall” theory does not explain the 200% rise in UK house prices in REAL TERMS over the last twenty years compared to Germany where prices have remained stable and even fallen slightly according to some sources. (See The Economist house price index for details.)

One of obvious explanations is that land with permission for house building sells for roughly a HUNDRED TIMES the price of agricultural land. That’s because of artificial restrictions put on such land by the bureaucracy, not because of free markets.

As this Forbes article put it in relation to the relatively low cost of housing in Germany, “A key to the story is that German municipal authorities consistently increase housing supply by releasing land for development on a regular basis.”

Incidentally, I’m not advocating a TOTAL free market in land usage. On the other hand the above mentioned hundred to one ratio is ridiculous.


Cartels.

To make the Coyle “don’t want prices to fall” theory stick, it has to be shown that house builders can actually ENFORCE their desire, e.g. by indulging in monopoly or cartel type practices. Indeed, the idea that builders do engage in such practices is quite popular. But Coyle doesn’t even mention that idea!

Now the first problem with that cartel idea is that it does not at least on the face of it explain the above mentioned 200% rise in real UK house prices in the last 20 years. That is, if these cartels exist, why are much more prevalent now than 20 or 40 years ago? There’s no obvious explanation.

Second, cartels if they exist, must be organised in each locality. For example a big oversupply of houses in Edinburgh will not have much influence on house prices in London, 300 miles away. Thus there must be hundreds of cartels for the cartel theory to work, as others have pointed out. Plus cartels do need to be ORGANISED. For example there are regular reports in the press about what the OPEC cartel is doing. Their meetings are perfectly open and publicised beforehand.

But in the case of the above mysterious house building cartels, we never hear of any prosecutions. I don’t remember reading about a single such cartel meeting. Strange, given that there are allegedly hundreds of them!! You’d think a few of them would slip up occasionally and send a letter or email that gets uncovered and reveals what they’re up to!

The reality I suggest, is that these mysterious cartels just don’t exist. I also suggest that the explanation for the UK’s high house prices is not “simple”, as Prof Coyle claims it is and in particular, her above mentioned “simple” explanation for the problem is badly flawed.

Unlike Prof Coyle I don’t have a “simple” explanation. But there are probably half a dozen factors which have much to do with it, e.g. the following.

1. Population increase which itself is caused largely by immigration.

2. An increase in the number of people who want to and can afford to live alone.

3. The above mentioned artificial restriction on the supply of land with permission for house building.

4. The fall in interest rates over the last 20 years.

5. Increase in the number of interest only mortgages. That increase seems to have  more or less come to a halt since the crisis, but interest only mortgages certainly help explain house price increases UP TO the 2008 crisis.

6. The fact that the building industry just cannot be expanded quickly: it takes at least ten years to produce an experienced building site manager.

7. The collapse of social housing construction around 1980.


Conclusion.

It’s not at all clear which the main culprits are here, but certainly the UK could make big inroads into high house prices by making more land available for house building.


Tuesday, 20 June 2017

Apparently there’s a “giant logical hole” in my ideas…:-)


Or so says the author of an article at the “Asymptosis” dated 3rd May. I normally respond to that sort of thing in the comments after the relevant article of course. But comments are closed. I’m fairly sure they were closed shortly after the article was published. So I’ll respond here.

As to who runs the Asymptosis blog and/or who authored the above article, well he or she seems to be very coy about their identity. That, together with the fact of closing comments shortly after criticising someone makes “Asymptosis” look like a bit of a small minded individual.

Anyway…. Asymptosis takes issue with this passage of mine:

“If the private sector’s stock of saving is what it wants at current rates of interest, then additional public spending will push savings above the latter desired level, which will result in the private sector trying to spend the surplus away (hot potato effect).”

Asymptosis disputes that idea and on the grounds that in receipt of extra cash, households will purchase other assets which will drive up the price of those assets. Net result: households’ “cash:other assets” ratio returns to its preferred level. Thus, so Asymptosis claims, there is no long term additional spending effect.

There is however a flaw in Asymposis’s argument: the latter eventual outcome will raise households’ TOTAL asset to income ratio above it’s preferred level.  Indeed, that point is implicit in the above initial quote. Ergo household spending will rise in an attempt to revert to the preferred level.

QED.

I look forward to a response from Asymptosis. Comments after this article will not be closed for a very long time....:-)


Monday, 19 June 2017

Big national debt justifies a small deficit?


Martin Wolf (chief economics commentator at the Financial Times) seems to have fallen for the above popular mantra in a recent article. He said: “It makes sense to run a still smaller deficit when debt is high..”. Every MMTer knows the flaw in that statement and I’ve explained the flaw in that idea a dozen times on this blog. But I’d do it again. Here goes.

First, while the UK debt / GDP ratio is high compared to RECENT decades it is SMALL compared to what it was in the 1950s. Plus it is small compared to Japan’s debt / GDP ratio. So is the UK debt too large or too small? It’s clear that simply comparing it to recent decades or a few decades earlier tells us ABSOLUTELY NOTHING!!

A more intelligent question is: what basic principles should determine the size of the debt? Well here’s a few ideas on “basic principles”.

The government of a country which issues its own currency does not have a huge amount of freedom of choice when it comes to deciding how much liability to issue in the form of base money and national debt, or “safe assets” as the latter two are sometimes called.

If the private sector has less than its preferred stock of safe assets, it will try to save in order to accumulate the stock it wants, and that is deflationary: it tends to result in Keynes’s “paradox of thrift” unemployment.

Alternatively, if the private sector has MORE THAN its preferred stock of safe assets, it will try to spend away the excess, which is likely to result in excess demand and inflation.

Ergo, if government does not provide the private sector with approximately the stock of safe assets it wants, there’ll be trouble.

But governments do have SOME ROOM for manoeuvre as regards that stock: that is, they can issue or incur a relatively large stock without the private sector being tempted to spend away the excess if the interest paid on that stock is relatively high.

As MMTers keep pointing out, the government of a country which issues its own currency has complete control over the rate of interest it pays on its debt, so an important question is: what’s the best rate to pay? The answer given by Milton Friedman and Warren Mosler (founder of MMT) was “zero”. I.e. they argued that there was no point in government paying anyone just to hoard an excessive stock of money.

Friedman and Moser were right or least nearly right: that is it could be argued there’s a case for paying SOME interest on the  debt, but a sufficiently small rate that the REAL or inflation adjusted rate is less than zero. That way government profits at the expense of its so called creditors. I don’t see much wrong with that.

So…to get back to Martin Wolf’s above claim, the important question is not whether the debt is high compared to recent decades, but whether an excessive rate of interest is being paid to those holding the current stock of debt. Well in the case of the UK and most other developed economies the rate is within the bounds suggested above: i.e. above zero but below the rate of inflation. However, the rate is a bit nearer to the rate of inflation than zero, so for that reason I suggest the debt should be reduced a bit. And that is easily done by printing money and buying back some of the debt, while dealing with any inflationary consequences of that by raising taxes and/or cutting public spending.


Sunday, 18 June 2017

Random charts. 26.


Text in pink on the charts below was added by me.














Saturday, 17 June 2017

Home buyers have to pay extra interest to enable central banks to control demand.


Reasons for the above are as follows.

There’s a currently popular idea which runs thus. Interest rate adjustments are a good way of adjusting demand, but when interest rates are near zero, there is an obvious problem, namely that interest rates can’t be cut (unless negative interest rates are implemented, and it’s widely accepted they’re a bit dodgy).

Ergo fiscal stimulus should be applied so as to raise demand to a sufficiently large extent that central banks have to raise interest rates to damp down some of that demand. Hey presto: central banks can then cut interest rates come another recession.

For an example of that sort of thinking see the second paragraph of an article by Simon Wren-Lewis (Oxford economics prof) entitled “Could austerity’s impact be persistent”.  In particular, note this passage of his: “a temporary fiscal stimulus can reliably get interest rates off their lower bound.”

Now there’s an obvious flaw in that argument, as follows.

If fiscal stimulus is a “reliable” way of raising demand, why not just use it to an extent that cuts unemployment to its lowest feasible level (NAURU if you like) and leave it at that? I.e. why implement EXCESS fiscal stimulus so that interest rates have to be artificially raised, which of course means that home buyers have to pay an artificially high rate of interest?

And that is the basic reason behind the idea in the title of this article, namely that home buyers have to pay extra interest on their mortgages in order to enable central banks to implement monetary policy – adjust interest rates, etc.

Having said that, there are a number of possible excuses for the latter bizarre policy, and the pros and cons of those excuses are a bit complicated. However it is argued below that those excuses do not really stand scrutiny. So if you want to just get the BASIC message of this article (as contained in the above heading) then stop reading now.

In contrast, if you’re interested in the latter excuses and some of their pros and cons, read on.


Monetary policy works quicker than fiscal?

If interest rate adjustments worked particularly QUICKLY, there might be something to be said for the above “high interest” policy. But according to a Bank of England article, interest rates take a year to have their full effect.

Another potential argument for the high interest rates is that fiscal changes take too long because they have to wait till politicians have spent months arguing about them before they can be implemented. Well that just ain’t true: during the recent crisis the UK cut and then raised the sales tax VAT and all without politicians (apart from the UK’s finance minister) having a say in the matter.

Put another way, it is perfectly feasible to have an element of variability in SOME tax and public spending items (if not all of them) which can be used in emergency, as long as democratically elected politicians retain the right to determine the proportion of GDP going to public spending IN THE LONG RUN. Plus those politicians have a right to determine what proportion of public spending, in the long run, goes to education, law enforcement, defence, etc.

Another argument against interest rate adjustments is that there is no obvious reason why, given a recession, the cause is inadequate lending and investment rather than a fall in one of the other elements of aggregate demand, like consumer spending or exports. Plus even if lending and investment HAVE FALLEN, they may have fallen for perfectly good reasons. I.e. to justify an ARTIFICIAL cut in interest rates it is necessary to prove interest rates have been boosted for no good reason, that is, that they are ARTIFICIALLY high.


Return to “normal” interest rates?

Yet another argument for raising interest rates is that the current low rates are unusual by historical standards, ergo, for unspecified reasons, we need to return to “normal” rates of interest.

Well a big problem with that idea is that quite possibly the rates of interest that have prevailed for the last century or so have not been normal at all: they’ve been artificially high. And the reason for suspecting that is that interest rates have without doubt been boosted by the vast sums that governments borrow.

And that in turn begs the question as to whether governments ought to borrow. Well Milton Friedman and Warren Mosler (founder of MMT) argued that they shouldn’t borrow. Plus Mosler argued that the natural rate of interest is zero – which if correct, means the current low rates of interest are actually the “normal” or GDP maximising rates. (That’s on the assumption normally made in economics, namely that the GDP maximising price of anything is the free market price, unless there are obvious social reasons for thinking otherwise.)

This is a complicated issue, but I suspect the clincher argument for thinking government borrowing is unjustified is thus.


Government facilitates lending and borrowing.

Government borrowing is effectively just a way of giving people a choice as to how they pay for public spending: that is, instead of everyone paying up front, some people can pay relatively little, and instead, pay interest (via tax) to those who pay MORE THAN their “upfront” amount. (The people who pay more are who buy government debt/bonds).

Thus in effect, government borrowing is a grandiose scheme which enables those with cash to spare to lend to those who want to borrow. But would be lenders and borrowers are free to lend and borrow to each other ANYWAY! So why the need for a special government scheme to facilitate the process?

It could of course be argued that government borrowing makes the latter process easier: it enables lending to take place at a lower rate of interest than would otherwise obtain because government bonds are totally secure, plus government is a very efficient debt collector (collector of debts from those who owe interest / tax). But that efficiency of government relies on the coercive powers that government has: e.g. if government needs to repay its creditors, it can simply grab money by force off taxpayers.

In contrast, those who lend to fund genuine free market loans (e.g. for a mortgage) do not enjoy the same coercive powers. For example a normal creditor can grab property off debtors, but the creditor cannot send the debtor to prison. Nor can a normal creditor grab money off the population at large via tax.

To summarise, government borrowing does amount to a grandiose scheme under which those with cash to spare can lend to those who want to borrow, but there is no justification for that government intervention in the “lending and borrowing” market.



Friday, 16 June 2017

Richard Murphy says print money like crazy and spend it on infrastructure.



Richard Murphy, affectionately known as “Murphaloon” in some quarters, argues that because we printed piles of money and spent it on QE (i.e. buying back government debt), ergo we can print about the same amount of money and spend it on green stuff, infrastructure, etc. Unfortunately that’s not true, and for two basic reasons.
 

First, it made sense to print money and spend it on whatever during the worst of the recession. That’s because in a recession, there is little danger of money printing leading to inflation. However NOW (i.e. in 2017) the economy is near capacity, inflation looms and the Bank of England is contemplating raising interest rates to deal with that inflation: the BoE Monetary Policy Committee voted against an interest rate rise at its last meeting, but the vote was fairly evenly split.

Second, the fact that we can print £Xbn and spend it buying back government debt does NOT MEAN we’ll get away with printing a similar sum and spending it REAL GOODS AND SERVICES. The latter results in the employment of far more people and is ipso facto more inflationary. I’ll explain.

Cash (base money to be exact) and government debt are almost the same thing, as pointed out by Warren Mosler and Martin Wolf. As Martin Wolf put it in reference to Japan, “But it is hard to believe replacing Japanese Government Bonds with money in private portfolios would make much difference. Central-bank money can also be thought of as non-interest-bearing, irredeemable government debt. But 10-year JGBs yield less than 0.5 per cent. So the difference between the two forms of government “debt” is tiny…”

Put another way, QE is not much different to the BoE giving everyone two £10 notes in exchange for their £20 notes. The latter “two for the price of one” offer clearly has little effect.

In contrast, printing money and spending it on infrastructure etc has a much bigger effect per £ on demand. And it’s DEMAND that pushes up prices if supply is not forthcoming.

There were doubtless underutilised resources during the worst of the recession: i.e. there was plenty of spare “supply”. That is not the case now.


___________


Title of the Guardian article is: "Why we should print money to fund green investments".




Thursday, 15 June 2017

Barnier thinks a soft Irish border is compatible with a hard Brexit.



Barnier, the EU’s chief negotiator has made the bizarre claim that details about the north / south Irish border need to be sorted out at the START of negotiations with the UK. Is Barnier barmy? (See item No.3 at the latter link - you may need to wait a few seconds for it to load)

First, on the SOUTHERN border of the EU (i.e. the Mediterranean) chaos reigns supreme. That is, anyone who wants to enter the EU from Africa for dodgy reasons can jump into a rubber dinghy, paddle out the sea, and some EU based vessel will probably come to their rescue and transport them to the EU. Thus Barnier is in no position to preach sermons to the effect that alles should be in ordnung on the EU’s NORTHERN border.

A second flaw in Barner’s idea is thus.

The Irish Republic is fully entitled to apply to become the next state of the USA if it so wishes. Assuming it succeeded, the border between north and southern Ireland (the Irish Republic) would be very much towards the hard end of the scale: barbed wire fences along the border, import tariffs / duties to pay for goods crossing the border, etc.

The fact that that would not be to the liking of those living near the border (to the north of it and to the south) is wholly irrelevant: if the Irish Republic took the decision to join the US in a democratic fashion, that would be it. End of. People near the border would have no right to object.

Same goes for Brexit. The UK has taken the decision to go for Brexit. Whether the end result is a relatively hard Brexit with, in consequence a relatively hard border in Ireland, or a relatively soft Brexit with a relatively soft border remains to be seen. But people near the border have no right to object if it turns out to be a hard border.

Trying to determine the nature of the Irish border BEFORE the negotiations are complete, or near complete, is to put the cart before the horse.

Of course it’s always possible that Barnier is not barmy at all and that he is simply rattling the cage of the UK negotiators: a ploy which would work if the UK negotiators are sufficiently clueless.


Wednesday, 14 June 2017

Dimon claims lower capital ratios enable banks to lend more.


David Andolfatto of the St Louis Fed draws attention to a claim by Jamie Dimon of J.P.Morgan, namely that with lower capital ratios, banks would be able to lend more. Dimon’s exact words were:

“It is clear that the banks have too much capital. We think it’s clear that banks can use more of their capital to finance the economy without sacrificing safety and soundness.”


As Andolfatto says, “It is hard to make sense of this.”

Well certainly the above phrase of Dimon’s suggests that money supplied to bank in the form of capital is somehow locked in a safe and not used. Then when that capital is converted to deposits, dollars are released which can be loaned out. Clearly that’s nonsense.

In fact, all else equal, if capital is converted to deposits, the amount the bank can lend out actually DECLINES, contrary to Dimon’s suggestion. Reason is that depositors can withdraw their money at short notice, whereas shareholders can’t. Thus a bank can lend out a higher proportion of shareholders’ money than depositors’ money.

Also, and assuming the Modigliani Miller theory is correct, which I think it is, changing the way a bank is funded (e.g. more deposits and less capital) has no effect on the cost of funding it. So to that extent, changing the capital / deposit ratio shouldn’t affect the amount a bank lends.

Another possibility is that there is a flaw in MM, and that funding via deposits really is cheaper than via capital, even after taking the cost of deposit insurance into account. Unfortunately the criticisms of MM are all over the place – see p.24 here under the heading “Flawed criticisms of Modigliani-Miller”.

However the clinching argument against low capital ratios (indeed, the clinching argument for a 100% capital ratio, i.e. full reserve banking) is that the more the extent to which banks are funded via deposits, the more they are able to print money or create money out of thin air. And that “freedom to print” amounts to a subsidy of money lenders (aka private banks). I set out the reasons here.

So to summarize, my hunch is that the costs of funding a bank with a low capital ratio are indeed lower than in the case of a high capital ratio or 100% ratio, thus Dimon is right. But that apparent advantage of low capital ratios stems so to speak from the fact that low capital ratio banks have usurped the state’s right and responsibility to provide the country with the right amount of money. Put another way, the right to create money is effectively a subsidy of such banks.

Monday, 12 June 2017

Geographical proximity is important for trade?


On the question of Brexit, a popular idea promoted by remainers is that it’s important to have tariff free or near tariff free trading arrangements with nearby countries, and less important to have such arrangements with geographically more distant countries.

Well the first weakness in that argument is that the UK’s trade with the EU, as a proportion of its TOTAL trade has declined 10% over the last decade: not surprising, given that the large bulk of economic growth in the last decade has been in China, India, etc rather than in Europe.

As distinct from that, UK trade with Europe did rise substantially after the UK first joined the EU: a fact which remainers completely failed to publicise far as I can see, before the Brexit referendum.

However, another major flaw in the “geographical proximity” argument is called “Australia”. Australia is geographically very isolated from the main centers of economic activity on planet Earth. But for some curious reason, it manages to maintain a very acceptable standard of living.

In fact I’ve just made a stab at working out the average distance Australian imports and exports travel, and according to my calculations, the average is around six thousand miles. My source for the proportion of Australia’s exports and imports going to and coming from different areas of the world was these Australian government figures. I used the 2016 figures.

Now on that basis, and making the admittedly over-simple assumption that potential trading partners are evenly distributed around the globe, the UK does not need to do ANY TRADE WHATEVER with the EU.

But even more hilarious is that Lagos in Nigeria is a mere three thousand miles from London, and Moscow is a mere 1,500 from London.  So not only does the UK not need to trade with the EU: it doesn’t even need to trade with the whole of North Africa or the bulk of Russia!!!

Looks like the “geographical proximity” argument is a bit of a nonsense.

And finally if you want to know which way I voted in the referendum, I voted for Brexit, but with significant reservations. I.e. I thought the leave versus remain arguments were pretty evenly matched.



Monday, 5 June 2017

We need stimulus when inflation is at the 2% target??


Simon Wren-Lewis (Oxford economics prof) says “We desperately need…more current spending to boost demand..” Whaat? Inflation is already at or above the 2% target, isn't? If SW-L has now abandoned the 2% target, I suggest he should explain why.

Next, in his second para, SW-L argues that fiscal stimulus is a reliable way of getting interest rates “off their lower bound”. Well I agree that fiscal stimulus is a reliable way of raising demand, which in turn will raise interest rates and which cuts unemployment and solves the basic problem (assuming, contrary to my above paragraph, there is scope for raising demand). But why the ADDITIONAL objective of artificially interfering with interest rates? So that, come the next recession, the Bank of England can cut rates? But SW-L just admitted that fiscal policy deals with unemployment. So why the need for artificial interest rate adjustments?

The optimum, or GDP maximising rate of interest is presumably the free market rate. Why interfere with it? Moreover, according the Bank of England, interest rate adjustments do not work particularly quickly: in fact according to the BoE they take a full year to work.

Also there is no need to wait for politicians to squabble over exactly what form fiscal stimulus should take (tax cuts versus more public spending, or increased spending on health versus more spending on education). An element of variability can perfectly well be built into public spending and tax. For example during the crises, the UK cut and then raised VAT: all without the say so of politicians. That element of variability could easily be enhanced. Though obviously in the long run, the proportion of GDP going to public spending is a political matter, and should be determined by politicians and the electorate, as should the proportion of public spending going to health, education, law enforcement, etc.

And finally, the reason I follow SW-L’s blog is that I find his articles interesting, provocative, high quality, etc. But I think he slipped up with the above mentioned article.

_______

 

The title of SW-L’s article is “Could austerity’s impact be persistent.”



Saturday, 3 June 2017

Random charts. 25.


Text in pink on these charts was added by me.












Friday, 2 June 2017

Ann Pettifor says spend, spend, spend.


That’s in this two minute video clip. (Click on the latter "video" link, not the image below.)





The clip is full of emotionally satisfying sound bites and convincing facial expressions. The sucker section of the human race (that’s 99% of the human race) will fall hook, line and sinker for this.

AP makes two quite separate points, or perhaps I should say “gets two quite separate points confused”.  One (quite clearly true) is that if government can find money for nuclear weapons and the like, then it can find money for an improved social security system.

Well clearly that’s true. £Xbn can always be switched from defence to social security or vice versa, or from education to law enforcement or vice versa.

Her second claim is that government can spend, spend, spend like there’s no tomorrow because “Our private sector is still heavily in debt and very weak and lacking in confidence. And it’s at times like that that government has to step in by investing.”

Well this is an interesting new economic theory.

The conventional wisdom, which I fully support, is that stimulus (i.e. aggregate demand) should be expanded as far as is consistent with not exacerbating inflation too much. Indeed, at a guess, the twenty or thirty largest economies in the world have an inflation target of around 2%. 

But AP seems to be saying that it’s not inflation that matters or which should be the yardstick, but “indebtedness of the private sector” and the “lack of confidence” of the private sector.

I look forward (not with much confidence - pun intended) to her explaining this new theory and why the above twenty or thirty countries are wrong.



Investment.

I’m also intrigued by her claim that given excess debt and insufficient confidence that the particular form of spend, spend, spend that should be adopted is “investment”.

Gordon Brown, Britain’s former finance minister, always said “investment” when he meant current rather than capital spending. That one always fools the suckers.

But more seriously, if more aggregate demand is needed, I know of no economist who claims that extra money should go exclusively to “investment”. Some widely touted possible forms of investment are very questionable. For example the viability of the UK’s proposed multi billion HS2 rail project is hotly disputed. As for investing more in education, there are plenty of graduates working at MacDonalds because they can’t find jobs that use their skills (if you count sociology or media studies as a skill).

Of course there will always be investment projects here and there which make sense. But allocate 100% of extra spending to investment?? I think not.  Anyway, I look forward (not with much confidence) to an explanation as to why 100% of extra spending should go to investment.



Thursday, 1 June 2017

Positive Money solves the Lawrence Summers and the Steve Keen problem.


Lawrence Summers and Steve Keen have something in common: they have both set out problems that would be solved by having central banks determine the total amount of stimulus, rather than letting politicians have a say in the “total stimulus” question. Positive Money and Bernanke have suggested the latter solution. Details as follows.

Summers’s “secular stagnation”, as he himself says, is a non-problem if politicians implement enough fiscal stimulus. Same for Keen with the debt problem he sets out. As he says in the final paragraph of his book “Can We Avoid Another Financial Crisis”, the consequences of debt deleveraging can be avoided given enough fiscal stimulus.

So…the big problem is the incompetence of politicians. In fact to put it bluntly, having politicians determine stimulus is as ridiculous as putting the snails in your garden in charge of stimulus.

Of course economists are rather a long way from being perfect. But they cannot help being A BIT more clued up than politicians when it comes to ECONOMICS. Ergo it’s better to have the total amount of stimulus (fiscal and monetary) determined by economists, not politicians, as argued by Positive Money.

And (for the umpteenth time) that DOES NOT stop politicians taking legitimate POLITICAL decisions: like what % of GDP goes to public spending and how that is allocated as between defence, education, etc.

Re Bernanke’s advocacy of the above idea, see para starting “A possible arrangement…” halfway down his Fortune article entitled “Here’s How Ben Bernanke’s “Helicopter Money” Plan Might Work.”



Wednesday, 31 May 2017

The optimum national debt / GDP ratio.



Summary.

Asking what the optimum debt / GDP ratio is, is not a brilliant question in that base money and debt are almost the same thing. So a better question is: what should the sum of the debt and base be?

The debt and base are both assets as viewed by the private sector (which holds those assets) and the more of those assets the private sector has, the more it will spend, all else equal. Thus the optimum amount of debt plus base is whatever induces the private sector to spend at a rate that brings full employment.

The debt plus base will always tend to move towards that optimum if standard Keynsian measures are adopted to deal with recessions.

As for the best rate of interest to go for, there are no desperately good arguments for paying significantly above zero.

__________

Government debt is not the only government liability: there is also central bank issued money (base money) which is a state liability of a sort. Certainly that money appears on the liability side of central banks’ balance sheets.  But the distinction between base money and national debt is largely spurious. That is, national debt is simply a chunk of base money which pays interest because holders of said chunk have handed it over to government for a while. I.e. national debt is effectively a term account at a bank called “government”.

Or as Martin Wolf, chief economics correspondent at the Financial Times put it, “Central-bank money can also be thought of as non-interest-bearing, irredeemable government debt. But 10-year Japanese Government Bonds yield less than 0.5 per cent. So the difference between the two forms of government “debt” is tiny…”

And in practice, very large amounts of debt have been transformed into base money via QE in recent years, with no very dramatic consequences: certainly not the hyperinflation that some thought would result from QE style money printing.

Also, note that advocates of Modern Monetary Theory (MMT) have spotted the relevance of the sum of debt plus base and sometimes call it “Private Sector Net Financial Assets” (PSNFA).

Thus the relevant question is not “What’s the optimum amount of debt?”. A better question is “What’s the optimum “debt plus base?”

The answer to that question is simple, and the answer stems from the fact that the more cash (and assets which are similar to cash) that the private sector has, the more it will spend, all else equal. Thus the optimum amount of “debt plus base” or “PSNFA” is whatever induces the private sector to spend at a rate that brings full employment, i.e. keeps the economy at capacity.

Moreover, government does not even have much choice as to how many dollars worth of “debt plus base” there is. Reason is that if the private sector has less debt plus base than it wants, it will save with a view to acquiring the amount it wants. And that saving causes Keynsian “paradox of thrift” unemployment. Ergo government has to run a deficit to deal with that unemployment, and the deficit increases “debt plus base”.

So if the state (i.e. government and central bank) increase the deficit whenever there’s too much unemployment, and conversely, run a surplus when there’s too much inflation, then “debt plus base” will always tend to move towards its optimum size, though doubtless it will never actually be at its optimum to the nearest dollar (or million dollars, come to that).

Indeed, the latter point is 100% compatible with Keynes’s dictum: “Look after unemployment and the budget will look after itself”.  That is, if there is excess unemployment, then run a deficit. That deficit will eventually and in principle raise the debt to the level at which it induces the private sector to spend at a rate that brings full employment. Though given the constant changes hitting every economy (bank crises, etc), the optimum amount of debt plus base constantly changes.

So…as Keynes so rightly said, stop worrying about the debt: just run a deficit till full employment is achieved. Or conversely, given excess inflation, run a surplus.


Pay interest on government liabilities?

Next, is there any point in paying interest on the debt or base?  Milton Friedman (1) and Warren Mosler (2), who founded MMT,  said “no”. There are however some plausible arguments for paying interest, none of which are desperately convincing. One popular one is that investments like infrastructure should be funded by interest yielding bonds / debt. (Incidentally, as MMTers often point out, a government which issues its own currency has complete control of the rate of interest it pays on its debt.)

However there at least three problems with that “infrastructure” argument, as follows.


1. What about education?

One problem with the infrastructure argument is that the education budget is one huge investment. To illustrate, the benefits of teaching kids to read and write continue to be reaped fifty years later. But advocates of the above “fund infrastructure with bonds” argument never argue for funding education with bonds: a clear inconsistency.


2. Cash shortages.

Much the best argument for borrowing is the simple fact of being short of cash. If a taxi driver wants a new taxi and happens to have enough cash with which to buy it, he’d almost certainly have the nouce to pay cash rather than borrow. Be nice if the country’s leading economists had as much nouce as taxi drivers, wouldn’t it…:-)

Much the same goes for government. That is, governments have a near in exhaustible source of cash: the taxpayer. In addition, governments can simply print money (suitable where stimulus is needed). So why borrow and pay interest?



3. David Hume.


David Hume writing nearly three hundred years ago pointed out that politicians main motive for borrowing is to ingratiate themselves with voters. That is, voters tend to squeal less when government funds spending via borrowing rather than tax.



Interest helps monetary policy work.

One argument for an artificially high level of debt with a correspondingly high rate of interest on the debt is that that helps monetary policy (specifically interest rate adjustments) work. That is, if interest rates are well above zero, then clearly the central bank can cut interest rates come a recession.

Frankly the arguments for that policy are not brilliant. Reasons are as follows.

First, the Bank of England claims interest rate cuts take a year to have their full effect.

Second, there is nothing to prevent an element of variability being built in to matters fiscal, i.e. tax and public spending. For example the UK cut and then raised VAT during the crisis, and all without politicians squabbling over the matter for weeks or months beforehand.

Third, an artificially high debt and rate of interest involves taxpayers having to pay taxes to fund interest paid to rich people simply to hoard cash: what you might call “barmy”.


Hyperinflation.

A possible problem with a permanent zero rate (as advocated by Friedman and Mosler) is that there is then no point in holding government bonds: you might as well just hold cash (base money). But arguably, if the private sector holds excessive amounts of cash, it’s possible the private sector goes mad at some stage, and tries to spend it all at once, the result being hyperinflation. Thus arguably a better option is to pay a miserable rate of interest on government debt, like 0.5%. That induces the private sector to lock up much of its stock of “debt plus base”, thus making it more difficult to spend all at once.

Also, assuming the 2% inflation target is hit, that means an effective or real rate of interest of minus 1.5% on government debt. I.e. the debtor (government) profits at the expense of its creditors. Nothing wrong with that!


Conclusion.

Implementing standard Keynsian / MMT policies to deal with recessions will result in the “debt plus base” always moving towards its optimum level.  As for the best rate of interest to pay on the debt, there are good arguments for paying a near zero rate, like 0.5%.


_______






References.

1. Milton Friedman. “A Monetary and Fiscal Framework for Economic Stability”, American Economic Review. (1948)  Para starting “Under the proposal..”.
http://0055d26.netsolhost.com/friedman/pdfs/aea/AEA-AER.06.01.1948.pdf

2. Warren Mosler (founder of MMT). ‘Proposals for the Banking System’. (2010) Huffington Post Business. 2nd last para.
http://www.huffingtonpost.com/warren-mosler/proposals-for-the-banking_b_432105.html

Tuesday, 30 May 2017

Simon Wren-Lewis says more spending will lead to more GDP.



Wren-Lewis is an Oxford economics prof, and he is normally very clued up. That’s why I follow his blog. But the following passage from his latest blog article (in green italics) is very questionable. (Title of article: “Growth will be lower if the Conservatives win”)

“Both the Labour and LibDem manifestos amount to an increase in public investment, and an increase in public spending financed by higher taxes, compared to current government plans. Standard macroeconomics implies that both higher investment and spending will lead to an increase in GDP, unless the Bank of England raises interest rates to exactly offset this effect. With interest rates currently stuck at their lower bound, and with public investment helping aggregate supply, that last possibility is extremely unlikely. The conclusion therefore has to be that GDP over the next few years would be higher under a Labour or LibDem government than under the Conservatives.

This is why, according to Larry Elliott, Oxford Economics estimate that “the economy would be 1.9% bigger under the Lib Dem plans and 1% bigger under Labour’s plans than under Conservative plans.”

Well now it’s certainly true that “higher investment and spending will lead to an increase in GDP” all else equal and assuming there is room for that extra spending: i.e. assuming the effect is not just extra inflation rather than extra real GDP.

And it’s also true that that extra GDP is dependent on the BoE not raising interest rates. But it’s clear that the BoE ACTUALLY IS CONCERNED about rising inflation!!! Indeed, UK inflation has been above the 2% target for the last three months or so. Plus the governor of the BoE has warned that rising rates are coming soon.

Thus Wren-Lewis’s assumption that rates WILL NOT RISE is questionable to put it mildly. Hence his claim that increased spending, including investment spending, will lead to a quick rise in GDP is equally questionable.


Living standards.

Shortly after the above quote, W-L then says, “This is not the only reason why living standards would be significantly higher under a Labour/Lib Dem government.”

Now hang on. Increased GDP resulting from more investment spending DOES NOT lead to a quick rise in living standards. Investment spending (certainly investment spending on infrastructure or education) does not pay off for five, ten or even thirty years later. That’s not to criticise such spending. But the pay-back in terms of increased standards of living certainly does not come quickly.

BTW, I normally answer W-L’s articles in the comments after his articles, but he doesn’t seem to have had time to moderate many comments recently (for which I do not blame him). So I’ve answered on this, my own blog, today.


Sunday, 28 May 2017

Deficit phobes.



On February 14, 2010, the Sunday Times published a letter signed by nineteen of the UK’s leading economists plus Kenneth Rogoff of Harvard, America’s leading debt-phobe. That was at the height of the crisis and the letter advocated consolidation (i.e. austerity) of all things. I’ll refer to those economists  as “numpties”. The complete list of numpties is in an article entitled “Unrepentant Economists” and authored by Robert Skidelsky.

You might think the word numpty is offensive. As you’ll discover by the end of this article, “numpty” is if anything too polite.

I’ll run through the letter paragraph by paragraph, with excerpts in green italics. The letter starts:

"It is now clear that the UK economy entered the recession with a large structural budget deficit. As a result the UK’s budget deficit is now the largest in our peacetime history and among the largest in the developed world.

In these circumstances a credible medium-term fiscal consolidation plan would make a sustainable recovery more likely.

In the absence of a credible plan, there is a risk that a loss of confidence in the UK’s economic policy framework will contribute to higher long-term interest rates and/or currency instability, which could undermine the recovery.”


As regards “higher long-term interest rates”, as Keynes pointed out in the early 1930s, a government which issues its own currency does not need to borrow at all: for stimulus purposes, it can simply print money and spend it (and/or cut taxes). Maybe the numpties haven’t heard of Keynes, or if they have, perhaps they aren’t acquainted with his ideas.

Thus potential creditors of the UK can raise the interest rate they demand if they like. But the UK (or any country which issues its own currency) can respond by employing Keynes’s “print” strategy: more or less what several countries actually did in the event, in the form of QE.

Of course QE took place AFTER the numptie letter, so perhaps at the time of the letter, the numpties didn’t realize QE was an option. Certainly Rogoff referred to QE as “very experimental” which rather indicates the whole QE idea was new to him.

It’s sad that I need to spell out this sort of basic economics for the benefit of so called “professional” economists, isn't it?

Next, why the concern about the DEFICIT rather than the DEBT? A very large deficit is no problem as long as it lasts a relatively short time, and solves the problem (the recession) which in the event it did. In contrast, if a large deficit lasts SEVERAL YEARS and started to look like it might cause a record sized NATIONAL DEBT, that might be cause for concern. But at the time of the numpties’ letter, the UK debt was around ONE THIRD its maximum just after WWII, i.e. around 240% of GDP. And paying down the latter debt proved no problem at all in the 1950s and 60s. So what were the numpties on about? Darned if I know.


Currency instability.

Next, the above excerpt refers to “currency instability”. Now why would that occur? Presumably the numpties have in mind the “a loss of confidence in the UK’s economic policy framework” to which they referred earlier in the same sentence.

Well now, if foreigners or UK individuals and organisations likely to shift their money abroad think excessive deficits will lead to excessive inflation, then they’d mark down Sterling by some amount or other. But there is no obvious reason why they should change their minds on that every week or month and thus cause “instability”.

Moreover, in the event, the largish deficit continued for some time after the numpties’ letter, and the pound did not crash in value, nor did it suffer an great “instability”.


The “balanced budget” myth.

The next couple of paragraphs run as follows.

"In order to minimise this risk and support a sustainable recovery, the next government should set out a detailed plan to reduce the structural budget deficit more quickly than set out in the 2009 pre-budget report.

The exact timing of measures should be sensitive to developments in the economy, particularly the fragility of the recovery. However, in order to be credible, the government’s goal should be to eliminate the structural current budget deficit over the course of a parliament, and there is a compelling case, all else being equal, for the first measures beginning to take effect in the 2010-11 fiscal year.”


This is grotesque incompetence. There is a very simple reason why a more or less PERMANENT deficit will be required. Coincidentally I set out the reasons (for the umpteenth time) just recently here. (Title of article: “Top UK Treasury official does not understand deficits.”)

At least the reason ought to be “simple” for an economics professor. But of course it is na├»ve to suppose an economics professor necessarily knows all that much about economics. Thus the numpties would probably struggle with the reasons why permanent deficits are inevitable.

The fact that it is not necessary to dispose of deficits in order to reduce the debt/GDP ratio is nicely illustrated by the chart below, produced by Prof Roger Farmer. As the chart shows, the debt/GDP ratio for the UK fell from around 240% in 1945 (as just mentioned) to around 50% in 1990. But during that time there was a non-stop deficit!!






Mixing politics and economics.

Next, the numpties say:

"The bulk of this fiscal consolidation should be borne by reductions in government spending, but that process should be mindful of its impact on society’s more vulnerable groups. Tax increases should be broad-based and minimise damaging increases in marginal tax rates on employment and investment.”

Now wait a moment: what’s a PURELY POLITICAL matter, like what proportion of GDP goes to the public sector, got to do with economists (or should I say “self-styled economists”)? The answer is “absolutely nothing”.

Just to drive that point home, for the benefit of numpties, any democratically elected political party is fully entitled to increase or decrease public spending, particularly if such an increase or decrease is in line with its manifesto. In short, it is not the job of economists to tell governments what “government spending” should be relative to GDP: that amounts to telling democratically elected governments how socialist or non-socialist they should be.

 

The final para.

The final para reads:

"In order to restore trust in the fiscal framework, the government should also introduce more independence into the generation of fiscal forecasts and the scrutiny of the government’s performance against its stated fiscal goals."

Well nothing wrong with that suggestion. In fact the UK’s “Office for Budget Responsibility” was set up with precisely that in mind just three months after the “numptie letter”.

So the only worthwhile idea in the numpties' letter was an idea that the leading lights in the UK were already in the process of putting into effect!

Sigh.

Saturday, 27 May 2017

Random charts 24.


Text in pink on these charts has been added by me.