Friday, 24 January 2014

Judgement Day for Economists

The economic discussion on how to solve the evolving recession and global stagnation has become increasingly political with Krugman and Summers on the left and Rogoff and Co on the right.  Too much energy is now being spent on self-defence,  protecting one's reputation takes precedence over new thinking.

The depression in the 1930s gave us Keynes and stagflation in the 70's gave us Friedman and I am pretty sure there will be a new luminary to rise from the ashes of the current mess we are in. Frankly, neither of the "old schools" looks likely to predict the "first best solution" correctly.

Keynesians really struggle to find an elegant solution to the ending current cash hoarding and low private sector investment when their demand side policies would further raise public debt.  Why would a company or an individual risk investing in new ventures in a country where sovereign debt is increasingly out of control and where there is a risk of default or very high interest rates in the future(particularly when most investors are not followers of Keynes)?  The risk of slowly reducing asset value is always preferable the risk of a total loss investment.   Followers of Keynes offer no insights into how this conundrum is resolved.

In the same way monetarist struggle to solve the problem of very low private sector investment when real interest rates have been and are likely to be negative for years to come.  They argue for more public sector austerity, that would reduce demand and further endanger recovery.  They also can’t resolve the problem that supply side solutions would further erode labour share (the % of national income earned by employees), which is one of the main reason for falling demand and productivity.
Rogoff on the left and Krugman on the right - just for a change

Thursday, 16 January 2014

The morning after the night before

Like a terrible hangover that takes an age to clear the developed world has been limping along, since the aftermath of the financial crisis.  There is lack of vigour, a kind of listlessness that Larry Summers has characterised as “secular stagnation”.   Economies, unable to return to the optimistic per-party state they enjoyed from 1995 to 2007, are now settling for survival rather than growth – the pounding headache makes future endeavours unthinkable – we are definitely in the bunker. There are four connected things going on here: dehydration, nausea, a sense of injustice and finally despair – sounds familiar? Secular stagnation is not inevitable we can find a cure. But as Larry tells us “ without a clear diagnosis of our problem and a commitment to structural increases in demand, we will be condemned to oscillating between inadequate growth and unsustainable finance”. And he goes on to say that " A strategy that relies on interest rates significantly below growth rates for long periods of time virtually guarantees the emergence of substantial bubbles and dangerous build-ups in leverage"  - which is exactly where we are low growth, poor levels of employment, low levels of investment - but the very high risk of bubbles and other financial risks.

The Morning after the night before

Monday, 6 January 2014

Debts Still Matter

The mind of George Osborne works in a strange and Machiavellian way.  His announcement today that austerity will continue unabated into 2016 - 17 was greeted with howls of protest from all sides, could it be that the British Chancellor knows something that we don't?  
which one is George?
Five years after the default of Lehman Brothers and three year since taking office the world is still a dangerous place even after years of pain.  What is now clear is the history of this crisis; and most developed countries have faced a number of distinct phases in this recession.

1. The credit crunch caused by a lack of liquidity in the banks 2008

2. Falling growth and a deep recession, caused by the banking failure and the subsequent free fall in asset prices in 2009

3. A false recovery 2009 – 2010 temporarily fuelled by growth in the Commodities, BRIC economies and emerging markets

4. The sovereign debt crisis triggered the very high public spending required to off-set recession (centred on the EuroZone) that rumbled on over 2011 -12

5. (Secular) Stagnation – weak growth in demand and GDP and deflationary pressure on prices in 2012-14?

As I have discussed in a recent blog there have been a number of strategies that have been deployed since 2008 with varying degrees of success.  These strategies (Abenomics, austerity, QE, etc.) have been blurred and muddled by the realpolitik of the day and no country has been able to pursue a fundamentalist approach, not even the UK under Osborne's guidance.  The main policy argument has been around the need for and the pace of debt reduction.  In a nutshell, can advance economies grow whilst carrying substantial levels of public (or private) debt?  There are good reasons for thinking that high levels of debt will be a drag on growth and these are pretty obvious:

Thursday, 2 January 2014

Economists playing with fire

I have a sixteen year old daughter who is working hard on her final secondary school exams (UK ‘A’ levels) the results of which will determine the type of degree and which university she will attend – these are important times!  Being a more focused individual than her father she is already weighing her options and it’s straight fight between Economics and History.  Over the Christmas holiday we had a number of discussions around the relative merits of these options; initially I supported the view that Economics would be a more relevant and “useful” degree but now I am not so sure.
Having missed the vital signs of the credit crunch and the ensuing recession in 2008/09 economists around the world are red faced again and having to play catch up on the startling and unexpected rebound that the US and UK economies kicked off in 2013.  Not a single note-worthy economist was able to forecast up-tick in GDP growth or the stellar year stock markets enjoyed in 2013!   Famously, Olivier Blanchard (the International Monetary Fund's chief economist)  warned George Osborne that his austerity programme was "playing with fire" just as the UK emerged into recovery!

Economists playing with fire  

So if they can't tell us what is going to happen what are economists for?  It's a legitimate question to ask - if economist can’t forecast what is going to happen do they have any practical use? Being increasingly unsure of the future, they spend their days trying to piece together the past and polishing their excuses.  But why should economists worry about the past - as James Buchan told us “Economists, like royal children, are not punished for their errors”.

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