Matt Nolan

Good points on QEII

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Following QEII I noticed a bunch of snark, sarcasm, and general analysis focusing on what we know (how an increase in the money stock, or inflation expectations, impacts upon the general economy) – this was troubling, as I wanted to find some analysis of exactly how QEII is supposed to function 😀

That is why it was good to see a post from Marginal Revolution, and a post from Econbrowser, discussing a few of the issues to keep an eye on.

I would still agree overall with Scott Sumner’s point that we should judge the policy based on where market expectations for future inflation move – however, the idea that there could be a sharp step change in inflation expectations at some point in the future, that the transition path of QEII is uncertain, that there are costs from a potential “asset bubble” in exchange rate markets, and that countries with weak financial institutions may struggle are important risks.

IMO though, these are risks – they do not suddenly indicate that QEII is bad policy.  And in fact, I would say ex-ante, with inflation expectations below the Fed’s implicit target and unemployment above the natural rate QEII made some sense.  An explicit inflation target, or even direct transfers to households, may have mad more sense – but were obviously not practical in a political sense.

Matt Nolan

What is this …

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This article on Bloomberg is something I largely disagree with – however, there is statement that needs more discussion.

Quantitative easing is “terrorizing” the world economy and will lead to depreciation of the U.S. dollar, pushing down prices in Europe and exacerbating the continent’s sovereign debt crisis, Mundell said.

The European Central Bank’s mandate to control inflation would likely hamper it from stemming the euro’s rise, while the currency’s gains would “likely lead to deflation,” said Mundell, who received the prize in 1999 and is known as the intellectual father of the euro. Falling prices would increase “the real value of indebtedness.”

Mundell is a genius, and one of the intellectual fathers of open economy macro, but what is this.

He is saying the the ECB won’t loosen policy because it fears inflation, but a rising euro will lead to deflation.  By the same logic, shouldn’t the ECB loosen policy to prevent deflation.  The same logic.  What the …

On the Chinese side, I disagree with the majority of what they are saying.  But:

The U.S. “has not fully taken into consideration the shock of excessive capital flows to the financial stability of emerging markets.”

Is a fair point.  Places where credit institutions are weak could be at risk in the case where global monetary policy is softened.  IMO, this implies that there should be more pressure on these places to make risks transparent and to work on institutional setting – not that countries facing deflationary pressures should just ignore them.

If the institutional setting is appropriate, then loosening global monetary policy in the face of higher than “natural unemployment” rates is a good thing both in terms of:

  1. Meeting inflation targets and ensuring that the deviations from the “natural rate” are as small as is efficient.
  2. Pushing countries who have an inflation mandate but have been fiddling the currency to either revalue OR force them to take on greater capital controls – which will also lead to larger asset losses for them.

I’m unsurprised China is not impressed – if the US is devaluing they face a loss on the capital value of their reserves.  This does not mean that it isn’t good policy – and if they are going to fiddle exchange rates this is a risk they had to face!

Matt Nolan

Chocolate and prices

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An article in the Herald says some interesting things:

The world could run out of affordable chocolate within 20 years as farmers abandon their crops in the global cocoa basket of West Africa, industry experts claim.

…

“In 20 years chocolate will be like caviar. It will become so rare and so expensive that the average Joe just won’t be able to afford it.”

Now, as the article says, the price of cocoa is rising because alternative uses of the same land is also rising – this is not surprising, and is really what should occur.  We have scarce resources, and the price adjusts to signal this scarcity and allocate resources to the highest bidder.

But the first claim, running out of cocoa?  Surely if prices rise, this will get some people back into the market.  We don’t just magically run out of the thing – the price of cocoa relative to say washing machines should rise, but this is because the opportunity cost of growing cocoa is now higher.  Also note that these poorer farmers in Africa are getting higher incomes now – as the price of what they produce compared to, say washing machines, is higher … so they can buy more washing machines.  Why is this article begrudging them that?

And the second claim – that chocolate will be like caviar.  WTF.  I am pretty sure we would see a massive amount of entry into the market if cocoa prices went up that far – entry that will drive the price down.  When “John Mason, executive director and founder of the Ghana-based Nature Conservation Research Council” makes that claim about people not being able to afford chocolate I think he is forgetting that part of the equation.

I find these articles weird.  In a much smaller space they could have said:

With the price of agricultural crops rising, some farmers are switching crops, driving up the price of cocoa relative to non-agricultural goods and services.  This will see the price of chocolate rise – time to finally find out is white chocolate really chocolate.  This will also increase the incomes of farmers in these regions.

Matt Nolan

Race to the bottom actually race to the top

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Note:  The title should be premised with in the current extreme environment – I am not supporting the idea that we can have permanent income gains beyond potential from printing money, that would simply be inflationary.

A bunch of poppycock from Reuters on “currency wars” here.  I’ll let Scott Sumner discuss the fallacy here.

I have no idea where these guys are coming from.  A currency war causes everyone to lose?  Why is that Mr. Reich?  Because it leads to high inflation?  And what causes the high inflation?  Rising AD?  And what is the point of the fiscal stimulus you favor?  Higher AD?

Seriously, when people talk about “currency wars” do they recognise what the mechanism is that is used to lower the value of currency – well it is printing dollars.  If we truly do have “insufficient aggregate demand” this is what we want monetary authorities to be doing.  Far from being a “war” it is really co-operation …

Note:  The “imbalance view” stems from the relative exchange rates changing and prices being sticky – so that countries can sneakingly change their real exchange rate to favour exports or some such.  This structural issue is interesting – but criticising what seems to be a bunch of central banks loosening policy on these grounds misses the point.

Furthermore, lets not forget the impossible trinity here (*,*,*) – if we try to control the exchange rate we either lose control of the inflation rate, or we have to arbitrarily restrict capital flows (which is also costly – as by restricting capital flows the cost of capital will rise).  If we want to forget about the crisis and argue for a medium term strategic (arbitrary) fixed exchange rate target this is a separate issue to any near term “currency wars”.

Update:  Paul Krugman paints out the structural issue here.  Now note that the US and Europe could devalue, and they force China to devalue – so they all print more money and stimulate aggregate demand.  Ergo, we have a recovery.

The issue here is that the recovery is “unbalanced” because of the artificial shift in the relative prices faced by exporters/importers.  This issue existed before the economic crisis – and this is a trade issue.  However, the threats regarding this are as high as they have always been – I can’t remember a time that the US wasn’t trying to get China to shift its currency.

I would also note that if China is willing to lend its export income for a tiny (maybe even negative) rate of return to the countries buying its exports then it isn’t clear that they aren’t just f’ing themselves over to be honest …

Matt Nolan

A step too far: The case against pursuing direct capital/trade/currency controls

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To start off with I have to admit I like Bernard Hickey.  I like the fact he has got out there, written about New Zealand economic issues, and pushed to add an open debate type platform to the discussion regarding the New Zealand economy.  As a result, I may have not been critical enough when I read his posts in the past – as I did not see this coming.  In truth, the calls for exchange rate, trade, and capital controls is a massive step too far in what could well be the wrong direction.  Let me talk about the points Hickey has raised:

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Matt Nolan

Spirit level: A more fundamental concern

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I agree with Dim Post that the choice of countries to add to the choice of countries made in the Spirit Level is a bit arbitrary (although I think Not PC and Kiwiblog also have a point regarding how sensitive the regression results are to the choice of countries that aren’t strictly the largest outliers in the sample) – but I still think that this particular “regression” is a steaming pile of unmentionables.

Lets ignore the fact that the slope of the  “regression line” appears very sensitive to the addition of a few countries.  Lets instead focus on the fact that it is a poor regression and that there isn’t a clear “theoretical background for causation”.

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