Matt Nolan

Why the US is looking increasingly like Japan

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I genuinely can’t believe the things I’m reading.

If they said that the current slump was solely down to supply side factors then their position would be coherent.  But instead the argument is that, when we are in a liquidity trap, we should just ride it out.

In terms of the literature, using higher inflation in the future to escape a liquidity trap now is accepted … at least that was my interpretation.  However, policy makers in the US don’t care – just like they didn’t in Japan for a long time (and counting).  Lets hope the policy failure doesn’t end up as costly in the current case.

Matt Nolan

Why I’m in a bad mood

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Agnitio asked me what has been going on recently, as I was complaining its a mess.  I emailed him my summary, so I thought I’d also put them down here:

The ECB announced that its going to accept some things as collateral – but dump others.  Leaving markets confused about what the hell was going on, and what it means for sovereign debt purchases.

The US followed this up by saying that they would buy a smaller amount of long-term debt than forecast, sell short-term debt, and flatten the yield curve.  They say it will be stimulatory because NK models say so – however, a flat yield curve is a bit dodgy, given that it’s formed by expectations of either weak growth or weak inflation in the future.  In essence NK models say “get the long-run real interest rate down as much as possible” which you do by increasing inflation expectations, not nominal rates – so markets collapsed after that.

US government decided to get involved by refusing to extend the debt limit AGAIN, if they can’t make up by Sep 30 the US will default.

Then the European commission decided that it was a good time to say they were going to introduce a financial transactions tax – just when financial markets are panicking – and for good measure they said they hadn’t figured out what level it would be at, or what would be taxed yet, just to add to uncertainty.

While all this is happening Italy and Greece have continued to say they’ll get their fiscal situation in order – but they keep delaying introducing actual policies.  Given Greece is effectively insolvent, the dithering by them, other European governments, and the ECB, makes it unclear who holds the liability the entire European financial system is at a stand still.  Given the exposure of Australian banks to this, we have seen funding costs rise considerably (luckily no-one in NZ is actually borrowing anything).

With Europe having fluffed around while the crisis has been in full swing over the past 2 months, purchases from China have pulled back, seeing activity there slow as well.  A slowdown in China will have the impact of lowering our export prices.

Party.

This mix of awesome factors has seen the cost of insuring against default in Australian banks increase to within a whisker of their Lehman Brother peaks.  It has seen uncertainty measures push at new highs.

Unlike the Lehman Brother’s collapse there is no reason for these indicators to be high solely based on the financial fundamentals – the debt burden, and who holds what, is known.  However, while policy makers were trying to improve outcomes during the crisis in 2008, they seem more interested in trying to cause a crisis this time around.

Matt Nolan

Stumbling to another crisis?

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Operation Twist hasn’t gone down particularly well has it.  It could be that the policy was smaller than expected, it could be that growing political angst has made the idea of further Fed stimulus seem more unlikely, but either way a drop in asset prices and falling inflation expectations isn’t what we want to see following a Fed announcement – especially in the middle of a financial crisis.

I think that the general idea would work, akin to this.  However, for some reason the actual announcement has disappointed markets.

In terms of NZ, our dollar has dropped reasonably sharply following the announcement.  I’m hoping this is because the dollar is seen as an “asset price” and people are just moving out of it because they are less willing to take on risk – given lower than expected accommodation of monetary policy by the Fed. {Update:  In terms of the dollar it seems that comments by Dr Bollard last night also had an impact}

Worst case, the drop in the dollar is a signal of lower export prices.

New Zealand policy makers have done a damned good job the last few years, but its hard for them to do much in the face of incompetence around the world – given that we are a small open economy.

Matt Nolan

NZ fact of the day

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So, US real median incomes in 2010 were down 6.4% from their 2007 level, and down 7.1% from their 2001 level.  That is a pretty danged poor result, the situation over there has been pretty messy over the last decade.  The median income figures are biased by the fact that the cost of goods purchased by low income households have in many cases fallen (think cheap washing machines, and the $2 shop) while higher end products haven’t experienced the same sort of price declines.  Yet even with this excuse, it does appear that middle-class America has seen a tough time.

Now this is from census data – and NZ hasn’t done a census for a while so I can’t really tell how we’ve done in the same accurate way.

But what I can do is go to the HES (Household Economic Survey) provided by the good people at Stats NZ.  By taking the median households pre-tax income figure, and adjusting it for NZ’s CPI (excluding the recent change in GST – as that was met by a corresponding change in income tax) I get the following regarding the year to June 2010 [note, I’m a moron and used the June 2011 CPI, hence the adjustment – this is fixed below]:

  1. Household real income is up 2.3% 4.4% from the June 2007 year.
  2. Household real income is up 19.1% 21.6% from the June 2001 year.

Also note that the median figure for the  US is $49,455 (in 2010 US dollars).  In the June 2010 year the US/NZ dollar exchange rate averaged 0.70c … and as a result our median income was $44,429.  This is significantly closer than I would have expected, given underlying production in the US.

If we expect the dollar to be at $0.80 during the June 2012 year (not a huge assumption given where the dollar has been), and we assume that real median incomes stay unchanged during this two year period the median NZ household income level would actually be higher than the median US household income level – that is complete madness.

Matt Nolan

Has monetary policy failed the world?

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There are two views of the long festering economic malaise that has hit the world – the view that monetary policy has done too little (read Sumner – I would put proponents of fiscal policy in the same camp) and the view that the world is re-adjusting to a structural shock and so has to undergo some drop in activity (read Kling).

Now, there is currently no way to really separate which view is right and which view is wrong.  But there is one thing we can keep in mind – during the Great Depression (which has been put down as a time when monetary policy failed) we saw inflation fall well below the Fed’s implied target … but this time they’ve kept things pretty close to where they were aiming.

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Matt Nolan

A point on debt

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Around the world there are a lot of complaints that there is too much debt, that debt will prevent a recovery, and that debt is the root of all problems – be it fiscal deficits, debt fueled consumption, or a debt powered housing market.

While there are undeniable issues to keep in mind, there are a few things to remember with these large debt levels – and one of the most important is that there are some people on the otherside of this debt.

Unknown to some is the fact that, as a planet, we are not actually in a net debt position with the rest of the galaxy (although the statistics say otherwise, I think there is an error – rather than us owing money to Martians).  As a result, for every person who has a liability owing there is another person or group who views that as an asset.  When we look at what the “issues” are with debt, we have to keep this point in mind.

Now this sounds like me stating the bleedingly obvious AGAIN … but lets think about some of the conclusions that come out of this:

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