Larry Summers Says Print More Money, Globally

A Benjamin Cole post

Probably, He Is Right

Among serious economists, the words “print more money” are not used, and of course the thought is sacrilege for many. Evidently, some prefer a decade or so of 20+% unemployment (see Spain, Greece), or the perennial loss of about 10% of GDP (the United States) to the idea of printing more money.

So it was with interest that I read a recent post by Larry Summers, “The Case For Expansion.”

First, Summers sums up the global economy thusly: There is the “specter of a vicious global cycle in which slow growth in industrial countries hurts emerging markets which export capital, thereby slowing western growth further. Industrialized economies that are barely running above stall speed can ill-afford a negative global shock.”

Summers correctly points out that interest rates are already low, especially in Europe and Japan. Though Europe is experimenting with negative rates, there doesn’t seem to be much oomph there.

The Solution

Summers avers, “What is needed now is something equivalent but on a global scale—a signal that the authorities recognize that secular stagnation and its spread to the world is the dominant risk we face.”

Like all serious economists, Summers cannot bring himself to say “print more money.” But he does say central banks “must be prepared to consider support for assets that carry risk premiums that can be meaningfully reduced. They could achieve even more by absorbing bonds to finance fiscal expansion.”

In other words, print money to finance national budgets, which China’s central bank, the People’s Bank of China, has been doing with infrastructure projects for decades. China has grown at about 10% annually compounded for decades, and now has inflation of 1.5%. They obtained these results even with a dubious system for allocating capital.

My Solution

Anyone who travels other First World cities, and then views U.S. public spaces and airports, surely suspects more infrastructure spending is indeed warranted. Summers’ suggestions strike me as very worthy.

But, as I am suspicious of federal programs (as enacted by the U.S. Congress), my pet idea is for the U.S. Federal Reserve to buy Treasuries and place them into the Social Security and Medicare trust funds, and then deliver a hefty cut on payroll taxes to workers and employees. FICA taxes are now more than 15% of a typical worker’s paycheck. Cut FICA taxes in half for a few years, and we might see some real demand in the U.S.

The Fed should buy about $500 billion in Treasuries a year, under this plan.

Print more money, in other words.

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When Reagan Did A Nixon

A Benjamin Cole post

Thanks to the White House tape-recording system installed by then-President Richard Nixon, we have transcripts of Nixon ordering then-Fed Chairman Arthur Burns to gun the presses before the pending 1972 election.

Never underestimate Nixon, who had an uncanny sixth sense for national and global politics, as well as monetary policy.

But lately it came to this writer’s attention that President Ronald Reagan was a crafty fellow as well. From David M. Jones’ 2014 book, Understanding Central Banking: The New Era of Activism:

“A second incident—one that, according to Volcker, [Bob] Woodward got right—involved a hush-hush unpublicized meeting at the White House just prior the Reagan’s reelection in 1984. Volcker was ordered by [Reagan’s Treasury Secretary and Chief of Staff] James Baker to attend this highly confidential meeting, which turned out to have only three participants. Volcker, James Baker, and President Reagan. At this meeting, by Volcker’s account, Baker “ordered” Volcker not to tighten Fed policy “under any conditions” prior to Reagan’s reelection (quoted in Woodward 2000). This unprecedented order by Baker in the presence of Reagan was, of course, totally inappropriate. It fundamentally violated the Fed’s independence within government. If revealed, it would have severely damaged Fed credibility and greatly unsettled the global financial markets.

In recounting this incident, Volcker said with a wry smile that what Baker and the President did not know was that Volcker was, at that very time,  urging his fellow policymakers to ease rather than tighten. Specifically, Volcker was worried that the Continental Illinois Bank failure at that time had caused an unintended tightening of bank reserve pressures, accompanied by an unwelcome spike in the federal funds rate…

In any case, Volcker remains shocked to this day be being called to this secret 1984 meeting at the White House, and being ordered directly by Baker—in the presence of the President—not to tighten under any conditions prior to Reagan’s reelection. Not since the days prior to the 1951 Treasury-Federal Reserve Accord had there been such an explicit White House threat to Fed independence.”

Actually, I think the Reagan White House was within its rights, and that the Fed should be a part of the Treasury…as was publicly recommended by Reagan’s Treasury Secretary, Don Regan.

The current arrangement, that of an independent Fed, is undecipherable to the public on many levels. Who knows who is on the 12-member FOMC? The public does not understand who is responsible for monetary policy, and even if it does understand, cannot vote accordingly.

Are surreptitious White House policy meetings—ala Nixon and Regan—a better way?

The upside down economy: The Hare chases the Fox

Fox & Hare_0

According to Danny Blanchflower, the US economy is back to normal because “there is no inflation and unemployment is 4 percentage points below the start level”.

It appears Janet Yellen & Associates think the same. According to Yellen:

“We believe we have seen substantial improvement in labor market conditions and while things may be uneven across regions of the country, and different industrial sectors, we see an economy that is on the path of sustainable improvement”.

Normally, it is the fox (actual output) that chases the hare (potential output). This is illustrated in the chart below, which shows how the “fox” usually pursues the “hare”.

Fox & Hare_1

Over the last eight years, however, it appears the “fox” got tired, allowing the hare to “run away”. But that cannot be, so the “fable writers” (the CBO) has given the story a twist, deciding that in the “new world” it is the hare that will pursue the “tired-out” fox!

Fox & Hare_2

DB and Yellen & Associates are correct! The economy is (almost) back to normal, a state in which actual output is very close to “potential output”.

Pondering China, the People’s Bank of China And QE

A Benjamin Cole post

Westerners love to hazard guesses on China and that is what they are, guesses. Even a Mandarin speaker in Hong Kong (with whom I recently conversed), with family on the mainland and employed at a large private-equity fund, professes no special insights into opaque China.

But China’s central bank, The People’s Bank of China, appears to have eschewed the advice of Western central bankers, and gunned the money presses this summer. Moreover, the PBoC tactic looks to be working.

Readers may recall the situation faced by China in the warm season. The buzz was “hot money” was fleeing the Sino state, and PBoC had to raise interest rates to keep trillions of dollars from vamoosing back to developed nations. Without that hot money, China corporations would be starved for capital, their debt payments would soar, many bank loans would sour, and the Sino domestic economy would shrink.

The PBoC Responds

  • In 2015 the PBoC has cut interest rates five times, from 5.60% to 4.35%, the last cut in October. More cuts are forthcoming, suggest officials.
  • The PBoC has unpegged the yuan, letting it sink within a daily band.
  • The PBoC has cut bank reserve requirements three times in 2015.
  • The PBoC has long engaged in QE, often by printing money and buying bonds from states, which used the money to build infrastructure. The PBoC may be upping its QE, but this is unclear.

Results

  • After a summer swoon, China’s stock market has stabilized, even rallied a little. The Shanghai Stock Exchange Composite Index, as of Dec. 24, is up 22.4% YOY.
  • On real estate, the Reuters headline of Dec. 18 was, “China November home prices rise for the 2nd straight month.”
  • China retail sales rose 11.2% YOY in November, the highest monthly growth rate of the year.

Also notable, as reported by the AFB, a “Chinese boom in air travel defies slowing economic growth” and China Southern Airlines in December ordered $10 billion of jetliners from Boeing, and then another $2.3 billion from Airbus.

Two cruise ship lines, Norwegian and Carnival, have each recently announced they will build special liners based in China, at about a cost of about $500 million to $1 billion each in price.

Inflation?

The China consumer-price index rose 1.5% in November YOY, reported the National Bureau of Statistics. As observers have seen globally for the last several years, central bank stimulus and QE appear to work, but do not result in much inflation, and so it is in China. The PBoC is below its 3.5% IT, and so has lots of room to run.

Interestingly, The Economist has reported that the PBoC has been conducting QE operations for decades, through the nation’s period of rapid growth. The PBoC may have been curtailing QE in recent years, coincident or causative with slowing Sino growth (although slow in China is a 7% YOY GDP increase).

There are reasonable concerns about state agencies allocating capital, not free markets (although who allocates capital to infrastructure anyway?). Nevertheless, the macroeconomic results of QE appear beneficial.

Conclusion

Far East central bankers, at least in Tokyo and Beijing, are eschewing the tight-money totems of Western central bankers, and turning to growth policies instead. The growth strategies are working.  Inflation remains muted.

Indeed, after 30 years of rapid growth and QE in China, they are paying the price…um, that is, 1.5% inflation.

The question is, “Can Western bankers learn from Eastern counterparts? Why not?”

And for Western economists, the question is, “If QE works in practice, but not in theory, should we banish QE, or change the theory?”

PS. China remains backwardly barbaric regarding political and civil rights. Evidently, both “China’s Carl Icahn” (Xu Xiang) and “China’s Buffett” (Guo Guangchang) are in detention or under restrictions by Sino myrmidons. Even novelists dare not write what they want, let alone political activists. Should China implode, it will be from insensate official political stupidity, not economic policies.

Nick Rowe´s wish for 2016

That we have a basic, or minimalist, understanding of recessions:

Recessions are not about output and employment and saving and investment and borrowing and lending and interest rates and time and uncertainty. The only essential things are a decline in monetary exchange caused by an excess demand for the medium of exchange. Everything else is just embroidery.

Is that important? I believe so, since if that were widely understood it is doubtful that most developed economies would still be “rolling in the deep”!

The mother of all shocks

Brad DeLong writes “The Six Major Adverse Shocks that Have Hit the U.S. Macroeconomy since 2005”:

Talk to people at the Federal Reserve these days about how they feel about the institution’s performance during the seven very lean years from late 2008 to late 2015, and they tend to be relatively proud of how the institution performed. Almost smug.

Why? Well, let me pull out my old workhorse-graph of the four salient components of U.S. aggregate demand since 1999

Shocks_1

And repeats the chart 5 times, each time emphasizing a different demand component.

He could have saved time and space and put up the only chart that matters, which also indicates that the Fed cannot be proud or smug about its performance. That´s the NGDP Gap chart, which shows that the Fed began the road to perdition in early 2008 and later failed to “turn the boat around”!

Shocks_2

Santa, it´s not more inflation we want. It´s more Nominal Spending

Bloomberg tells us “A Little More Inflation Would Be Good for Everyone”:

Thirty years ago, any policy maker would have welcomed a run of inflation below 2 percent. But the less inflation there is, the lower central-bank rates will be, making a return trip to zero more likely. That would force officials to resort, once again, to unconventional tools such as bond-buying that can be politically unpopular and less effective in restoring jobs and growth.

“We’re not saying goodbye forever to the zero lower-bound and the problems that it causes,” former U.S. Treasury Secretary Lawrence Summers told Bloomberg on Dec. 15. “When we get to recession, we usually need 300 basis points or more of Fed easing, but there’s simply not going to be room for that.”

Those are not good arguments. The charts show that:

1 There´s not much difference in the behavior of inflation in 1996-04 and 2010-15. In both instances they were mostly below “target”. But no one worried about “too low” inflation 10 or 20 years ago!

2 The big difference is in the behavior of nominal spending (NGDP) growth and its level

Santa

It seems, therefore, logical to root for an increase in the level of spending followed by a stable growth rate (open for discussion are the establishment of both the target level of nominal spending and its stable growth rate)

And as the charts also indicate, that´s a job the Fed can do if it sets its mind to!

Zombie Economics Will Never Die

A Benjamin Cole post

The tight-money crowd is dominant in central-bank staffs, and so firmly (and self-perpetuatingly?) ensconced in such independent government sinecures that they look likely to outlast all rivals. That tight-money enthusiasts preach an increasingly dubious religion or ideology—I have dubbed it Theomonetarism—is unimportant. They have allies in media and academia, curiously always on the right-wing side of things (with some exceptions, such as Ramesh Ponnuru at National Review, James Pethokoukis at AEI, and Scott Sumner, of the Mercatus Center at George Mason University).

The latest tight-money sermon comes from Daniel Thornton, an excellent writer and former veep at the St. Louis branch of the U.S. Federal Reserve, who damns the Fed for quantitative easing (QE) and low interest rates, in Requiem For QE, written for Cato Institute.

The Thornton Allegations

Thornton says not only did QE accomplish almost nothing in terms of stimulus, it resulted in “unintended consequences.” From Thornton, “[T]he intention of the (Fed’s) policy is to distort asset prices in an attempt to reduce long-term yields. But such actions produce unintended distortions: a strong and persistent rise in equity prices, a marked change in the behavior of commodity prices, a resurgence in house prices and residential construction beyond what is warranted by economic fundamentals, and excessive risk taking, even by those who are least well situated to take it. These are the unintended consequences of QE and the FOMC’s zero-interest-rate policy.”

Thornton also reiterates that the Fed was kicking Grandma; poor and elderly savers get hurt by low yields. And, of course, Thornton sermonizes that QE and low interest rates threaten injurious inflation down the road.

Where To Start

Like wrestling with a criminal octopus in Sodom and Gomorrah, it is difficult to know where to begin with Thornton. Wrong is everywhere. But let’s just hack away.

  1. Thornton avers QE and low interest rates cause “a strong and persistent rise in equity prices.” Given where stock prices were in 2009, one is tempted to answer, “And?”

But beyond that, Thornton overlooks what stocks did in the 1990s, long before QE and zero bound. Today’s stock market (which anyway has been flat for the last year, and not “persistently rising”) is far more sober than that of 1999, when the average Nasdaq p-e was at 100x earnings, and the S&P 500 at 44.2x earnings. The fed funds rate in August 1999 was 5.25%, and no QE.  The p-e’s on Wall Street today are slightly above long-term averages (now about 20 times earnings), even while corporate profits are at all-time record highs, absolutely and relatively. (QE evidently only has bad unintended consequences; Thornton does not say that QE caused corporate profits to soar to the moon.)

  1. Thornton also complains that QE-zero bound causes a “marked change in the behavior of commodity prices.” Well, one has to smile at this one. There were no commodity boom-busts before QE? BTW, gold hit $887.50 an ounce in 1980, before hitting $273.00 in 2000. Oil has been everywhere and done everything since the 1970s. I think what Thornton wants more than anything is to say, “higher commodity prices signal too-easy money.” That has been the standard refrain from the Theomonetarists since the 1970s, when the U.S. had double-digit inflation and OPEC was jacking up oil prices. In ensuing decades, we had the Chinese industrialization and full-throttle demand for all industrial commodities, while the U.S. ethanol program boosted corn prices, a basic agriculture good (they feed corn to pigs and cows, btw). Global oil was controlled by uncertain thug states. The last three decades have been a great run for commodities, and for inflation-hysterics who could endlessly siren about commodities prices.

But since QE started in 2009, commodity prices have been zooming—downhill. Copper has been cut in half, and gold is way off. Oil is cut in half too, and still going down. Thornton is reduced to saying QE results in a “marked change” in commodities prices. Yes, a “marked” reduction, so far.  Frankly, there are global markets for commodities, and global supply. The Fed went to QE and a nominally low federal funds rate, and commodities prices subsequently tanked. What is the connection?

  1. Thornton credits a “resurgence in house prices and residential construction beyond what is warranted by economic fundamentals” to QE and low interest rates.

Here Thornton seems unaware the basic facts. Housing starts are in the toilet.

BC Thornton

Actually, based on demographics, the U.S. has been under-building housing for years. As for house prices, noose-tight city zoning regulations prevent much new housing stock, and that plays a key role in national housing costs. Does Thornton mean to say U.S. apartments rents are rising (as they are), as there is too much residential construction? How does that work? The unfortunate truth is that even a merely mediocre economy in much of the U.S. will result in higher housing costs. It is a gigantic structural impediment. The solution to rising housing costs is much more liberal city zoning, or even no zoning. Thornton’s solution, on contrast, is to suffocate the economy enough that we obtain house price stability, despite regional housing shortages. Good luck with that—it is called 2008.

  1. Then we have Thornton’s assertion the Fed has caused “excessive risk-taking.” This reprises the “Fed as Mommy” role. You see, in free markets investors and business managers go bananas when interest rates are low. The free-market system is an inherently unstable platform on straw-like stilts, one that collapses whenever investors and business managers are not kept in check by an ever-vigilant Fed. Anyway, American corporations are actually sitting on huge piles of cash and not taking risks. There is not enough demand to warrant expansionist behavior by those who produce goods and services.
  2. I could go on, but another oddity is Thornton’s contention the Fed is too long in hugging the zero-bound tree. Yet, most economists would say the Fed cannot control long-term rates—that is, institutional investors will lend on 10-year Treasuries and other sovereign debt based on their gimlet-eyed assessments of yields, present value and the long-run economic landscape, not Fed antics. Okay, so the 10-year Treasury rate today, set by institutional investors, is 2% and pennies. If I quizzed a college class, “If in Free-Market Utopia Nation the 10-year sovereign-bonds sell at 2.00%, then what would you say the overnight federal funds rate should be?” I would answer, “Really, really low, as low as a morsel of snow.” That may explain why I did not get into Harvard, but the real answer would seem to be “somewhere near zero.”
  3. “Income was redistributed away from people on fixed incomes and toward better-off investors, “ avers Thornton, a reprise of the “Fed is bashing Grandma” argument. One wonders how to respond at less than encyclopedic length to this assertion. Interest rates have been falling globally for decades, and are negative now in many nations, including the famously tight Switzerland. Low rates are a sign that money has been tight, as Milton Friedman said. Monetary policy must be made for the general good, not any particular group or region. Raising rates hurts investors of all stripes—including those who risk equity to start businesses or invest in real estate. In fact, the Fed must be callous about poor people invested only in short-term risk-free assets. Helping the poor is the job of government and charity, not central bankers.
  4. Thornton adds, the “huge increase in the monetary base that QE entailed could cause inflation if the Fed loses control of excess bank reserves.” Again, one must suppress a smile here. Since 1980, has the tight-money crowd ever written a monetary paper that did not warn of the perils of pending inflation, due to Fed laxity? We have lived through five of the last zero hyperinflations, about 23 runaway inflations, and 71 double-digit inflations. Oddly, after decades of wanton laxity by our central bank, we are now paying the price—core PCE inflation is drifting down towards 1%, or perhaps lower if the Fed induces another recession.

In many regards, I have not been fair to Thornton in this brief blog. Thornton does ponder why the Fed is paying interest on excess reserves, thus suffocating some of QE’s stimulus effect. Thornton also criticizes the Fed for not expanding its balance sheet pre-2008, in the early days of failures by financial institutions.

Conclusion

As I have said before, the tight-money crowd has been increasingly erratic since 2009, and the failure for inflation to erupt following QE, or for there to be any detectable consequences for the Fed’s balance sheet (other than taxpayer relief, and some stimulus), let alone catastrophic results. The Theomonetarists are reduced to flying their tattered, sun-bleached storm flags for inflation (as does Thornton), and attributing all present-day economic ills to QE or low interest rates.

In fact, the Fed is too tight. We see weak demand, but global supply lines are thick and unused. We see that PCE core inflation is sinking below even the Fed’s niggardly 2% target. We see unit labor costs nearly dead-flat for years on end, a rising dollar, up 20% in last 18 months.

The Fed should target a robust growth rate via nominal GDP level targeting, and heavily use all tools at its disposal to get there, including QE and even negative interest rates.

The labor-market´s double burden

First it has to gauge how close the economy is to the first mandate (maximum employment) and is then used to predict the second mandate (the inflation rate).

That strategy derives from the Fed´s (and Yellen´s) firm belief in the Phillips Curve, the theory that there is (in some form) an inverse relation between the unemployment rate and the rate of inflation.

But, naturally, there isn´t. So the Fed is “chasing rainbows” and, apparently, wants to continue to do so.

They could take a leaf from Nick Rowe, and start acting very differently:

The business cycle is a monetary exchange thing.

Which would tell them they are on the wrong track!

The Fed will continue to tighten!

“The Fed’s decision was unanimous and Chairwoman Janet Yellen emphasized that the central bank would raise rates gradually.”

Great, the “when will the next rate rise be” game will continue to be played. As the charts show, tightening was already “baked in”, and will likely continue going forward. The markets weren´t at all surprised!

First, NGDP growth (Monthly NGDP from Macroeconomic Advisers)

Tightening continues_1

10-year inflation expectations

Tightening continues_2

The dollar against a broad basket of currencies

Tightening continues_3

Industrial production

Tightening continues_4

PS Likely outcome: Sooner, rather than later, the Fed will bring rates back down! At that point FOMCers will raise their hands and say “We give up!”