By Rok Spruk, on March 22nd, 2010
There’s an interesting story from Washington Examiner (link) discussing the coming economic crisis in California (which has been notably called “The Greece of America”) and the flourising economy in Texas which enjoyed a decade of robust growth, low taxes, favorable demographic outlook and superior public services. Not surprisingly, unions in free labor market in Texas did not allow public sector unions extracting $100 million from taxpayers for TV-ads in defence of the status quo for public employees:
“Californians have responded by leaving the state. From 2000 to 2009, the Census Bureau estimates, there has been a domestic outflow of 1,509,000 people from California — almost as many as the number of immigrants coming in. Population growth has not been above the national average and, for the first time in history, it appears that California will gain no House seats or electoral votes from the reapportionment following the 2010 census… Texas is a different story. Texas has low taxes — and no state income taxes — and a much smaller government. Its legislature meets for only 90 days every two years, compared with California’s year-round legislature. Its fiscal condition is sound. Public employee unions are weak or nonexistent.”
By Ajay Shah, on March 22nd, 2010
Several economists have commented on the remarkable and relatively new phenomenon that’s seen in India, where a government agency (or a state owned enterprise) advertises (say) 100 job openings and gets a million applications. This is generally interpreted as a problem, as a reflection of the very high extent of unemployment amongst the educated in India.
At the same time, this is hard to reconcile with the picture one gets from private recruiters, who say that it’s hard to recruit fairly minimal levels of skills when paying the market price.
The metaphor of market efficiency is useful in thinking about this. Suppose there is a liquid market with many buyers and sellers. Suppose supply and demand clear and the price of the widget is Rs.100. Now suppose you step into the market and offer to buy at Rs.101. In an efficient and well functioning market, you should be deluged with a very large number of sellers trying to sell to you at 1% above the fair market price. Conversely, if you step into the market and try to buy the widget at Rs.99. Nobody should be willing to sell to you at this price. A dramatic shift in the number of bids that you get — from zero at Rs.99 to a deluge at Rs.101 — is the hallmark of an efficient market.
I think this is a useful way to think about what is going on with government recruitment. As a thumb rule, researchers like Lant Pritchett and Jeff Hammer believe that in rural India, for junior positions, the government overpays by 3x. Also see Wage differentials between the public and private sectors in India by Elena Glinskaya and Michael Lokshin, in Journal of International Development, 19(3), page 333-355, 2007.
I quit the Ministry of Finance in 2005 and roughly a year later, I bumped into a person who had been my driver while there. He said that he’s set himself up to collect the wage of the driver from the government, but has recruited another driver to go to work to do the actual work of driving. He was pocketing a neat profit out of this because the government’s price of a driver is roughly 2x the price in the private labour market.
Policemen are apparently poorly paid but with ubiquitous corruption and outright shakedowns being run by the police, the true income of a policeman in India is massive. I bumped into a young fellow on the beach in Goa a few weeks ago. He makes a living helping tourists do stretching exercises on the beach. A full 25% of his monthly income is paid to the local policemen as protection money.
Junior clerical staff in PSU banks reap a bonanza because they’re overpaid (when compared with the market price of clerical staff) and get job security for life. The NPV of that job is very high.
There is a risk aversion dimension also. People with high risk aversion might particularly favour these public sector jobs because they are both high wage and low risk.
In this environment, when the government advertises for 50 policemen, what do you think would happen? In an efficient market, a large number of suppliers of labour would see that there’s an opportunity to sell their services at much, much more than market price. There should be an outright deluge of job applicants.
The phenomenon of a million applicants showing up for a hundred positions is a reflection of civil service wages and job security being way out of line with what is found on the private labour market, and not a reflection of large scale unemployment in India. If anything, a very big deluge of applicants is a reflection of a rational information-rich environment where many individuals are able to access information and act on it.
By Eldon Mast, on March 22nd, 2010
Consumer spending makes up about 70% of the US Economy.
On April 1, 2009, low- and middle-income workers started seeing a bit more in their paychecks, thanks to the “Making Work Pay” tax credit in the federal recovery act. The tax credit is 6.2 percent of a taxpayer’s earned income with a maximum credit of $800 for a married couple filing a joint return and $400 for other taxpayers. The benefit will generally be spread out over the paychecks workers started receiving in spring 2009 and will continue until the end of 2010.
Tens of billions of dollars have been pumped back into the economy through this bottom-up tax cut. Positive economic indicators have followed:
After at least a 3 year decline, Consumer Spending began to rise in April of 2009.
After a 5 year decline, GDP began to rise in April of 2009.
After a 2 year decline, the Leading Economic Index began to rise in April of 2009,
and is currently higher than at any time in over 4 years.
Historically, the LEI is one of the most reliable forward indicators that exists.
After a dramatic 1 year increase, Job losses began shrinking in April of 2009. This has been the most rapid turn from net jobs losses to net jobs gains of any business cycle in the last century.
From its low on March 9th, 2009, the current S&P recovery began to rise in April of 2009 and has outperformed the 1974 and the 2002 rebounds over the equivalent period.
What is amazing about this is that so far only about 12% of the public think they got a tax cut. The Republicans, who all voted against this tax cut, don’t want to talk about it and they seem to be creating a
narrative that Obama and the Democrats have raised taxes.
Consumers indeed create jobs through demand for goods and services. No matter what your political persuasion, supporting tax cuts for working men and women seems wise — and the results illustrated above underscore why the tax cuts in the 2009 stimulus bill got it just right.
(hat tip Dave Rusk)
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By Richard Daughty, on March 19th, 2010
Bill Bonner at The Daily Reckoning reports that “Even if America taxed 100% of all household wealth, it would not be enough to put its balance sheet in the black”, which I note seems exactly right to me, and I am able to corroborate Mr. Bonner’s analysis because it seems to me that I seem to remember that just the federal budget deficit – alone! – would consume all federal income taxes paid by people and businesses!
Perhaps Mr. Bonner won’t need any testimony from me, and people will accept the things that he says as facts because they trust him. But when I say something like that, even with facts aplenty at my very fingertips, they want to argue with me like, for example, just the other day when I was taking a little walk in the morning and I ran across a group of kids waiting for the school bus, which was just pulling up as I got there.
So I am telling the kids, “You brats might as well quit school right now because there is no future for you since your own federal government has borrowed and spent this country into the ground, made possible by the loathsome Federal Reserve creating all the wildly excessive amounts of dollars that made it all freaking possible, which became, because it is, an inflation in the money supply, which is what will cause terrifying inflations in prices as all this money is used to bid for a relatively static supply of goods and services so that prices will always be going up and up, all your miserable lives, and at the rate that the idiot Leftist Obama government is deficit-spending money by the trillions of dollars, and the rate at which the foul Federal Reserve is creating new money by the trillions of dollars to finance it, prices will rise so high that this Whole Freaking Country (WFC) is doomed to suffer catastrophic inflation! We’re freaking doomed!”
So, instead of everyone just accepting what I said, like they do Mr. Bonner, and maybe patting me on the back and saying something cheery like, “Masterfully said, Brilliant Mogambo Maven (BMM)! Thank you for the good education in bad economic governance!” the school bus driver is yelling at me to shut up and for the cheering kids to get on the bus and quit listening to “that damned crazy man”, but the kids are hesitating, and the driver is frantically calling 9-1-1 on her cell phone to report me to the police as some kind of deviant weirdo, and the kids are dancing around, chanting, “We’re freaking doomed! We’re freaking doomed” and the bus driver is yelling, “No, you’re not! Now get on the bus, kids!” and pretty soon some parents come up to see what all the fuss is about, and they start arguing with me, too!
To the adults who can appreciate adult-level conversation, I say, “If you are not concerned about the destruction of the buying power of the dollar because of the insane trillion-dollar increases in the money supply by the Federal Reserve or the ludicrous Obama deficit-spending trillions of dollars that necessitated it, then you’re an idiot!”
And then, out of nowhere, they start arguing with me about THAT, too!
So you can see the kind of crap I have to put up with all the time around here every time I open my mouth, and I imagine even Mr. Bonner would have trouble with these losers, too.
Apparently, Mr. Bonner has heard my sad, Cassandra-like tale of woe, and has decided not to press his luck in this neighborhood of what appear to be, in a word, idiots, and safely quotes some guys named “Professors Rogoff and Reinhart” who “show that when external debt passes 73% of GDP or 239% of exports, the result is default, hyperinflation, or both.”
At this point, most of us have stopped reading because we have had our fill – “up to here!” – of egghead professors finding some relationships between the horrendous condition of the US and impending calamity, as that is the continual state of the US today, and indeed the world, in terms of increasing human suffering, a terrible economy, a travesty of a monetary policy and flagrant, bizarre irresponsibility in fiscal policy.
And after a full day of reinforcing the Mogambo Bunker Of Desperate Refuge (MBODR) with another layer of aluminum foil just because of the terrors of these kinds of things, I am too tired for more horror, as if I could be more, you know, horrified at this point.
I mean, this is nothing new for a real Junior Mogambo Ranger (JMR), who knows that it is the same impending calamity that has impended every other time in human history after these idiotic kinds of expansionary monetary and fiscal insanities are rampant, and now we JMRs have, with heroic stoicism and serenity, moved away from constantly thinking of certain disaster and have started, instead, thinking about lunch. Or weekend plans. Or, if it is the weekend, lunch.
Fortunately, I was not too far immersed in plan making (other than I was already sure that it was going to involve bacon in some capacity), and so I was taken aback when these two professors said that “IMF data show the US already too far gone on both scores, with external debt at 96% of GDP and 748% of exports.”
I was hoping that someone would raise his or her hand (especially the adorable Peggy who said she would never, ever even be in the same room with me ever again, and now there she is – in the front row! – which only shows what a deceitful, lying, heart-breaking little tramp she is), and ask why we didn’t get “default, hyperinflation or both” when external debt passed 73% of GDP on its way to the current 96%, or after passing the point of 239% of exports growing to today’s 748%.
That way, I could spring to my feet, noisily interrupting, and state my own version of how it is easily possible that the largest economy on the planet, that for decades consumed the majority of the industrial output of the planet so that, at its zenith, our trade deficit was almost a trillion dollars a freaking year, was able to continue such stupidity by being financed, for a long while, by scared vendors frightened of their biggest customers not buying more stuff, all so that the USA could indulge its gluttony, its imperialism and its most far-fetched socialist dreams by being financed by the very people who made the stuff that we bought, using the money that the Federal Reserve created, that we gave them as a minimum monthly payment for the last batch of stuff that we bought from them on credit! It’s recycling, dude! Hahahaha!
Of course, this would lead me directly to a long harangue about how “You would have to be an absolute idiot not to buy gold, silver and energy stocks as an iron-clad defense against the aforementioned ‘default, hyperinflation, or both’, which, in this case, will be ‘both’ because the whole financial enchilada is a big leveraged bet where every little change is magnified many-fold into losses, losses, losses as far as the eye can see, growing bigger and bigger, and that our only hope is to riot in the streets, overthrow the current regime and install me – The Mogambo! – as Wonderful Emperor Mogambo (WEM), where I will wage a never-ending battle for truth, justice and the American way, which is (now that you asked), the glories of free enterprise coupled with a fixed money supply.
Before I could even make a pitch for everyone stocking up on Mogambo Enterprises Riot Gear And Supplies (MERGAS) that they will need in their glorious popular rebellion to oust the government and put The Mogambo on the throne of absolute power, or even give me a lousy minute to hand out some brochures, Mr. Bonner, apparently embarrassed to have his presentation hijacked by a megalomaniacal power-hungry lunatic hawking insurrection, shoddy pitchforks and flaming torches, obviously alludes to it and says, “The rioters can go home, in other words. The system will collapse on its own.”
Well, if it is going to collapse on its own, then, like everyone else, I sigh, and figure, “Why bother?” So, instead, I take the easy way out because the easy way out is The Real Mogambo Way (TRMW), which, in this case, is to just buy gold, silver and oil because with the ugly, inflationary-collapse way that things are going, and which cannot be stopped, it makes you Giggle With Glee (GWG), “Whee! This investing stuff is easy!”
US Economic Outlook: Default, Hyperinflation or Both originally appeared in the Daily Reckoning.
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By Ajay Shah, on March 19th, 2010
Another year, another messy situation with inflation: we continue to suffer the consequences of faulty economic policy institutions. To get a sense of what is going on, be sure to ignore the standard year-on-year inflation data (which shows what happened in the last 12 months), and instead use seasonally adjusted month-on-month price changes (which show what happened last month). And, see the column by Ila Patnaik in the Indian Express yesterday.
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By Russ Nelson, on March 18th, 2010
I’ve written about deflation twice before: Deflation and Deflation 2. Third time’s the charm?
The common wisdom is that deflation of the currency is bad. When money deflates, it becomes more valuable, even when you do nothing. So the theory is that people won’t spend their money, because it will become ever-more valuable.
That theory cannot be true.
Look at the PC market over the last 30 years. In each one of those years, the PC became more reliable, faster, came with more memory and storage. The original MDA display was one color and text only. The CGA had 16 colors and 640×200 bits. The price — of the computer you really want to have — has stayed constant, at about $5000.
If the story told about deflation was true, then you would always be better off delaying your purchase of a PC by 6 months. You could be confident that the PC you would buy would be a more valuable PC.
Except … that people did that very rarely, if ever. The standard advice was always “don’t wait to buy a computer, because there will always be a better computer on the horizon.”
So, in a situation where people can predict a constant stream of increase in value, people STILL made the trade. Thus, I think it’s safe to predict that in a similar situation, where people could predict a constant increase in the value of their money, they would spend their money as needed.
By Richard Daughty, on March 18th, 2010
I got a disturbing email from Bianco Research which showed a chart of “Private Credit Market Debt” which they say shows “Total credit market creation not including Treasury Debt, Municipal Debt and Agency Debt”.
It is actually a horror that the level of private debt peaked last year at about $36 trillion, which is certainly a lot of money, especially since total GDP of the Whole Freaking Country (WFC) is only $14 trillion (and falling!).
In some kind of bizarre “good news/bad news” joke, total private debt has now actually fallen by a couple of trillion dollars to $34 trillion, which is bad news for an economy that depends on consumption, but is good news in that people have lighter debt burdens.
David Stevenson of the Money Morning newsletter at moneyweek.com notes that it’s not just us, but “private borrowing is slowing everywhere” and that “US consumer credit has shrunk for a record 11 months in a row.”
The interesting thing is that the Bianco chart goes back to 1952, and there has never, ever been a time when private credit market debt fell by as much as a dime! Although it, sometimes, did not go up for short periods, nevertheless, it has never gone down. Never!
Until now. Oops!
Note that the soundtrack has gotten all gloomy, which makes sense, because if total private debt has – gasp! – gone down, then the money supply is not expanding because people are not borrowing to buy and invest. Oops!
Parenthetically, the money supply is not actually shrinking that much, as you would expect, because the asinine neo-Keynesian theory says that the government should replace private spending with deficit-spending, which they do, thanks to the Federal Reserve creating the money, which is another whole subject about which usually results in a loud Mogambo Scream Of Outrage (MSOO), which is, I think, more of a wail of anguish and crushing despair than a scream, although it usually concludes with me howling, wolf-like, “We’re freaking doooooooooommmmed!”
That’s, unfortunately, the bad thing that happens at the end of long booms produced by constant monetary stupidity, especially of the kind of stupidity found at the Federal Reserve, which explains why I say, with a loud, irritating repetitiveness that makes people run screaming from the room every time I open my mouth, to buy gold, silver and oil as your only defense against rampant government stupidity and insane levels of monetary over-creation of money and credit, as redundant as that actually is because of how incestuous they are.
I assume that you now understand the depth of the ignorance, stupidity and depravity of the government and the Federal Reserve (and, indeed, all the central governments and central banks of the world), and you are saying to yourself, “Hey! The Loud Mogambo Idiot (LMI) is right! Maybe he is not as stupid as everyone says!”
Fortunately, that knowledge is all that is required to be a Junior Mogambo Ranger (JMR), and now that you have begun on your path to economic enlightenment, I can let you in on a little secret; it’s going to get worse. Much worse. Much, much worse. Worse than anything, even that time when your First True Love (FTL) dumped you and started going out with that jerk from the baseball team, and how you still hate him for it, even after all this time, and you still love her in spite of it, even after all this time.
But you are not here to listen to my tale of love gone wrong, desperately loving someone who doesn’t love you, and rejects your aching heart over and over, and when you call her on the phone, her father answers and says, “My daughter says you are a creepy little rat-faced creep, so why don’t you just give up, kid?”
And so I did, on the spot, saying a final goodbye to her, through him, and with a tearful, heart-broken voice, and I told him to tell that scheming little lying two-faced cheating slut he calls his daughter, as a parting gift of wisdom from me, to “Buy gold, silver and oil when your idiotic government allows unrestrained creating of money and credit, and especially when the government deficit-spends said money to expand itself”, thinking, you know, that I would leave her with a fabulous piece of advice by which she could always remember me fondly.
Instead of him saying, “Well said, intelligent young man! I shall be honored to relay your wise advice to my daughter, and I shall act upon it at once myself!” he said, “What in the hell is that supposed to mean, you little punk?”
So I told him that he was obviously a moron about monetary policy, fiscal policy and raising demonic daughters and, judging by his reaction, burned another bridge behind me.
But I won’t need it! Hahaha! I have gold, silver and oil, and with them I can build all the new bridges I want, with riches untold, when his precious dollars and dollar-denominated assets turn into the crap that fiat currencies always become.
And his daughter, the tramp Carol? Now it shall be I who says, “Scram! Ya creep me out, loser weirdo!” Hahahaha!
Private Debt Decline: Good For US Bad for the Economy originally appeared in the Daily Reckoning.
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By Richard Daughty, on March 17th, 2010
The Money Morning newsletter bills itself as “Essential investment news & insight from MoneyWeek.com” which makes me suspicious right away because of all the times I have been lied to over the years by people telling me that something is “essential”, which it seldom is, and it usually turns out to be a code word for, “It’s gonna cost ya, buddy!”
Like today, for example, when I am told that it is “essential” that I curtail my frenzied buying of gold, silver and oil this month so that one of the whining kids can go to the doctor (or dentist, I forget which) for some real or imagined discomfort, ache, pain, open wound, bloody discharge, festering sore, oozing abscess or gangrenous limb, like I am made out of money or something.
Normally, I would explain, with the patience of a saint, for the thousandth time, how the Federal Reserve is creating waaaaAAAAAaaaay too much money and credit so that the federal government can borrow and spend waaaaAAAAaaaay too much money, which is this selfsame “waaaaAAAAAaaaay too much money and credit” created by the Federal Reserve in the first place, which is a kind of strange circular logic, I admit, but which I think only serves to prove the bizarre, incestuous nature of the whole thing, but without any bodily fluids being exchanged.
And I told them, “If you don’t think so, just wait until the inflation in food and energy prices really gets here, good and hard, and when you look at the horrors this will create, you can tell me again how you don’t believe that inflation in the money supply leads to inflation in prices when all this new money enters into the marketplace, like a flood, adding massive amounts of money to the bidding for goods and services, which makes prices rise”, but they just kept whining, “No, daddy! I need to go to the doctor now, not when inflation is raging so that the cost will be higher and you will not want to pay those higher prices! So you want to send me now, when prices are lower!”
So you can see that there are two sides to every story; on the one hand this whole incident with crybaby kids and their whining, and complaining, and blacking out, and getting blood all over everything, and on the other hand there are “essentials” in the world, as in “essential insights”, which, in the case of Money Morning, is apparently true, as we note with surprise that David Stevenson writes in the newsletter that, in the United States, “Prices of commercial property – real estate – are down by 43% overall since the October 2007 top, says Moody’s Investors Service. Retail rents have plunged by a third from the peak. For offices, rents are down 40% and vacancy rates are as high as 18%.”
Now, most people, like me, and maybe like you, too, look at that paragraph and say, “Whew! That seems like a lot of numbers, which are already confusing by their very presence, which explains why I don’t understand!”
Being the peach of a guy that I am, I am going to show you – free! – the essential information in there, which is: If you own commercial property, you are screwed, and if you do not own commercial property, then it is getting cheaper and cheaper.
In the meantime, just keep buying gold, silver and oil stocks, not because I say so, which I do, and you should, too, but because we have no other choice, because if we did, I am sure that I would have read about, or heard about, someone buying it to successfully protect themselves against governmental stupidity at least one (pause) freaking (pause) time (pause) in the last 4,500 years of the economic history of the Whole Freaking World (WFW), especially since the whole thing seems to be about economic stupidities that flow from continual, ever-worsening government fiscal malfeasance, just like we have all over the world today and all over the world in all of the rest of history, but, in a word, I ain’t.
And, so, investing doesn’t get easier than that! Whee!
Gold, Silver and Oil: Buying the Essentials in Tough Markets originally appeared in the Daily Reckoning.
By Rok Spruk, on March 17th, 2010
Paul Krugman (link) and Greg Mankiw (link) analyze the costs and benefits of China’s exchange rate policy.
By Claus Vistesen, on March 17th, 2010
Popular myth and, allegedly, the laws of aerodynamics have it that the bumblebee should not be able to take flight. Yet still, our good bumblebee refuses to be pulled down by such details and year after year it takes flight as if nothing has happened. This allegory applies, with some imagination, to Japans economy too. Year after year it consequently appears able to simply ramp up domestic debt to cover the shortfall of domestic demand at the same time as low investment demand, a savvy export sector, and a strong net foreign asset position mean that Japan does not have to rely on foreign investors to finance government debt outlays. Together with a central bank stuck in perpetual QE mode due to persistent deflation this has so far constituted the core of Japan’s bumblebee moment.
Recent comments and analysis however suggest that while the bumblebee should certainly continue to enjoy the ability to defy gravity, Japan’s time just may be up. In particular two pieces of research authored by Societe Generale’s Dylan Grice (see here and here) as well as a recent piece by Kenneth Rogoff have added to the concerns that Japan may be headed for a Greek party of their own. In reality of course, the sudden focus on Japan is a direct function of the change in market discourse since end 2009 and the focus on government debt sustainability and how to rein in fiscal policy (if at all). Thus it is only logical to expect the great eye of the market to also turn to the biggest sovereign debtor in the world which just happens to be the oldest (demographically speaking) too.
In order not get confused here is Grice himself;
To recap, the thesis I outlined back in January 1 was that since Japanese households (the biggest effective drivers of JGB demand) are set to dis-save in coming years as they retire (left-hand chart below) there will soon be no one left to finance the government’s nosebleed deficits at current yields. Indeed, the chart below suggests households are already running down assets. And because the interest rates which might attract international investors will inevitably blow up the budget (debt service is already 35% of government revenues at existing yields) there is a very clear and present danger that the government reverts to the well- established historical precedent for cash-strapped governments of currency debasement.
As you can see, the issues here are complex but intellectually they are hugely important since what happens in Japan may tell us a lot about what will happen in other ageing economies such as, most notably, Germany but essentially a whole host of OECD economies (and China) who are set to move in the same direction as Japan. In this sense, I should immediately admit that on an intellectual level I agree with almost everything Grice says and especially his focus on Japan and the nature and extent of dissaving.
But, and in order not to make this into a fan letter, I am going to quibble a little bit with Grice in what follows.
Firstly, and on a very specific point, the chart (in Grice’ last note) which shows how Japanese households are actually running down their assets does not fit with the picture I get from my data (BOJ).
Now, I certainly don’t want to start the chart wars II here and obviously, there are many ways to define the stock of savings which might prove me as wrong as Grice is right (and vice versa). What is certain is that the incremental flow from household saving (if any) will not be enough to offset the incremental flow of bonds issued by the ministry of finance. This leaves the crucial role of corporate savings which is quite high in Japan and which also seems to be responsible for the Japan’s external surplus (on the trade balance at least).
Yet, in order not depart down the path of reinventing the wheel I will immediately refer to my most recent notes on Japan and this in particular in which I butt heads with the FT’s Martin Wolf on exactly the issue of (dis)saving in Japan and the distinction between corporate and private savings. Essentially then, this is a question of perspective and timing since I agree with all parties involved here on, at least, two accounts. Firstly, Japan government finances in an extraordinarily bad shape and the future ability of Japan to ever hone up to its liabilities is very, very slim. Secondly, dissaving is very likely to become a binding constraint in Japan at some point which would epitomized by how Japan would need to borrow from foreigners in order to finance an external deficit. In this case, and I agree with Grice here, it is game over.
But how we get from here to there may be just as important as what happens when we get there. In fact, yours truly have just defended his master’s thesis on exactly this topic and the overall conclusion, which fits quite well in the present discussion, is as follows;
Ageing societies are not, in the main characterised by aggregate dissaving but rather by the fight against it.
While my thesis councillor did indeed like the entire ouvre he was none to happy about this one. And can can you blame him? Isn’t it almost tautology? As I did on my day of graduation I will stand my ground and argue that it isn’t.
The crucial issue in my opinion is the change in perspective from waiting for the inevitable pop in Japan, Germany etc to a look at the main characteristics of an ageing economy such as Japan, Germany [1] and soon others. In a nutshell, these sum up to a deeply export dependent economy which exactly manages to keep the boat afloat because of higher domestic savings than merited by domestic investment demand and thus an external surplus. Naturally, and as a very important aside, Japan also has its own central bank who has been in QE for the better part of two decades and thus serves to allow government debt to grow without Japan needing foreign money.
This perspective provides us with two very important pieces of insight I think. One is that a rapidly ageing economy will not be able to revert to a growth path characterised by external borrowing and thus a net contribution to the unwinding of global imbalances. The second is that the global process of ageing becomes an externality to the whole global macroeconomic system because it puts more and more economies in a situation where they need to maintain external surpluses in order to prevent the forces of dissaving or, more accurately, the slump in internal demand as ageing pushes up the dependency ratio.
Now, think about the discourse we are having exactly at this point in time. It is a perfect mirror on the two points above with the added spice, in the context of the Eurozone, of how economies embarking on internal devaluation are also forced to find growth based on external demand because whatever growth they were able to generate from domestic activities in the first place are now being effectively choked off.
Moving back into the real world, Grice believes that Japan’s time may just be up and he specifically points to the fact that Japan needs to roll over 213 trillion while at the same time, the biggest holder of Japanese government bonds has openly announced that it has no inflows with which to suck up extra JGB supply.
I honestly don’t know whether he is right. He may be and if so, Japan will stand as a poster example of just how an ageing economy can take it before it folds in on itself in the sense of trying to maintain a modern market economy that is. However, I am inclined to call him on his bet and in this sense I am much closer to Buttonwood’s take on the situation;
(…) the huge amount of Japanese debt rolling over this year need not be a problem. Investors will simply recycle their existing holdings. Takahira Ogawa, a sovereign analyst at Standard & Poor’s, thinks there is more scope for the Bank of Japan to buy government debt, as central banks have done elsewhere.
Of course, such measures just postpone the evil day. The crisis will surely arise when Japan becomes dependent on foreigners for finance, or if a sharp rise in inflation or a sudden slump in the currency causes domestic private investors to take fright. But since the country is still running a current-account surplus, the yen is trading at 90 to the dollar (compared with 124 in June 2007) and deflation is forecast for the rest of the year, the apocalypse seems unlikely to occur in 2010.
Thus I would point to the continuing surplus in the corporate sector, the fact that households are not yet drawing down their deposit base, and most importantly; the fact that the BOJ has every right and reason to continue keeping the QE taps open as long as deflation is running at +2% on an annual basis. In fact, here is one of the other feedback loops from ageing right here; namely that as domestic demand simply spirals downwards, the economy gets caught in a deflationary trap (the liquidity trap in monetary policy circles) which only serves to push up domestic government debt thus forcing the central bank’s hand on QE and making it even a larger imperative to maintain an external surplus.
However, before I myself try to emulate the bumblebee by defying gravity with another complex argument, I think I will hold off with this one for another day.
—
[1] – See this excellent piece by Edward which exactly touches on a similar issue in the context of Germany.
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