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Recent economic data and Chairman Bernanke’s recent statement suggest the economy is slowing down. The “’09 stimulus package” has peaked and its effects will be gone by the end of the year. The G20 agreement reached over the weekend says governments “agree” to cut their deficits by 50% within two years. The U.S. would have to cut almost $800 billion of the $1.5 trillion deficit in 2010 alone. Good luck with that. Here are some reactions:
Keynesian (Demand-Side) economists are up in arms. Paul Krugman in an article in the New York Times today has an article titled, “The Third Depression.” He states that we are worried about inflation when the real problem is deflation; and the failure to stimulate (re-inflate) the economy will result in a long, Japanese style deflationary environment. He has suggested another $one trillion in stimulus.
The Keynesian-lite (Supply-Side) economists are still convinced the economy is turning around (although they have become less passionate in the past week) and that inflation is the potential risk. They do want taxes reduced to create jobs (but without cutting spending, you simply have a different type of stimulus program.)
The Capitalist economists see de-leveraging or deflation which is normal after our world-wide, gigantic credit bubble fighting inflation (low interest rates and the massive printing of money.) If this deflation-inflation struggle continues, it will take a long time to get to price equilibrium (e.g., bottom on home prices) and the amount of money created by that time will cause huge inflation. Therefore, the sooner the government gets out of the way, the sooner the recovery can begin.
Since we have a mixed economy rather than a capitalist economy, I do not expect the government to get out of the way. And since we have Keynesian government and Federal Reserve, I expect more stimulus rather than austerity.
However, many taxpayers are upset with all the spending. I had expected another large stimulus package this year, but one large stimulus package does not seem viable in this climate. Then, I expected to see the large stimulus package broken down into smaller pieces (a $50 billion package for unemployment benefits, a $50 billion package to help the states, an $8 billion package to hold up home prices, etc.). But last week, the Senate was unable to get closure on the unemployment package and therefore could not vote on it.. This might signal that additional stimulus through fiscal policy, may be difficult to do.
However, I think the answer to question posed is no. The government is to frightened of deflation to let it happen. Therefore, the Fed and Chairman Bernanke may be called upon to stimulate the economy through monetary policy (keep interest rates low and print, print, print money.)
Monday, June 28, 2010
Thursday, June 24, 2010
Chairman Bernanke Effectively Downgrades the Economy
Media coverage of the Federal Open Market Committee (FOMC) meeting on Wednesday basically stated that little had changed from the April 28th meeting: interest rates remain at basically zero percent and will remain so for some time, the economy was in recovery, etc. However, there were some serious changes made to Mr. Bernanke’s statement that implied things were deteriorating rather getting better.
Most media coverage focused on what did not change in Bernanke’s statement: they left rates at zero, for an extended period, subdued inflation trends and expectations, continued low rate of plant utilization, unemployment continues to be a concern, etc.
But, here are some significant changes in attitude and content that, I think, effectively downgrades the growth rate for the U.S. economy. For example:
1.Attitude. Less talk about short-term tightening and the timing and plans to do so,
2.Economy. In the previous statement (April), Bernanke stated, “Economic activity has continued to strengthen.” In this June statement, he stated, “The economy continues to recover.” (this is far different from continues to strengthen and I think a downgrade on growth rates)
3.Employment. In April, “Labor markets beginning to improve.” In June, “Jobs are being created, gradually.” (Again, I think a less robust outlook.)
4.Financial System. In April, “Financial market conditions remain supportive of economic growth.” In June, “Financial conditions have become less supportive of economic growth...”
5.Housing. In April, “Housing starts have edged up but remain at d depressed level.” In June, he left out “have edged up” and simply said, “: Housing remains at a depressed level.”
I think this is significant because Bernanke and the Federal Reserve Bank have been trying, very hard, to present the economy as beginning to improve. After all, as good Keynesians, they have already spent a ton of our money and they need those “animal spirits” (I guess that means our greed) to make the handoff from government spending to private spending (or their theory doesn’t work.) Is this a signal that we will get even more government spending?
Most media coverage focused on what did not change in Bernanke’s statement: they left rates at zero, for an extended period, subdued inflation trends and expectations, continued low rate of plant utilization, unemployment continues to be a concern, etc.
But, here are some significant changes in attitude and content that, I think, effectively downgrades the growth rate for the U.S. economy. For example:
1.Attitude. Less talk about short-term tightening and the timing and plans to do so,
2.Economy. In the previous statement (April), Bernanke stated, “Economic activity has continued to strengthen.” In this June statement, he stated, “The economy continues to recover.” (this is far different from continues to strengthen and I think a downgrade on growth rates)
3.Employment. In April, “Labor markets beginning to improve.” In June, “Jobs are being created, gradually.” (Again, I think a less robust outlook.)
4.Financial System. In April, “Financial market conditions remain supportive of economic growth.” In June, “Financial conditions have become less supportive of economic growth...”
5.Housing. In April, “Housing starts have edged up but remain at d depressed level.” In June, he left out “have edged up” and simply said, “: Housing remains at a depressed level.”
I think this is significant because Bernanke and the Federal Reserve Bank have been trying, very hard, to present the economy as beginning to improve. After all, as good Keynesians, they have already spent a ton of our money and they need those “animal spirits” (I guess that means our greed) to make the handoff from government spending to private spending (or their theory doesn’t work.) Is this a signal that we will get even more government spending?
Wednesday, June 9, 2010
Should we be worried about future deflation or inflation?
There is a lot of worry these days about weather we are in deflation, slipping into deflation or about to enter into an inflationary environment. It obviously makes a big difference in future planning and how investments are allocated. As you can imagine, there are very different views among the different economic philosophies.
Before I get philosophic differences however, I need to provide a simple definition of inflation and deflation. Very simply, inflation means an increase or inflation of the money supply (more money units) and deflation means a contraction in the money supply. In the case of inflation, an increase in money units means that each unit is worth less or one’s purchasing power is diminished. Therefore prices increase. Inflation, the way the word is used today means an increase in prices. Therefore, the cause of inflation is usually misdiagnosed. I’ll talk more about this in other posts. So lets look at the different viewpoints.
Keynesian/Demand-Side View
The big government economists (Keynesians and demand-side economists) are worried that the money spent to date (the stimulus and fiscal and monetary policy) is not enough to fill the spending gap left when consumers and businesses reduced spending.
Influential economists like Paul Krugman, have said all along that the stimulus packages have not been large enough to fill the gap in spending and that now we need a much bigger stimulus package in the neighborhood of $1 trillion more dollars if we are going to turn this economy around. If we do not get that kind of spending, we will slip into a deflationary death spiral that is very difficult to get out of. Therefore, we could end up like Japan in the 1990’s with 10 years or more of almost no growth.
Their definition of deflation is falling prices (due to lack of demand) and they see falling prices everywhere (housing prices, food prices, car prices, etc.) He doesn’t see falling computer prices over the years as detrimental or deflation however. He also does not mention how we are going to repay the loans.
Keynesian/Supply-Side ViewThe opposite position is taken by the less government economists (Keynesians and supply-side economists) who see a marginal improvement in GDP growth, which they have extrapolated into a V shaped recovery. They are worried about the coming inflation because of artificially low interest rates and high debt levels.
They see inflation (a rising consumer price index or CPI) everywhere. They think that unless the Fed raises interest rates very soon and begins to take money out of the system, we will get severe inflation within the next year to eighteen months. Interest rates should be raised to one percent higher then the nominal growth rate of GDP (growth rate before inflation.) So if the economy is growing at 3-4% as they expect, interest rates should be at 4-5% not zero.
Their definition of inflation is a rising CPI index (which is the symptom of inflation, not the cause.) The CPI index as you know is a basket of goods and services the government uses to measure price changes.
Capitalist ViewThe almost no government economists (Capitalists, Austrians, Objectivists) have a much different definition of deflation and inflation. They see deflation and inflation as it was originally defined: expansion or contraction of the money supply. Their view is that the government has been and continues to pump money into the economy (print money), which will be inflationary. However, consumers are currently over-leveraged (too much credit vs. disposable income) and must reduce spending and increase savings in order to b ring their financial lives into balance. This slowdown in spending looks like deflation (prices are being reduced by almost every store advertising.)
Therefore we are currently in a period of de-leveraging, not deflation and until the consumer starts spending again (by using or reducing his savings or expanding his credit) we will not enter an inflationary phase. But based on the money that has been added and expected to be added to the economy, we could be in for serious inflation.
Conclusion
Therefore, your current position should be focused on a de-levering economy, which will take considerable time and considerable pain. However, if the government pumps too much money into the economy (a debatable number) or credit becomes too easy again, too soon, it will be time to reposition yourself for inflation.
Before I get philosophic differences however, I need to provide a simple definition of inflation and deflation. Very simply, inflation means an increase or inflation of the money supply (more money units) and deflation means a contraction in the money supply. In the case of inflation, an increase in money units means that each unit is worth less or one’s purchasing power is diminished. Therefore prices increase. Inflation, the way the word is used today means an increase in prices. Therefore, the cause of inflation is usually misdiagnosed. I’ll talk more about this in other posts. So lets look at the different viewpoints.
Keynesian/Demand-Side View
The big government economists (Keynesians and demand-side economists) are worried that the money spent to date (the stimulus and fiscal and monetary policy) is not enough to fill the spending gap left when consumers and businesses reduced spending.
Influential economists like Paul Krugman, have said all along that the stimulus packages have not been large enough to fill the gap in spending and that now we need a much bigger stimulus package in the neighborhood of $1 trillion more dollars if we are going to turn this economy around. If we do not get that kind of spending, we will slip into a deflationary death spiral that is very difficult to get out of. Therefore, we could end up like Japan in the 1990’s with 10 years or more of almost no growth.
Their definition of deflation is falling prices (due to lack of demand) and they see falling prices everywhere (housing prices, food prices, car prices, etc.) He doesn’t see falling computer prices over the years as detrimental or deflation however. He also does not mention how we are going to repay the loans.
Keynesian/Supply-Side ViewThe opposite position is taken by the less government economists (Keynesians and supply-side economists) who see a marginal improvement in GDP growth, which they have extrapolated into a V shaped recovery. They are worried about the coming inflation because of artificially low interest rates and high debt levels.
They see inflation (a rising consumer price index or CPI) everywhere. They think that unless the Fed raises interest rates very soon and begins to take money out of the system, we will get severe inflation within the next year to eighteen months. Interest rates should be raised to one percent higher then the nominal growth rate of GDP (growth rate before inflation.) So if the economy is growing at 3-4% as they expect, interest rates should be at 4-5% not zero.
Their definition of inflation is a rising CPI index (which is the symptom of inflation, not the cause.) The CPI index as you know is a basket of goods and services the government uses to measure price changes.
Capitalist ViewThe almost no government economists (Capitalists, Austrians, Objectivists) have a much different definition of deflation and inflation. They see deflation and inflation as it was originally defined: expansion or contraction of the money supply. Their view is that the government has been and continues to pump money into the economy (print money), which will be inflationary. However, consumers are currently over-leveraged (too much credit vs. disposable income) and must reduce spending and increase savings in order to b ring their financial lives into balance. This slowdown in spending looks like deflation (prices are being reduced by almost every store advertising.)
Therefore we are currently in a period of de-leveraging, not deflation and until the consumer starts spending again (by using or reducing his savings or expanding his credit) we will not enter an inflationary phase. But based on the money that has been added and expected to be added to the economy, we could be in for serious inflation.
Conclusion
Therefore, your current position should be focused on a de-levering economy, which will take considerable time and considerable pain. However, if the government pumps too much money into the economy (a debatable number) or credit becomes too easy again, too soon, it will be time to reposition yourself for inflation.
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