Tag Archives: Bretton Woods 2.0

China’s Debt Binge Headed for the Rocks – and the Global Economy with it

Pictures are more powerful than words, in many cases.  The Economist this week had a graph that presented the cycle of private non-financial sector credit as a % of GDP for a number of countries.  The chart was in the article, Free Exchange: Red Ink Rising – China cannot escape the economic reckoning that a debt binge brings.  The article, and chart, highlight how for countries such as Japan, Thailand (and the Asian financial crisis of the late 1990s), US (sub-prime crisis of 2007) and Spain, all things that go up (such as debt) have to come down.  The chart worryingly shows how China’s debt binge has been in the making for a long time, and has accelerated since 2008.  The real issue is when and how to unwind the debt without unhinging the world economy and killing off growth.  Few countries have been able to do so at such high levels of debt – that’s the problem.

And as if that was not enough, last Wednesday’s US print edition of the Financial Times carried an article that again highlighted the IMF’s misplaced clarion calls for coordination.  The article, IMF calls for global action to lift demand as China exports fall, reports on the IMF’s number 2 (David Lipton) in a speech in which he called on global leaders to increase spending and investment in parts of their economies that would create growth.  This is of course a classic Keynsian drive for government spending, at a time when debt remains significant.  The IMF continues to ask the right question – we do need coordinated action.  But the IMF continues to conclude the wrong response – we don’t need more governance spending, at least overall.  We might leverage targeted spending in some Infrastructure areas.  But we need a lot more coordination in policy change and that takes time.  If the US elects an establishment favorite in its national elections this November, that country will not make the changes needed.  If Trump were to be elected, and the republicans stay in control of the House and Senate, there will be 2 or 3 years of the kind of disruption that would clear the house of cobwebs and overly complex tax and business and private regulation.  And large chunks of non-productive government spending should be cut back, leaving funds spare for real effective infrastructure spending.  

But what the IMF should be doing is helping the leading nations of the world cope with financial volatility.  It should require leading central bankers to form up and create a new currency exchange agreement to help manage the dynamics that are killing global trade and driving the beggar-the-neighbor devlations that are hiding under the rune of negative interest rates, and sometimes not hiding in terms of currency manipulation.   We don’t need fixed exchange rates – we need managed exchange rates – for a period that allows normal, private sector growth to return.  We need a new Bretton Woods agreement.  We need a new Plazza Accord.  We need the IMF to do it’s job, not shirk its responsibility and hand off that impossible task to individual governments.

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Preserving Our Future Wealth: Road Map to Recovery

Looking forward from here is a frightening thought. Central banks are stumbling along, inching forward or back, one decision at a time and often less in concert and more at variance with each other. In effect we have 5 sparing players against each other in a wrestling tournament, when we actually need a 5-man wrestling team.
Our politicians are not much better. Policy after policy, lobby group after lobby group, and the #RomeWillFall syndrome is now fully set in. Our society has created enough wealth, enough leisure time, that we can now spend our entire working and non working lives regulating and arguing over ever aspect of freedom, non freedom, pseudo freedom and everyone else’s view of freedom. We even have time to play with our own social structure. Such indulgences created the environment for human selfishness to thrive and presto, our financial crisis was born. Poor people who should not have gotten loans they could not afford did. In the maddening rush of the mortgage boom we got too clever for ourselves with understanding debt and risk. It was selfishness all round but it was political policy that put it all in train.

As Walter Pidgeon (Morbius) says in the 1950s ‘Forbidden Planet’, my favorite classic sci-fi movie, “My poor Krell. After a millions years of shining sanity, they could hardly have understood what power was destroying them.”

There are forces that we have unleashed on our global economy that are nearly out of our control.  As a result our goals for the future and our ability to get there are being severely curtailed. The path we are on is creating a vortex that is becoming self-fulfilling and hard to escape. If we do not change direction soon, we won’t be able to, until and after a very dark and painful period.

  • Inequality, the source of extreme political turbulence, is at an all time high and shows no sign of decreasing. In fact political, fiscal, and social policy as well as independent monetary policy, is reinforcing the pattern put in place, not reducing it. QE has actually accentuated the ability for the rich to become even richer, while the middle class treads water. As the income gap widens more policy is called forthe in the name of redistribution of the contracting pie that is the private sector. 
  • Virtual stagflation is upon us. Each policy taken, it matters not in which region of the world, pushes prices of commodities that drive the start of global supply chains, further and further down. However, price increases that are observed in the service industries are not being controlled, let alone monitored by, our political leaders. And other prices, such as equities, are out of control.  
  • Productivity and growth. Political policy, already tied up in knots, is not helping. The wrong policies are deployed. We make it harder for small companies to start-up. We make it harder for start-ups to grow and compete. We fiddle with related polices related to eduction since centralized government knows best. The problem is accentuated. The left is in ascendency due to the inequality issues, and they get to hold capital investment and new start-up policy hostage as they fiddle with the trappings of office as the barbarians approach.
  • Signals. Governments and monetary policy agencies use signals to set policy. But the signals are confusing. The very way in which we measure inflation is wrong. We need to track services and important consumer goods, the infamous basket of goods, separately. The oil bonanza is supposed to have created more consumer demand in the US. Did you increase your spending? I did not. Salaries are pretty much flat and other products, non-important and services especially, have risen. Sometimes by as much as 10%. Where does this show up in the Fed dashboard?  
  • Low interest rates have led to unpredictable behavior of private sector treasuries to take out loans to buy shares, and fund M&A, and not increase capital investment. The M&A has created a double whammy: as interest rates increase debt servicing levels increase, just at the time that profits fall. And the M&A embarked on (record levels) is not the kind of M&A that is productive. It is M&A funded on the predatory behavior encouraged with cheap money, not competitive performance. Thus the benefits of the M&A are not going to be as long running or sustaining as they should be.  

Thus the stage is set for a weakening economy to become a disaster that will take years to recover from. Here are some ideas to be considers as means to shock the system back to life.

Coordinated, global-wide and simultaneous large interest rate hike.  

Negative interest rates are distorting many aspects of our global economy. Firms are taking cheap loans out simply to support M&A and share buy-backs. These are not contributing to growth at all. Capital investment that would contribute to growth remains muted. If all regions increased their interest rates simultaneously by, say, 5 percentage points, rational and predictable behavior might be pushed back into the debt markets and private treasure offices around the globe. We may need 7%. Some regions already have higher rates but if those regions with low rates raise theirs by the same ratio, the differential should be maintained.

Global exchange rate alignment.

A Bretton 2.0 agreement is needed to hold currency exchange at a stable rate. Volatility is at extreme levels and much of this is not rational but more knee jerk reaction to small data points. Central banks and currency blocks (US dollar, yuan, euro, yen, sterling, and rupee as the anchors) need to publish agreed currency bands outside of which will attract agreed market operations or controlled and public realignment, should long term trends require it. This will go someway to reduce volatility.

Immediate moratorium on QE 

We have to eliminate the central bank’s from the market. We have to cease QE. More than just ceasing more QE we need to reduce the easing that remains in the market. We need an explicit goal to sell off assets acquired by central banks within the next 3 years. With more natural interest rates and much less volatility in the currency markets, there will be much less need to print money that continues to drive prices down and inequality up. We need to publish the plan to sell the assets on the central bank balance sheets. This will depress the stock market. This is desirous. The super rich need to get a little less rich. The markets will quickly look for normal drivers of growth, such as profitable companies, the old fashioned way. And this all leads us to the most difficult of steps.

Something Rotten in the State of Central Banking

The real ‘fix’ is to take the responsibility of fiscal and other debt creating polices out from under the political arm and move it under the central bank’s responsibility. This is not going to happen since it denudes the politicians of their chance to do things. Though that is a good idea, they won’t vote for their own castration. It would also put a heavy burden on the central banks, who will quickly become more politicized than they are.

Since this won’t happen, the fall back position will also not be popular but is required: political overall and realignment: 

  1. We have to have a liberal workforce that is responsive to wage changes. Since wages rarely go down, we need to increase the gap between wages for work and subsidies. We have to curtail subsidies. This “nation of takers” has to become a nation of workers.
  2. We need to relax regulations that have grown out of all proportion to the unmeasurable good they claim to fulfill. This includes a moratorium on the efforts to put the climate firsts. If we don’t get out this economic hole, the climate will be the last of our worries.
  3. We need to accept that university is not for everyone, though everyone should have the same opportunity to get there. We should defund student loans and move that to the private sector; and only offer public funds that those that cannot afford it.
  4. We need a fairer and simpler tax code. We need to eliminate all focus of dual and double taxation. We need in the US a globally competitive personal and corporate tax code. 

The long, unfinished shopping list is the hardest step, but the most likely to create a sustained period of renewed growth that we need before demographics swallow up any chance of recovery. If we only execute the other items, and not this shopping list, we will only temporarily put off financial ruin.

Christine Lagarde, IMF head, calls for Upgrade to Policy – falls short of what is really needed

If you read between the lines of today’s speech from Christine Lagarde, IMF head, you can get both a good sense of the size of challenge we face but also a sneak peak into the panic perhaps hiding in between her words.  The problems our global economy faces are global – complex – and never before assembled.  No one country has the answers and no one country with its attendant policy changes can solve the global economic challenges we face.  

The speech is excellent as it touches on and highlights all the major challenges we face.  This includes the Chinese economic slow down, slow growth in US and Europe, debt, productivity, bubbles, inflation (or lack thereof) and commodity prices, and more.  This is a great snap-shot of the problems we face.  Where her advice falls down is in the action department.  She talks a good talk about policy changes to increase demand, and of course supply side policies to free up the labor market.  There is even a call to develop and align fiscal policy globally.  This is a new thread but one that has little chance of being progressed – central banks have no control over fiscal policy and politicians will not give this up any time soon.  It’s a pipe dream even though it’s a great idea and one that needs serious consideration.

But there is no actual demand from Ms Lagarde for global monetary policy collaboration.  This is the line that Ms Lagarde is not able, or willing, to cross.  Why?  Does she not perceive the need?  Does she think that the Fed, operating at its own rate, will magically align with the Chinese PBOC?  And what about Japan, ECB and the U.K.?  I feel bad since my suggestion for a Bretton Woods 2.0 seems so obvious yet I hear virtually nothing about it in the press or from the lips of the IMF.  I even thought to write to Christine Lagarde with this open letter.  I will try to get Ms Lagarde attention.  Without global policy coordination there is little chance we can solve our global problems.

ECB Next Week Could Signal More Quantitative Easing in a “Race to the Bottom” Move

A small but worrying story was hidden away at the bottom of page 20 in the Companies and Market section of today’s US print edition of the Financial Times. The title of the article is, “Euro falls after Nowotny inflation comments“. The article highlights the fractured nature, or shall we say complete lack, of global coordination of monetary policy. Nowotny is on the ECB governing council.
It seems that the falling euro has come to a grinding halt, due to the fact that the US Federal Reserve is now signaling a delay in raising short term interest rates. As the Fed, focused on data-ready signals from the US economy, delays rates, so the dollar weakens against other currencies – including the euro. If rates were to raise, the dollar would strengthen. As the dollar weakens, the euro’s fall has slowed, and has even reversed. Logic tells us that as a currency strengthens against its trading partners, exports get more expensive and will thus slow – which in turn will slow the Euro-zone economy.   

The result is an ongoing beggar-thy-neighbor behavior we keep seeing around the world. Somewhere between the US, China, Europe and Japan, we have a distinct lack of mutually reinforcing policy to get us all out of the trap we are in. The article suggests that the ECB may signal an increase in quantitative easing (QE) to help weaken the euro (against the dollar) to promote exports. This would have the consequences of pushing the Fed to (again) keep rates low, or in the worse case re-start QE themselves if the euro move was too successful.  
Our policy leaders are not working together. They are focused on domestic policy (good work, chaps) while being continually buttressed against the response from each others actions. If ever there was a time for a new global collaboration (think Bretton Woods 2.0) then now is the time. The “race to the bottom” we are in is killing us.