Tag Archives: Recession

It Pays to Save

The UK was initially criticized for its austerity measures, employed at the height of the economic crisis that has slowly subsided now around the world. But some year’s later the UK was then lauded for being prescient. At the time, its economic growth was the fastest of any advanced economy. Things of course moved on – Brexit followed and even though the cloud did not fall in, the countries economic condition has slipped from front of the class to back. But that misses the point of this blog. The UK adopted austerity since that was the right thing to do – to reign in spending and support the natural economic rebalancing of price and supply. Other countries, when faced with economic challenges such as a slow-down or recession reach for the public sector check book.

This approach is known as Keynesian demand-management. The idea is simple, if not well understood as a simple idea from the practices namesake. When there is a shortfall in demand in the economy, the public sector increases spending to help fill the gap. Public spending, like any spending, creates knock-on effects whereby a dollar spent creates more than a dollar in ongoing spending. This simple idea became common thinking and the pain of the 1970s and 1980s were required for governments to learn that this approach has issues. First, Keynes had suggested that such spending should be temporary – since private sector spending was more efficient. However, even though Keynes noted this, it was left off the memo and his name became associated with “spend”, not “spend for a short while only”. As a result, governments spending increases were rarely ever temporary.

Secondly, and as we have seen in spades since the recent period of near-zero interest rates and QE, public sector spending crowds out private sector spending. The entire bond market has been distorted due to massive government intervention and spending. The whole pricing process has been disrupted. This is the same with the economy. As demand-management kicks in it forces normal public sector behavior to change. And so the economy is knocked off kilter even further.

So it was interesting to read some new material from the IMF that demonstrates that austerity is not the bad-boy all the politicians make out. The interesting article is called, Climbing out of Debt, and was published in the March edition of the IMF’s Finance and Development magazine. The actual data shows that countries that exploited tax-based austerity, versus reduced spending austerity, suffered deeper recessions. This is a kind of “devil you know” point in that first one has to prefer austerity over increased spending. Then, once austerity is accepted, one has to make a choice between increasing taxes (keeping public spending as-is) or reduced public spending. That is the key. Well worth reading to defend against the nay-sayers.


Freedom or Socialism- Which You Want? ¬†Guess which you Have?

There was an interesting article in today’s US print edition of the Wall Street Journal. It was titled, “New Labor Law Curbs Small Forms’ Plans” and it explains how new rules introduced by the National Labor Relations Board are causing small business to curtail growth plans. These are the very growth plans this country needs in order to drive fair paying, not low paying, salaries and private (as opposed to public) sector growth. So what are the new rules?

The National Labor Relations Board referees workplace disputes and oversees union-organizing elections. The new rules are designed to hold businesses more accountable for labor law violations and to help workers unionize more easily.

So here is he choice we have. We can: 

  • Increase the cost and administration burden on small companies through extra administration to comply with additional red tape and bureaucracy on a system already over burdened, 
  • Seek to create tension between workers and owners, given workers are already protected and can get another job if they want to

The result of the above rules will increase costs and thus reduce the opportunities for growth and new hiring, and might even lead to contraction of jobs and growth.

Or we can avoid such polices and instead remove red tape or streamline current rules to help reduce costs. This will create more profits, avoid patronizing unions, and seem to encourage fair with-profits reward schemes for all employees, if anything.

But this story is typical of the battle playing out in many Western economies. Though the press suggests we are operating under capitalism and that capitalism inset working, this is not capitalism.  We are not working in a free society; we are under the cudgel of heavy, ongoing, pernicious government intervention. These government agencies need to write rules to justify their existence; new rules mean new hires to them. And they generate no wealth for anyone, other than the government elite. 

I wish we had a candidate for November that stood up for smaller government. A leader that would vow to leave office after four years with a smaller US federal budget than when they began office. Now that would lead to the change we need, and return us to the same freedom this country was built on.  

Fed Watch: Taking a Long-term, Global View, Suggests No Interest Rate Rise for a While

The IMF’s annual fiscal monitor is as full of good and albeit hapless ideas as ever. It’s gets off to a poor start. The IMF has been calling (correctly) on large economies to increase debt and spend such money on growth generating projects. This could include infrastructure spending or perhaps tax rebates or write-offs for increased innovation or capital investment. The executive summary reports that government debt has been increasing and now approaches pre-crisis levels- yet money (debt) has not been used in the way the IMF suggested, nor has it been coordinated by regions. The money has been squandered on political issues and wasted away. Consequently growth remains lacking and yet risks are now greater and growing. IMF scores a B+ for ideas, D- for coordination. And leading nations a strait F for fail.

More alarming news in this weekends US print edition of the Financial Times is in an article titled, Chinese shadow lending evades regulation and more critically, a Comment by George Magnus, associate at Oxford University’s Chine Centre and senior economic advisor at UBS, titled China’s debt reckoning cannot be deferred indefinitely. This last article calls out the known risks: the share of total credit in the economy is approaching 260 per cent of GDP. It seems it is on track to bust past 300 per cent by 2020. Note here that the US is in a simile boat. Ignoring all the complexities in the data, its reliability and quality, it seems China has so little wiggle room to cope with any economic pressure and also little head room to sustain its credit binge.

The first article suggests that even though official credit might be at straining point, there is much more credit being created outside of the official governance. Given the reportedly growing amount of bad loans, all this boasts badly for China, and so the global economy. If China were to sneeze, we all would catch a severe cold. Everyone else that matters is already at the doctors office waiting treatment.

Finally I read John Auther’s The Long View in the US print edition of the Financial Times. It was depressing reading. He calls out the four reasons why the good times (yes, these are ‘good’ times) will not continue. Of course these ‘good times’ relate to the equity market, which has been the main beneficiary of central bankers quantitative easing experiment.
The flour reasons are:

  1. Inflation has been tamed – can it ever be tamed again?
  2. Interest rates have fallen – they have to go up soon
  3. The economy has grown – few new triggers remain and demographic drag will increase 
  4. Corporate profitability rose – it’s leaked and in its way down

The article draws from McKinsey Global Institute and new research. All told its more data suggesting we are in the second half of a natural down cycle whose rise has been flattened by central bank policy and the lack of political policy agreement. We are now headed for what should be a natural slow down with no gas in the tank and no cash in the wallet and an already overloaded credit card. Hang in folks, it’s gonna be a bumpy ride.

Odds are that US Interest Rates will be back to Zero within 6 months

So it seems the tea leaves in the empty tea cups at the Fed’s recent planning meetings point to the first interest rate hike in 9 years.  The pundits are saying the Fed will raise rates at their regularly scheduled meeting Wednesday this week.  Something like 70-90% of polled economist’s seem to agree.  But hang on a tick – there are a few data points worth calling out:

  • Little has changed globally & economically since September, when the Fed decided against a raise that had been widely expeceted just a month before; Agreed, US economic data in terms of employment has improved slightly and job growth (albeit low wage) is still improving, but…
  • Inflation is stubbonly low (commodity prices globally remain depressed and showing little sign recovering).
  • Wage growth is weak, with only initial signs of a slight uptick recently.
  • The dollar is already quite strong and raising rates will only make it stronger, attracting funds from overseas, thus making US exports more expensive, and imports cheaper (worsening the trade balance).
  • The sucking in of foreign funds to dollars will draw investment from emerging markets that will suffer as a result.  This will further hamper global balancing and growth.
  • The actual business cycle in the US seems to be past its natural peak and business profits are falling in more than half of the economy with firms everywhere reporting contraction.  

On any other day and planet, given these conditions, we would not expect to raise rates.  In fact, in “Central Bankers Worry Rate Increase Will Come Undone” (see today’s US print edition of the Wall Street Journal), it seems that a majority of economists polled for the article worry that the Fed will be forced to undo the increase and return to zero:  “[M]ore than half said it was somewhat or very likely the Fed’s benchmark federal-funds rate would be back to zero within five years”.  Admitedly that’s a long time away and does not hint at panic, and probably allows for the backend of the business cycle to work its way through.  But I think, based on the global situation, the market is too sensitive and volvatile.  

My guess is that though we need to raise rates to move the economy toward normalization, the US cannot move in isolation and without coordinating similar moves in Europe or China.  Since those regions are diverging, the US move will just put more stress on what is already a very stressed system.  Some few weeks ago I was calling for a raise in US rates by the middle of 2016.  I still think that would be the right time to align with other large economic regions, assuming they show signs of recovery – and even that is not firm.  So all told, it will be a fun week.  It is hard to call if the market will rally or fall in response to Wednesday’s meeting.  Maybe the Fed hopes the holiday season will give the marrkets time to adapt and consume the increase and avoid any frantic movements.  Whatever happens I think it will still be a volatile week.  Hang on.

Dark Economic Storm Clouds are Gathering

I am sitting here at Gartner’s IT/Symposium 2015 in Orlando and I am having fun talking with clients and organizations about how they can better leverage information in their business to improve business outcomes.  It’s what I do for a living – help organization improve and get ahead of the rest.  However, as I do this, I have noticed some harrowing signs that concern me regatding our economy.  They are worring not for their own sake but for the fact that our leaders’ response to this kind of news has been, for the  most part, innefective and down right market distorting.  We might get more bad medicine (i.e. QE) soon.  Here is a quick rundown of a couple of storm clouds:

Tuesday October 6th: Once the biggest buyer, China now dumping US government debt.  This is not good news for several reasons.  This entire act is tied to China’s efforts to push the yuan into reserve currency status.  China has been orchestrating multiple activites to push this idea.  Only yesterday I noticed that the yuan had displaced the yen, for the first time, as the fourth most used currency for cross border trade settlement.  As China and other nations sell dollar denominated debt, the ability for the US to perpetuate its excessive debt regime diminishes, which will put pressure on interest rates, even if and when the Fed does not want to increase the.  I blogged on this domino effect before.
Wednesday October 7th: Recession buzz is heating up on Wall Street.  News that the gap between realized global GDP and the potental global GDP is widening, and this suggests growing potential for a recession in 2016.  Couple to this the IMF’s re-forecasting of growth slowing down, this looks like a very dark cloud indeed.

I hope the sun comes out soon.

The Issue with Zero Interest Rates

On August 3rd I predicted that the Fed would keep its bank base rate zero at it’s Setpember meeting that ended yesterday (see Which way is up? US interest rates and the case for 2016).  I had suggested that by taking a broader, global view, the Fed would override the pressure for a rate rise that is more likely if one took a US domestic view.  So that is that.  Next up is the question of when will the Fed increase rates?  I suggested 2016.  I am more confident that it will be early 2016 and more likely be February or March. 

Even though most economists are now sighing and predicting that market stability will improve, I am not buying that.  Volatilty for me is more a factor of the amount of QE that has pumped billions of dollars, euros, yuan and yen into the stock markets around the world.  I think volatilty is driven more by the nervous trigger happy investor class and new algorithms developed in the last three years to take advantage of QE.  I think any reported unforecasted change in expected GDP, employment or sentimenet from China or the US, and in some cases from Europe, will trigger big market swings.

Even though the Fed seemed to follow the broad consensus for not raising rates, to protect the global economy, the reality is that zero interest rates are hugely distorting the normal workings of the market.  This is nicely captured in an opinion piece in today’s US print edition of the Wall Street Journal  (see The Federal Reserve Pulls a Lucy).  It is written by David Malpass, president of Encima Global LLC.  He served as deputy assistant Treasury secretary in the Reagan administration.  The perfect quote from the article is this:

“The theory of zero rates and giant Fed bondholdings [QE] works for government, big bond issuers and the upper crust [investor class], but it hurts lenders, savers and the broader economy.”

Thus the Fed remains between a rock and a hard place.  They know they need to “normalize” rates but any effort to do so runs the risk of destabilizing the more complex economic system they have themselves help create. Efforts to protect the economy from recessions of any kind have created a system that is now so brittle, when a recession does hit, it will be nasty.  If a global slowdown does take place now, the Fed has virtually no amunition to drive growth.  

In fact, one wonders if the Federal Researve should wrest control of fiscal policy from the US government.  If the government cannot solve problems over tax and borrowing, and that failure makes execution of moneatary policy impossible, why not manage the two together?  Before central banks were indpendent politics and parties in office set fiscal and monetary policy.  Due to the resulting boom and bust cycle associated with political swings that led to different models for how economies worked, it was thought that by making monetary policy independent we could eliminate the boom and bust cycle.  We have not – now we have much larger boom and busts – sometimes over longer periods of time.  So should we return monetary policy to politics, in order to return to smaller boom/busts, or should we have the Fed manage the entire economy?  

Clearly no politician will give up the purse strings.  What else will they do eery day – focus on citizen needs and improve laws?  It will kill the political class – which on reflection does not sound like a bad idea.  The alternative is for the Fed to get out of the way.  This policy is also frightening for most folks.  Worse, should one state do this it would likely struggle for a short period while other states continue their managed economic cycles.  Only when related and trading nations all set their Fed’s free would markets stabilize and return to their “natural” state quickly.

As things go, the managed state we find ourselves in will persist – with the same mediocre outcomes we have been experiences.  The only hope is that the invisible hand will pull through, of its own accord, and in spite of Fed and government policy.  Oh well.

Rand Paul: The Fed Should Have Raised Rates Already – What’s all the Fuss About?

You have to hand it to Rand Paul, a US senator from Kentucky and a repulican presidential candidate.  While on the world’s stage and under the spotlight, he co-pens an opinion piece in today’s print edition of the Wall Street Journal (See If Only the Fed Would Get Out of the Way) that rings consistent with his father’s past desire to “end the Fed”.  The article is well written and calmly explains why centralized government control of interest rates causes distortions in what otherwise would be a self-correcting system.  The key point made by Mr. Paul and his co-author Mark Spitznagel, chief investment officer at Universa Investments and economic advisor to the Paul campaign, is this: an economy should go through cycles of growth and contraction – but by trying to limit the contraction part and smooth out average growth, or prevent recessions, the Fed creates a false situation that results in cycles that actually exceed the total of the natrual, or smaller cycles.  In other words, we should permit small recessions – by seeking to avoid these we create an economy that is more easily sunk with massive crashed.

The article gives a great analogy with forest fires.  A zero-tolerance policy was adopted bu the US Forest Service 100 years ago – all fires were to be prevented, or put out as fast as possible.  For a while it looked like a good policy.  But in 1988 a forest fire proved unstoppable and it took out 30 times more acreage of any previously recorded fire.  Thus the zero-tolerance policy ended up making the whole system (the forest) a tinder box and so much more fragile.  Thus the Fed drops rates at ever sign of economic trouble in order to stabilize growth, inflation and employment.  It works or seems too, short term.  Long term it creates a much more fragile system that yields much greater and painful busts.  

In 2000 markets started to fall as the dot.com bubble burst.  The Fed dropped rates in order to create a soft landing.  These low interest rates created the foundation for what became our more recent financial crisis triggered from the housing bubble.  So a series of medium sized busts were finally replaced with an unstoppable massive bust.  And here we are.

I have read Ron Paul’s persuasive book, End the Fed.  It is a short book but well written and explains the history of the Fed and gives you more details on the economic model the Federal Reserve system seeks to impress on the economy, but in laymen’s terms.  It is well worth reading.  Mr. Paul’s WSJ article would seem the son has his father’s passion for Fed restraint, though it has not yet come out on stage during any debates.  I wonder if it will this evening?  

For a really interesting understanding of the founding of the Fed, you have to watch this video of G. Edward Griffin: The Quigley Formula.  It is jaw-droppingly good.  And though Mr. Griffin is referred to by some as a conspiracy theorist, the underlaying facts he calls on – such as who attended the meeting (at Jekyll Island) where the Federal Reserve was first conceived, is frightenning.  It beggars belief.  I have since purchased “The Creature of Jekyll Island” but have yet to get to it.  I am looking forward to the debate this evening.