{"id":14255,"date":"2011-04-25T18:34:59","date_gmt":"2011-04-25T08:34:59","guid":{"rendered":"https:\/\/billmitchell.org\/blog\/?p=14255"},"modified":"2011-04-25T18:34:59","modified_gmt":"2011-04-25T08:34:59","slug":"vignettes-of-madness","status":"publish","type":"post","link":"https:\/\/billmitchell.org\/blog\/?p=14255","title":{"rendered":"Vignettes of madness"},"content":{"rendered":"

\t\t\t\tIt is the Easter holidays and I am not writing as much today. But there have been some stunning examples of how mad the world has become with respect to matters economic. I present three vignettes of such madness which highlight the way in which lies and outright lies are dominating the policy agendas of governments at the expense of workers and their families. It is also raining outside and getting cooler so good weather for sitting down and writing – holiday notwithstanding.
\n
\nMadness 101<\/strong><\/p>\n

The first bit of madness came last week with the news that the OECD Urges Japan to Raise Sales Tax<\/a>. I thought for a moment the OECD had got their dates mixed up and thought it was April 1 (“fools day”). But then I remembered the OECD play the fool all year round so don’t have to wait for a specific day to trigger their madness.<\/p>\n

The Wall Street Journal took a typically uncritical approach – which means in financial journalism land – take the press release from the neo-liberal organisation and repeat it without asking any questions which might allow a reader to form a degree of informed skepticism.<\/p>\n

These journalists are just mouthpieces for the conservatives.<\/p>\n

The OECD considers that Japan will suffer a significant short-term dent in its expected growth as a result of the earthquake\/tsunami but that the activity associated with the massive reconstruction effort will boost growth later 2011 and into 2012. I agree with that assessment.<\/p>\n

Please read my blog – Earthquake lies<\/a> – for more discussion on this point.<\/p>\n

The OECD estimates, however, suggest that even once real GDP growth recovers as the reconstruction begins, Japan will still experience below-trend economic activity.<\/p>\n

Notwithstanding that, the OECD now claims that the Japanese government has to now balance the needs of the reconstruction effort with what they describe as “a critical fiscal situation” (Source<\/a>). That is, the Japanese government is being bullied into cutting their deficit at a time when growth is likely to be slow, especially in private spending.<\/p>\n

The OECD Secretary General claimed (in relation to the Kobe situation) that:<\/p>\n

\nThis time, reconstruction spending will have to be combined with efforts to improve the fiscal situation …\n<\/p><\/blockquote>\n

The OECD claim that the private sector will have to “shoulder” the burden of the reconstruction – as if losing whole villages and thousands of people isn’t a “burden”.<\/p>\n

The reason? They claim that:<\/p>\n

\nIn light of the debt situation, this may need to be funded by shifting expenditures and by short-term increases in revenues, appealing to the Japanese people’s sense of solidarity … Tax reform should be spelled out and announced in fiscal year 2011, and tax increases should begin as soon as possible … A doubling in the consumption tax to 10% would be just a first step.\n<\/p><\/blockquote>\n

It is at that point you realise how distorted this sort of commentary is. Even by their own estimates private consumption growth is predicted to be significantly negative in 2011 and tepid in 2012. So a further tax impost will slow that down further.<\/p>\n

In addition, private investment geared to the domestic market will slow as well.<\/p>\n

The OECD claims that “time was running out” for the Japanese government to reduce its public debt. What exactly do they mean by that? Answer: it is left as a nebulous assertion.<\/p>\n

What could it mean?<\/p>\n

That the Japanese government faces a solvency issue? Answer: impossible – it issues the yen and can meet all debt obligations whenever.<\/p>\n

That no-one will want to buy bonds anymore? Answer: so what? The Bank of Japan will always step in if the private bond markets are saturated. What is the likelihood that the private bond market will be saturated. Highly unlikely but irrelevant anyway.<\/p>\n

That interest rates will soar? Answer: the Bank of Japan effectively controls or can control all relevant interest rates. Japan has had two decades of growing deficits with rising public debt issuance. Over that period, interest rates have been near zero and inflation hovering on either side of deflation.<\/p>\n

Japan has consistently shown that the the neo-liberal panics that public deficits and debt will “run out of time” and cause accelerating inflation and sky-rocketing interest rates are false. Japan proves that rising deficits are not inflationary and that central banks can control interest rates (keeping them near zero) indefinitely.<\/p>\n

Interestingly, the OECD noted that the Bank of Japan had kept long-term interest rates low after the disaster and claimed that they should continue to do this “through additional buying of Japanese government bonds”. At present the BOJ is a heavy buyer of Japanese government bonds in the secondary market.<\/p>\n

The reality is that they could buy them at issue (in the primary market) if instructed by the Japanese government. The private bond markets know this and this means there will be no reluctance to buy the debt.<\/p>\n

But the notion that the reconstruction requires the private sector to “pay” for the government spending is nonsensical and efforts to enforce that stupidity will just damage economic growth and impart unnecessary suffering on people who have endured deep trauma in their lives.<\/p>\n

Madness 201<\/strong><\/p>\n

Yesterday, I read a report that Deutsche Bank have some “sovereign risk index” which they mindlessly apply to all nations and make outlandish statements about which nations are about to default.<\/p>\n

I cannot make the DB report available so I direct you to the News Limited rag (our daily national newspaper) – The Australian – which carried this story about the DB report on Saturday (April 23, 2011) – US economy just a notch above Greece<\/a>. It was a syndicated article from the UK Times. It was another mindless reiteration of a media release – no critical scrutiny at all.<\/p>\n

The story goes:<\/p>\n

\nUS finances are in almost as troubled a state as the worst-hit members of the euro zone, economists say, underscoring the pressing need for Washington to reach agreement on how to reduce the deficit.<\/p>\n

A gauge of “sovereign risk” from economists at Deutsche Bank placed the United States just behind Greece, Ireland and Portugal among 14 advanced economies.<\/p>\n

The report, from economists led by Peter Hooper, warned that a failure to make substantial political progress on deficit reduction “would substantially raise the risk of a bond market crisis”.\n<\/p><\/blockquote>\n

DB = BS<\/p>\n

There is no<\/strong> sovereign risk when it comes to the United States. The EMU nations operate within a totally different monetary system in which they have surrendered their currency sovereignty and are exposed to the risk that bond markets will stop lending their governments the necessary cash to continue their deficits.<\/p>\n

The United States government can never run out of cash unless the polity stupidly determines that they will artificially restrict their capacity to spend by refusing to raise their self-imposed debt limits.<\/p>\n

The DB report claims that the risk of US default is low but that:<\/p>\n

\nReputation and reserve currency status can be lost, and failure to move US fiscal policy off its currently unsustainable path would certainly increase the risk.\n<\/p><\/blockquote>\n

The journalist should have questioned the link between solvency risk and reserve currency status. There is no link. The US government has a low risk of default not because it is a widely used currency around the world.<\/p>\n

The reason is has no<\/strong> financial risk is because it is a sovereign issuer of the US. Just like Japan, the UK, Australia, Canada and almost every country – right down to the smallest most unstable nation. None of them have any financial risk of reaching a point where their governments can no longer honour debts denominated in their own currency.<\/p>\n

The reserve currency status or otherwise has nothing to do with it. Whenever I read that sort of conclusion – as in the DB report – I conclude the authors do not understand the characteristics of the monetary systems that they are claiming to be experts about.<\/p>\n

Madness 301<\/strong><\/p>\n

The Congressional Budget Office has just released (April, 2011) their annual assessment of the impact of the automatic stabilisers on the US government budget balance – The Effects of Automatic Stabilizers on the Federal Budget<\/a>. You can find the accompanying data set HERE<\/a>.<\/p>\n

They provide a detailed account of how they calculate the impacts of the automatic stabilisers – that is, decompose the budget outcome into structural and cyclical components. They also provide annual and quarterly data.<\/p>\n

I was critical of their methodology in this blog – Structural deficits and automatic stabilisers<\/a>. You should also read this blog – Structural deficits – the great con job!<\/a> – where I discuss general problems involved in computing structural deficits.<\/p>\n

This blog – The dreaded NAIRU is still about!<\/a> – is also related.<\/p>\n

In effect, their methodology leads them to understate the degree of excess capacity (that is, underestimate the GDP gap). But things are bad enough if we just take their downwardly biased estimates at face value.<\/p>\n

The GDP gap equals actual (or projected) GDP minus potential GDP and the following graph shows the GDP gap as a percentage of GDP (left-hand axis – blue line).<\/p>\n

I added the unemployment rate from the US Bureau of Labor Statistics<\/a> (right-hand axis – red line) to demonstrate the close inverse relationship between movements in real GDP away from potential and the dynamics of the unemployment rate – just in case any of you entertain notions that the variations in the unemployment rate are driven by changing preferences of individuals (the neo-liberal story).<\/p>\n

The mirror image relationship is compelling. What does it suggest? The basic – the first rule – that you learn in macroeconomics is that – spending generates income and output. Cut spending and you cut output.<\/p>\n

In the short-term, cutting output increases the real GDP gap. If that gap rises persistently, then eventually the potential output level also falls as investment is curtailed. Over this entire period, unemployment worsens or becomes entrenched at high levels. The costs of maintaining output gaps of this size – the daily costs of lost income – are huge.<\/p>\n

No legislature in their right minds would give a second’s thought to cutting spending with such an output gap. That is Madness 301.<\/p>\n

Not only will they worsen the situation in the interim but they will also be imposing lifetime costs on the youth who are either jobless as a consequence of the lack of opportunities or whose parents are in the same position.<\/p>\n

\"\"<\/a><\/p>\n

<\/div>\n

Conclusion<\/strong><\/p>\n

Short blog today – happy holiday if you are in a position to enjoy it.<\/p>\n

I also recognise all the soldiers who died on both sides during the Anzac invasion. Today is not only Easter Monday but also Anzac Day<\/a>. Once you learn more about it you realise how poorly managed our front-line troops were by the pompous and incompetent British generals who were just exerting their colonial power.<\/p>\n

Note on Saturday Quiz<\/strong><\/p>\n

I note that some people are making claims about the lack of economic content in the Saturday Quiz and that they are bored with it.<\/p>\n

First, the questions all test economic understanding. Words are important however and the use of terms is important. Part of the challenge I try to set for your enjoyment relates to being concise about terminology.<\/p>\n

Second, the quiz is purely voluntary and provided free of charge. If you don’t like it – it is quite simple – don’t do it! Better that way than clogging up the comments section with statements about being bored etc.<\/p>\n

That is enough for today!\t\t<\/p>\n","protected":false},"excerpt":{"rendered":"

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