Author Archive for Warren Mosler

Mosler: Time to Buy Equities

By Warren Mosler, Mosler Economics

I’m thinking it’s about that time for portfolio managers to buy stocks and go play golf for a few years, with the following very caveats:

1. A serious spike in crude oil/gasoline prices that undermines consumption
2. The euro zone could break down socially under the stress of continued austerity
3. Congress opting for ‘meaningful’ proactive deficit reduction

But apart from that it looks like relatively clear sailing to me. The Republicans are now softening on revenue increases to get past the fiscal cliff. And in any case the fiscal cliff may already be up to 50% discounted, as business has slowed due to delayed contracts, etc. & with top line growth still remaining modestly positive as the cyclical housing ‘recovery’ begins its multi-year upward grind, providing a powerful ‘borrowing to spend’ force for growth. I call it a drop in ‘savings desires’ as borrowing is in fact ‘negative savings’. This is fundamentally supported by continuing federal deficit spending that, while down from the peak, is still looking more than high enough to support a growing credit structure.

And the 4 years of ‘larger than ever’ federal deficits have added exactly (to the penny) that much in dollar net financial assets to the global economy, with much of that being added here domestically. This is evidenced by the full recoveries, and then some, of macro debt service ratios of all types. In short, ‘savings’ has been, for all practical purposes, more than sufficiently restored for a ‘normal’ recovery. This kind of underlying strength will quickly cause the Fed to re-evaluate policy as unemployment drops towards 7%, leading to a ‘normalization’ of policy, which means a fed funds rate at a ‘normal’ premium over ‘inflation’ for a ‘neutral monetary policy.’ In fact, as this happens, the higher rates from the Fed further support the expansion via the interest income channels.

The output gap is wide enough for this to go on for a long time without excess demand issues, again with the caveat of crude oil. Growth has already caused the federal deficit to come in lower than expected, which is helping put off proactive deficit reduction efforts. Yes, eventually, the automatic fiscal stabilizers will bring the deficit down too far for it to support the credit structure, and serve to end the cycle. But this is WAY down the road.

The first Obamaboom came from the ‘stimulus’ which wasn’t nothing, but was far too weak to remove the sudden drag on demand from the private sector credit contraction. The ‘crime against humanity’ was not implementing the likes of my proposed ‘payroll tax holiday’ in mid 2008 to support demand at full employment levels at that time. Instead, the govt allowed demand to collapse/output gap to widen. This did not have to happen. It was a total failure of govt.

Also, timing is also important, so mind the technicals!


By Warren Mosler, Mosler Economics

  • Austerity everywhere keeps domestic demand in check and export channels muted
  • Non govt credit expansion pretty much stone cold dead in the US and Europe
  • Rising oil energy prices subduing global aggregate demand
  • US federal deficit just about enough to muddle through with modest GDP growth
  • Rest of world public deficits also insufficient to close output gaps, including China which has calmed down considerably
  • Zero rate policies/QE/etc. in the US, Japan, and Europe doing their thing to keep aggregate demand down and inflation low as monetary authorities continue to get that causation backwards
  • All good for stocks and shareholders, not good for most people trying to work for a living
  • Europe still in slow motion train wreck mode, with psi bond tax risk keeping investors at bay and ECB waiting for things to get bad enough before intervening

So still looking to me like a case of:

‘Because we fear becoming the next Greece, we continue to turn ourselves into the next Japan’

The only way out at this point is a private sector credit expansion, which, in the US, traditionally comes from housing, but doesn’t seem to be happening this time. Past cycles have seen it come from the sub prime expansion phase, the .com/y2k boom, the S&L expansion phase, and the emerging market lending boom.

But this time we’re being more careful of ‘bubbles’ (just like Japan has done for the last two decades). So I don’t see much hope there.

Still watching for the euro bond tax idea to surface, which I see as the immediate possibility of systemic risk, but no real sign yet.


By Warren Mosler, Mosler Economics

When it comes to central bank (CB) liquidity operations, as previously discussed, it’s about price – interest rates – and not quantities of funds. In other words, the LTRO is an ECB tool that assists in setting the term structure of euro interest rates. It helps the ECB set the term cost of funds for its banking system, with that cost being passed through to the economy on a risk adjusted basis, with the banking system continuing to price risk.

So what does locking in their funds via LTRO do for most banks? Not much. Helps keep interest rate risk off the table, but they’ve always had other ways of doing that. It takes away some liquidity risk, but not much, as the banks haven’t been euro liquidity constrained. And banks still have the same constraints due to capital and associated risks.

To it’s credit, the ECB has been pretty good on the liquidity front all along. I’d give it an A grade for liquidity vs the Fed where I’d give a D grade for liquidity. Back in 2008 the ECB was quick to provide unlimited euro liquidity to its member banks, while the Fed dragged its feet for months before expanding its programs sufficiently to ensure its member banks dollar liquidity. And the FDIC did the unthinkable, closing WAMU for liquidity rather than for capital and asset reasons.

But while liquidity is a necessary condition for banking and the economy under current institutional arrangements, and while aggregate demand would further retreat if the CB failed to support bank liquidity, liquidity provision per se doesn’t add to aggregate demand. What’s needed to restore output and employment is an increase in net spending, either public or private. And that choice is more political than economic. Public sector spending can be increased by simply budgeting and spending. Private sector spending can be supported by cutting taxes to enhance income and/or somehow providing for the expansion of private sector debt.

Unfortunately current euro zone institutional structure is working against both of these channels to increased aggregate demand, as previously discussed. And even in the US, where both channels are, operationally, wide open, it looks like FICA taxes are going to be allowed to rise at year-end and work against aggregate demand, when the ‘right’ answer is to suspend it entirely.

Addendum - The initial rate on the 3 year LTRO was reported to be ‘fixed’ at 1%, but turns out it adjusts with the policy rate and will be an average of the policy rate over the three year term. So it doesn’t fix rates for the banks, it just ensures funding at the policy rate. which makes sense, as the bank’s cost of funds is the policy instrument of the ECB.

Also interesting is how in the case of bank defaults the member nations guarantee the bank deposits. But those member nations get their funding from bond sales. And with the weaker ones that means bond sales to the ECB. So in that sense, the ECB is backing bank deposits, which means when it provides liquidity and takes collateral, should the bank subsequently realize losses, causing the ECB to realize losses on the funds provided to the bank for liquidity, the member nation would then sell bonds to the ECB to get the funds to pay for the loans it got from the ECB.

Again, it all comes down to the ECB writing the check. And it all works from a solvency point of view when the ECB writes the check. And the ECB writing the check introduces a serious moral hazard issue. Hence the (over) emphasis on austerity.


By Warren Mosler, Mosler Economics

The Saudis are the only producer with excess capacity, which puts them in the position of swing producer. They post prices and then let their refiners buy as much as they want at their posted prices. They have no choice but to be price setter, but they also don’t want anyone to know they are simply setting prices, so they talk around it and have obviously done a good pr job in that regard.

So after production spiked due to lost Libyan output, production now seems be falling back to prior level as Libya comes back online.  There are other things affecting supply and demand as well, also altering Saudi production accordingly. The Saudis lose control of price on the upside only when they don’t have sufficient productive capacity to meet demand. And they lose control on the downside when they can’t cut sufficiently to address a fall in net demand.

Looks to me like they will remain in that catbird seat for quite a while.  And if they keep prices relatively stable there will not likely be a 70’s style global inflation problem.


By Warren Mosler, Mosler Economics

Best I can tell the jury is still out as to whether China is going through the ‘hard landing’ scenario that began when modest first half state lending was followed by lower second half state lending, all to control inflation.

Note the recent social unrest that could be inflation linked.All we know is the regime change risk was sufficient for them to cut back on growth.And so far not much sign of anything of consequence in the pro growth direction, which means the political concerns over inflation are still there.

The currency could also be heading south fundamentally due to inflation. Net FX reserves may be down to minimum levels
after factoring in their dollar debt that’s been indirectly supporting the yuan. And with foreign direct investment tapering off, that source of currency support seems to have subsided.

While slower growth in China hurts some US companies, lower resource costs for the US are consumer friendly.

If gold has lost enough of it’s bid from central bankers, it could be headed back to it’s marginal cost of production, 1980’s style, which is where it goes without global central bank accumulation. I recall the buyers earlier this year included the Greek and Mexican central banks, as well as the central bank of Bangladesh. I suppose with high unemployment, govt. figures it might as well put people to work in the gold mines? Whatever! Anyway, the final leg up for this cycle may have been the spike after Chavez opted to take delivery of his gold, which he now has, debunking the speculation that it wasn’t there to be delivered.

Next is whether Congress lets the FICA cuts expire and take maybe 1% off of Q1 GDP. The President just said he wouldn’t veto the Republican plan, so they may work something out. But with them being bent on ‘paying for it’ there is no telling what the final result will be.


By Warren Mosler

This chart of West Texas crude prices vs Brent north sea crude prices was done a few days ago, with the spread subsequently narrowing further to under $10.

As previously discussed a few weeks ago, with the Strategic Petroleum Reserve release initiated by President Obama now winding down, the glut in Cushing that looks to have caused West Texas crude prices to fall to about a $25 discount to Brent crude and world prices in general looks to be coming to an end. Additionally, to help ensure it doesn’t happen again, it was announced the flow in a large pipeline will soon be reversed to allow crude to flow out of Cushing.

As a consequence the WTI price has been rising steadily and looks to me to be reconverging with Brent prices.  And it seems to me, watching the news broadcasting, the increase is at best very disconcerting to the US consumer in front of the holiday shopping season.


By Warren Mosler

While the symptoms get continuous attention as they get threatening enough, the underlying cause-the austerity- does not. The euro zone, like most of the world, is failing to meet its further economic objectives because of a lack of aggregate demand. And in the euro zone, the fundamental problem is that the member nations, as credit sensitive ‘currency users’ are necessarily pro cyclical in a downturn, much like the US states, and therefore incapable of independently meeting their further economic objectives.

So even as the euro zone struggles to address it’s solvency crisis that threatens the union itself as well as at least part of what remains of the global financial architecture, the underlying shortage of euro net financial assets continues to undermine output and employment, with GDP growth now forecast to fall to 0 with a chance of going negative in the current quarter.

What this means is that without adopting an alternative to the current policy of applying enhanced austerity as the means of addressing the solvency issue, it all remains in a very ugly downward spiral with social collapse far less than impossible.

So yes, the solvency issue can continue to be managed by the ECB, the issuer of the euro, continuing to buy national government debt as needed. But that doesn’t add net euro financial assets to the economy. It merely shifts financial assets held by the economy from the debt of the national governments to deposits at the ECB. So it does nothing with regards to output, employment, inflation, etc. as recent history has shown.

In fact, nothing the world’s central banks do adds net financial assets to their economies. And much of what they do actually removes net financial assets from their economies, making things worse. Note that last year the Fed turned over some $79 billion in profits to the Treasury. Those profits came from the economy, having been removed from the economy by the Fed’s policy of quantitative easing, which the old text books rightly used to call a tax.

And meanwhile, the imposed austerity that accompanies the bond purchases does directly alter output and employment- for the worse. Additionally, for all practical purposes, there is universal global support for austerity as the means supporting global output and employment. So even if the euro zone gets the solvency issue right, with the ECB writing the check to remove all funding constraints, the ongoing austerity will continue to depress the real economies.



By Warren Mosler, Mosler Economics

As discussed last week, the latest euro package just announced is unraveling quickly as markets again realize there is no actual substance, and no operational path with regards to carrying any of it out. So things will deteriorate as described until markets again force further ‘action.’ At the same time, the austerity continues to weaken the euro economies, with q4 potentially going negative, driving deficits that much higher in the process.

The ‘answer’ remains the ECB writing the check, which they’ve sort of seemed to recognize, but they remain (errantly) concerned that reliance on the ECB is inherently inflationary, and thereby violates the ECB’s mandate for price stability. So it won’t happen until things again get bad enough to force it to happen.

The catastrophic risk remains a failure, when push comes to shove, to allow the ECB to write the check as they have been doing to allow it all to muddle through. The range of outcomes couldn’t be wider. Write the check and not much happens, don’t write the check and there is unthinkable collapse.

Meanwhile, the 1% running the US looks to be trying to take the lead in the global austerity race to the bottom as the Democrats in the super committee on deficit reduction have led off by proposing a $4 trillion deficit reduction package.

Toss in west texas crude prices heading to brent levels of about $110/barrel as the spr release winds down over the next three weeks and the looks to me like the US consumer crawls back into his foxhole just in time for the holiday season.

Not to mention Japan now dawning the torpedoes and buying dollars to take back a bit of the export market they lost by kowtowing to former Treasury Secretary Paulson’s demands to not be a ‘currency manipulator’ in the context of still weakening global demand in general. The number one threat to world order remains a failure to sustain demand. The good news is sustaining aggregate demand is a simple matter once the monetary system is understood. The bad news is there seems to be no one of authority who doesn’t have it all backwards.