RICHARD KOO: IT’S NOT TOO LATE TO LEARN FROM JAPAN
Richard Koo spoke over the weekend at the INET conference and once again reminded us all that he understands the current environment better than just about anyone in the world. Koo believes the EMU and UK are making a great mistake by forcing austerity during a balance sheet recession. And while he believes the USA is doing better than their European counterparts he is increasingly concerned about the rhetoric coming out of Washington.
In 2008 when the United States was discussing a stimulative response to the current crisis I said the authorities were misdiagnosing the problem. What looked like a banking crisis (or a credit crisis as the media referred to it) was in fact a household crisis. It seemed obvious to anyone paying attention that the problem didn’t start with the banks. It started with the households who were overly indebted and upside down on their mortgages. Once the mortgage payments ceased en masse the problem spread. The banks weren’t the root cause. But you didn’t hear anyone calling for a bailout of Main Street at the time. All we heard about was how we needed to fix the banks. And so Ben Bernanke began his great monetarist gaffe.
I had had the great luck of reading Richard Koo’s Holy Grail of Macroeconomics around the time of the crisis and the environment we were in (and are still in) was eerily similar to the events he discussed in Japan in the 90′s. In 2008 I discussed the government’s approach. In reference to QE1 I said:
“We have a major capital problem at the U.S. banking level. What Ben Bernanke and Hank Paulson are essentially proposing is an asset swap. The Fed will take on the toxic assets of the banks and they will receive reserves in exchange. This is important because it will alleviate the strains in the credit markets. That’s a good first step, however, it is not a solution to the problem at the household level and THAT is where the real economic weakness is. By introducing this asset swap idea Ben Bernanke is simply altering bank balance sheets. He is not fixing the economy.
So, the government has a partially correct solution. Not the BEST solution, but it gets to the core of the credit issues. They will essentially trade the bad paper for good paper and it will alleviate many of the pressures on the banks. As I have written here many times the banks are the lifeblood of the system. I like to think of the banks as the oil in the engine. If you run out oil the system begins to break down and eventually the engine stops running. You can’t have a healthy functioning economy if the banks aren’t lending. Unfortunately, because this won’t fix any problems at the household level it won’t induce any borrowing. So, it’s a clever way to resolve the banking crisis, however, it doesn’t fix the root of the problem which is at the household level. So, again I ask – is this a “bailout”? You bet your ass it is. Unfortunately, it’s not a bailout of the entire system. It’s just a bailout of the banking system. And their problems are merely a symptom of much bigger problems at the household level.”
This is important because it highlighted the environment of the time. Yes, QE1 was effective because it helped unclog the banking system. There was a credit crisis, but it was merely an offshoot of the larger crisis at the household level. The US economy needed household balance sheets to be cleaned up – not banking balance sheets. The results are clear. While Wall Street notches record bonuses and record profits Main Street is still mired in recession.
In the 90′s the Japanese made a similar mistake. They focused on saving their banking system with the misguided belief that if they saved the banks the rest of the economy would take care of itself. And the channel thru which this prescription “worked” was thru monetary channels. So they cut rates to zero. Implemented QE. So on and so forth with little to no results. But monetary policy primarily works thru increasing private sector debt. It was exactly the thing Japan didn’t need. The fiscal policy they implemented was effective, but was halted on several occasions only to send the economy back into recession.
That brings us to the USA, which is in the exact same situation Japan was in, except we are suffering a household balance sheet recession. And in 2008 our government was convinced by Timothy Geithner, Hank Paulson and Ben Bernanke that if we just saved the banks we would fix the economy. So we embarked on the “recovery” plan that has led us to one of the weakest recoveries in US economic history. Because of the keen focus on the banking system there is a clear two tier recovery. Wall Street is thriving again and Main Street is still struggling.
Thus far, we have run budget deficits that have been large enough to offset much of the deleveraging of the private sector. And though the spending was poorly targeted it has been persistent enough that we are not repeating the mistakes of Japan – YET. By my estimates the balance sheet recession is likely to persist well into 2013. The EMU and UK are making the mistake of cutting their spending in the midst of a balance sheet recession. Koo believes they are doomed to low growth and potential double dip.
And that rhetoric is now spreading to the USA. QE2 has truly been a “monetary non-event”. As many of us predicted at its onset, this program has shown absolutely no impact on the US money supply (much to the dismay of the hyperinflationists). And now its damaging psychological impact (via rampant speculation) has altered the options available to combat the continuing balance sheet recession. While more stimulus is almost certainly off the table given the Fed’s misguided QE2 policy, it would be equally misguided to begin cutting the current budget deficit. Sizable cuts before the end of the balance sheet recession will almost guarantee that the US economy suffers a Japan-like relapse. It’s not too late to learn from the mistakes of Japan.
The full Koo interview is attached:
When does inflation become a serious problem though? This commodity rally is going to cause problems for sure. It seems to me that we almost need a recession now to get commodity prices back in check. If not, we are going to see higher prices until we reach a 70′s style environment and recession is forced on us.
All I can say is that QE2 was monumentally stupid. But it doesn’t mean the commodity costs will pass thru (though they’re certainly causing problems for households). This is not the 70′s.
Banks WERE the root cause by issuing so many mortgages w/o any or too small down payment and phony income proof. The real estate people always push up prices because they are paid by commission, and the banks appraisors who pointed out houses were not honestly valued were fired, and complaint replacements hired. An example of dishonesty without punishment.
It takes two to borrow and the lender depends on the borrower….connect the dots.
No offense but this argument holds no water in my opinion. So every potential homebuyer ought to be an expert real estate appraiser? Or a macroeconomist that could see the housing bubble ready to burst? If we’re honest, we would look at the fact that the only real way for the average homebuyer to do their “homework” so to speak, is to use a relative valuation technique. Many honest people did this “comps analysis” and got screwed because it does not allow for the possibility that broader trends could cause ALL the home prices you’re comping against to decline in value. That SHOULD be the banks’ job!
The banks job is to maximize shareholders profits. Not to value the market accurately. Certainly, they don’t want to take on excessive risks, but it’s pretty clear that their risk metrics were way off at the time. There was no risk management. The belief that housing prices never fall was pervasive. I don’t think it’s fair to blame the banks alone. If you are going to plop down the majority of your life’s savings into an asset you better understand that asset pretty damn well. Don’t trust the salesman.
When I buy something from someone (that I don’t understand) I always hire an independent expert to come in and review the asset for me. In the case of homes, these buyers should have understood how the mortgages worked. Had they understood them better they would have never bought the house. Better yet, if our govt was a competent overseer of markets this never would have happened in the first place….
“If you are going to plop down the majority of your life’s savings into an asset you better understand that asset pretty damn well.”
My point is that BANKS are the ones that created financial instruments that were a (if not THE) primary driver for the mispricing. I think it’s an unfair burden to expect a 30-year old electrician to be able to understand how securitized products could have been impacting not only the price of his home, but also EVERY OTHER HOME that he would be using as a relative comparison. If you’re going to take some medicine prescribed by a doctor, yea maybe you do some research on potential side effects, etc. but are you going to be able to sift through the primary studies to determine how valid the research procedures were? There’s always some element of trust in the complex, specialized society that we have created for ourselves, no?
“When I buy something from someone (that I don’t understand) I always hire an independent expert to come in and review the asset for me. In the case of homes, these buyers should have understood how the mortgages worked.”
Agreed that those who used ARMs and the like were probably happy to be led blindly down the primrose path. But let’s be honest — with home prices half of what they used to be, there’s a helluva lot of intellectually honest people who are really hurting right now.
“Better yet, if our govt was a competent overseer of markets this never would have happened in the first place…”
Agreed
The housing market was mis-priced due to consumer speculation. The products the banks made were derivatives.
If you really believe that the creation of MBS had no impact on the fundamentals of the housing market, I suppose it’s not really worth continuing the conversation. IMHO it’s simple supply and demand economics — the demand for homes has always and will always exceed the supply. We are just territorial creatures. It has always been up to the supply side to be the regulating mechanism. It failed because there was an ability to lend with the expectation that the lender would not have to hold the credit on its own balance sheet.
But I will also say that I have not seen a single piece of statistical evidence pointing to the fact that “consumer speculation” was the primary culprit. Show me some stats where the number of owned but uninhabited homes made up a significant portion of the housing stock and maybe I’ll buy that line.
Im not saying there is no correlation. I’m simply saying it all starts with the home owner. You want evidence of speculation? Look at the explosion in homeownership: http://www.ritholtz.com/blog/wp-content/uploads/2010/07/Q1HomeownershipRate.jpg
Without all those new mortgages Wall Street Doesnt securitize all those loans. It started wih Main Street. Wall st just enabled them and then piled in with the derivatives…
Fixing households is gonna be tough. No one really addresses the major impediment to new household wealth: our greatest invention, the internet/it technology, is ‘arbing’ away the need for human capital. That arbing can be direct and indirect — like major reduction in need for office space and malls. This will only accelerate the need for human capital. Vicious circle. Winner take all society. Seat belts on.
America needs a new growth engine. The only way we can start is by fixing the flawed theories of old and getting started down a new path.
I agree with the Japan comparison completely. I also agree that the M3 money supply either has not risen or is going down. What I still can’t wrap my hands around is exactly how we bailout the household sector. I’m guessing a large tax cut targeted at the lower and middle class such as a payroll tax holiday or something. To me this is a moral hazard issue because it seems like the typical household bailout consists of writing down principal on mortgages. Doing that or continuing with foreclosures and short sales still brings down the values of houses which makes even more homeowners underwater on their mortgages. The consumer is deleveraging like crazy. I think 1.5+ million people are filing bankruptcy each year. That is definitely a way to deleverage but perhaps not the best way.
I guess I’m still wondering what the government should do to help bailout main street. Is a tax cut the only way? I also agree that the rhetoric out of Washington regarding cutting government spending is scary. I have always been low taxes, low government spending, but if the government cuts too much, we’re right back in a recession again. If the Republicans take over both houses of Congress and the White House in 2012, there will be much higher spending cuts. That could very well trigger a longer recession and possible a depression. The Democrats were in control for two years starting in January 2009. We got health care and a stimulus. I doubt that either party has the guts to do the right thing which is a nice tax cut for the lower and middle classes combined with higher deficits. It sounds contradictory, but that would work until the household debt level is sufficiently reduced.
The window for helping main st has closed. It should have been done two years ago when I was first talking about it. Now we just have to hope we dont choke off households via detrimental policy.
Cullen, would you please elaborate or refer to other posts on why you view the window as being closed for helping mainstreet directly? Would you consider infrastructure work as being in a different category and a different time frame?
FWIW, I spoke to a person who is in charge of some portion of the fed’s stimulus monies for a region and her being a former private sector person can’t get over the lack of urgency that she finds in the government sector in terms of implementing badly needed items. In her words, they don’t understand “now.”
I am just gauging the political landscape. There is absolutely no political will for more stimulus of any kind. It’s all cuts from here based on the rhetoric out of Washington. Does anyone view it differently?
Cullen,
I agree that the political will for additional stimulus is gone. But I don’t think the US will suffer a deflationary spiral, or at least, not for long if it does happen. Why?
There’s always the war option.
I don’t think deflation is in our immediate future. I think we’re more likely to suffer through stagnant growth while we hope that China or Europe don’t get torpedoed.
Cullen is right. But the problem is political: Goldman Sachs and the rest of the elite have far better political connections than all the households in the US put together. If and when any additional stimulus money appears, Goldman & friends will pounce on it long before Main Street sees any of it.
Or as Thomas Edison put it, “…who is behind the Government? The people. Therefore it is the people who constitute the basis of Government credit. Why then cannot the people have the benefit of their own gilt-edged credit by receiving non-interest bearing currency… instead of the bankers receiving the benefit of the people’s credit in interest-bearing bonds?”
Though the diagnosis of the balance sheet recession is insightful, I find it difficult to understand how 20 years of fiscal stimuli resulting in 200% government debt to GDP can be considered in sufficient.
Park,
“government debt to GDP” doesn’t tell you anything meaniful about the debt or the real resources of the economy. It’s just a nominal number.
Start with the accounting identity…
Net Government Spending (defict or surplus) MUST EQUAL the Net Savings of the Private Sector PLUS the Net Savings of Foreigners in government currency (Yen in Japan, Dollars in USA, etc…)
Since Japan runs a trade surplus there is NO net savings of foreigners in Yen. That means YEN for YEN the government debt and deficit equals savings of the private sector. So 200% debt to GDP means that there is 200% of Savings to GDP held by the private sector.
Said another way, the Net Spending of the Government PLUS the Net Exports (Spending of Foreigners) MUST EQUAL the Net Savings of the Private Sector. If the Japansese private sector wishes to net save MORE than they are exporting, then the difference MUST be made up by government deficits or the economy shrinks – you can’t escape the acccounting identity, that’s why its called an Identity.
I doubt that Government debt to GDP is meaningless.. after all, the amount of debt that governments can potentially issue should be closely related to the size of its economy. For example, the US government can borrow billions of dollars without having much visible effect on its economy whereas a country such as Zimbabwe would have a much harder time swallowing the same amount whether or not it was issued in its own currency.
In fact, in terms of judging the meaningfulness of various economic indicators, I think the accounting identity is more meaningless. For example, two disadvantages I can think of immediately is that there is no way to judge causality or sustainability in an accounting identity. You say that the government is forced into deficits by private savings(or face contraction), but it could actually be that the government spending forces the private sector to save, by offering domestic capital no other choice but to do so. And just because the government can internally finance its spending today, do not mean that it can do so in the future especially when its spending is tied to paying government employees and pensioners (relatively) real wages.
And even if the GDP of economies are usually found to shrink when deficits are reduced, it still has to be determined to see if this is a bad thing in the long run. A modern example of this would be the case of South Korea after the Asian Financial Crisis in the late 90s where the IMF forced the Korean government to cut spending and raise interest rates in the face of a depression. Though the subsequently GDP collapsed, it quickly recovered and its PPP GDP per capita is catching up with Japan… according to the World Bank at least.(One caveat is that Korea is in the middle of another asset bubble now.. so this is not exactly a textbook comparison, but I hope this offers some food for thought)
I doubt that Government debt to GDP is meaningless.. after all, the amount of debt that governments can potentially issue should be closely related to the size of its economy.
“…the US government can borrow billions of dollars without having much visible effect on its economy whereas a country such as Zimbabwe would have a much harder time swallowing the same amount whether or not it was issued in its own currency.”
Your comment implies that you feel governments borrow and tax to finance their spending. I highly recommend you read up on the monetary operations of fiat system…
http://pragcap.com/resources/understanding-modern-monetary-system
A government that is fully sovereign in its currency call spend as much money as it wishes (with the one constraint being that real resources are available) and if it chooses to borrow back an amount equal to its deficit it can always do that too. The treasury and central bank hold all of the cards in the government bond market. If something goes wrong in their respective bond market it is only because they did something wrong – there are no bond vigilantes for a government that is fully sovereign in its currency.
“…I can think of immediately is that there is no way to judge causality or sustainability in an accounting identity.”
That is correct. It is not a cause and effect relationship, but for the private sector to be able to net save the government MUST be in deficit (unless there is a trade surplus) because someone has to make up the spending short fall. Remember, SPENDING = INCOME. Savings is a leakage from the system so therefore someone else must borrow and spend to make up that leakage. If the private sector in NET SAVING then someone must make up that shortfall. If the nation is not making up that shortfall with a trade surplus, then by default the government must be in deficit.
For example, in the 1990’s when the government was running a surplus AND the US was carrying a trade deficit (positive net savings of foreigners in US Dollars). For the US government to achieve a surplus AND for the US to have a trade deficit, by identity the private MUST be dis-saving (going into debt). Likewise in the mid 2000’s when the US trade deficit exploded, the US government’s debt did not explode; when you net it all out the US private sector had to be adding more debt. You can see this clearly on charts in the above link about 2/3 of the way down the page. There is a reason the 2010 US government deficit was about 10% of GDP (Net Savings of Private Sector = 7%; and Trade Deficit = 3% of GDP).
“You say that the government is forced into deficits by private savings(or face contraction), but it could actually be that the government spending forces the private sector to save, by offering domestic capital no other choice but to do so.”
This is basically a Ricardian Equivalence statement – and it is a false theory proven out empirically in the early 1980’s. With the economy in a bad recession Reagan proposed massive tax cuts in 1981. Many economist said nothing would happen because the private sector would negate the fiscal stimulus with increases in savings to counter the (hypothetical) future tax burden of the deficit and the net effect would be nothing. In fact, not only did the economy positively respond to the tax cut, but the savings rate declined.
Everyone at the IMF should be fired. They spew nothing but bogus theories not founded in reality. Their solution to everything is internal devaluation and export expansion. News to the IMF, the whole world can’t have an export orientation – it is mathematically impossible.
Adam.
are you saying that the Treasury prints the trade deficit?
I’m not sure I understand your question, but let me try to explain the issue with an example…
Lets say the economy is worth $100. That’s $100 of national income. To make it simple and to keep it to trade we wont net save anything (yet). However lets spend $10 of our income on imports. Now Income = Spending. So We have $100, but we spend $10 on imports (and export nothing so we have a trade deficit of $10 too). The trade deficit of $10 is now $10 of savings to foreigners. Our economy is only now producing $90 of income unless SOMEONE borrows and spends an additional $10 of output.
The accounting identity says that Net Government Spending MUST EQUAL Net Savings of Private Sector Plus the Net Savings of Foreigners.
Therefore for the economy to remain the same size (or grow) the government must be in deficit -> -$10 (deficit) = +$10 (foreign savings; trade deficit).
If the government does not go into deficit the economy will either shrink and possibly look like this… $0 = 0 + 0 (where foreign savings drops to zero since domestic consumption no longer supports imports and total Income = $90)
or it might look like this… $0 = -$10 + $10 and the private sector goes into debt to finance their standard of living; but the economy (Income) remains at $100
or some combination where you end up with a budget deficit and a smaller economy.
“For example, in the 1990’s when the government was running a surplus AND the US was carrying a trade deficit (positive net savings of foreigners in US Dollars”
Doing this is truly catastrophic, and I know first hand. My government ran surpluses while the country had a trade deficit for the best part of 15 YEARS. Now the private sector is in an inescapable hole. Even in the good years, the economy is terrible.
Right from the start of this whole mess, bankruptcy should have been allowed to happen from banks to businesses to homes. This would have been very painful in the short run but it would have cleared the bad debt out and de-levered the economy, in essence, a financial reset. Unfortunately all that has been accomplished is to reward financial misfits, punish the prudent and teach Americans that financial prudence and responsibity is for losers.
Cullen has been saying that about the banks for years.
Really great video, thanks for posting it.
The dreaded Keynesian ‘just keep spending’ argument. RFBear speaks sense though.
I’ve read Koo’s book too.
I’m interested to see how clever he looks when the inevitable end game arrives and Japan is faced with the inevitable consequences of its actions. You can’t just keep borrowing for ever at low rates, Japan will be faced with disaster in the years ahead as its long-term rates rise.
Sadly, our host here has bought the argument that govt spending and deficits are only a good thing.
How about the world just wakes up and takes its medicine, and we head back towards sound money?
The whole world has gone mad, thinking it can permanently live beyond its means. I’m thankful I live in the UK where we have a govt that have their heads screwed on. I hope they can remain in power long enough to get the job done.
You guys in the US are just plain doomed though, no political will to change your errant ways, and you’re headed for collapse as a result.
It makes me laugh too that Cullen thinks the banks were saved for altuistic reasons (to save the economy) whereas Main Street was left to fend for itself. Hah, you had Hank Paulson pulling all of the strings, with his cohorts at the Fed, and they’re all part of the bankster syndicate. Banks got fat and rich with their schemes in the last 10 years, and then us idiot taxpayers get stitched up to save their losses.
A shame you don’t live in the real world!
You should stop drinking the cool-aide and spend some time understanding how the monetary system really works…
http://pragcap.com/resources/understanding-modern-monetary-system
You will then understand that Cullen, nor any serious MMT’er, would agree with your comment, “Sadly, our host here has bought the argument that govt spending and deficits are only a good thing.”
“The whole world has gone mad, thinking it can permanently live beyond its means.”
What means would that be? The real resources of the economy? Because that’s all that really matters.
“I’m thankful I live in the UK where we have a govt that have their heads screwed on.”
Really?!?! I guess you never read the fine print in austerity budget you seem to be so proud of…
http://www.guardian.co.uk/politics/2011/apr/02/family-debt-burden-government-figures
While US politics is definitely screwed up, I don’t think its wise policy of any government to push its private sector into debt, because the private sector definitely can go bankrupt.
Here’s the real world for you:
The Financial Times:
Retailers suffer sharp fall in spending. By Norma Cohen, Economics Correspondent Published: April 11 2011 23:56 | Last updated: April 11 2011 23:56:
Cash-strapped households produced the most severe cut in high street spending in 16 years in March, a survey shows, while another points to a slowdown in the housing market, with a growing divide between London and the regions.
The capital has emerged as the only part of the country enjoying rising house prices, with some areas in the North, Northern Ireland and Wales reporting sharp declines, according to the Royal Institution of Chartered Surveyors.
The British Retail Consortium’s monthly survey for March showed that total sales fell 1.9 per cent from a year earlier and, although 2010 sales were bolstered by an unusually early Easter holiday, the change of holiday timing only accounts for a portion of the decline.
“This is the worst drop in total sales since we first collected these figures in 1995,” said Stephen Robertson, BRC director-general. “This year’s later Easter is a factor but this fall goes way beyond anything that can be explained by that alone.”
Austerity will not work in this environment. It’s 1937 all over again for some people. We haven’t seen conditions like this for 80 years. Prudence is folly – it’s very difficult to get your mind around.
TPC: “The banks weren’t the root cause.”
Depends on what you call a root cause. To me they are the root cause – HH sector is in debt because of the financialization of the economy. And it was caused by the banks.
InvestorX
Koo’s understanding of economics is weak, and yet still better than any of his peers. We live in an age of deliberate ignorance.
If as this paper is correct and houehold sector is the real key
to future recovery, then one constructive idea would be to have
Congress ordain:
Those Residential Bank loans on (near) the brink of default
must be given “safe harbor” status with Payment Moritorium
until residential loans can be refied to help/allow tax payer
a plan (incentive)to fix and avoid default(primary&secondary
homes included).
BB
Ben Bernanke is not printing money to help America. He is printing money to keep short-term rates low so that his banking cartel can make billions from a steep yield curve. Remember, banks benefit the most when depositors get nothing in interest and the banks are able to lend money to the US government at 3.5%.
This is why the Fed has lowered rates to almost zero and this is why the Fed unleashed QE1 and QE2.
The Fed is a private banking cartel and it is run for private interests. Its mandate is NOT to ensure price stability and full employment, its real mandate is to create booms and busts, so that the banks can earn trillions of dollars of interest from loans they create out of thin air and THEN, it creates credit freezes so that the banks can make the people go bankrupt and collect real assets for cents on the dollar.
Wake up people, and see what is going on. No point wasting your time about deflation, inflation and all the other economic jargon. The reality is boom, followed by bust so that the banks can continue to rape ordinary people.
The Banker’s Bank.
The rates on your savings that you lose for the benefit of Investment Banks you can not spend in to the economy. That is a 100% tax on savings. That is part of the transfer from solvent people in to the insolvent Banks. It’s disguised as a beneficial boost to the economy. Its the opposite it only delays spending to fund and recapitalize losers.
Debt has consequences, an earlier post pointed out that Japan is heading down a dead end street and an increasing rate of speed. Economies that are fueled by debt, personal or public, in excess of production will at some point have to deal with the accumulated debt. You can forestall the day of reckoning but you cannot totally avoid it once the debt level approaches the level of productive output.
This is not a MMT argument it is arithmetic.
Regards,
Jim
30 million out of work and we are near full output? Ha. The hyperinflationists never get it.
You are worrying about debt servicing costs. As a USER of a currency you must always worry about your ability to FUND your costs. As a monopoly ISSUER of a currency you only worry about the real resources that are available – funding your spending is never a constriant.
James —
So if the debt is so bad, do you support raising all taxes to 100% to pay it off very quickly?
D
Koo insists on bailing out the banking system, and yes we did that. He also indicated that we should not raise interest rate to keep the banking system alive. that was how Japan did it, and he thinks Japan is such a wonderful experience. My view is that to follow Japan is not a choice, but the only way to go, weather you and I like it or not. This is not an academic issue. Yes it would be nice if we can allow the banks to go broke, and restart everything. But that was not option. The power is in favor of the banks regardless the cost to anyone. It is not up to you and me to decide if we allow the banks to fail. It is the rich and powerful not to let themselves fail. that is exactly what happened to Japan. QE1 and QE2, remember this: QE3 is coming, just like Marc Farber said.
If I understand Mr. Koo’s methods (and Bernanke’s) about repairing an economy after a bubble burst: Buy toxic assets from the private sector to help them repair their balance sheets (reduce debt). Run large gov deficits to fill in holes in the GDP (due to de-leveraging) until the private sector cleans up its balance sheets. Has this worked for Japan? Just wondering…
I am curious to hear someone’s theory about taking another approach: Let them go bankrupt and start all over again. I wonder what the outcome would have been 20yrs later?
Would have been superior in my opinion. RTC the banks and use the crisis as an excuse to pass a massive investment plan in America that focuses on helping the middle class. But we didn’t really do that….
For those who are concerned about “federal debt servicing costs”, simply read this: http://www.cfeps.org/pubs/wp-pdf/WP53-Fullwiler.pdf – it turns all the orthodox pseudoscience on its head. Shows that the assumptions that are used to arrive at “federal debt may be a problem” conclusion are simply (as in: “mathematically”) wrong.
MMT understands what the true burden is, and has bothered to check if the economy can take it.
In other news, looks like the deficit terrorists are really gaining the upper hand in Washington.
Seems that history is going to repeat as the neo-liquidationists get their way.
Only way out of all this mess is if guys like Daniel Nocera actually manage to deliver.
“…As a monopoly ISSUER of a currency you only worry about the real resources that are available – funding your spending is never a constriant. ”
Yes, USA can print as many as DOLLAR/TSY it can. But USA can not print wealth/buying power/output as many as it wants.
“But USA can not print wealth/buying power/output as many as it wants.”
Correct. Money has nothing to do with any of that. You can’t build a house out of paper money or gold coins. Its all about the real resources generated by the economy – period!
Does paying interest on the debt have anything to do with real resources? Only if all those resources if being fully deployed and the payments (like any net government spending at full employment) are causing inflation; but that only means taxes are too low (or other spending is too high).
Interest on the debt is just a risk free form of corporate welfare paid to bankers who buy treasuries.
It doesn’t appear to me that the “printing” of money via deficit spending in and of itself is not what creates wealth. It is the effect that it has, that is, the economic stimulus of putting more people to work who would otherwise be idle. It is the product of their work that creates wealth in this society. The money that has been created out of thing air was merely the lubricant, or the fuel, that led to increased productivity.
Money isn’t much more than a bus token. It’s only value is to allow you to buy something you want. (So yes I agree with you)
Adam
“As a monopoly ISSUER of a currency you only worry about the real resources that are available – funding your spending is never a constraint”.
That is correct and the accounting identity all balance out but that is only because a monopoly issuer of a currency compensate by manipulating real values by changing nominal values.
As a monopoly issuer of such a currency you need only worry about the default of the currency not your debt. If some countries where to start selling there US T-Bills you are absolutely correct it would not be a problem since the “Treasury and Central Bank hold all of the cards” but the real question as more to do with the fact that once those bonds have been sold those countries will not hold the “extra” Dollars they do not need to trade in US denominated commodities.
They will convert them in currencies with interest bearing bonds or they may generically short them by accumulating commodities as an edge against the depreciating US dollar.
I am not sure that we can compare japan’s past 20 years problems with the US.
Japan has had a very large trade surplus, large private savings, wile the US as very low savings, 43 million people on food stamps, all kinds of out of control welfare programs,unaccountable entitlements, ultra expensive Medicare and Medicaid and more than 1,000 U.S. military bases dotting the globe including almost permanent wars.
Eventually if this goes on the Treasury will not be able to print confidence.
As Paul Skinner mentioned in a post above provide incentives to companies to come back and set up plants in the US.
The entitlement society of the 60s need to be transform back in to a productive innovative and responsible society.
Get real. There is not another developed country on the face of the planet that spends signficantly less on gov’t as a percent of GDP than the USA. Name one. Public debt relative to GDP is somewhere around 67%, less than quite a few OECD countries. You’d think the world was ending imminently from the content of these posts. We’re struggling through the aftermath of a severe financial crisis, no different than what the world has witnessed many times before, and mired in a liquidity trap. We’ll no doubt survive and continue to thrive. Public debt will continue to go up before it levels off, so you might as well get used to it. There’s always a fly in the ointment somewhere.
Public debt relative to GDP is somewhere around 67%, less than quite a few OECD countries. Yes, and they are all on EU’s bail-out funds.
With all due respect Widgetmaker you may need to get your fact revised.
As of March 25, 2011, the Total Public Debt Outstanding of the United States of America was $14.26 trillion and was “97.3%” of calendar year 2010s annual gross domestic product (GDP) of $14.66 trillion.
Aside from Japan, which has a huge debt hangover from decades of anemic growth, the U.S. is the most extreme case. In 2011, the U.S. government will have to tax,borrow or print 27.% of its annual economic output.
Actually, firts, I was alluding to the amount of government debt outstanding and held by the public, which is in the $9-$10 trillion dollar range, which I consider to be the true measure of public indebtedness. Your figure of $14T includes debt owed by one government agency to another (such as the Social Security trust fund). It is an important distinction. That number is no more meaningful then if I were to include money my wife may owe me as part of my entire household debt. I would think a bank could care less about that figure if I were applying for a loan.
According to the CIA World Factbook https://www.cia.gov/library/publications/the-world-factbook/rankorder/2186rank.html?countryName=United States&countryCode=us®ionCode=na&rank=36#us
the USA ranks well under Germany, Austria, Israel, the Netherlands and Brazil when looking at public debt to GDP ratios. This is an interesting list to look at. Are ratio is slightly above the worldwide average.
If you’d like to get a gander at rankings of taxation and govt spending relative to GDP take a look at this: http://en.wikipedia.org/wiki/Government_spending There are few countries with lower levels of taxation than the US that I would consider living in. You’ll see very few developed countries that have lower spending relative to GDP than the US, despite all the deficit spending we are embarking upon. Remember, public debt relative to GDP was about 120% right after WWII, which many people credit for getting us out of the Great Depression.
In my view, this is what the US government needs to do urgently:
a. Abolish the Fed and take back the power of issuing the nation’s money from the private bankers
b. Instead of borrowing money by issuing Treasuries, issue money to help society
c. Reduce the social security net (cut medicare, medicaid etc.)
d. Develop new energy technologies so the oil imports/deficit is reduced and jobs are created
e. Provide incentives to companies to set up plants in the US
f. Cut taxes and increase the interest rate on savings significantly (to increase domestic consumption)
g. Protect the savings and deposits at banks by a government guarantee (so nobody loses their savings in case of bank runs) and then, let the banks go bust.
h. Stop protecting the bondholders of these banks – it is NOT the government’s responsibility to defend bond investors; they must take the pain.
i. Reduce the size of government and cut back on wasteful military expenses
j. STOP invading other nations under false pretenses
k. Reduce the supply of American dollars in the system so that the currency regains its value and people start trusting it again
l. Put Bernanke, Gietner, Summers, Paulson and the other crooks in prison for violating the US constitution
If the government does all of the above, the American economy will much be much stronger 5 or 10 years from now. Otherwise, nothing will change.
Paul,
You criticize me an awful lot, but you know we agree on most of above, right???
Cullen,
We may agree on most things but we differ when it comes to the inflation/deflation debate.
You may recall that for months, I have argued that bailouts and asset purchases are inflationary and you have held the opposite view.
But, now that the markets have spoken (with commodities at record highs), why don’t you just admit that you were wrong about deflation or disinflation!? Why keep arguing for the sake of it.
Anybody who lives in the real world knows that prices of just about everything are going through the roof – food, education, energy etc.
Life is becoming more and more expensive by the day, yet the US government and their puppets keep saying that inflation is under control.
Please, the CPI is the most doctored and useless indicator in the world.
We are dealing with inflation, monetary debasement and a rape of the public by the banking elite.
The Fed is a private cabal run for private interests. Bernanke has not lowered rates to help the public; he has done so to allow the banks to play the steep yield curve. So, until the banks are capitalised and profitable, he will keep telling lies that there is no inflation; that dinsinflation/deflation is the threat.
But, PLEASE realise that this is bollocks and the Fed IS the DEVIL.
Paul,
I would end the Fed if I had things my way. You should know this from reading my work. I think you’ve jumped to some conclusions about me (and written some rather nasty comments in the process) all because you aren’t really familiar with my position on things.
I agree that the Fed’s bailouts and actions in 2008 were largely misguided.
Hi Cullen,
I haven’t jumped into any conclusions. I am merely stating what you have been saying for months – i.e., there is no inflation and that there is disinflation, or threat of deflation.
Why don’t you just admit that you have been wrong?
I also make many mistakes and if I am wrong, I have no problem admitting them.
Those who admit their mistakes and learn from them are much better off than those who keep insisting they are right (even though the evidence shows they are not!)
If you admitted your mistake on your board, your star will shine very bright in my sky
If I had in fact been wrong I would admit it. But the reality is that I called for deflation in 2009 (which was right), disinflation in 2010 (which was right) and am now calling for inflation below the historical average (which is also looking right). See my past commentaries. I think you’ve taken my comments a bit out of context:
http://pragcap.com/why-deflation-remains-the-greater-risk
http://pragcap.com/where-is-inflation-headed
On the one hand you (MMTers)state that a private households balance sheet is different from the states households balance sheet, thus balance sheet imbalances must be handled differently…I totally agree up to that point.
But on the other hand you talk about a “balance sheet recession” in both cases as if common monetary tools can get us out of it in both cases but with different strategies.
That implies that in both cases a recession will lead again into growth after the right intervention with common monetary tools had been implemented correctly.
This idea is illusive. One can not fight a problem with the same tools that caused it. But you do it, at least your analysis gives the impression that you totally accept current available monetary tools!
Sure a private household can overcome a balance sheet recession through saving, but that method is counterproductive on a macroeconomic scale as you stated correctly. That one part MMT analysis is correctly. But then you make the mistake of being inconsistent.
So if we can not overcome a balance sheet recession on the macroeconomic scale through saving, we can only overcome it through more growth/ expansion productivness…if thats not possible, what are the monetary tools to overcome it?
You make the same mistake like any other economist/ government, presuppose that there will be future growth without destruction, ignoring that history taught us different.
We are not in that macroeconomic balance sheet recession for no reason.
We are there because growth is exhausted and now even on a global level, there is no future growth without destruction possible i.e. there is overproduction all over the place in combination with private maximum indeptedness levels.
What a toxic soup for delusions of grandeur is that!?
Can there be really figured out any causes that can be overcome with the same monetary and fiscal tools that had been used for centuries and had led the world into big wars every time a balance sheet recession occured (at least it was the case for WW1+2, the civil war in the US…)
History states that the monetary system (tools) that led us into these crisis cant be used to get us out of it, they never had been used to get us out of a crises, only destruction and a complete reboot was able to get us out of the recessions.
And it will be no different in future if we dont implement a completely different approach of money system than we are used to. We need a natural economic order, its 1sec before midnight imo!
The bottom line is simple. Monetary policy and the theories of old helped cause this disaster. I am prescribing neither of the above. The govt needs to fill in the hole until the pvt sector is finished deleveraging. It won’t be a pretty process and it won’t be quick, but until the deleveraging is done we must do it or risk a Japan style malaise.
There are no inconsistencies in my work if you read it closely. I believe you are obscuring a lot of the moving parts.
Cullen,
What are you are wishing for is exactly what the Japanese did. Yet, you somehow assume that by doing the same as the Japanese, the US will avoid the Japanese fate!?
This does NOT make sense.
The US needs to do what South Korea, Russia and Iceland have done. Default, accept failure, so that the weak can perish and the system can start again.
Zombie banks and companies assisted by government aid is not the answer.
Default, short-term pain, a big recession and a strong recovery is the ONLY path
I’ve actually argued, for 3 years now, that we should not do what Japan did. I argued for Swedish style banking cram downs. I argued that we should not follow the Japan model.
http://pragcap.com/whats-wrong-with-a-swedish-model
Cullen,
What is the chance that bailing out the private households is being resisted as an attempt to keep down the price level in lieu of a serious reduction of government spending?
William
Hi William,
Can you clarify? Keep the price level of what down? Thanks.
“…It is the effect that it has, that is, the economic stimulus of putting more people to work who would otherwise be idle. It is the product of their work that creates wealth in this society. …”
I am afraid that the result of this stimulus is we cnsume more than we produce(look at trade deficit).
q anonymous:
“I am afraid that the result of this stimulus is we cnsume more than we produce(look at trade deficit).”
That in fact at the moment would be a dreamscenario, we had after WW2 in the 50th and 60th, when the money system was relaunched. But now a main symptom that is caused by our current money system in the end state is overproduction + exess indebtness.
A compounding money system has a lifecycle of about 80 years, if its pegged to gold its even shorter. You see how fast the Euro smacks down the EU countries, the Euro ss kind of a gold standard.
The best way to help households is lowering the cost of living. Strengthen the US$, lower commodity prices, at least relatively, and households have more to spend elsewhere. That’s why deflation is coming – high commodity prices are shrinking the income left for other goods and services, services being particularly important as that’s where 70% of employment is created.
Hi Mr. Roche,
I am a curious undergrad who has read a lot of your work, and I am still trying to wrap my head around MMT and reconcile it with what I am learning in economics courses. How will the push for fiscal austerity affect the sectorial balances? Are we bound for lower growth?
If it really happens, yes. For now the cuts look meager though. Should mean the deficit remains high enough for pathetic growth.