Wednesday, July 08, 2009

Rambling on about the Economy, More Mean Words about an Academic, etc., etc.

I couldn’t post the following as comment here since it was too long. Please read through the original post and comments if you want to make sense out of it.


My point is we should not criticize the person, but the idea. I think you’re missing out if you automatically discount ideas via their source.

There are only so many hours in a day, so many years in my life. I have no time to give voluntarily to people who have only wasted my time in return for my past attention. So the deal is this: I’m willing to read anything written in the English language about Japan by any idiot as long as it appears in a major media or other influential outlets (say, WaPo or Foreign Affairs) and is not overly long. It is, like a murder case, significant in its own right. To give an example that you would understand, liberal commentators regularly read and watch the likes of Rush Limbaugh, but won’t visit some raving right-wing blogger getting five hits a day. I also respond to any non-spam comments on my blog. I invite people to a dialog; it would be wrong for me to turn around and refuse it.

"The Japanese monetary base has taken similar leaps in past years while money supply remained stubbornly stable. ... You’ll have to turn to a real economist to have a meaningful discussion about the long-term implications if any of future exchange rates and short-term fluctuations in the US monetary base."

Don't we have an obligation to try and figure out this stuff for ourselves? How are we suppose to vote if we have to turn to various economists to determine long-range implications?


No, no more than we have the obligation to solve the Four Color Theorem—both of which BTW I have tried my hands at, unsuccessfully, at various moments in my life. Otherwise, 100% (give or take a few nano-percentage points) of the voting public would be disqualified from voting. In any case, fluctuations in the monetary base are a short-term phenomenon.

i.) The increase in the US monetary base dwarves that of Japan's during the BOJ quantitative easing period (especially if you allow for the time factor).

I think this highlights the point that fluctuations in the monetary base are a bad point to launch an argument on the long-term consequences of Obama/Bernanke’s economic policies.

I think it very unlikely the Fed will be able to reduce these holdings any time in the near future.

Okay, let’s see what happens.

iii.) The BOJ's quantitative easing was made easier by Japan's trade surplus and a high amount of savings within Japan.
iv.) America's will be made all that much harder by the exact opposite, a high level of borrowing and a trade deficit


You could also make the argument that the Fed has carried out a far more massive expansion of the money supply without creating hyperinflation or an asset bubble. In any case, since I don’t have the economic and financial expertise, I’ll just have to wait to see the long-term outcome.

v.) Japan's debt is mostly to Japanese savers, America's debt is to a large extent to foreign holders. Of course, the "foreigners" don't want to dump their bonds for obvious reasons, but other than blatant self-interest, there's nothing to stop them from doing this. They've no sense of duty to America.

By implication, I assume that it is the “sense of duty to Japan” that will keep Japanese pension fund managers buying those low-yield government bonds and holding on to them in the face of rising inflationary expectations in the future. Okay, let’s see what happens if and when the time comes.

Having spent more time on this issue over the last week, I will say that at this point, the Fed could still find some way to avoid future inflation. However, I see absolutely no political will to do so. When push comes to shove, my expectation is the Fed will keep on printing. We'll have to wait and see. (I predict very serious inflation in six months to three years.)

I have to confess that the lack of inflation (and the disappearance of hyperinflation in all but the most god-forsaken locations of this planet) since, say, the nineties, has mystified me. So let’s see if you prediction of “serious inflation” (would you care to put a number to that? 6% in US dollars? 7? 10%? 20%?) comes true.

By decoupling I mean I fail to understand why China needs America as much as America needs China…. Why can't China just make goods for themselves?

I hope I’m not misquoting you here by way of abridgement. The Chinese government obviously saw the value of keeping the export and related sectors booming in order to generate income and wealth. If it sees a serious threat of dollar inflation coming and stop buying up the foreign exchange generated by Chinese exports, this will push up the yuan, which in turn will cause Chinese trade surplus to fall and external investments to rise. The U.S. trade balance will depend to a great extent on how exchange rates and inflation rates balance out. I don’t see this in terms of one “needing” the other more than the other way around. BTW, it’s really the Chinese government’s decision to make (if it wants to) in the short-run, since it is the one that is buying up the foreign exchange generated by the Chinese trade surplus (and net inbound foreign investment) to maintain exchange rates at the desired levels.

Of course Chinese economic actors can and do make lots of stuff, some of it for the Chinese market, others for exports. They might, or might not, be able to satisfy the entire domestic demand for manufactured goods and tradable services. But I don’t think even the USSR tried that during the height of the Cold War.

6 comments:

Matt at anarchyjapan.com said...

Sorry for the delayed response here. Thank you for responding.

1. Regarding Gavin McCormack, I expressed interest in his ideas of Japan as a client state. You responded in two ways. First, by criticizing the idea. Next, by criticizing the person. As far as methodology, I think you should stick with the first procedure, and eliminate the second. You have now shifted the discussion towards how to choose what we read. I have no comments about this at present.

2. I have to table the stuff about democracy versus expertise because I see now it's too much of a distraction.

You said: "In any case, fluctuations in the monetary base are a short-term phenomenon."

3. I can't understand what's implied by this statement as it looks to be false. Money is created or destroyed via direct policy intervention (via decisions made by the FOMC in the US). It doesn't ever just fluctuate.

To be continued...

Matt at anarchyjapan.com said...

Continuing ...

4. I mentioned that the increase in the monetary base bodes poorly for the value of the US dollar in the future. Having continued to read more here, I'm beginning to think my opinion isn't even that controversial. In order to save the large financial institutions in the US, the Fed created new money (basically *doubled* the US monetary base) and dramatically increased the asset portion of its balance sheet (through loans of dubious quality or outright purchase of dubious assets).

Obviously, doubling the monetary basis is inflationary. This effect has been dampened because the Fed started last year, for the first time, actually paying banks interest for *not* using their reserves, but keeping them parked. (Basically created money for them so they wouldn't be illiquid, then coaxed them not to use most the money.) So what now?

It's not hard to understand the argument for deflation. Banks aren't lending. However, the *goal* is that they lend, right? If they don't lend, how can the economy grow? If the economy doesn't grow how can the government increase tax revenues?

There's simply no rosy scenario for the US right now. However, the biggest problem is that the US deficit is going to continue to grow, and the US will have to continue to seek foreign investors for US bonds. But is that sustainable? It's quite possible that foreign investors will at minimum *decrease* their purchase of US bonds. Then what happens? Do US policy makers increase taxes severely at a time when banks aren't lending and the economy is in bad condition? Does the government just stop making payments to social security recipients? Almost surely, the Fed will step in and begin the monetize the debt so that the government can continue to function. However, this will only further undermine foreign investor's confidence in US bonds. All of this will fuel inflation, and if investors totally reject the dollar and US bonds at some point in the future, you could have a total collapse of the dollar and massive hyperinflation in America.

I'm not predicting that, I'm merely arguing it's actually a possible scenario. Things have gotten so bad that that is actually a possible outcome we have to consider.

You said: "By implication, I assume that it is the “sense of duty to Japan” that will keep Japanese pension fund managers buying those low-yield government bonds and holding on to them in the face of rising inflationary expectations in the future."

5. Currently 80% of Japanese bonds are held by Japan Post. Those won't be dumped anytime soon. The LDP's policy has been to try and expand foreign ownership, however with limited success. It would seem the DPJ may reverse this policy. That's a good idea.

You said: "So let’s see if you prediction of “serious inflation” (would you care to put a number to that? 6% in US dollars? 7? 10%? 20%?) comes true."

6. Well, I haven't ruled out a total collapse of the dollar. Thinking about this some more, more deflation also seems a possibility at least for now. I guess the rosy scenario (for the US government, not for its citizens) is high inflation and high unemployment *without* a collapse of the dollar. I don't think my reasoning here is so unsound. Just for fun, I'll predict double digit inflation by 2010. But who really knows. I certainly hope policy makers will see they are at the brink and act to reduce the deficit. America's military adventurism overseas would be a good place to start.

You said: "I hope I’m not misquoting you here by way of abridgement. The Chinese government obviously saw the value of keeping the export and related sectors booming in order to generate income and wealth."

7. They did this via currency devaluation by pegging their currency to the dollar. While I place the blame for US problems squarely on the shoulders of American policy makers, certainly China played a role here by continuously weakening the yuan.

Jun Okumura said...

Matt:

My point about McCormack is that his “client state” assertion is of a pattern. I consider him to be a habitual criminal, if you will. But I’m be happy to drop this matter tooe. McCormack’s body of work is not something that I want to spend my working hours on.

I have nothing to say on your second point.

All phenomena have causes. So let’s meet each other half way and say that “fluctuations in the monetary base are short-term phenomena caused mainly but not uniquely by central bank interventions.” If you are uncomfortable with the word “fluctuations,” I can accept any word that does not imply that the monetary base is not an animate object.

I’ll get to your “continued” later. I know that I sometimes forget, so razz me if I don’t respond within a reasonable period of time.

Matt at anarchyjapan.com said...

Thank you for your comment.

Regarding the monetary base, I am still not sure what you mean. I'm thinking either you are referring to money supply or perhaps the idea that central bankers will raise and lower the monetary base dependent on what they think is necessary. I really have no idea, though.

Let me just state this is stark terms so it should be very easy to show I am incorrect, if that this the case.

The monetary base will not change *whatsoever* except through direct intervention of the central bank. (In the US, the FOMC.)

So the monetary base *never* just fluctuates. Since 1980, it looks to me like it has mostly just gone up and up and up, especially in the case of America. This would represent monetarist money theory, I guess.

Here's a graph I did (maybe I already linked it?):
http://www.anarchyjapan.com/sites/all/images/monetarypolicy.png

I follow your blog, so if you prefer not to respond now, it's not a problem, hopefully I can raise these points again at some point in the future. I'm continuously trying to get a better grasp of these issue myself ...

Jun Okumura said...

Matt:

Monetary policy, indeed economics, is not a subject that I’m very comfortable with, so it takes a lot of effort to respond. And I’ve been preoccupied with other stuff.

“The monetary base will not change *whatsoever* except through direct intervention of the central bank. (In the US, the FOMC.)”

Well, sort of. But if the actions of a single agent is at the root of all change, does it help intellectual discourse to use a different word because of that? (Should we call fluctuations in the water level in a reservoir by another name because rainwater is its sole source?) Anyway, I’ll be happy to use a different word in our dialog if that makes you more comfortable. Note though, that it almost always takes two to tango; banks and more broadly the financial market are at the other end of the financial transactions that determine the monetary base. If the banks decide to repay those loans, the monetary base will go down. Is that “intervention?” Depends on the circumstances.

With regard to inflation and the monetary base, if historical statistics are any indication, noitautculfs in the monetary base tell us little to nothing about concurrent noitautculfs or lack thereof in the price levels of goods and services in general. At least that’s what the BOJ monthly statistics (1980-2009)—http://www.stat-search.boj.or.jp/ssi/html/nme_R020MM.24772.20090801182416.01.html--tel—tell me. I gave up trying to relate the monetary base to more everyday measures of the economy when I saw the Japanese monetary base leap and broader measures of the money supply barely budged, and this exchange has reminded me why. Thanks for that.

matt at anarchyjapan said...

Jun,

I'm truly not trying to give you a hard time here. Note, I fairly quickly let go of the "client Japan" argument because I realized without a clearly definition of what clientship entailed, progress in such a discussion would be really difficult.

As far as the monetary base, I agree changes could also take place when banks repay loans made from the reserve. That's a good point. Now, in this case, is it likely that this will happen soon? This is extremely difficult to know, because specifically what is being bought and sold is kept secret. The reason given for the secrecy is that this is necessary to protect the Fed's independence and the reputation of the the relevant banks.

My *guess* is in the absence of specific information is that loans will be paid back, but only as the Fed continues to buy mortgage back securities. The following is conjecture, but you can view it this way, Bank X has too many bad-assets (related one way or another to mortgage backed securities). So the Fed lends money to Bank X. However, if the Fed buys Bank X's bad assets, then it no longer needs the loan. There is at least some movement in this direction. While the loan portions and swap agreement portions of the Fed's asset sheet are shrinking, the portion that holds mortgage-backed securities continues to increase. The Fed says it only buys *good* assets, but what's that mean these days?

You stated: "I gave up trying to relate the monetary base to more everyday measures of the economy when I saw the Japanese monetary base leap and broader measures of the money supply barely budged, and this exchange has reminded me why."

I think your not seriously engaged in this topic. The complaint I often heard when BOJ practiced quantitative easing, was that they weren't seriously doing it. The idea of the policy was to create the threat of inflation, thereby increasing economic activity. Those who favored the policy (not me) complained that the BOJ left too much room for an exit strategy. And indeed, that's what they did after a few years, they exited the stragegy. They brought the monetary base back down.

There are large differences the BOJ's policy then, and the Fed's policy now.

1. The BOJ followed its policy as an attempt to stimulate the economy. The Fed did it in an attempt to prevent a perceived meltdown in the financial markets. That is, it's policy was a hasty reaction to an emergency.

2. The Fed's policy dwarves Japan's. There's no room for comparison really. Japan over a period of two years maybe increased it's monetary base by 20%. The Fed over a period of months, *doubled* the base.

3. The BOJ never bought up mortgage backed securities or loaned against them.

4. The BOJ had an exit strategy, the Fed has none.

5. Japan was running a trade surplus, such that a strong yen represented a problem. The US runs a chronic deficit and the weak dollar is a problem.

6. Japan is perhaps the biggest creditor on the planet, America probably the biggest debtor. (In terms of international debt, not internal debt. Has China surpassed Japan yet?)

You seem to be suggesting I'm relentlessly focused on the monetary base, I'm not, as I think these comments and previous comments should show. Obviously context is important.

Note, I'm not *necessarily* looking for a response from you on all of this. I'm just commenting. It's just food for thought.