Posts filed under 'Economics'
Green shoots, maybe, but don’t expect flowers
I’m increasingly growing wary, or even tiresome, of anyone that talks about green shoots. Yes, put a lot of fertiliser over a bed of rocks and something will grow on that. Mostly weeds. After all, weeds are green, but they don’t make nice flowers.
After pouring so many fertiliser taken from the forced lenders throughout the world (yes, we and our descendants are the forced lenders, and the fertilisers are the billions of dollars irresponsibly poured everywhere) what else is there to expect than a few green shoots?
But one thing is to have green shoots, and another one is to have a sound recovery. That needs to be sustained on healthy fundamentals, which we don’t have now.
Okay, maybe we are not falling that fast… so what? Even the most bullish markets have relevant corrections, why shouldn’t the bearish? That is some hope in midst of despair, true, but the despair still has a sound reason to be.
Hiding things in the balance sheet, having assets that don’t reflect real prices, is not the way to recovery either. First we need that atonement, that reconciliation with reality, that would be a real stress test, after a previous sanity check: let’s value things for what they’re really worth.
And in the meantime the GDP of the Euro countries has contracted more than 10%. Germany is contracting more than Spain, with an unemployment growth rate 1000% bigger. We, who were the main sinners, are weathering the storm better? Something tells me that the methodology that we are using to calculate our GDP, given the fact that we have to remove seasonal effects being a touristic country, is delaying the changes to the real data. But something also tells me that the most inflexible labour markets are exhibiting those same troubles that don’t let them flexibly grow, only applied to contraction. There’s plenty for all of us.
Hmm, I’m so sorry to be negative but… let’s prepare and get ready, because those shoots are bound to whither and the worst is yet to come.
Add comment 18 May, 2009
I sense some hope… sorry not yet! (Pandora’s jar is still not completely open)
Lately I’ve been hearing some musings about how the economic situation is improving. Yes, optimists are always necessary, though they can also be a bit annoying sometimes.
In any case it’s good to reflect for a while on where are we now. Have the fundamentals of the current crisis changed so much that we can say things are changing? Maybe is it that people are sensing that we have already touched the floor thus the situation is about to rebound? If it is the second one, let me tell you, we spent so many years skyrocketing ceiling after ceiling, why should the bear animal spirits be less powerful than the bulls?
Crisis, at least most crisis, aren’t the results of sudden disasters or fulminant downturns. Although everyone can recall tipping points, such as certain interventions or lack thereof, they are the consequences of deeply undergoing currents, things that have been happening for a long time.
And what has been happening for a long time? Things like the excess of liquidity, thus the excess of leverage. Piles and piles of debt. Unsound financial constructs acting like dark boxes trying to hide the risk inside, just like a giant Pandora’s jar (incorrectly translated from the ancient greek as a box instead of a jar).
Ephimetheus had been warned not to accept any gifts from Zeus, and Pandora had been warned not to ever open her box. But you know mankind, the former couldn’t resist marrying her, and the latter couldn’t resist her curiosity to know what was inside the box… Otherwise mankind would have lived tranquil and blissful (for another while).
So, has this man been able to close the jar (or box) that brings all the evils to mankind? I know it’s ugly to personalise but, has quantitative easing helped? It probably has, somehow, albeit many doubt so. I think it has bought us some more time, but we still haven’t taken care of that atonement I’ve written about a few times.
Because putting still more money into the system doesn’t address the fundamental problem we are facing. It’s more like trying to remedy a symptom than a disease. It’s true the pendulum has swung to the other side, and injecting liquidity, the swing won’t be that strong anyway, but that still doesn’t solve our problem.
Yes, banks are paralised. But that’s not because they have forgotten how to be banks, but because nobody really knows how much their assets are worth now. We are permitting them to alter their book to market ratio thanks to the backing of the ultimate lenders (yes, you know who they are, those forced lenders), and they are not lending because they are holding to those promises that permits them not to face reality.
Any reconstruction must begin by assessing the losses, instead of counting on a white (forced) knight that will save them all. This thought paralyses them, makes them look to the future with unrealistic expectations.
In the meantime, the forced lenders have to back and even buy bad assets. But they can’t sell them, as they don’t know how or whether they are worth anything. Just like another Pandora’s jar that trades hands without anybody actually looking what’s inside. And it won’t be a bad thing to look inside this jar, as at least we’ll know what we are able to recover. Bad assets are bad because they are worth much less than what’s in the books, it’s time to know how much.
So what then? Is this all? Even when we reach this point we will still have to face the biggest problem: the excess of debt. Right now we are still indebting us more and more as the quantitative easing still needs to be financed, as each and every infrastructure we may be trying to build, or every single measure taken to protect the weakest.
An interesting article from the New York Times wrote last month that the debt in the hands of the consumers had begun to recede from 98% of the Gross Domestic Product to 97%. Those were the good news. The bad news were that the debt in the hands of banks had not. And, according to the article, that debt stood at $17.2 trillion, or 121 percent of the size of the GDP of the United States, compared to 6% of the GDP half a century earlier. Yes, that’s a problem.
Still two final reflection in this already too long post: if households are saving more, that will have a long lasting impact on the economy as well, an impact that will last for sure much longer that the present recession. No more exuberant lending to households.
The other reflection is like this, what if we added to the debt held by households the debt that the governments are generating? They are the forced lenders after all. And if you look at the whole picture this way, the debt is still growing and growing… and the end is still further away.
Add comment 27 April, 2009
The tipping point of the crisis (are we there yet?)
It’s easy to talk about something when it has already happened. The crisis seems so predictable now (it was predictable before as well if you browse to older posts). Now the trick is about spotting the tipping point. Have we already seen the worst or are we going into a depression this time?
If we all saw it coming, why didn’t we do anything about it? Why sometimes prospects seem so grim and then, suddenly, hope seems to be around the corner?
I’ve got a theory about the tipping point, or how we are going to turn this around. It’s related to what Keynes called the animal spirits, not those of the American natives, but of John Maynard Keynes. Those that sharpen the edges of the market, turning optimism into euphory sometimes, and dismaying in despair sometimes. They are moody and impulsive, and sometimes the distance between hope and fright is as thin as a hair for them.
But the animal spirits couldn’t do anything without bodies. Inadvertently, we lend them our bodies, energies and enthusiasm. They act through us, so we should know something about them. We should feel them about to act.
Let’s read around. Who are we blaming for the crisis? The govermnents mainly, some obscure financiers, some not so obscure cons, other countries, departing leaders, distant wars… in short, we look around and find somewhere else to look at.
But this couldn’t have happened without our acquiescence. This wouldn’t be here if we all had avoided some things that, looking backwards, feel like common sense to all of us now. We didn’t have a say, yes, but we all could have had.
And how is all this going to change? How are we going to turn it around?
I can’t answer that. I am writing about when. And the when is not here yet. Only when we look inward, think of what we should be doing to change it all, when we finish the blame game and we act on responsibility instead, only then, we will have touched the bottom.
Until then, our animal spirits will keep dragging us down…
3 comments 21 January, 2009
Are we in a liquidity trap? (am I blind or is this another black swan?)
Liquidity traps are one of those obscure concepts hidden into macroeconomics books. Obscure enough to occupy some marginal comment only and disputed enough to be denied by the Austrian School of Economics. Ludwig von Mises would label them as myths. But, as mytical as a black swans that have recenty decided to come out of their closets and start teambuilding in the Thames, are we going to face this myth soon as well?
When Sir John Hicks thought of the IS-LM model, he already thought of liquidity traps somehow, but it was the first Baron Keynes (also known as John Maynard Keynes) who shaped the concept (did Ludwig von Mises need a better reason to label them as myths?).
The idea is simple. With the IS-LM model, cutting the interest rate is the scape from any recession, as we make more money available into the system to boost growth and employment. But, does more available money always equate more growth?
There’s a obvious limit to this: interest rates cannot be negative (hmmm, let’s leave it like this for a minute…) so there’s obviously a limit to monetary policies, that is when rates reach zero. Are we there yet? Well, the following table borrowed from Bloomberg can help:
Regardless of the fact that we are getting there, what if the rate where monetary policy became ineffective was not zero but higher? That’s in fact the idea behind liquidity traps. What if the banks and the firms -in short, people- became risk averse enough that they preferred the liquidity of cash to offering it to others at low rates?
In other words, what happens if the free-risk situation is no longer perceived as risk-free? How should this extra aversion to lending be rewarded?
The conclusion from Keynes was that there would be a point where monetary policies would be ineffective and the economy would remain trapped in recession. Then only fiscal policy, that would be a lot of government spending, would do the trick. But are we psicologically prepared for this extra spending and increased budget deficit and debt? Will the debt attract enough financing? Will the solution even deepen the liquidity trap by substracting even more money from the private sector?
There’s still a way to have negative interest rates and that’s thanks to inflation. After all with inflation our money inside the sock loses value every day. And an expansive monetary policy should raise inflation. (hmmm, look at inflation dropping and that other scary, even mytical word too: deflation) Even though, with a low enough interest rate, and with the current global scare, many people may choose to still leave it there.
Yes, a liquidity trap is a rare think. It may have happened in Japan long ago, even in the US in the previous recession (Krugman would say, and Reisman deny). May we already be into one?
Add comment 9 January, 2009
Crowding out time (more wood from the forced lenders)
Yes, right now the governments are pouring a lot of money into the system. Is it working? Can it work? Ain’t we trying to extinguish this fire the same way it started?
A well known effect in macroeconomics is the multiplicator accelerator model: there is a multiplicative effect when new investments are introduced in the economy and the economy grows in a higher rate. The other way can happen too, as the resources leave the economy and the slump is also accelerated. We are suffering this effect now, catalysed with instruments such as banks that are monetary multiplicators per se.
If we wanted to stop and reverse this effect, introducing new resources into the system, how can we do that?
The first temptation is, of course, to substitute this private money lenders for some other lenders that have no choice: the forced lenders. Yes, you guessed well. We are the tax payers. We are the forced lenders. Where private investors need trust to decide to participate, we simply have no choice.
Yes, you get the idea, our money, government’s money, gets poured down regardless the amount of trust present in the system. And the investors trust governments because they are backed by us: forced lenders.
But what happens when we pour all this money into the system? There’s another less known effect in macroeconomics, the crowding out effect. Government’s spending will substitute private initiative and occupy an even higher proportion of the economy. If the flow of money goes the way of the state, it won’t go the way of the private investors.
But then, being the state the lender and the backer of many securities, amidst this global scare, why should anyone not forced to invest in riskier assets? Investors will end up financing the treasury instead, and leaving the financial markets.
Where will the money come from to finance public companies? What will happen to suffering capital markets further short-circuited from the money flow? They might as well keeping go down the slope for a long time.
Yes, I am aware that to explain this crowding up effect, the IS/LM introduced by Sir John Hicks and Alvin Hansen needs higher interest rates that affect the unwillingness to invest to the private sector through an increased cost of capital. In the present situation, with lower costs of capital, the crowding out effect lacks the mechanism to happen.
But what if the present scare of capital turns into a similar mechanism to the increased cost of capital? What of the negative animal spirits? Can they make us disinvest from profitable companies and make them inviable? Couldn’t that make a crowding out effect too?
Meanwhile, but let me express my reservations about this stocking-more-wood process. More wood in the hands of the government, lower interest rates: more wood everywhere. Seems dangerous to my little me. Maybe our firemen should think of other options.
Add comment 10 December, 2008
Thinking of Walter Bagehot (forgotten panics and not-so-forgotten bankers)
After a weekend in Henley closing the strategic marketing and global business environment modules, and endless talks about the capital markets, including a valuable late-hour conversation in the plane with an economist whose expertise are intangibles, I felt I needed to dwell on the past knowledge to gain some perspective on the issue.
And who better than Walter Bagehot and his Lombard Street. I’d rather externalise the explanation on who’s Walter Bagehot using Wikipedia, but it suffices to say that he was the chief editor of the Economist, as well as a banker, and had studied mathematics and philosophy. What’s more interesting, that was in 1873.
1873 was also a year of panic: another crisis that lasted for four years (roughly like the 1929s’ depression), beginning with a mortgage crisis, another link worth externalising to the Chronicle Review. (Thanks to Brisebois 
)
Many will see analogies between what has happened in the past and what’s happening today. Even though, we tend not to care about what happened so long ago (or maybe not that long) and good lessons are simply forgotten. We could know so much if we simply didn’t collectively forget!
Because, in times of panic, what should a central bank do? Bagehot thought “that it must in time of panic do what all other similar banks must do; that in time of panic it must advance freely and vigorously to the public out of the reserve.”
But still a conditions for the intervention: “first that these loans should only be made at a very high rate of interest. This will operate as a heavy fine on unreasonable timidity, and will prevent the
greatest number of applications by persons who do not require it. The rate should be raised early in the panic, so that the fine may be paid early; that no one may borrow out of idle precaution without paying well for it; that the Banking reserve may be protected as far as possible.”
Where should we stop? “that at this rate these advances should be made on all good
banking securities, and as largely as the public ask for them. [...] But if securities, really good and usually convertible, are refused by the Bank, the alarm will not abate, the other loans made will fail in obtaining their end, and the panic will become worse and worse.”
“The only safe plan for the Bank is the brave plan, to lend in a panic on every kind of current security, or every sort on which money is ordinarily and usually lent. This policy may not save the Bank; but if it do not, nothing will save it.”
After all, some things could be done much better, but doing nothing leaves us all worse off. Guess what, the alternative was also tried a lot of years before, in the panic of 1825, also another long-lost panic, when “the Bank of England at first acted as unwisely as it was possible to act. [...] The reserve being very small, it endeavoured to protect that reserve by lending as little as possible. The result was a period of frantic and almost inconceivable violence; scarcely any one knew whom to trust; credit was almost suspended; the country was [...] within twenty-four hours of a state of barter. Applications for assistance were made to the Government, but [...] the Government refused to act…”
Ring a bell, maybe?
Add comment 30 October, 2008
The ant, the grashopper and the interest rates
I sincerely wished I could write about something else, but these days I’ve been spending a great deal of the time I don’t have absorbed by the financial markets.
And I’ve come to think of Aesop’s fable (click here for the Wikipedia entry): the ants and the grasshoppers, and the way they would have related to interest rates.
Since the ants are the hard-working ones in the fable. They are the ones that build the real economy, the ones that have their savings in the bank, in the safest financial products. On the other hand the grasshoppers don’t really worry about working hard, they are prone to risk and they aim for quick profits, regardless of the consequences.
Okay, now with the interest rates. Reasonably low interest rates benefit the ants because they can access funding with a reasonable price and still get a basic return for their savings while keeping them safe for the future. After all they are risk-averse creatures.
But if the interest rates go too low, close to nil, then it’s the time for the grasshoppers. Who cares about saving, who cares about the long term while short term is cheaper and you can still carry-trade. Short-term benefits are in order, even castles in the sand if they can be sold somehow, and when there’s no limit to the castles in the sand you can build, there’s no limit to growth. Screw Kondratiev!
In the end, it seems that the ants will end up saving the grasshoppers, just like in the fables. Lesson learned… or is it not? 
4 comments 3 October, 2008
Hallowed are the American taxpayers…
Hallowed are the American taxpayers
as they are the ones that will pay this huge bill,
Hallowed is the American Treasury
as it will acquire junk assets in the name of the Americans,
Hallowed are the international creditors
cos they will get increased risk premiums from a riskier debt,
Hallowed are the Feds
pushing forward a plan they don’t know if will suffice,
Hallowed is the growing debt
it will at least double in the forthcoming years,
Hallowed is the forgotten Laffer Curve
now supposed to work better if turned downwards,
Hallowed is the non-interventionist state
that implements socialist ideas in times of distress,
Hallowed are the big investment banks
allowed to merge to hide their shortcomings and ignominies,
Hallowed are the plunging assets
as they will be allowed to survive with their old values in the balance sheets,
Hallowed are the short sellers
sinners never repented from what they did in 1929,
no longer allowed to arbitrate or cover risks,
Hallowed are the politics
for they will still adore the taxes,
Hallowed are we all
for we will long feel the ripple effect of short-sighted politicians and unelected officials.
Sorry for the mental rambling, forgive me my rantings, but it’s been a hell of a week… time to change the subject though…
1 comment 22 September, 2008
Freddie Mac and Fannie Mae (Houston we’ve got a problem)
Even the most important (and supposedly liberal) economy in the world has its contradictions. And in this continuous deleveraging process that it’s suffering two huge pieces have fallen. Well, in fact, they have not fallen but been saved by the bell, at the last minute, by the American taxpayers. Or maybe not?
Let’s go step by step. This kind of operations are called nationalisations all over the world (and bringing them under government’s control in the US). Now the shareholders and the debtors of Freddie Mac and Fannie Mae have a problem. But the deleveraging process had to stopped somehow, somewhere. And that line was worth defending.
Avoiding the discussion about moral hazard, six months ago I was writing about the Financial weapons of mass destruction unleashed in the US (the party is over) and also about The new cycle of capital recovery (who’s financing your debt now?) Let’s use the same ideas now to seek coherence in the present situation.
Let’s summarise the whole reasoning and see where it leads to:
- Freddie Mac & Fannie Mae’s shareholders (and many other shareholders and creditors too) have lost a lot of money, true. We still haven’t seen that in the news, but a lot of sovereign funds must have lost fortunes. The time will come when they’ll have to account for them.
- Taxpayers will have to pay a lot of money now, true.
- The consequences could be worse if the taxpayers didn’t intervene, so it’s worth doing it, true. This line should not be crossed.
- So we do it, we nationalise Freddie Mac and Fannie Mae. Done. And to avoid moral hazard their shareholders must have an important loss, otherwise the system would be asymmetric. Or did any companies volunteer to share their big gains not so long ago?
- Shareholders and debt holders of those companies must be unhappy and worried about the soundness of the American economic system, reasonable. Wouldn’t you after losing that much? They’ll think twice before investing again in the US. Sensible thought, and yet that’s where our problems begin.
- Taxpayers are paying. I said that in number 2. But, can they afford the bill? The US is a country with a huge fiscal and commercial deficit, so it depends on foreign inflows of capital. Just follow the previous links to my half-year-old articles to see more.
- The taxpayers only have two ways to pay the bill: increasing taxes or further going into debt. I don’t see any of the presidential candidates advocating for higher taxes so I assume it will be the second option. The treasury will have to emit further debt, and not in small quantities. I’m approximating here but, these huge numbers are in order of the current debt volume. In other words, the US debt might be doubling because of these nationalisations.
- Doubling the debt volume means a lot about a country’s ability to repay it: it roughly halves the quality of the debt. We know that the US debt is a high quality debt, but that quality will subsequently be slashed down.
- The world has a few very important lenders, mainly Asian countries. Need I say which one? But they are not that enthusiastic with investing in the US any more. The foreign inflows into the US economy have been steadily declining in the last months.
Now for the conclusion, do we really expect the international lenders to go and help the same country that has given them important losses? Could we have an “holistic” response to keep the international lenders happy without incurring in moral hazard? Will they, after the negative experience, keep buying increasing quantities of worse quality debt?
The equation is something like this:
- ↓↓↓ availability of capital in the markets
- ↑↑↑ losses lenders and investors have suffered
- ↓↓↓ their predisposition to invest again
- ↑↑↑ increase in US debt needed
- ↓↓↓ decrease in the US debt quality
Well, there’s no easy exit to this cycle. The US will be pressured to compensate the international lenders of their loses if they want to keep capital inflows going. But isn’t that strikingly close to the definition of moral hazard? Notwithstanding, which are the other options to keep the flow going?
The deleveraging process is not quite over yet. And the US treasury is constrained between a series of conditions that cannot be all met at the same time. But worse of all, the whole country’s economy virtuous circle is broken and has turned into a vicious one. The economy is not sustainable any more. Houston we’ve got a problem.
On a positive note, there are more sides to this story. Two ideas:
- The US are the main market for those that are financing them. That means that, at least, they are financing a nation that is giving them back part of their finance and holding the activity of their industry. While this cycle exists, things won’t be so grim.
- Other economic areas don’t have this vicious circle, but are falling into stagflation instead. Even with its shortcomings, the US is still a growing economy. There are not that many around. The solvency of the US economy is still holding. And they have the resuscitated dollar.
And another Damocles sword:
- Is this the end of the intervention over Freddie Mac and Fannie Mae? Will these funds be enough? That depends on the still falling value of their assets and their growing insolvencies when people won’t be able to repay their mortgages. Who knows how much money will still have to be injected… and where else.
7 comments 9 September, 2008
Reflections from a high-speed train (inbetween Madrid and Barcelona)
I often travel the route Barcelona Madrid (and backwards) for the day. By plane it’s rather tiresome and expensive: with an open fare you end up paying around 400€ for a 630 km flight (+ 630 km back).
Barcelona – Madrid is the world’s busiest route with 971 operations per week. The second one is Sao Paulo – Rio (894 per week) then Jeju/Seoul Gimpo (858 per week) and fourth is Melbourne/Sydney (851 per week).
In fact you have to go very low in the ranking to find another crowded European route. That would be Rome – Milan with less than 600 operations per week, which, by the way, is more than the most crowded North American continental route: Las Vegas – Los Angeles (553 per week)
Source: www.oag.com, data from September 2007
But things change. And this milk cow for the airlines faces its first serious menace ever: the high speed Spanish train service, also called AVE.
These brand new trains travel the distance of 630km (410 miles) in two hours and 35 minutes. Not too bad when it’s compared with the plane that takes roughly two and a half hours (not just flying but also spent in the check in and departure processes), and possibly more.
But, from an economic point of view, there are many hidden costs that must be taken into account. After all, what is it that you do in a plane? Well, you sit in a narrow seat, trying not to disjoint your legs, and pray that the person that will be sitting beside you is not extra overweight. In the train you have plenty of space. Being uncomfortable has a cost.
How much? Well, it depends on what you’re willing to pay to be more comfortable, of course, and how much your time costs.
How much are you willing to pay for that extra nap? Well, in a 45-minute-long flight, you’re going to have maximum thirty minutes of uninterrupted sleep. You won’t be able to sleep while you queue, while you’re being inspected at the burdensome security checks, while you wait your turn. But on a continuous 2 hours 35 minutes journey you’ll be able to.
As for opportunity costs, you won’t be able to do anything in the plane, apart from opening your laptop for half an hour. It’s completely wasted time. In the train you can use your computer as much as you want, use your phone, combine them and access the internet. Work, eat, talk, whatever you wish.
But externalities must also be taken into account. Environmental footprints can be four times higher for planes than for trains. That means that the train will always be more sustainable and, if we ever are to reflect the true external costs, energy efficiency will give the train an important lead over the plane.
Add those costs up: discomfort costs, opportunity costs, externalities and you will have a very competitive mean of transport. Which only means that competition has been increased, with a comparable service at a better price. In the end, consumers will be benefited from the additional choices, lower prices and the increased service levels that competition will bring.
That was what I was thinking when I decided to open the textbook I was carrying with me. The Managing Financial Resources module awaited me. Fortunately it was half way to Barcelona, 300 km per hour (186.41 mph), still an hour to go.
2 comments 2 April, 2008
