Monday, May 2, 2011

Todey's links

1--Millions Set to Lose Unemployment Benefits, Wall Street Journal

Excerpt: 5.5 million: Americans unemployed and not receiving benefits

The job market may be on the mend, but that’s not much consolation to millions of Americans facing a frightening deadline: the end of their unemployment benefits.

The country’s unemployment rolls are shrinking fast, after expanding sharply last year as the government extended benefits to ease the pain of a deep economic slump. As of mid-March, about 8.5 million people were receiving some kind of unemployment payments, down from 11.5 million a year earlier, according to the Labor Department....

Many Americans, though, are simply running out of time. As of March, about 14 million people were unemployed and looking for work, according to the household survey. At the time the survey was done, about 8.5 million were receiving some kind of unemployment payments, according to the Labor Department’s Employment and Training Administration. That leaves about 5.5 million people unemployed without benefits, up 1.4 million from a year earlier.

2--Without Wage Pressures, Stagflation Fears Are Overblown, Wall Street Journal

Excerpt: The word “stagflation” is being whispered about as a coming danger for the U.S. economy. Those who lived through the 1970s-80s experience know current conditions are nowhere near the sorry state of that time.

Importantly, today’s inflation generator is missing a key gear: wage pressures. You just have to look at Friday’s report on employment costs.

The word stagflation, which describes a situation where the inflation rate is high and the economic growth rate is low, became popular about three decades ago when U.S. economic growth hit a brick wall and inflation surged to the stratosphere....

To be sure, inflation is likely to increase further this year. More companies are passing along their higher commodity costs to their customers. And shelter inflation is expected to pick up....

The current cycle is missing its middle step: there is too much slack in the U.S. labor market. As a result, labor costs are barely moving....

A major structural reason given for the lack of bargaining power is the declining share of union membership. Union contracts typically include a cost-of-living adjustment for wages. In 1983, the first year for comparable data, 20.1% of wage and salary workers were union members. In 2010, the rate was down to 11.9%.

A big cyclical reason is the current overhang of labor. The official number of unemployed is 13.5 million. Another 8.4 million are working part-time but would prefer a full-time slot. Another near-million workers have simply given up.

When supply exceeds demand, prices–in this case, wages–have to adjust lower. Until labor markets tighten significantly, businesses have great leeway to manage their largest expense, labor costs.

That is why fears of stagflation are overblown.

3--The Destruction of Economic Facts, The Big picture

Excerpt: As we have discussed previously (here and here), de Soto has identified the property record keeping — he calls them “public memory systems” — as one of the major advantages of Western Capitalism. The recording, rule-bound, certified, and publicly accessible registries, titles, balance sheets, and statements of accounts, especially for land and houses — is how our system creates “economic facts.”

Various elements in our economy — Shadow banking systems, MERS, abdication of lending standards (i.e., no doc loans and origination fraud), Robosigners, mark-to-model accounting fraud, off balance sheet bank assets — have conspired to destroy those facts. These economic fact destroying gambits turned out to be prime underlying elements of the financial crisis.....

Over the past 20 years, Americans and Europeans have quietly gone about destroying these facts. The very systems that could have provided markets and governments with the means to understand the global financial crisis—and to prevent another one—are being eroded. Governments have allowed shadow markets to develop and reach a size beyond comprehension. Mortgages have been granted and recorded with such inattention that homeowners and banks often don’t know and can’t prove who owns their homes. In a few short decades the West undercut 150 years of legal reforms that made the global economy possible.

The results are hardly surprising. In the U.S., trust has broken down between banks and subprime mortgage holders; between foreclosing agents and courts; between banks and their investors—even between banks and other banks. Overall, credit (from the Latin for “trust”) continues to flow steadily, but closer examination shows that nongovernment credit has contracted. Private lending has dropped 21 percent since 2007. Outstanding loans to small businesses dropped more than 6 percent over the past year, while lending to large businesses, measured in commercial loans of more than $1 million, fell nearly 9 percent.”

4--China's Surge, Mark Weisbrot, Counterpunch

Excerpt: China has been the world's fastest growing economy for more than three decades, growing 17-fold in real (inflation-adjusted) terms since 1980. It is worth emphasizing that most of this record growth took place (1980-2000) while the rest of the developing world was doing quite badly by implementing neoliberal policy changes – indiscriminate opening to trade and capital flows, increasingly independent central banks, tighter (and often pro-cyclical) fiscal and monetary policies, and the abandonment of previously successful development strategies.

China clearly did not embrace these policy changes, which were promoted from Washington by institutions such as the IMF, World Bank, and later the WTO. (China did not even join the WTO until 2002.) It is true that China's growth acceleration included a rapid expansion of trade and foreign investment. But these were heavily managed by the state, to make sure that they fit in with the government's development goals -- quite the opposite of what happened in most other developing countries. China's goals included producing for export markets, promoting higher levels of technology (with the goal of transferring technology from foreign enterprises to the domestic economy), hiring local residents for managerial and technical jobs, and not allowing foreign investments to compete with certain domestic industries....

A technical matter: If we measure China's economy in dollars at current exchange rates, it reached $5.9 trillion in 2010, as compared with $14.7 trillion for the U.S. By a purchasing-power-parity measure, its economy reached $10.1 trillion in 2010. It is that measure that the IMF projects to grow to $18.98 trillion in 2016, putting the U.S. in second place at $18.81 trillion.

5-- The Intimidated Fed, Paul Krugman, New York Times via Economist's View

Excerpt: Last month more than 14 million Americans were unemployed by the official definition... Millions more were stuck in part-time work because they couldn’t find full-time jobs. And we’re not talking about temporary hardship. Long-term unemployment, once rare in this country, has become all too normal: More than four million Americans have been out of work for a year or more. ...

It all adds up to a clear case for more action. Yet Mr. Bernanke indicated that he has done all he’s likely to do. Why?

He could have argued that he lacks the ability to do more, that he and his colleagues no longer have much traction over the economy. But he didn’t. On the contrary, he argued that the Fed’s recent policy of buying long-term bonds, generally referred to as “quantitative easing,” has been effective. So why not do more?

6--- What is the optimal leverage for a bank, David Miles, Cross posted from VoxEU via Naked Capitalism

Excerpt: Our estimate of optimal bank capital (by which we mean equity) is that it should be around 20% of risk weighted assets. This is much higher than the 7% level agreed under Basel III. It might sound like 20% is a dangerously high figure. But since risk weighted assets for many banks are between 1/2 and 1/3 of total assets then even with equity at 20% of risk weighted assets debt would be between 90% and 93% of total funding. The notion that this is insufficient debt to capture any benefits from debt discipline seems unlikely.

Were banks, over time, to come to use substantially more equity and correspondingly less debt, they would not have to dramatically alter their stock of assets or cut their lending. The change that is needed is on the funding side of banks’ balance sheets – on their liabilities – and not their assets. The idea that banks must shrink lending to satisfy higher requirements on equity funding is a non-sequitur. But there is a widely used vocabulary on the impact of capital requirements that encourages people to think this will happen. Capital requirements are often described as if extra equity financing means that money is drained from the economy – that more capital means less money for lending.

Consider this from the Wall St. Journal, in a report on the Basel negotiations on new rules over bank capital:

The proposed rules would have driven capital requirements up for all banks, forcing the quality and quantity of these capital cushions to grow …… That would be expensive for banks, because the money sits on banks’ balance sheets and essentially can’t be invested to bring in more profits. (Paletta 2010)

This is pretty much the opposite of the truth. At the risk of stating the obvious, equity is a form of financing; other things equal a bank that raises more equity has more money to lend – not less.

7--QE's failure and the housing market, Pragmatic Capitalism

Excerpt: Wednesday’s MBA mortgage applications data highlights another glaring error in the efficacy of QE2. While the Fed loves to point to rising equity prices (while denying blame for commodities) they appear to conveniently ignore the consumer’s largest asset – housing. In the now infamous Washington Post op-ed Chairman Bernanke discussed the role that QE2 would play in helping to boost the housing market:

“Easier financial conditions will promote economic growth. For example, lower mortgage rates will make housing more affordable and allow more homeowners to refinance.”

Since then we have heard nary a peep about the housing market. And that’s because mortgage rates have spiked and housing conditions have become anything but “easier”. And as we all know, the housing market remains a disaster with housing prices continuing to decline, record low sales, climbing inventories and rising interest rates. The key here is interest rates and it highlights the failure of QE2. While many academics like to point to real rates the truth is that the consumer has not noticed the benefit of this rate effect at all. This is clear in the MBA application data where you can see the perfect inverse correlation in applications and interest rates (see chart)

8--The Global Money Machine, (from the archive), David Roche, Yale Global Online

Excerpt: ...what is liquidity?

Two years ago, when confronted with financial-sector balance sheets and asset prices that were growing at a multiple of GDP and money supply that wasn't, we at Independent Strategy found our answer. At the time, there was precious little correlation between money and financial-asset prices. That seemed strange. Unless return on assets, measured by corporate return on capital, was rising exponentially, there was no justification for asset prices to be doing so.

Further research indicated that what was driving asset prices was the supply of copious and cheap credit with which to buy them. This type of asset money or credit was not counted in the traditional definition of liquidity, which is simply broad money, made up of central-bank money and bank lending.

The reason for the exponential growth in credit, but not in broad money, was simply that banks didn't keep their loans on their books any more – and only loans on bank balance sheets get counted as money. Now, as soon as banks made a loan, they "securitized" it and moved it off their balance sheet.

There were two ways of doing this. One was to sell the securitized loan as a bond. The other was "synthetic" securitization: for example, using derivatives to get rid of the default risk (with credit default swaps) and lock in the interest rate due on the loan (with interest-rate swaps). Both forms of securitization meant that the lending bank was free to make new loans without using up any of its lending capacity once its existing loans had been "securitized."

So, to redefine liquidity under what I call New Monetarism, one must add, to the traditional definition of broad money, all the credit being created and moved off banks' balance sheets and onto the balance sheets of nonbank financial intermediaries. This new form of liquidity changed the very nature of the credit beast. What now determined credit growth was risk appetite: the readiness of companies and individuals to run their businesses with higher levels of debt.

9--Financial Implosion and Stagnation, John Bellamy Foster and Fred Magdoff, Monthly Review (from the archive)

Excerpt: In 1982, economist Hyman Minsky, famous for his financial instability hypothesis, asked the critical question: “Can ‘It’—a Great Depression—happen again?” There were, as he pointed out, no easy answers to this question. For Minsky the key issue was whether a financial meltdown could overwhelm a real economy already in trouble—as in the Great Depression. The inherently unstable financial system had grown in scale over the decades, but so had government and its capacity to serve as a lender of last resort. “The processes which make for financial instability,” Minsky observed, “are an inescapable part of any decentralized capitalist economy—i.e., capitalism is inherently flawed—but financial instability need not lead to a great depression; ‘It’ need not happen” (italics added).12

Implicit, in this, however, was the view that “It” could still happen again—if only because the possibility of financial explosion and growing instability could conceivably outgrow the government’s capacity to respond—or to respond quickly and decisively enough. Theoretically, the capitalist state, particularly that of the United States, which controls what amounts to a surrogate world currency, has the capacity to avert such a dangerous crisis. The chief worry is a massive “debt-deflation” (a phenomenon explained by economist Irving Fisher during the Great Depression) as exhibited not only by the experience of the 1930s but also Japan in the 1990s. In this situation, as Fisher wrote in 1933, “deflation caused by the debt reacts on the debt. Each dollar of debt still unpaid becomes a bigger dollar, and if the over-indebtedness with which we started was great enough, the liquidation of debt cannot keep up with the fall of prices which it causes.” Put differently, prices fall as debtors sell assets to pay their debts, and as prices fall the remaining debts must be repaid in dollars more valuable than the ones borrowed, causing more defaults, leading to yet lower prices, and thus a deflationary spiral.13

The economy is still not in this dire situation, but the specter looms.As Paul Asworth, chief U.S. economist at Capital Economics, stated in mid-October 2008, “With the unemployment rate rising rapidly and capital markets in turmoil, pretty much everything points toward deflation. The only thing you can hope is that the prompt action from policy makers can maybe head this off first.” “The rich world’s economies,” the Economist magazine warned in early October, “are already suffering from a mild case of this ‘debt-deflation.’ The combination of falling house prices and credit contraction is forcing debtors to cut spending and sell assets, which in turn pushes house prices and other asset markets down further… A general fall in consumer prices would make matters even worse.”....

Bernanke’s answer to all of this was strongly to reassert that monetary factors virtually alone precipitated (and explained) the Great Depression, and were the key, indeed almost the sole, means of fighting debt-deflation. The trends in the real economy, such as the emergence of excess capacity in industry, need hardly be addressed at all. At most it was a deflationary threat to be countered by reflation. 19 Nor, as he argued elsewhere, was it necessary to explore Minsky’s contention that the financial system of the capitalist economy was inherently unstable, since this analysis depended on the economic irrationality associated with speculative manias, and thus departed from the formal “rational economic behavior” model of neoclassical economics.....

In The End of Prosperity Magdoff and Sweezy wrote: “In the absence of a severe depression during which debts are forcefully wiped out or drastically reduced, government rescue measures to prevent collapse of the financial system merely lay the groundwork for still more layers of debt and additional strains during the next economic advance.” As Minsky put it, “Without a crisis and a debt-deflation process to offset beliefs in the success of speculative ventures, both an upward bias to prices and ever-higher financial layering are induced.”....

American economist Paul Sweezy pointed out long ago that stagnation and enormous financial speculation emerged as symbiotic aspects of the same deep-seated, irreversible economic impasse. He said the stagnation of the underlying economy meant that business was increasingly dependent on the growth of finance to preserve and enlarge its money capital and that the financial superstructure of the economy could not expand entirely independently of its base in the underlying productive economy. With remarkable prescience, Sweezy said the bursting of speculative bubbles would, therefore, be a recurring and growing problem.....

Since financialization can be viewed as the response of capital to the stagnation tendency in the real economy, a crisis of financialization inevitably means a resurfacing of the underlying stagnation endemic to the advanced capitalist economy. The deleveraging of the enormous debt built up during recent decades is now contributing to a deep crisis. Moreover, with financialization arrested there is no other visible way out for monopoly-finance capital. The prognosis then is that the economy, even after the immediate devaluation crisis is stabilized, will at best be characterized for some time by minimal growth, and by high unemployment, underemployment, and excess capacity.....

Today nothing looks more myopic than Bernanke’s quick dismissal of traditional theories of the Great Depression that traced the underlying causes to the buildup of overcapacity and weak demand—inviting a similar dismissal of such factors today. Like his mentor Milton Friedman, Bernanke has stood for the dominant, neoliberal economic view of the last few decades, with its insistence that by holding back “the rock that starts a landslide” it was possible to prevent a financial avalanche of “major proportions” indefinitely.42 That the state of the ground above was shifting, and that this was due to real, time-related processes, was of no genuine concern. Ironically, Bernanke, the academic expert on the Great Depression, adopted what had been described by Ethan Harris, chief U.S. economist for Barclays Capital, as a “see no evil, hear no evil, speak no evil” policy with respect to asset bubbles.....

Eventually, monetarism emerged as the ruling response to the stagflation crisis of the 1970s, along with the rise of other conservative free-market ideologies, such as supply-side theory, rational expectations, and the new classical economics (summed up as neoliberal orthodoxy). Economics lost its explicit political-economic cast, and the world was led back once again to the mythology of self-regulating, self-equilibrating markets free of issues of class and power. Anyone who questioned this, was characterized as political rather than economic, and thus largely excluded from the mainstream economic discussion.45

Needless to say, economics never ceased to be political; rather the politics that was promoted was so closely intertwined with the system of economic power as to be nearly invisible. Adam Smith’s visible hand of the monarch had been transformed into the invisible hand, not of the market, but of the capitalist class, which was concealed behind the veil of the market and competition. Yet, with every major economic crisis that veil has been partly torn aside and the reality of class power exposed.

10--Slapped in the Face by the Invisible Hand: Banking and the Panic of 2007, Gary Gorton, Yale and NBER


The “shadow banking system,” at the heart of the current credit crisis is, in fact, a real banking system – and is vulnerable to a banking panic. Indeed, the events starting in August 2007 are a banking panic. A banking panic is a systemic event because the banking system cannot honor its obligations and is insolvent. Unlike the historical banking panics of the 19th and early 20th centuries, the current banking panic is a wholesale panic, not a retail panic. In the earlier episodes, depositors ran to their banks and demanded cash in exchange for their checking accounts. Unable to meet those demands, the banking system became insolvent. The current panic involved financial firms “running” on other financial firms by not renewing sale and repurchase agreements (repo) or increasing the repo margin (“haircut”), forcing massive deleveraging, and resulting in the banking system being insolvent. The earlier episodes have many features in common with the current crisis, and examination of history can help understand the current situation and guide thoughts about reform of bank regulation. New regulation can facilitate the functioning of the shadow banking system, making it less vulnerable to panic.

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