Thursday, 31 July 2014
The UK’s balance of payments has deteriorated recently. Put that another way, foreigners are keener than usual to get hold of pounds sterling. Well that’s fine by me, as long as we charge them a negative real rate of interest for holding pounds (i.e. make sure the base rate is below the rate of inflation). And for the benefit of anyone who is not clear on how to achieve that, here is “Musgrave’s politically incorrect guide to screwing foreigners”.
Step No. 1: Don’t raise interest rates when the economy recovers. 2. Instead damp down demand by running a budget surplus. Here endeth Musgrave’s politically incorrect guide.
In any case, using interest rate adjustments to regulate demand is crazy, as numerous people / bodies have been pointing out for some time, e.g.: Positive Money, New Economics Foundation, Prof. Richard Werner (see here for those three). Milton Friedman advocated the same. Plus I’ve advocated the same for some time.
If you can get real goods and services off foreigners in exchange for inherently worthless bits of paper, why not go for it? In effect, they’re asking you to be their banker, or supplier of safe assets. Banking is profitable if you get it right.
One way of disposing of the Too Big To Fail problem is obviously to break up “big” banks. But that might involve forgoing economies of scale. So assuming we decide to keep those economies of scale, that means TBTF banks will stay in place.
And that in turn means that in order not to give big banks any sort of edge on smaller banks, ALL BANKS have to be made so safe that failure is impossible. But that clashes with the very reasonable idea that any business in a free market should be allowed to fail. So what’s the escape from that dilemma? Well it’s easy.
All banks or “lending entities” can be made fail safe in the sense of making it impossible for them to go insolvent: that can be done by having them be funded just by shareholders and not by depositors, bondholders or similar. That rules out insolvency, though it doesn’t prevent a serious decline in the value of bank shares and a takeover given incompetent management .
So that solves the problem, unless I’ve missed something. That is, the TBTF subsidy vanishes while we still get the economies of scale that big banks confer on us.
Oh by the way, the latter system is called “Full Reserve Banking”.
The above is a pretty fundamental question. But don’t expect many economists to examine it. Reason is that entire careers, books and a thousand papers have been written in connection with government debt, and if it turned out that government debt was as big a farce as astrology or tea leaf reading, many economists would have egg on their faces.
And economists don’t want egg on their faces. Ergo most of them are reluctant to examine the above question.
And don’t answer the above question by suggesting that printing money is inflationary. It’s pretty obvious that printing too much money is inflationary. But the fact that taking X or Y to excess is harmfull is not an argument against X or Y.
I examined the question as to whether government borrowing made any sense here, and concluded that it didn’t. Plus Milton Friedman and Warren Mosler opposed any sort of government borrowing.
Wednesday, 30 July 2014
Scott’s “Market Monetarism” has come in for plenty of criticism recently, e.g. by Tony Yates and Simon Wren-Lewis. Plus I’ve been bashing away at MM for some time, e.g. here and here and here.
However, Scott won’t give up. He continues to repeat the same stuff, so let’s run through some of the errors in his latest effort.
First, he claims that money fed into the private sector via fiscal stimulus will or may have to be removed later via what he calls “distortionary” taxation. He has never to my knowledged explained why taxes are distortionary.
Obviously taxes CAN BE distortionary: e.g. a tax just on red cars but not cars of a different colour. On the other hand taxes can be very distortion free: e.g. a flat percentage tax on everyone’s income.
Moreover, MM itself is distortionary in that it involves asset purchases and thus feeds money into a narrow section of the population, the asset rich, rather than feeding money into Main Street.
Next, there is this bizarre paragraph (which I’ve put in blue):
The fiscal part of this plan is inefficient for the same reason as it would be inefficient to give people money when not at the zero bound---the deadweight cost of taxation. Some people respond that the funds are created out of thin air, so there is no deadweight cost. That's wrong for two reasons. First, the funds will probably have to be partly removed when the economy exits the zero bound, in order to prevent high inflation. That requires distortionary taxes. Yup, there's still no free lunch. And even if the funds never had to be removed, if we are at the zero bound forever, there is an opportunity cost; the same funds could be used to reduce distortionary taxation.
Now that final sentence is meaningless and for the following reasons. One way of implementing fiscal stimulus is to cut taxes, and if that’s the method chosen, then Scott is saying “cutting taxes involves an opportunity cost, namely that the relevant money could have been used to cut taxes”. The word “tautology” springs to mind.
The only alternative way of implementing fiscal stimulus is to raise public spending. In that case it’s fair enough to say that public spending involves an opportunity cost, namely cutting taxes. I.e.cutting taxes is the alternative to more public spendinng.
But if a democratically elected government takes the decision to raise public spending rather than cut taxes, and assuming that government fairly represents the views of the people, then the general view is that the relevant country gets better value for money by raising public spending rather than cutting taxes. In which case it’s nonsense to suggest that cutting taxes would have been better than raising public spending, or to witter on about “opportunity costs”.
Tuesday, 29 July 2014
His article is entitled “Drop It: You Can Call for Helicopter Money but Drop the Call for Coordination”.
The word coordination refers to having having government do $X of fiscal stimulus while the central bank (CB) does $X of QE: the net effect being that the public sector / authorities simply print and spend $X net of any changes to tax.
Basically Scott claims there is no point in the latter printing: that is, getting the CB involved has no effect. This is a fundamental point that needs sorting out because not only were there calls for “coordination” when Scott wrote his article a year ago, as he pointed out, but those calls continue. Examples of those making the latter “call” include Positive Money, David Beckworth and Simon Wren-Lewis. Anyway, I’ll run through Scott’s argument, as I understand it, and try to explain where I think the flaw is.
In the paragraph starting “Let’s think for a minute..” Scott argues that when $Y of coordination takes place, the treasury disposes of $Y of debt in the traditional sense of the word (e.g. “Gilts” in the UK or “Treasuries” in the US), but it still has a debt in that $Y of new base money comes into being, and the CB according to Scott pays interest on that (at 0.25% in the US at the time he wrote the article). But in effect that’s treasury debt because CBs remit their profits to their treasury on a regular basis, and if the CB is on the face of it paying interest on reserves, then the reality is, according to Scott, that the TREASURY is paying the interest, so the treasury is still in debt. Therefor, so he argues, coordination (i.e. having the CB print money and buy debt) has no effect.
In his own words (in blue italics): “Now, what happens if instead the Treasury runs a deficit but there is no “coordination” and instead the Treasury issues T-bills? In that case, the Treasury ends up with new debt that it likewise services at essentially or roughly the Fed’s target rate—it’s well known that rates on T-bills essentially arbitrage with the fed funds rate.”
The no interest on reserves scenario.
Now the first and obvious problem there is that in normal circumstances (i.e. prior to the crunch) CBs did NOT PAY interest on reserves. E.g. the Fed started paying interest on reserves in 2008. So in “normal circumstances” Scott’s argument collapses, unless I’ve missed something. That is, contrary to Scott’s claims, there is a big difference between the authorities, 1, borrowing money from the private sector and spending it, and 2, the authorities simply printing new base money and spending it. To illustrate in 2006, the yield on Treasuries was a bit over 4%. Now there’s a big difference between 4%+ and 0%. Moreover, note that the yield on debt with a few months till maturity was much the same as debt with five years to maturity: reason being that banks were prepared to pay good money to acquire reserves, and ownership of Treasuries with a few months till maturity equals the right to extra reserves in a few months time.
The scenario post crunch was different. After the crunch, the economy was awash with base money, thanks to QE and near zero interest rates. In that scenario, the yield on short term debt is near zero, while the yield on longer term debt will be significant because debt holders run the risk of their investment being diminished by inflation (1.66% for 5 year debt, according to the latter link).
In that scenario, it is true to use Scott’s words that “rates on T-bills essentially arbitrage with the fed funds rate.” But that is only true for SHORT TERM debt.
In that scenario, its true that there is no difference between, 1, the treasury borrowing SHORT TERM and 2, the treasury borrowing short term with the CB buying back the relevant debt. After all, the latter short term debt has a yield of near zero and debt with a zero yield is effectively the same as money.
On the other hand if the treasury borrows by issuing LONG TERM debt, there IS A DIFFERENCE between “1” and “2” just above: to repeat, there is significant yield on long term debt even in the current near zero interst rate scenario.
So I’m claiming that the only scenario where Scott’s “coordination is pointless” idea holds is where there is little effective difference between base money and debt ANYWAY.