Remember this blast from late December?
But I think the argument for Tech Stocks Right Now! in massive size is very compelling.
- Businesses have put off tech spending for a few years – and this may as well be 50 years for a normal industry. Tech decays in usefulness quickly.
- Tech spending is the first to get cut in a downturn, because you can put it off for a bit. However, it comes back on line quickly if there is a recovery, because it is cheap.
- There are many new business focused software techologies coming on line next year that will be staggeringly useful for businesses.
The business depreciation acceleration is coming at a perfect time for business spending, but it will have an outsized impact on tech spending within the business community. It will have a particularly strong impact on tech spending this year. In the past, current spending gooses tech stocks enormously.
Go long, long, long Tech!
Check out this article from Bloomberg:
Intel Corp. (INTC) and International Business Machines Corp. (IBM) issued sales and profit forecasts that reflected demand from companies eager to upgrade computer systems left fallow during the recession.
IBM, the largest computer-services provider, boosted its full-year profit forecast, while Intel, the top chipmaker, forecast second-quarter sales higher than analysts predicted. VMware Inc. (VMW) and Juniper Networks Inc. (JNPR), two other business- technology providers, also met or topped analysts’ projections.
The entire article is essentially a recap of my post from December.
I’ve been hugely busy for the last 2 weeks. When I wrote out the rule Friday morning for the first time, I didn’t have any time to write out reasoning or even about the choice of targets.
I am still very busy, but I have a little bit of additional background on the choices, plus some very quick notes.
I’ve realized this is more of a functional finance rule than an MMT rule. MMT has a rule already for this – it is the famous and controversial Employer of Last resort. Famous in the MMT world, but unfortunately controversial for most people. Part of the reason I created a rule was to form a practical rule we can use today, without the need to implement the ELR immediately. Let’s face it, the ELR won’t be voted into law next year. We need something useable and practical now. Thanks to Scott and Beowulf for pointing out the rule is more functional finance than MMT.
Since a country with a sovereign currency cannot go bankrupt, the only remaining worries for this government is the inflation rate and the unemployment rate. I’ve gone into this with some detail here and over at Interfluidity.
It is very possible that Interfluidity is correct and we need to be concerned with a discontinuous jump in inflation. I don’t think this is the case for reasons I think I laid out in the comments section at Interfluidity, but it is entirely possible (and thinking about Soros-Popper, extremely likely) that I am incorrect. We need more research into inflation under a sovereign currency regime.
So we have two targets – the Feds famous dual mandate – of unemployment and inflation. I prefer to target them directly rather than indirectly through GDP. However, Scott Sumner and David Beckworth have made a good case for targeting NGDP. This targets inflation and real growth in a single easy to understand number. I consider NGDP targeting to be a superior to than the Taylor rule.
Still, I don’t think an NGDP target is as good as targeting unemployment. Unemployment is bad for reasons beyond the sheer economic loss associated with able people sitting around. We do not need to make a choice between everybody working and high economic growth – we can presumably have both. NGDP could theoretically limit the economy below full employment due to assuming growth causes inflation. An unemployment target is less likely to run into a self imposed limitation on economic growth.
Warren Mosler has hinted that he thinks that real economic growth could be 10%+ with good policy. China has grown at this rate for decades, and Japan had growth approaching this level for decades until they changed their policy. We don’t know what is possible for long term growth with good policy – we have not yet had the good policy part. An NGDP target is a potential self-imposed throttle on economic growth.
Beowulf pointed me to Pavlina R. Tcherneva’s paper on fiscal policy. In it, she makes a great case for targeting effective demand over aggregate demand. The ELR is superior to the TC rule in that it targets effective demand, where the TC rule only targets aggregate demand through the mechanism of % government deficit. It is a must read paper on the topic, and I wish I had read it the day it came out. The distinction between Aggregate Demand and Effective Demand eviscerates NGDP targeting or targeting inflation alone. I cannot recommend this paper highly enough.
Beowulf points out that Okun’s law has been unstable. Yes, it has. As far as I know, most economic regressions are unstable. It’s a problem with any rule that uses empirical relationships in with economic data. Still, I think using the current accepted multiplier of 1.8 would be a good place to start. [Update: Beowulf points out why not just use Bernanke's 2.0 as the multiplier? Hard to argue with that one, right, Mr. Bernanke?]
Okun’s law also assumes there is some maximum potential GDP rate to generate the multiplier. This results in something like the NAIRU for the target unemployment rate. Using this in the law is a self imposed limit on growth, and another reason the ELR is superior.
We can use the TC rule with the ELR as a special case where (u-u) = 0 We are then left with a rule that targets inflation and population growth.
What is the proper inflation rate to use? Good question.
I used population growth as part of this equation because it is the largest single deflationary (or inflationary) pressure facing any economy. Maybe I am wrong, but I think of it like this:
100 agents, two groups of 50, with $50 total in the economy, no credit allowed, no desire for savings. Each day 50 of them produce 100 units of food, which is then of course priced at $1 per unit. The other 50 buy and then consume food and lay about. The groups switch every day in production and idle time. Then one day, 10 more identical agents show up with no money and equally join groups, so now each group has 55 in it. The price of the food produced must go down.
Deflation isn’t a problem in this toy economy, but in the real world deflation has much worse consequences than inflation. Anytime you can increase your wealth relative to other humans by sitting on your ass instead of working your ass off, there is a problem.
Anyway, thats all for now!
What does Warren mean when he writes:
“He doesn’t seem to grasp the notion that imports are real benefits and exports real costs.”
When you exchange “alter a few bytes in a computer” for something “useful in the real world”, it is a benefit to one side of that trade, and it isn’t the side that gives the useful stuff.
King Midas couldn’t eat anything because everything he touched turned to gold. As a result, his avarice turned to starvation very quickly – even though he could create what was a valuable asset in unlimited quantities.
In the real world, money is valuable because it eases trade. But in the end, you cannot use money to do anything practical in the real world. You cannot build with it, eat it, or engineer with it except in the most extraordinary circumstances, and even then you’ll find better materials just laying around on the ground around you, even in the desert or artic.
Physical Money has no real world benefit – be it paper or computer money. So when Mosler says that imports are a real benefit, he means that we get to exchange something that isn’t even as useful as hot air for a real world good or service that has use to us.
When we send a few hundred billion video game tokens to China and they give us tables, toys, and auto parts, we’re coming out way way ahead on that trade in the real world. They get nothing, and we get useful stuff.
Interesting article here in the FT Blog about how the Private Sector must be under reporting their Surplus.
The blog post makes a hash of it, but the UBs economist George Magnus seems to know the Balance sheet stuff cold, even if he won’t let on that he knows other ways to think about our favorite equation, I = S + (G-T) + (N-X). He even drops serious and repeated Minsky references – how can he not know his Randall Wray and Billy Mitchell?
Magnus points out that the private sector “must” be underreporting its savings, because they don’t add up with other known numbers:
“The data, through Q3:2010, reveal that the surge in the government deficit to 10% GDP is basically the counterpart of the continuing surplus earned by foreigners (in effect, the current account position), and the sharp turnaround from deficit to surplus in the household and non-financial corporate sectors. Put another way, private sector deleveraging has been accommodated without traumatic damage to the economy by the government’s willingness to borrow (temporarily) on its behalf.
This much is self-evident to people familiar with the balance sheet approach to booms and busts. But now it gets a bit more interesting, because the Fed’s data don’t add up properly any more. Chart 1 shows that the private sector surplus last year was running at about 5% of GDP. If we use commercial bank data to estimate the net financial investment of the sector, the private sector surplus would be about 3.5% GDP. Now go figure. Even adding in the overseas surplus, how does this square with government borrowing of 10% of GDP?
The answer is that there appears to chronic under-reporting of the private sector surplus. So, look at Chart 2, where the solid line is the private sector financial balance as reported in the Flow of Funds, but the dashed line is the private sector as a residual, calculated as the government plus the overseas balance. Mostly, these two series are in the same ballpark – until the financial crisis. To make the flow of funds data balance as they should, the private sector surplus ‘needs’ to be a lot closer to 8.5% of GDP, which is 3.5% GDP larger than officially stated, and 5% GDP larger allowing for the inclusion of financial institutions.”
This is serious stuff – what is going on? I don’t have any good ideas yet. MMTer’s out there – any ideas?
Given that, I still cannot understand why it is so hard for people to grok the sectoral balances accounting identity
G-T = S-I + M-X
which makes it clear that for a country with CAD (M-X>0) such as ours government deficit G-T is absolutely necessary for domestic private sector’s surplus S-I. I did not study economics but I had the impression that this equation is taught in every elementary economics course. What is then the objection people might have to this simple fact? What am I missing?
If you look to why people don’t like MMT, Austrians are the leaders of the two minutes hate. People like Bob Murphy hate the fact that money is and always has been a construct of the state.
Murphy mistakes assets for savings, and he doesn’t understand the fundamental powers of government. I’ll give him a very, very slight break – Austrians confuse the real and monetary economy as a badge of honor. See the discussion of 1 for more details.
Discussion of Murphy’s mistakes: Murphy makes two fundamental mistakes. The first mistake results from his confusion of assets and savings. Murphy doesn’t understand the meaning of the word savings in an national accounting sense, or deliberately confuses real and monetary accountings.
The word savings in national income accounting has a very specific meaning, and stock ownership isn’t part of the definition. Stock ownership isn’t part of the definition because of a simple reason – any transaction involving stock simply transfers money from one person to another person, and doesn’t create any money at all. The amount of money in the system remains the same.
The goal of monetary accounting is to identify where the money is. It is not to value investments and assets.
Really, he makes two different errors related to this identity, but I’ll roll them up into misunderstanding of the word savings. (Aside: Wynne Godley does a better job with the accounts in his work and is must read to further your understanding money.)
Murphy’s confusion of savings and assets can be demonstrated easily. To have savings in a monetary economy, you must have those savings in money. Owning and asset worth money is not savings, even though it may be a valuable asset that you could exchange for money. In national income accounting, we count the money, not the valuable assets. The total net worth of the United States is roughly $55 Trillion, nobody in their right minds would say we have $55 Trillion of savings, simply because worth and savings are two very different ideas.
His example of a bus driver buying stock is a perfect example of this error. The bus driver has decreased his savings of $1000 to purchase an asset for $1000. Somebody else now has the $1000 cash money and the bus driver has some stock that someone else owned, so the savings across the economy are the same.
Nowhere in any national accounting does this transaction make any difference – because the amount of cash and stock in the economy does not change. There is still $1000 in cash out in the real world.
For any given currency, savings only matters across the entire economy. Yes, my personal savings matters to me. But if I hold my savings, and somebody else has a deficit that exactly equals my savings, overall, there is no savings in the economy.
Re Murphy’s second mistake: Governments are different than all other entites. Here is a quote:
But perhaps a clearer way to pinpoint the fallacy in Nugent’s argument is to tweak it ever so slightly. Note that there is nothing special in choosing the US federal government as the financial entity in question. Nugent could just as easily have argued, “The Murphy household deficit = non-Murphy-household savings (of net financial assets).” Then, if the data indicate that right now the Murphy household spends $10,000 more annually than it earns in income, while my wife’s Colombian relatives lend us $10,000 net this year, then US (government and private) net savings (vis-à-vis my household, that is) must be zero. Clearly I need to go buy some more Big Macs and plasma screen TVs lest the nation’s children find it literally impossible to put money in their piggy banks.
He is right – on an accounting level, there is no difference between people and governments. The accounts are treated the same – debits and credits are debits and credits.
On a practical level, there is a massive difference. Governments have a monopoly on the legitimate use of force within a geographical area. Murphy understands this as he demonstrates in his next section. What he fails to understand is that as far as I know, the advance of civilization has been always and everywhere accompanied by government and government issued money. There is one non-contacted tribe in the Amazon who doesn’t pay any taxes, and Mr. Murphy is free to live where he chooses – so he could go live with them and not pay taxes on his earnings. But everyplace else on the globe requires the payment of taxes.
It seems like a universal law of human behavior – Humans use speech, use tools, create government, collect taxes. Didn’t Ben Franklin have something to say about Death and Taxes?
In many ways, the story of civilization is the story of advances in government. For example, there is an entire sub-discipline of economic history devoted to the investigation of why former English colonies have performed so much better than French colonies.
It appears that when the hand of government is light, modern weaponry allows brutal monsters to take control of the population with ease. See Northern Mexico for what happens when government abdicates responsibility within a region.
Do Austrians like the idea of Freedom, but hate actual Freedom?
Murphy is disgusted by this idea that people like government and are willing to pay for it. In fact, a leading light of the “libertarian” movement, Peter Thiel has come to a similar conclusion. Thiel says: “I no longer believe that freedom and democracy are compatible.” Wow. He must want a dictatorship where his ideas of freedom are enforced at gunpoint.
One of the more odd things about the Austrian arguments is that in many ways, MMT provides them with a huge tool set to do real research, but because they hate empirical study so much, they won’t bother. Check out this quote from Murphy:
The standard Misesian/Hayekian explanation of the business cycle is that the commercial banks arbitrarily increase the supply of loanable funds, even though the community hasn’t actually increased its real savings.
That isn’t far from the MMT/Minksy view in some ways. MMTers also say that banks are not constrained by deposits, and Minsky’s instability hypothesis is that banks increase lending (and go through his 4 levels of financing) due to competitive pressures until small, unexpected shocks make formerly profitable loans massively unprofitable. We’ve just done the accounting to show this is the case, instead of stating it as a truism.
There is another class of 2 minutes haters, and these are people who understand the math and accounting, but wave their hands because they don’t like the conclusions. This includes people like Jessie over at Cafe American, and a few other people. They either mock the math as being defined as true and therefore meaningless, when nothing can be farther from the truth. As . or simply don’t like the fact that you can actually do hard work and figure out with math something they’ve spent a lifetime talking about with mushy words. I’ll have more on Jessie Thursday.
Are Investors Paying the U.S. 8% for the privilege of owning U.S. Debt? Zero Hedge and The Daily Capitalist think they are!
I like to read both Zero Hedge and The Daily Capitalist. I find Zerohedge perfectly amusing, but I actually get something out of The Daily Capitalist.
But then, the Daily Capitalist quoted Shadow Stats – saying that inflation might be closer to 8% than 1%. Fortunately, we have some market indication about what inflation might be. The equation for Treasury rates is generally given as
Treasury Rates = Inflation Rate + Real Rate of Return
Real Rate of Return = Treasury Rate – Inflation Rate
The real rate of return is important, because this is how much money you make after you take inflation into account. If you make a total return of 3% a year, but the inflation rate is 100% a year, you’re losing your ass in that investment, because you need 100% a year just to retain your purchasing power.
We know the yield for any maturity in the U.S. Treasury Market. We have numbers from yesterday for the entire yield curve – the market for U.S. Treasuries is one of the most liquid in the world. Let’s plug in the 6 month Treasury Rate and the Shadow Stats “8% inflation” number into see how much real return investors in U.S. Treasuries are getting.
RR of R = .16% – 8% = -7.84%
-7.84% Real Return. A negative real return!! These investors are losing truckloads of money in real terms! That means that investors are so desperate for Treasuries, they are willing to pay nearly 8% to lend money to the U.S. government for 6 months. Do you believe investors are paying money to hold U.S. debt? I do not.
If Shadow Stats is correct, issuing debt is a money making operation for the U.S. government. If these investors are getting a -7.84% return, that means the U.S. government is making 7.84% on every dollar it lends! That’s a solid return.
Clearly, the best way for the U.S. to get out of debt would be to lend as much money as possible right now – because they are making 8% a year on just lending money!
Of course, this isn’t the case. The U.S. government is not getting paid to lend money, and it is not making 8% on every Dollar it borrows.
I pointed this out a few days ago, but it bears repeating. Shadow Stats is very, very, very wrong about inflation.
Update: Welcome Hogvilleians! You’re totally crazy of course. Simply read the entire article, and you’ll see why. I didn’t just choose one item and say “See inflation doesn’t exist!” Nope – I said very clearly “If we have 10% inflation, the government makes 8%+ per year just issuing debt.” Please read the entire article before making yourself look stupid.)
I see stuff like this on a supposedly intelligent website and I just despair for the future of humanity.
Jim John Williams has been running Shadow Stats for a long time now, but that doesn’t say anything about the quality of his analysis.
And for some reason, people like to believe these stats instead just remembering how much stuff cost back in the day.
Look at this chart. According to Shadow Stats, the average inflation rate since 2000 is clearly at least 9%.
I decided to do the math. Since we are fully in the year 2011, we would need to adjust the level of prices tby 1.09^10 to find out what prices were in 2000. I just went to the store and got some milk – milk is $2.99 a gallon at CVS, and the average price of a gallon of milk is $3.19 across the US, according to the BLS.
This would imply that in 2000, the cost of a gallon of milk was 3.19/1.09^10 or $1.34, or close to it. But I don’t ever remember paying $1.34 for a gallon of milk, not even in 1980. In fact, I remembrer paying about $2.79 a gallon in 2000. And that’s what the BLS numbers say too. Go back a few years more and that gallon of milk should have been nearly free, according to Shadow Stats.
From dumb to dumber: Shadow Stats says the government earns 5.6% per year by borrowing money!
But this isn’t what troubles me. It troubles me that if John Williams was correct, people have been throwing money at the U.S. federal government – literally begging them to take their money.
We know a simple identity about treasury debt. The yield on Treasury debt should equal inflation plus some real rate of interest. This isn’t controversial in the slightest.
So if we plug in the Shadow Stats numbers with the known yields that were paid in the market for Treasury debt, we can get an idea of what the real rate of interest these lenders received to lend to the U.S. Treasury.
Here is the grade school level math:
Treasury Yield = Real Yield + Inflation
Real Yield = Treasury Yield – Inflation
[Update 4/11/2011: Yes, I know that the real relationship involves multiplication, and not addition. For numbers close to 1.00, adding is a close estimate - at least according to the CFA material and Bodie/Kane/Marcus]
We know the Average yield in the 5 year over the last decade was 3.4%. A rough estimate of shadow stats inflation would be 9% per year since the year 2000.
Real Yield = 3.4% – 9.0% = -5.6%
To believe that Shadow Stats is true, we must believe investors have been paying 5.6% to lend to the treasury for an entire decade! Now, I support a bit looser government purse than most people. But by these standards, I might as well be Von Mises! These people who are giving the U.S. government nearly 6% per year are paying the U.S. government to issue debt.
These people paid 5.6% per year to lend to the U.S. government in real terms. I don’t buy it.
There is also another horrific conclusion from this exercise. If we take Shadow stats seriously, the U.S. Government earns 5.6% per year from borrowing money. Yes, according to John Williams, the government earns massive returns by borrowing!
Go through the math yourself, and borrow money for 10 years at 3% when inflation is at 100%. Use these numbers, because it will be hugely clear: Borrowing at a lower rate than the inflation rate is a path to wealth. You’ll be easily able to pay back the debt with far cheaper money in the future. A few hours of work at a Starbucks and you’ll pay off a massive debt. You’ll make a tidy sum just from borrowing.
[Update 5.13.11: Wikipedia says borrowers make money when the real rate of interest is negative. They use numbers very much like the numbers here to show this.]
There are many things I wish were true, like eternal physical life, and zero point energy. But they are not true, and I must live with them. Many people think the government is lying about inflation statistics. Maybe the government is lying. But if the government is lying, we need to reconcile this lie with other information. Data doesn’t exist in a vacuum. We must reconcile any measures of inflation with daily price and yield information from the most liquid debt market in the world.
[Update 2/2/2011 5:30am: The Wall Street Journal shows its intelligence by mentioning Shadow Stats.]
[Update 2/16/2011 3:37pm: The Daily Capitalist falls for this trick via the WSJ]
[Update 4/19/2011 Shadowstats is still wrong - but we are making progress in debunking the nonsense.]
Check out this article from Bloomberg that says Treasuries rallied because the Fed bought billions of Treasuries. The Bloomberg reporter didn’t think of this idea – he just wrote down what his buddies on trading desks told him.*
That’s exactly what I said would happen. I thought this would be common knowledge by now, but people still seem to be surprised when it happens. The fed just confirmed that they will go through with the entire QE II no matter what happens – and people were shocked by that too.
This shows that the idea of the Fed buying a ton of Treasuries over 6 months is beginning to get traction on trading desks. This has the potential to be a big, big move.
From this handy chart from the Fed, we can see that next week, there will be a few more days of large purchases. And then they will release information and dates for even more purchases on Feb 1oth.
I like the idea that people are getting out of Notes and Bonds because they have someone to sell them to, and that this pushes people into risky assets so might defeat the purpose of the QE entirely.
But who cares? The Fed is just buying and buying Treasuries left and right. Why fight the Fed?
*(Every Bloomberg employee I’ve met is sharp and works their ass off. This isn’t a slam on the reporter – he was reporting what the people on the trading desk told him as is his job.)
The Chinese currency lock should be illegal, but we have to live with it today. The currency lock has at least three major impacts on the United States.
- It sucks inflation from the United States
- It costs U.S. citizens jobs
- It allows me to purchase low priced toys for my children
The overall impact on the United States is debateable. Warren Mosler believes that the trade deficit is a large net positive for the United States. The reason he thinks this is because we get real world goods for bits in a computer. In terms of the real world, what “matters” (get it – matter?) more, the spreadsheet entries or the iPods? Clearly, the iPod.
But I digress. Let us ask a question about inflation: How much inflation does China take away from the United States? Or to be more precise:
If China allowed their exchange rate to float, what would the inflation rate be in the United States?
To do this exercise, I will treat China as a U.S. state that uses U.S. currency exclusively, and size China’s economy at its 2009 Purchasing Power Parity (PPP) size relative to the United States. If we do this, we just add the two economies together to get the total size of the USD economy. Then, we take the amount of inflation in each country and multiply it by the size of the economy to get the total amount of inflation. After that we can play with how much inflation the U.S. would have with various China scenarios.
The total amount of Inflation in 2010 was roughly $1.035T
Then, divvy up the inflation between the U.S. and China under different scenarios. For example, if we gave all of the inflation to the United States, and none to China, the inflation rate is simply the total inflation divided by the size of the U.S. economy.
This is the worst case scenario for the United States for inflation right now. And the magic number is 7.26%. This is pretty bad, but not hyper-inflation by any means. Of course, this will never happen – China is committed to its mercantilist economic strategy.
How about if we split the inflation normalized to the size of the economy? The U.S. would get 61% of the inflation created in both countries – or 4.43% inflation here in the States. Again, not bad.
However, China is mercantilist, so a more reasonable assumption would be that it slightly relaxes the currency lock and allows it to again appreciate at 3% a year. I need to go back and do the math to determine exactly how much inflation this would push to the United States, but lets assume that it is 1/2 of the inflation sized by the economy. We would experience about 2.2% inflation.
This post does not attempt to make any logical inferences about what might happen to the U.S. or Chinese economy, but is rather just trying to get back of the envelope estimates at how much deflation China is exporting to the United States.
Given that current Year over Year inflation is 1%, the amount of deflation China exports is significant to the United States. However, China is not preventing hyperinflation in the United States.