winterspeak.com

End the Money Market Fund

2012-02-08T07:32:00.000-08:00

According to Megan McArdle, new rules may put money market funds out of business:

At last, the government is proposing new rules, which are supposed to make MMFs less risky. The funds would have to raise new capital, and some minor withdrawal limitations would be imposed on customers. They would also have to offer a floating net asset value instead of the current "guarantee" that if you deposit a dollar, you'll always get at least that dollar back...

...If passed as proposed, the rules would seemingly put the MMFs out of business. And perhaps that's the point--Paul Volcker, for one, has been an outspoken critic of money market funds, which originated as a way to dodge the interest rate caps on bank accounts during the inflationary 1970s."

There shouldn't be money market funds. There should be unlimited FDIC insurance on all bank accounts. It should be easy to "put a dollar in, get a dollar bank" (with no guarantee as to what that dollar will get you).

LBO Chop Shop

2012-01-31T12:29:00.000-08:00

With Mitt's running for president, Private Equity is in the spotlight. Mitt hasn't done a great job of defending it, but large parts of what they do are pretty indefensible. For the best attempt, check out Epicurian.

Carried interest, in particular, is clearly a loop hole written into law by the Private Equity industry, for the Private Equity industry. If they wish to be taxed at capital gains rates, then they should invest as LPs. This area is clearly indefensible, but I don't anticipate it changing.

Second is the financial engineering that comes with that tax benefits of leverage. If one is to have a tax on corporations, then there's a good argument for making interest payments on debt tax deductible. Better, though, to stop taxing corporations altogether.

Third, there is Epicurian's defense of the infamous dividend recap, where the PE firm takes cash out of the company as a dividend, and lets the firm take on more debt. If the firm goes bankrupt, the PE company keeps the money they extracted earlier.

One more wrinkle is worth discussing. This is the relatively recent phenomenon of financial sponsors borrowing additional debt through their portfolio companies during the life of their investment, and using the proceeds to pay equity dividends to themselves and their limited partners. These are known as dividend recapitalizations, or “dividend recaps.” Often, financial sponsors can use such recaps to withdraw money equal to or even in excess of their initial equity investment. This leaves the portfolio company with an increased debt burden and the financial sponsor playing with house money. Many people outside the industry, including our friends Messrs. Kwak and Surowiecki, don’t like dividend recaps, because it loads up the portfolio companies with risky debt while appearing to reduce private equity’s skin in the game. This is very true.

However, having participated in or observed a number of such deals, I must strenuously disagree with Mr. Kwak’s contention that the lenders which participate in such transactions are unsophisticated dupes. They lend with eyes wide open, and an impressive amount of company-specific due diligence. Normally, a company is able to take on a bigger debt load because the financial sponsor and company management prove to new lenders that they have improved the company’s earnings power and free cash flow enough to sustain it.

Epicurious fails to mention whether the lenders in question get paid when they make the loan, or when the loan gets paid back.

Look for shocks

2012-01-19T09:09:00.000-08:00

Baseline Scenario succumbs to its bias, and gets the causality wrong.

So there are two possible reasons why these people make the top 1 percent. One is that they are talented, hardworking people who succeed (financially) despite what they majored in—but then why are talented, hardworking people overrepresented in these majors? The other is that they are children of the elite who go to elite schools, study whatever they feel like, and succeed because of their upbringing and connections. (The reasons are not mutually exclusive.) Given the increasing evidence that America, the land of opportunity, is actually one of limited social mobility, I think we can’t overlook the latter explanation.

If talent and a strong work ethic is heritable, through genetics or upbringing or some combination of the two, then one would expect limited social mobility.

The real test of social mobility in a system is how it responds to shocks. Say, someone who is lazy and an idiot is born into Bill Gates' family. He might be wealthy, but what would his income be? Or suppose a hard working genius was born to a poor family in New York? Would they be left to languish, or would they be successful?

What Google cannot help you with

2012-01-11T09:36:00.000-08:00

Google's PageRank algorithm is good at goal directed queries -- "flowers", "cheap airline tickets", or "nearest library". It is not good at non-directed queries, like "funny", "inspirational", "entertain me".

Facebook is great at entertaining people who have no goal cheaply. Instead of making content like TV stations do, it just parades photos of your friends, which are very entertaining because they are your friends. If you want to waste time, Facebook is the place to go (and this is why social games on Facebook are so inane, but also so successful).

This new Google ad is interesting because the queries are exactly the type of queries that Google was bad at, but Google+ hopes to be better at.

"Awesome things you can do with a paperclip"
"Awesome things you can do"
"Awesome things"

Delicious was actually great at this, back when it was a live product. TechCrunch doesn't get it at all.

Building Credit

2012-01-10T12:11:00.001-08:00

Megan McArdles has a number of good posts about credit unions, and how they help (or don't) build credit.

When I graduated from college, I had a well paying job, was living in New York, but had no credit history. I was a foreigner, and had used my parent's credit card in college, so although I had reasonable income, debt etc. I could not get a credit card of my own.

I ended up getting a secured card from Capital One, with ruinously high fees, and I had to send in a check for $200 (which was the limit on that card). Using the card for convenience, my credit score improved, and I switched to a regular Visa card a few months later.

I don't know what the details are with the teacher in Megan's examples, but I would like to add that there are lots of instruments out there that seem (and are) pretty awful deals, but once you start borrowing and paying back, you build credit very quickly and don't need to stay in those products long.

RIP: Kodak

2012-01-06T11:21:00.000-08:00

Kodak seems to be filing for Chapter 11 bankruptcy.

The thing is, that Kodak was well aware of the digital photography revolution, and launched digital cameras as well as online photo sharing sites etc. But more focused consumer electronics companies won in digital cameras, and more focused online photo sites won in the upload and print business. (Although I think Facebook is now the biggest photo serving service in the world).

I don't think it's right to criticize Kodak for not innovating. Companies are very specialized to do a particular thing, and when that thing is no longer valuable, it's very difficult to re-deploy those assets to do some different thing.

Not understanding banking is an impediment to regulating banks

2012-01-05T13:22:00.000-08:00

MacroResilience demonstrates why not understanding banking is an impediment to regulating banks:

Amar Bhide’s idea essentially seeks to turn back the clock and forbid much of the innovation that has taken place in the last few decades... But it is not enough to mitigate the moral hazard problem... Let us assume that banks can only take deposits and make loans to corporations and households... Banks can simply lend to other firms that take on negatively skewed bets. You may counter that banks should only be allowed to lend to real economy firms. But do we expect regulators to audit not only the banks under their watch but also the firms to whom they lend money?

In a word--yes!

First, bank lending is capital constrained (not reserve constrained), so limits to leverage (especially derivatives, which hide leverage very well) are at the very core of regulation. When a bank makes a loan, the impact of that balance sheet expansion must be risk weighted. So, buying US Treasuries -- go nuts! Buying anything else -- you'll hit your cap earlier.

And yes, this means that regulators need to look at the loans banks are making. In fact, regulators cannot regulate without looking at the loans banks are making. This is baked into the Basel accords that specifically risk-weight capital requirements.

Second, if banks were also required to keep all their loans on their books, then they would have an incentive to make good credit decisions, something they are not motivated to do if they can offload risk to third parties.

Third, if counterparties failed, loans went bad, and banks went under, so long as the Fed gave the bank open access to the discount window and didn't shut it down when it fell under it's capital requirements, a bank with a negative equity position can continue to clear checks.

But, if you believe "unless short-term deposits are deployed to match long-term investment projects" then these regulatory options are inconceivable.

Mosler makes the Economist

2011-12-30T14:56:00.000-08:00

Warren Mosler has made it into the Economist. Nice way to end the year!

People thought that blogs would replace journalism--and that isn't true. But blogs are influential because journalists read blogs. They need to feed the Beast, and they Google just like you or I. MMT's influence in the blogosphere can rival that of the academy, and seeing Warren in the Economist is proof of that.

It's unsurprising that Market Monetarism gets the kindest write-up as it is essentially orthodox Monetarism taken to its logical extreme. This is great, because it makes the absurdities clearer:

In pursuing this target, the central bank would use many of the same tools as today: tweaking the short-term interest rate and, when that reaches zero, increasing NGDP by printing new money to buy more assets (ie, quantitative easing). And the very creation of the NGDP target would make such intervention more effective, Mr Sumner says. If people expect the central bank to return spending to a 5% growth path, their beliefs will help get it there. Firms will hire, confident that their revenues will expand; people will open their wallets, confident of keeping their jobs. Those hoarding cash will spend it or invest it, because they know that either output or prices will be higher in the future.

Confidence fairies and more quantitative easing. Ho hum.

Merry Christmas

2011-12-23T11:30:00.000-08:00

Merry Christmas, all!

I must confess, I have yet to go through all the excellent comments folks left on the last few posts. But I will. I am also hesitant to post anything new until I have absorbed all the thought that folks shared. Unfortunately, this may take a while.

One point I will add, though, is that I think attempts to pin the failure of MMT to spread (Steve Keen, Steve Keen! seems to be doing better) on politicians is misplaced, as are attempts to make it easier to understand to laymen, and attempts to reconcile it with standard macro.

This stuff is technical, and on technical material like this the government takes its marching orders from the University. If Obama or Paul or Cain or whomever were to take to the podium and begin spouting MMT he would be a laughing stock before the ink on Paul Krugman's takedown column was even dry. The Fed and the Treasury are staffed by guys who learned from the same textbooks written by professors at Harvard or Princeton. A populist movement to take over the academy in this day and age is ludicrous, it ain't 1968 and it ain't going to be.

This, incidentally, is the problem OWS has.

Secondly, while making MMT easier to understand is a laudable goal, the outcome of this will be to win over Austrians, the other leading candidate for a "people's economics". This will not help in the Academy, but it will fill the blogosphere with semi-correct rantings and it will make Austrians really mad.

Finally, the history of paradigm shifts in the Academy is well documented, and they have always happened via dead bodies, never by the future playing nice with the past. When something is true, that is enough.

Steve Keen on Hardtalk

2011-12-05T12:55:00.000-08:00

I don't much like Steve Keen because, although he gets private credit creation correct ("banks create money out of thin air by making loans that then create deposits") he does not get public debt creation correct ("federal deficits create the private sector net financial assets which can then be used to "buy government debt"). How you can understand horizontal money without understanding vertical money is beyond me, but there you go.

Anyway, here is a transcript of Steve on "Hardtalk" -- so, good for Steve for getting on the BBC!

At times, it seems like the understands vertical money:

SK: I wouldn’t say it was a case of making a choice between one individual and another. It has to be a systemic process by which we reduce the level of debt-finance money in the economy and increase the amount of government-created money. Because we have two sources of money in a capitalist economy. The banks can create money by extending loans. The government creates money by running a deficit. Now back in the early 60s the ratio of government created money to the overall money supply was 15%. It’s fallen so far that we’ve got an entirely debt-based system which has driven speculation. We need to create the government money to balance out the credit. So I’d actually have a government creation of money system approach to try to rebalance the system and reduce the private debt.

HT: The government, the central bank, prints money to pay off people’s debts? What I’m wondering is, you say, “Write off debts.” And it’s basically private debt that you want written off. Mortgages, companies’ debt. How is that working?

SK: We’d have to give the money to the debtors rather than to the creditors. If you look at what’s been happening in the last three or four years, all the rescues Bernanke has done, the banks around the world have done, have been to give money, to create money and give it to the banking sector in the belief the banking sector will lend to get the economy starting again. Now that is bizarre because we know one reason they won’t lend is they’ve lent too much already. So all that money has been ineffective.

It is true that the Govt creates money by running a deficit, and that stimulus needs to focus on giving money to households. But from here, why is the solution not to have bigger deficits based on spending/taxation policy that increases household savings?

To Read:

2011-11-30T12:28:00.000-08:00

Scott Fullwiler:Modern Monetary Theory—A Primer on the Operational Realities of the Monetary System

Marc Lavoie:The monetary and fiscal nexus of neo-chartalism: A friendly critical look

From the comments: technical details on MMT

2011-11-28T14:16:00.000-08:00

In a recent post I said that

A country that runs a fiat currency doesn't "borrow", it prints and unprints money whenever it spends and taxes. If it issues bonds, it is to change the term structure of extant pre-printed currency, not to print more, or "sterilize" outstanding money.

This is technically not true, as was pointed out in comments by JKH. The comments are now about 100, so I wanted to pull out this point.

I've found that the greatest challenge in understanding MMT, or getting someone else to understand it, is that our heads are filled with lots of preconceived notions that limit our ability to see things from a new perspective. As Chuck Norris would say "you cannot fill a cup that is already full".

So I exaggerate and say that a government neither has nor does not have money, and that all spending is printing, all taxing unprinting, so shock the system out of its current paradigm into the new one. Maybe it works for some, maybe it doesn't. I found this helpful in making the leap, but it may not work for others. YMMV.

Technically, the central bank is the currency issuer, while the Treasury is just a user like everyone else. So now the question becomes, to what degree is the central bank part of the Government, and even if the central bank is ultimately a creature of Congress (in the US) then Congress needs to actually enact legislation that would combine the CB and Treasury functions to make the Federal Government proper a true "currency issuer".

Thanks to everyone, but JKH especially, for their comments.

Between Depression and Hyperinflation

2011-11-22T09:11:00.001-08:00

Contra Megan, there is a middle ground between a Depression and Hyperinflation:

But it is not true that loads of debt is just fine as long as you're borrowing in your own currency, except in the trivial sense that a government which borrows in its own currency can always resort to hyperinflation. This is rather like saying, "Don't worry about that cancer--you can always shoot yourself!" If you take too much advantage of the benefits of borrowing in your own currency, pretty soon you have trouble borrowing in your own currency, which means that practically, the distinction is not necessarily as strong as some people pretend.

This is the conventional wisdom, believed by Austrian, Paul Krugman, and Greg Mankiw alike. A country that runs a fiat currency doesn't "borrow", it prints and unprints money whenever it spends and taxes. If it issues bonds, it is to change the term structure of extant pre-printed currency, not to print more, or "sterilize" outstanding money.

Too much printing can generate hyperinflation, but too little printing leads to low aggregate demand, unemployment, and lost real resources -- the very thing a country should be looking to maximize.

Bluff called -- no deal

2011-11-21T14:38:00.000-08:00

The Supercommittee seemed not to reach any deal on debt. The question now is, will the automatic austerity measures go into full force, or will the Government find some way to defang them?

A New Deal for Europe

2011-11-21T09:07:00.000-08:00

During the Great Depression, the New Deal represented a dramatically different sovereign structure in the US than what had existed before. Individual states--who had given up monetary sovereignty long ago--gave up political sovereignty as Academics joined forces with national politicians to run America.

The days of corporate paternalism and local politics was over.

I don't know how much State level resistance there was to this takeover. I'm guessing that your average unemployed worker didn't think much of his local politicians, and may have believed that the wise technocrats in DC were going to usher in better governance, and a better life. Maybe local politicians saw this centralization as a meal ticket to plummer plum jobs, and even more opportunities for power. Or maybe people saw it as a dreadful curtailment of States rights and fought against the changes. I don't know.

Nevertheless, I see parallels to this and the situation in Europe right now, as member nations, who gave away their monetary sovereignty when they joined the Eurozone, are now losing their political sovereignty as well and don't seem to have any desire to go back to their old currencies or their old politicians. I think Italians and Greeks would rather be ruled by Germans, they just want the Germans to be less stingy.

The Greek Central Banks wants to stay in the Euro

2011-11-11T11:13:00.000-08:00

Greece will stay in the Euro and tolerate high unemployment for no reason because the Greek Central Bank wants to remain chained to the European Central Bank.

Greek central bankers, just like all central bankers, went to the same economics programs and learned the same nonsense about how deposits create loans, and how governments must tax in order to spend. Even if Greek wanted to go back to the drachma, I don't think there's anyone in Greece capable or interested in actually running a sovereign currency. Why bother when you can't tell the difference anyway?

Both Monti and Papademos look to be corporate liberal internationalists of the kind that in the U.S. end up in the Treasury Department. Papademos went to college and grad school at MIT and taught economics at Columbia from the mid-70s to the mid-80s. He even served as senior economist for the Federal Reserve Bank of Boston in 1980. Returning to Greece in 1985 to work as chief economist of the Bank of Greece, he rose to the post of the bank’s Governor; then served as Jean-Claude Trichet’s chief deputy at the European Central Bank from 2002 to 2010, returning again to Greece in 2010 to become an economic adviser to Prime Minister George Papandreou.

Monti went to college in Italy, but completed his graduate studies in economics at Yale, where he studied under James Tobin (which I suppose increases the chances that he supports a financial transaction tax). He was an economics professor and university administrator in Italy from 1970 through 1994, then was appointed to the European Commission, where he was handed various economic portfolios, including those on financial services and competition.

Where is their Financial Bismarck? How could such a man survive grad school?

Economists don't understand accounting

2011-10-29T21:18:00.001-07:00

I don't much like Steve Keen, because while his understanding of private sector credit expansion is good, he does not understand how an out-of-sector source is needed for private sector net (not gross) financial assets. In other words, he does not understand how the Government is a currency issuer.

Nevertheless, this observation from a recent talk he gave is interesting:

One part of the discussion that I found quite notable was that, even after showing empirical evidence on the impact that rising and then falling private debt had on the economy both now and during the Great Depression, I couldn’t convince several of the academics in the audience of the importance of private debt: they kept coming back to “one person’s debt is another person’s asset, therefore the level of debt doesn’t matter”. They therefore argued vehemently that the distribution of debt was important, but its aggregate level was irrelevant.

This is the core miscomprehension about debt that economists have. They see bank debt as the same as personal debt -- if I lend $10 to you, then I do not have $10 to spend myself, so the aggregate level of spending money available is unchanged.

However, bank lending does not work like this. If a bank lends $10, the $10 gets deposited in some other bank and is therefore available to lend again, limited only by capital requirements. In this sense, one person's asset is not another person's liability, and the total (gross) quantity of financial assets can expand and contract, while the total (net) quantity of financial assets remains the same.

The latest stupidity: NGDP

2011-10-27T21:42:00.001-07:00

The latest dumb idea circulating the orthodox economics blogosphere is NGDP targeting. In this scheme, the Fed, instead of saying "inflation is too high" or "employment is too low" instead says "we want NGDP to be x%". After this proclamation, the economy will start growing at the required rate to hit the declared NGDP target.

Magic, no?

So, what will the Fed do if the economy doesn't suddenly start growing? They will buy more and more Government debt, driving the interest rate further and further out the yeild curve to zero.

"But isn't that just quantitative easing?" you ask.

It is.

"Isn't the Fed doing that now?" you ask.

It is.

"So, what's the difference?"

There is none. But if you believe monetary policy is effective, and you live in a world where it clearly isn't being effective, you've got to do something.

In my view, the Fed fully knows that the economy is growing too slowing and unemployment is too high. They've done everything in their arsenal by bringing the Federal Funds rate to zero, and have gone a step beyond by bringing longer term rates down to zero as well. None of it is working, because changing the duration of outstanding Government debt does not solve the problem of an undercapitalized private sector. The economy needs a larger deficit to start growing again, but economists don't understand accounting, and so do not understand sectoral balances etc.

MMT understands this dynamic very well, and need give no quarter to orthodox macroeconomics, just as oxygen need give no quarter to phlogiston.

Ages ago I read some book on the sociology of philosophy, and the big lesson in it was how all the philosphers you read about knew one another, either directly or indirectly, and how ideological movements compete with one another. If your school of thought is ascendent, then you gain fame by forming a (hopefully) ascendent spliter group. If your school is in decline, you build bridges with those who might think a little different to try and build a bigger tent. And if you are on the outside, you should just be a crank and attach the most dominant group around to try and get their attention, and have them give you credibility by engaging.

The NGDP crowd is a splinter group off orthodox macro. MMT are the cranks. They will not win through accomodation.

Occupy Wall Street

2011-10-20T10:59:00.001-07:00

Occupy Wall Street is like a Rorschach test -- people read into it what they want.

A particularly fanciful take on this is from Venkatesh Rao, whose excellent blog I would recommend, but difficult book I might not. (Venkatesh -- if you ever read this, please do not judge the prior comment to harshly. It's more a reflection on the extremely high quality of the blog and the very difficult task you set yourself in the book, not an absolute judgment).

I was not familiar with Sterling's talk at PopTech, so "favella chic" and "dark euphoria" were new to me, and I'm grateful for the introduction.

Rao says, reasonably, that

I am surprised by the number of commentators who have switched from being dismissive to taking it seriously, simply because the thing has grown bigger and angrier, and we happen to be in the run-up for a Presidential election. Call me a cynic, but I don’t think the growth of the movement means squat. Here’s why.

Here's the "here's why", and at this juncture we part company:

It does not matter how many people demonstrate and pour out into the streets. This is not a problem that can be solved by industrial-age collective action models because the problem is the end of the industrial age. One side has collected the trophy and left the field, the other side is still on the field, trying to convince itself the game is still going on. The winners, and ahead-of-the-curve losers, are already setting up the playing field for the new game.

The problem is not the end of the industrial age, the problem is a lack of aggregate demand. We have a lack of aggregate demand because finance is mismanaged, both at the industrial level ("Finance industry") and at the Governmental level ("deficit spending" and "financial regulation"). The reason that finance is systemically mismanaged is because the academic paradigm of finance is simply wrong. Economics professors are not good at accounting, they consider it beneath them, so they simply do not know that their macroeconomic models do not follow double-entry bookkeeping and are therefore wrong.

Accountants don't notice that macroeconomics is wrong because they imaginationless grinds.

Venkatesh ends with

"[expect] a reboot the likes of which we haven’t seen since 1776.

Fasten your seat-belts. It is going to get far uglier than the #OccupyWallStreet gang realize."

Maybe, but maybe not. We have a vision of our future, and it's Japan, which never restored aggregate demand after their credit bubble popped in the mid 80s. Does modern day Japan strike you as having experienced a reboot, the likes of which we haven't seen since 1776? When you sip your Daiginjo-shu in Tokyo, are things really all that ugly?

OWS is better thought of as a popular protest, some of which is genuinely seeded by popular disgust with the financial industry and it's government compatriots, and some of which is engineered by reporters, academics, and left wing policy entrepreneurs who want a more Communist version of the Tea Party. The problem is, that this faction has already won--first in the 30s, and then again in the 60s. This, my friends, is the smell of victory.

Nonsense from Meeker

2011-10-19T10:31:00.000-07:00

I won't comment on the rest of Meeker's presentation (which was fine but banal--how did Meeker manage to do so well while Blodget flamed out??) but I will draw attention to this slide on America's income statement:

I'm not picking on Meeker here, it is normal and natural to think about a currency issuer's finances the same way one of think of a household if that's the frame supplied by the community of interpretation (to use a Stanley Fish phrase). So, ignore the stock flow inconsistency etc. of the slide and reflect on the fact that, quibbles aside, there's nothing here that Paul Krugman wouldn't sagely nod his head at.

I spoke too soon: Netflix

2011-10-10T11:31:00.000-07:00

Seems like Reed has decided to take back his decision to split Netflix into a video streaming business (the future) and a DVD by mail business (the legacy).

I wonder why he changed his mind. I thought the decision to split the company was excellent.

Recapitalize the non-Govt Sector, not the Financial Sector

2011-10-06T10:27:00.000-07:00

When you have a credit bubble -- ie. banks make loans that do not get paid back -- then the subsequent credit bust de-capitalizes banks (as they must write down assets and equity) constraining their ability to lend anew.

As the non-government sector needs additional financial assets to grow, if banks cannot lend (capital constrained) then the economy as a whole starts to trouble.

This, in a nutshell, is where the "Too Big to Fail", "We Must Bail Out the Banks" argument comes from, and it is true, as far as it goes.

Nevertheless, there is more to the story. First, if banks were making loans that did not get paid back, then they were not doing their primary job which is to make good credit decisions. Bad credit decisions should be punished, and the owners and operators of such companies should be fired and/or wiped out. This is how markets work. Rewarding such behavior only encourages more bad practices in the future, and people (rightly) start to wonder why we have a financial system at all.

Second, if banks fail, that contraction in private financial asset growth can be balanced by "capitalizing" the rest of the non-Governmental sector directly (through some combination of tax cuts and spending increases -- whatever increases the deficit). Since economists at Harvard and Princeton do not understand that the Government is the sole creator of net financial assets (equity) for the private sector, they do not know that this policy lever is on the table. So we are where we are.

From Macroeconomic Resilience

My policy proposal has three legs all of which need to be implemented simultaneously:

* Allow Failure: Allow insolvent banks and financialised corporations to fail.
* The Helicopter Drop: Institute a system of direct transfers to individuals (a helicopter drop) to mitigate the deflationary fallout from bank failure.
* Entry of New Banks: Allow fast-track approvals of new banks to restore banking capacity in the economy.

The argument against allowing bank and corporate failure is that it will trigger off a catastrophic deflationary collapse in the economy while at the same time crippling the lending capacity available to businesses and households. The helicopter drop of direct transfers helps prevent a deflationary collapse and the entry of new banks helps maintain lending capacity thus negating both concerns.

Sad Day

2011-10-05T21:20:00.000-07:00

I had the good fortune of running into Steve Jobs in the flesh right off California Ave about a year ago. I was so thrilled at having a chance to meet the man, and thanking him for all the marvels he created.

And he met my little girl.

So long, Steve.

Michael Lewis on California

2011-09-30T09:46:00.001-07:00

I always like reading Michael Lewis' stuff. Here's a nice piece on the fiscal problems of California:

“The recall happens and people are asking me [Arnold Schwarzenegger], ‘What are you going to do?’ ” he says, dodging vagrants and joggers along the beach bike path. “I thought about it but decided I wasn’t going to do it. I told Maria I wasn’t running. I told everyone I wasn’t running. I wasn’t running.” Then, in the middle of the recall madness, Terminator 3: Rise of the Machines opened. As the movie’s leading machine, he was expected to appear on The Tonight Show to promote it. En route he experienced a familiar impulse—the impulse to do something out of the ordinary. “I just thought, This will freak everyone out,” he says. “It’ll be so funny. I’ll announce that I am running. I told Leno I was running. And two months later I was governor.” He looks over at me, pedaling as fast as I can to keep up with him, and laughs

This I totally believe. Arnold doesn't strike me as the sort of person who plans anything, but I think he's excellent at grasping the moment.

His view of his seven years trying to run the state of California can be summarized as follows. He came to power accidentally, but not without ideas about what he wanted to do. At his core he thought government had become more problem than solution: an institution run less for the benefit of the people than for the benefit of politicians and other public employees. He behaved pretty much as Americans seem to imagine the ideal politician should behave: he made bold decisions without looking at polls; he didn’t sell favors; he treated his opponents fairly; he was quick to acknowledge his mistakes and to learn from them; and so on. He was the rare elected official who believed, with some reason, that he had nothing to lose, and behaved accordingly. When presented with the chance to pursue an agenda that violated his own narrow political self-interest for the sake of the public interest, he tended to leap at it. “There were a lot of times when we said, ‘You just can’t do that,’ ” says his former chief of staff, Susan Kennedy, a lifelong Democrat, whose hiring was one of those things a Republican governor was not supposed to do. “He was always like, ‘I don’t care.’ Ninety percent of the time it was a good thing.”

Two years into his tenure, in mid-2005, he’d tried everything he could think of to persuade individual California state legislators to vote against the short-term desires of their constituents for the greater long-term good of all. “To me there were shocking moments,” he says. Having sped past a do not enter sign, we are now flying through intersections without pausing. I can’t help but notice that, if we weren’t breaking the law by going the wrong way down a one-way street, we’d be breaking the law by running stop signs. “When you want to do pension reform for the prison guards,” he says, “and all of a sudden the Republicans are all lined up against you. It was really incredible, and it happened over and over: people would say to me, ‘Yes, this is the best idea! I would love to vote for it! But if I vote for it some interest group is going to be angry with me, so I won’t do it.’ I couldn’t believe people could actually say that. You have soldiers dying in Iraq and Afghanistan, and they didn’t want to risk their political lives by doing the right thing.”

California is ungovernable.

Also, some interesting thoughts on exactly how the California public union compensation got to its current crazy levels:

Over the past decade the city of San Jose had repeatedly caved to the demands of its public-safety unions. In practice this meant that when the police or fire department of any neighboring city struck a better deal for itself, it became a fresh argument for improving the pay of San Jose police and fire. The effect was to make the sweetest deal cut by public-safety workers with any city in Northern California the starting point for the next round of negotiations for every other city. The departments also used each other to score debating points. For instance, back in 2002, the San Jose police union cut a three-year deal that raised police officers’ pay by 18 percent over the contract. Soon afterward, the San Jose firefighters cut a better deal for themselves, including a pay raise of more than 23 percent. The police felt robbed and complained mightily until the city council crafted a deal that handed them 5 percent more premium pay in exchange for training to fight terrorists. “We got famous for our anti-terrorist-training pay,” explains one city official. Eventually the anti-terrorist-training premium pay stopped; the police just kept the extra pay, with benefits. “Our police and firefighters will earn more in retirement than they did when they were working,” says Reed. “There used to be an argument that you have to give us money or we can’t afford to live in the city. Now the more you pay them the less likely they are to live in the city, because they can afford to leave. It’s staggering. When did we go from giving people sick leave to letting them accumulate it and cash it in for hundreds of thousands of dollars when they are done working? There’s a corruption here. It’s not just a financial corruption. It’s a corruption of the attitude of public service.”

When he was elected to the city council, Reed says, “I hadn’t even thought about pensions. I can’t say I said, ‘Here is my plan.’ I never thought about this stuff. It never came up.” It wasn’t until San Diego flirted with bankruptcy, in 2002, that he wondered about San Jose’s finances. He began to investigate the matter. “That’s when I realized there were big problems,” he says. “That’s when I started paying attention. That’s when I started asking questions: Could it happen here? It’s like the housing bubble and the Internet bubble. There were people around who were writing about it. It’s not that there aren’t people telling us that this is crazy. It’s that you refuse to believe that you are crazy.”

The new Slate design sucks

2011-09-29T10:08:00.000-07:00

I hate the new Slate design.

I haven't even looked at the nav or anything like that, but the typography is terrible. Letters are fuzzy and hard to read. It looks like someone's spilled water on all the text and it's bled a little.

The images also look fuzzy. It's terrible.

Kindle Fire

2011-09-29T10:02:00.000-07:00

Amazon's such an amazing company. They've become the ur-etailer, and branched out to cloud computing (that few people know about) and now hardware. Wow.

I don't have a kindle, and I don't intend to buy a kindle fire, but the price point ($79! $199!) makes them almost impulse purchases. I've tried to get books on my iPad, but the experience and selection were awful, so for now I'm sticking to the library and buying used stuff on Amazon.

This is also the first serious implementation of Android on a tablet. Android -- the business model, the market approach -- reveals the extreme naivete of Google. It'll be interesting to see what a grown-up business does with it as it takes on the iPad.

Netflix vs Qwikster

2011-09-20T09:53:00.001-07:00

Reed Hastings recently sent out an email apologizing for the price increase that came with splitting the streaming and DVD services at Netflix.

Some interesting points. First:

For the past five years, my greatest fear at Netflix has been that we wouldn't make the leap from success in DVDs to success in streaming. Most companies that are great at something – like AOL dialup or Borders bookstores – do not become great at new things people want (streaming for us).

Hastings is worried about the Innovators Dilemma. There are many big guns aimed at the streaming business, including Amazon, Walmart, the cable companies, Apple, and Google. That's a tough crowd to win against.

So...

It’s hard to write this after over 10 years of mailing DVDs with pride, but we think it is necessary: In a few weeks, we will rename our DVD by mail service to “Qwikster”. We chose the name Qwikster because it refers to quick delivery. We will keep the name “Netflix” for streaming.

Bold. Hastings has decided that the DVD business, with its associated baggage, means that he will not be able to win the streaming market, so he's cut the company in two.

Streaming is about #9 on Amazon's priority list. #12 on Walmarts. #4 for the cable companies. #7 for Apple. #83 for Google.

It's #1 on Netflix because Qwikster has DVDs as its #1 and video games as its #2.

This, ladies and gentlemen, is management.

Unconventional Monetary Policy: From the comments

2011-09-12T13:46:00.001-07:00

Special thanks to studentee for this link from Nick Rowe. The discussion is full of goodness, beyond the points raised in my previous post. In particular, I will pull out this assertion and rebuttal from Nick & RSJ.

First Nick:

I am Ben Bernanke. I commit to printing trillions and buying up every single financial asset -- government bonds, commercial bonds, stocks, and new stocks and bonds as issued, and will keep on doing this forever and ever until my NGDP target is met. At this point even rsj says, "OK, that would maybe increase future AD by $1, and increase future NGDP by $1". So now everyone starts spending more, even if it's just a small amount. But that's not an equilibrium expectation either, because we are still not at my NGDP target, so I repeat my commitment, and rsj raises his expectation another $1 when he sees that everyone else has raised their expectation too, and raised their desired spending. And so on.

Roosevelt did it. The Swiss did it. Central banks have been loosening monetary policy and creating inflation throughout history. Did history come to a full stop in 2009?

Half the US seems to be afraid of inflation. All Bernanke has to say is "Yep, I'm going to do whatever it takes to make sure your fears are justified!"

Now RSJ:

The Federal Reserve cannot purchase any financial asset. What the bank can and cannot do is defined in the Federal Reserve Act.

It can purchase obligations of the U.S. government, gold, bills of exchange, and agricultural paper. Adding that all up, you have at most about 7 Trillion or so of assets that the central bank can buy (it does not buy gold today).

After that, there is nothing left for the CB to legally buy.

Compare that to the 60 Trillion or so of U.S. assets that are out there.

Again, this is where knowledge of the institutions is important.

By the way, there is a *reason* why central banks cannot purchase "baskets of output" or "all assets", as you keep insisting.

Even the ECB, which has no risk free assets to purchase, is limited in what it can buy, both legally and effectively (e.g. politically, by the member banks that supply capital to it).

That reason is that should the CB purchase an asset that is defaulted upon, that loss of capital becomes a fiscal transfer from the ECB to the borrower.

That fiscal transfer has to be paid for by someone -- it is not paid for by the central bank, which is an intermediary between those who supply capital to it and its borrowers.

Therefore central banks can only engage in these types of transfers should the capital suppliers allow it.

In the case of the Fed, the capital supplier is the U.S. Treasury, and if the U.S. treasury wanted to make transfers (as under TARP), then it would do so itself, after permission from Congress, as spending needs to be authorized by congress and cannot occur as a result of CB policy.

So the democratic process limits the amount of fiscal policy that central banks can conduct under the guise of monetary policy.

Even if you are confused about the distinction between the two -- the legislators are not confused; which is why they have put strict limits on what central banks can and cannot buy, in order to limit any unauthorized ex-post transfers.

Discriminating minds want to know if Government backed Solyndra debt is (legally) purchasable by Bernanke. Also, how about open swap lines with Mexcico?

Just worth reading

2011-09-01T11:35:00.000-07:00

Read the whole thing and the comments.

Unconventional Monetary Policy

2011-08-25T10:21:00.000-07:00

Scott Sumner is great because he's extremely logical and impervious to facts. This makes him the go-to source for the nonsense that is Monetarism, because he will happily make the baldly ridiculous statements. One can then judge the value of the model for oneself.

This recent piece on MMT is a fine example. The key question gets isolated in the comments:

"How can the Fed put money into circulation if the people don’t want it?"

Scott never responds in this post, but in the past he's written about "unconventional monetary policy".

"Unconventional monetary policy" means the Fed targets some level of nominal GDP and keeps buying things until that level is met. Usually, the Fed buys and sells short term Treasuries to influence the clearing price of reserves in the overnight interbank market. The clearing interest rate in the overnight interbank market is the "Federal Fund Rate" and this intervention is the mechanism it uses to manage the level of excess reserves in the system (as it can drain reserves by converting them to Treasuries). Scott argues that the Fed can buy other things, like road repair services, bridge building services, etc. etc. and therefore hit any NGDP target it chooses.

"Road repair services" and "bridge building services" are very unconventional monetary policy instruments indeed -- but they are utterly conventional fiscal policy instruments. Indeed, much of the Obama stimulus (for reasons for politics and ignorant atavism) was focused on lame "shovel ready" projects of exactly this sort. So Scott is advocating what most of us think as "fiscal policy" but renaming it "unconventional monetary policy". Why?

I think most of us think of "monetary policy" as setting "interest rates", but Scott might be thinking of "monetary policy" as policy conducted by the monetary Authority, which is the Fed. Therefore, whatever the Fed does is "monetary policy" because, by Gods, it's being done by the Fed! This kind of makes sense, and at least we now have a transmission mechanism by which the Fed can, actually, hit an NGDP target -- direct purchasing of products and services.

But when stated in this clear way, I don't know how happy people would be if the Fed starts engaging in fiscal policy -- they believe that to be a matter for Congress. The Fed would pay for this by expanding its own balance sheet (the Fed simply marks accounts up and down to buy and sell things) so it would not show up in the Government deficit number, but there's no reason the Fed cannot use this same ability and move Congressional spending "off balance sheet" in the same way if it so chose.

Google: Child of summer

2011-08-16T15:19:00.001-07:00

If you've worked at Google, you've probably never felt what it's like to make a mistake in a market, or had to think strategically about a business. "Make it great and make it free" is fun and at Google it also made you rich. Very Googly.

It hasn't worked out well in Android, which is a top 3 priority project at the Googleplex. A series of naive business decisions and strategic blunders meant Google was producing a lot of value, but capturing very little of it. They have now bought a company in Illinois whose last bonafide mobile hit was the StarTac.

This puts Google directly into competition with its partners, and probably will move Android to being a closed system. Asymco has, as usual, excellent analysis.

Krugman is the problem

2011-08-12T10:56:00.000-07:00

People like to blame the country's employment woes on Democrats or Republicans or Corporate America. The problem though is the incorrect economic models that hold sway at Harvard University, and are implemented through the Treasury and Fed. Change Harvard, change the world.

While Krugman isn't from Harvard he's close enough, and were he to embrace MMT in the NYTimes you'd see a payroll tax holiday about 14 seconds later. Maybe sooner. But Krugman, even though deeply Progressive, is fundamentally part of the problem:

Regular readers of comments will notice a continual stream of criticism from MMT (modern monetary theory) types, who insist that deficits are never a problem as long as you have your own currency. I really don’t want to get into that fight right now, because for the time being the MMT people and yours truly are on the same side of the policy debate. Right now it really doesn’t matter at all whether the United States issues zero-interest short-term debt or simply prints zero-interest dollar bills, and concern about crowding out is just bad economics.

But we won’t always be in a liquidity trap. Someday private demand will be high enough that the Fed will have good reason to raise interest rates above zero, to limit inflation. And when that happens, deficits — and the perceived willingness of the government to raise enough revenue to cover its spending — will matter

Krugman makes two errors. First, he mentions MMT, giving it respectability. To engage means the thing is worthy of engagement. The second is that fundamentally, Krugman remains trapped in the monetary paradigm. There monetary transmission mechanism, where banks lend out reserves, simply does not exist. So there is no "liquidity trap", there is simply an undercapitalized non-Govt sector which creates idle real resources.

I won't even bring up the strawman that MMT doesn't care about, or recognizes, inflation.

More at Mosler

Zynga on Google+

2011-08-11T13:21:00.000-07:00

In the early 2000s, Microsoft had a marketing campaign centered around the question: what do you want to do today?

Unfortunately, nothing they offered could actually help you do anything you might have wanted. Google could, though, and by combining intent with advertising, made the internet safe for B2C companies again. Hooray!

However, Google could not help you if what you wanted to do today was "waste time". If you have no intent, the empty search box is a barrier. Facebook filled this void by offering all kinds of diversions for the directionless, and Zynga built an empire of diversion for the directionless who grew tired of their friends Facebook updates.

I don't know how much of Facebook's "usage" comes from Zynga, but I'm pretty sure it's material. I haven't tried Google+ yet because of the inane way they are currently handling Picasa integration, but if Zynga moves to Google+, then Google can now help you if "what you want to do today" is "kill time".

What about Japan?

2011-08-08T13:26:00.001-07:00

Despite what you're reading in the press, the US is not the first major first world sovereign to have its debt rating downgraded. Japan was downgraded in 1998. And then again in 01. And 02. Made no difference to the Japanese economy. You can read details here.

So why are markets tanking today? Who knows. Maybe it's EU, which does not have the institutional structures it needs to run a fiat money system. Maybe it's China. Maybe it's the cognitive dissonance from wanting a lower deficit and knowing that will make the economy worse.

But I don't think it's S&P

Turning Japanese

2011-08-03T14:17:00.001-07:00

I cannot comment too much on the debt ceiling deal, because I'm still not sure what's in it, or what will actually come about.

It lets the Treasury continue to spend (which is good) and there don't seem to be too many immediate cuts (which is also good). However, it has codified the current deficit and I think that the non-Govt sector is still at its limit of leverage. So I do not see private sector credit expansion in the near future, and I also don't see a material increase in Government deficit spending either. This will put a lid on AD, which may or may not be sufficient to keep equities subdued.

What has been a good investment in Japan since it's crash in the 1980s? Answer: Nothing.

Warren raises an interesting point here:

Looking back at past cycles it seems the support from private sector credit expansions that ’shouldn’t have happened’ has been overlooked, raising the question of whether what we have now is the norm in the absence of an ‘unsustainable bubble.’ For example, would output and employment have recovered in the last cycle without the expansion phase of sub prime fiasco? What would the late 1990’s have looked like without the funding of the impossible business plans of the .com and y2k credit expansion? And I credit much of the magic of the Reagan years to the expansion phase of what became the S and L debacle, and it was the emerging market lending boom that drove the prior decade. And note that Japan has not repeated the mistake of allowing the type of credit boom they had in the 1980’s, accounting for the last two decades of no growth, and, conversely, China’s boom has been almost entirely driven by loans from state owned banks with no concern about repayment.

So my point is, maybe, at least over the last few decades, we’ve always needed larger budget deficits than imagined to sustain full employment via something other than an unsustainable private sector credit boom? And with today’s politics, the odds of pursuing a higher deficit are about as remote as a meaningful private sector credit boom.

If anyone has first had experience with Japan over the last 30 years, please write in.

Welcome to nothing.

The US need never default

2011-07-26T22:23:00.000-07:00

Both Megan McArdle and Mosler are concerned that the Democrat/Republican impasse over the debt ceiling will not be resolved, and the US will default on its debt.

This will be a calamity and drive the US back into recession. I'm seriously considering liquidating all my equities and moving into cash and gold.

Note that this disaster was entirely man made. As a sovereign issuer of fiat currency, the US need never default. That does not mean that it might choose to not pay its bills, but that choice is entirely a political choice, not a consequence of not having the money (which it always does).

Really a disaster.

Off topic: Notes from the California Audio Show

2011-07-16T20:39:00.000-07:00

Good luck meant I had a few moments to check out the California Audio Show. My impressions:

Magico Q3

They were playing some bass or cello piece. I felt that the high frequencies were extremely disconnected from the upper bass and mid range. The entire thing sounded harsh and artificial. The lower registers were not round or soft.

Wilson Maxx

I wanted to hate these, but I could not. They were actually quite good. When I entered the room they were playing some lousy smooth jazz that sounds like plastic, but the sound was totally integrated all the way up and down the frequency range. Tone and texture were good.

Next up as a Bach Partita I know very well and like. It was great -- texture and microdynamics were super, but the piece is not challenging to reproduce either.

There was a more complex chamber piece next that I did not recognize. There was no congestion or compression anywhere in the range, and it was, again, totally seamless.

MBL

These were really interesting. The high frequency special effects are quite remarkable. Sound stage was very wide and detailed (if you value that). But the mid range was textureless, and the bass was very recessed (and the room was small!). I don't know how you can have such great HF and lack tone in the midrange. Anyway, I also I liked the complex classical music they played.

Magico Q1

I liked these much more than the Q3. They were in a smaller room, and they had a punchy, integrated sound without that disconnected HF noise I got from the Q3. Still a little aggressive and dry overall though.

Wooden Gallos

The bass was surprisingly good and the HF was well integrated. They sounded kind of boxy and the texture was flat. I was a little bummed not to hear the Gallo 3s. They are tiny in real life, and look very unusual.

Little Tannoy

I went to the Linn room to hear a multi-amp setup, but they were playing a little Tannoy. Oh well. The played the opening track from Bueana Vista Social Club, and I know exactly what I want that track to do. Unfortunately, the Tannoy was not up to the task, and the bass lacked swell and body. I don't think the little room helped either.

Sony SSAR1

Yay Sony for trying to make a quality, high-end speaker! They had a model there disassembled, and it was amazing how perfectly all the parts were manufactured. I'm sure the workmanship is fantastic. The entire rig was powered by a gamut of massive, Passlab amps. I cannot seperate the amp from the speaker, but the sound while rich and warm, lacked texture. The integration up and down the frequency range was not great tonally either, although I have no doubt it will measure as flat as a ruler. It didn't sound fake, just a little flat.

Luxman

They had a reel to reel source playing Copland. This is a great choice -- challenging music and it sounded great. I cannot remember which speakers they were using, but the overall sound had exaggerated HF, warm mid range, and a bass that was fine but congested easily when you asked it to do anything complicated.

Acapella High Violoncello

I think these were the only horns at the show, and I'm glad I was able to spend a few moments with them before I had to leave. This was a three way speaker, with the horn loaded tweeter and mid range, and direct radiator woofers in the lower plinth. The mid range and upper bass was really poorly integrated with the upper mid range and HF. Pity because the texture and dynamics out of the horns were fantastic. And by "poorly integrated" I mean boomy and muffled.

Further thoughts

This was my first audio show, and I enjoyed the opportunity to listen to all of these setups. I wish I had had more time.

First, I'm struck by how much sensitivity matters. The texture you get from high sensitivity speakers, to me, really made the world of difference. Maybe this is why the MBL and Sony seemed flat, while the Wilsons and Violoncello, despite other problems, were so vivid. Or maybe my Zu Druids have just habituated me to listen for microdynamics, and therefore, texture.

Second, driver integration matters too. I didn't think this would be an issue with multi-ways, but it was. I think this is especially problematic when the HF, instead of extending and texturing the midrange, becomes a distinct channel by itself.

Third, my Druids are *really* directional. Most of the speakers I listened to had decent listening positions of maybe 10 sq feet, but my home setup really only works in 1 sq foot. (My head, while large, is not that large).

Fourth, careful room integration matters. I think many of the problems I heard with boomy, or worse, muffled bass was because the rooms were not loaded properly, or tried to fix bass problems with traps. I have dual subs, and use them to roll off my Druids at 60 Hz, and I have taken some care to dial them into the room. It's not great, but my home system has more weight and softness than what I heard at the show, with no boomyness.

Down on Google day -- part 3

2011-07-12T14:31:00.001-07:00

People keep inviting me to join Google+. OK, I'll check it out.

When I try to join, I get this:

I am now confused. Why should linking Picasa to Google+ have any bearing on me joining Google+?

I ask my buddy at Google. He says:

picasa is being rebranded google photos and will be basic part of google +. So that is the strategic reason google is doing it.

Google did not get great by rebranding. And by "strategic" I think he means some exec commanded it, because I don't think it's required by the Laws of Physics. It gets better.

The reason you should be ok with it is that you don't ever have to share anything in picasa with anyone in google +. Nothing is shared by default. You get to choose exactly who sees what. Very different than facebook.

So I don't have to share, yet I'm being forced to link a private photo account where I picked Picasa because I don't like how Facebook forces you to share all your photos. But he assures me that unlike Facebook I don't have to share my photos. But I do have to link my photo account.

Madness.

From a customer perspective, being required to link your photo account suggests that you will have to share your photos (otherwise why bother requiring it??) Picasa's main advantage, of course, was that it was a great way to privately share photos. This whole thing is so bad from a product perspective, I don't even know where to start.

Google used to understand customer needs, but the drive behind Google+ as well as the new designer-centric design, it seems to be paying more attention to itself and other companies, not the actual customer.

Finally, I have yet to see anyone, anywhere, actually nail the use case Google does poorly at by Facebook does well at. Anyone? Anyone? Bueller?

Down on Google day -- part 2

2011-07-11T22:39:00.000-07:00

Wired has a long article on the birth of google+. Read it if you dare.

What struck me was the complete lack of strategy behind Google's entry into the social space. There's a certain kind of executive, whom you run into a lot at the certain level, who has very crude reasoning for what he does. It's all very ENTJ run amok. I'm sure there are slides floating around the Googleplex that shows Facebook is now competing with the internet for user time. But I'm wondering if this is really important. It's like the portal strategy Yahoo! & company were running in the late 90s to make eyeballs more "sticky". Then Google comes along and shows that it's not about sticky eyeballs -- it's about creating customer value and them capturing it.

Here we are 10 years later, and now Google is worried about how sticky the eyeballs are. Sad.

Tech bubble? part 2

2011-07-11T22:37:00.000-07:00

You know there's a public market bubble when the guy who fixes your water cooler starts giving you stock tips.

I guess you know there's a private market bubble when hedge fund investors start to buy private internet companies.

Down on Google day -- part 1

2011-07-01T11:31:00.000-07:00

I do not like Google's new designs.

Take the new Google calender. This is what the today button looks like when you are in week view with today in that view:

This is what the today button looks like when you are in week view with today NOT in that view:

Seems logical, right?

But think about it from a user perspective -- when I go to Google calender, I am disoriented because I do not know if the calender is showing the right week or not. I want to know where "today" is and get it it ASAP. So, I look for a button marked "Today" that will take me to "Today".

But, with the new design, I cannot find the button.

The use of the "today" button is not just a control -- to change state -- it is also a form of feedback that lets you know what your current state is. By embracing minimalism over clarity, Google has weakened the "feedback" function to a weird, negative that makes me have to think. "If I don't see something I need it means I already must have it".

Ugh.

Confusion on Greece

2011-07-01T07:11:00.001-07:00

Megan McArdle's column highlights all the confusion going on in Greece right now. One commenter gets it right:

Jay wants to know why the Greeks should bother to leave the euro if they're going to default anyway:

My own belief is that Greece should exit the euro, and redenominate its debt in drachmae, which would constitute a de-facto default
In what way does changing currencies help? I mean, you're already defaulting.

Is the idea that you'll be able to inflate away future debts more easily? Who would buy Greek debt knowing that the only reason they are issued in Drachma instead of Euro is specifically because the Greeks intend to inflate it away?

Isn't this just the difference between nominal and real interest rates?

This is exactly correct. If Greece re-denominated the debt in drachmae it would constitute a default. It would also constitute a re-assertion of monetary sovereignty, and Greece would never have to worry about defaulting again, it would just need to worry about balancing unemployment against inflation. The better it gets at tax collection, the more it can better it can do at lowering unemployment without triggering inflation.

Tech bubble?

2011-06-28T14:54:00.000-07:00

You can read through the Horowitz/Blank tech bubble debate on the Economist website and make up your own mind, but I think it's interesting how neither characterizes how this particular bubble is interesting and different.

I think that Blank's model about how bubbles inflate or deflate is fine, but not particularly pertinent to whether we are in a bubble now. Horowitz, by talking about public valuations (and referring to Google, Yahoo! etc. in particular) misses the point entirely.

The bubble, if there is one, is entirely private, and the valuations, if they are generous, as VC valuations, not public market valuations. If young startups are getting funded at valuations that require exits at dramatically higher levels than they historically have, then it's a bubble. And this is almost certainly happening now as VC funds left over from the last boom seek something, anything to invest in hoping they will get the next Facebook. Wealth angels who cashed out in web 1.0 or web 1.5 are also pushing up early valuations.

I don't know if the bubble will spill over to public markets or if it will cause silent destruction amongst VCs and institutional investors. The well known private companies with strong earnings (Facebook, Zynga) will probably do fine, but I don't know how Foursquare, no longer hip, will ever justify its $500M valuation. Even twitter will lose its luster if it stops growing (which I believe it has). People think Groupon sucks and it isn't even public yet.

After these guys the bench lacks glamour, and both Pandora and LinkedIn aren't anything like the Netscape boom that started the party in 1997.

The defining characteristics of bubbles is that some chump is left holding the bag at the end. In this bubble, the chumps are VCs unless they can trigger a big stock market boom.

Has the internet bubble popped already?

2011-06-15T13:50:00.000-07:00

Pandora IPO'd at $20, opened at $25, and then slid down to $17.42.

This should be celebrated as a triumph, as Pandora raised the correct amount of cash from its offering (as opposed to LinkedIn, who left a bunch of money on the table).

That said, this may deflate the bubble which is strong in private markets, but needs greater fools in the public market to keep on going. I've met Tim, and I hope he's not too bummed about what happened today.

Mortgages (2004-2007) are not like normal loans

2011-06-15T13:46:00.000-07:00

Megan argues that defaulting on your mortgage is not OK just because your house is underwater. Having the property secure the debt does not give you a free put option.

Ordinarily I would agree, but not for loans made during the housing bubble. During that time, lenders were not concerned about the borrowers ability to repay (see NINJA), but were, in collaboration with the borrower, making a bet on rising housing prices.

Since ability to repay was not part of the loan decision, there is no obligation to pay on the part of the borrower.

Get while the getting's good

2011-06-03T10:50:00.001-07:00

LinkedIn. Groupon. Zynga. Pandora. All rushing for the IPO exit with what looks like unseemly haste.As Dan Primack says

...my unease is not based on the above concerns. I’m already on record as saying there’s a bubble (albeit not as severe as 1999), and I think that Groupon Now shows that the company is able to smartly evolve beyond its core product.

Instead, this is about Groupon’s seeming obsession with liquidity. Remember, it wasn’t too long ago that Groupon raised a $950 million Series E round of which $573 million was used to partially cash out early employees and shareholders. Then there were reports that the company was pushing to go public even without having its bankers in place. Then it files just one month after hiring its #2 to Mason (following the surprise resignation of Rob Solomon). And the S-1 says that some of the shares being offered will come from “selling shareholders” – as opposed to all coming from the company itself.

I buy the broader arguments in favor of founder liquidity, but we’re way beyond “paying the mortgage” here. And while Groupon throws off tons of cash, it’s wildly unprofitable. Were the Groupon IPO roadshow making its way to the home office, I’d simply ask: “Why the rush?” It can’t simply be for working capital, since it could have held some of that earlier $573 million back (or not let insiders sell via the IPO). Then I’d hope the answer doesn’t scare me more…

There's optimism that there are plenty of greater fools around right now.

Is Twitter done?

2011-05-31T09:57:00.001-07:00

Foursquare probably wins the prize for biggest fad, but twitter may be close behind. I did not know that twitter traffic has been flat for 18 months.

The Government is not like normal people

2011-05-27T07:02:00.000-07:00

From Megan McArdle:

But the government does not borrow and save like normal people--its constraints are different. The closest it can come to saving is to pay off debt. And our debt is not yielding 5.25% right now; our highest-yielding debt is paying 4.375%, which the government is trying to sell more of, not pay off, in order to lengthen the average time-to-maturity of the debt held by the public, which lowers the risks to the Treasury of a sudden interest rate spike.

The constraints of a currency issuer are different--in that "saving" as a concept makes no sense. The Government doesn't "have" or "not have" money. It prints money when it spends. It unprints when it taxes. Its goal is to have printed as much as the non-govt sector wants to save.

Why would any entity need to stockpile what it can create costlessly at will?

Yes, the problem is the elites

2011-05-10T13:50:00.000-07:00

Paul Krugman correctly identifies the economics problems of recent years to the elites:

The past three years have been a disaster for most Western economies. The United States has mass long-term unemployment for the first time since the 1930s. Meanwhile, Europe’s single currency is coming apart at the seams. How did it all go so wrong?

Well, what I’ve been hearing with growing frequency from members of the policy elite — self-appointed wise men, officials, and pundits in good standing — is the claim that it’s mostly the public’s fault. The idea is that we got into this mess because voters wanted something for nothing, and weak-minded politicians catered to the electorate’s foolishness. So this seems like a good time to point out that this blame-the-public view isn’t just self-serving, it’s dead wrong.

The fact is that what we’re experiencing right now is a top-down disaster. The policies that got us into this mess weren’t responses to public demand. They were, with few exceptions, policies championed by small groups of influential people — in many cases, the same people now lecturing the rest of us on the need to get serious. And by trying to shift the blame to the general populace, elites are ducking some much-needed reflection on their own catastrophic mistakes.

Unfortunately, the class most at fault are academic economists like Paul Krugman. Because they do not understand basic accounting, and because they do not understand monetary operations, they push bad policy through the iron polygon of newspapers, government agencies, universities, and talk shows.

When people save money in a bank that money becomes "dead" because deposits do not fund loans. Quite the opposite -- loans create deposits. Since the demand for this dead money changes unpredictably, the Government must fund that desire by printing (and unprinting) money to maintain full employment and price stability. This is measured by the deficit. The US drained the private sector of its savings during the Clinton surplus, leading to an overleveraged population which remains out of money and work because Obama won't run sufficiently large deficits. Europe eliminated its ability to respond to this change in demand at all as it has no centralized currency issuer. And, when one realizes the entire point of private sector credit extension is credit analysis, most of Wall Street securitization becomes a sham -- these loans are better left on bank balance sheets as receivables than traded.

All of this came straight from the Ivory Tower, where Paul Krugman sits today trying to shift the blame to other people.

Can Apple become Jobsian?

2011-05-09T12:24:00.000-07:00

Asymco wonders if Apple is becoming more "Jobsian" (and therefore, better able to succeed in the post-Jobs era) by building Steve U:

According to the article in Fortune and some additional details from another source, Joel Podolny has been building an understanding of how Apple is run. He’s then been asked to codify this understanding into a curriculum that can be taught to Apple employees.

The idea that Apple is trying to capture its institutional processes and knowledge is very compelling. Few companies have self-knowledge. Fewer still try to codify it and teach it to new generations of leaders (Disney, McDonalds and Toyota have in-house training programs but they are mostly aimed at new hires).

Coming from the Product world, I am very skeptical that Apple's process can be institutionalized via any form of academic canonization. The etiology of Apple's success is not rooted in process or institutional knowledge, it's rooted in politics, where the CEO is also the Chief Product Officer. Design is about compromise, and the mindset of the CEO will tell you what will get compromised for what else.

Increasing prosperity, increasing deficits

2011-04-26T09:27:00.001-07:00

To maintain full employment, a sovereign currency issuer must generate sufficient net financial assets to satisfy the savings desire of the non-Govt sector. In other words, the Government must print enough money so the private sector can reach its savings target and have low unemployment. This money printing that shows up as deficit spending.

One question is whether deficit spending, all things equal, necessarily must go up as a State becomes more wealthy. ESM makes a clear argument for why it should here:

Once your level of consumption reaches an acceptable level, doesn’t it make sense to create a nest egg of financial assets equal to at least a low single-digit multiple of your annual income? If everybody could do that, you’d have government debt into the several hundred per cent of GDP range, without even considering the dollar savings desires of the rest of the world (which is understandably large given the stability of the government and the property rights in the US).

It all makes perfect sense to me that as the world develops and as people become wealthier, financial wealth will become a larger fraction of GDP than it is right now.

This is true. If 50% of the US decided to bank 1 years household salary, the USG would need to run a massively higher deficit than it does now.

Comments on Interfluidity

2011-04-22T09:22:00.000-07:00

Steve Waldman's been trying to get his head around MMT. Here are his criticisms of it. My response is below.

While the flow of net private sector financial assets does strike me as an important and powerful tool for macroeconomic policy, it is not a uniquely effective tool. Changes in the relative price of financial assets (the object of conventional monetary policy) and in the distribution of financial assets can also powerfully affect behavior, and there are costs and benefits associated with each lever. What is the justification for focusing almost exclusively on managing the level of “net financial assets”?

This is the weakest of Steve's points, and reflect the fact he's in a PhD program and a Progressive. What evidence is there that changes in the relative price of financial assets is much influenced by the Fed, regardless of what it's "objectives" are? And, even if these relative prices are influenced by the Fed, what evidence is there that they are a potent macroeconomic tool. Does Japan not exist? Aren't we in the Year 2011? Does reality never get a chance at bat in the ivory tower?

I'll disregard the distribution question for obvious reasons.

It is unassailable true that a government cannot be forced into insolvency for want of capacity to pay in its own currency. But a government might find itself politically or institutionally unable to meet an obligation despite access to the printing press, and there might be a sharp run on government obligations even without the focal point of formal insolvency that usually occasions private sector runs. It strikes me as an open question the degree to which protection from formal insolvency protects government obligations from disruptive races to redeem. Point #7 below strikes me as stronger protection.

A government can always choose not to make an obligation, and indeed, Russia made this very choice in 1998. What protects a government from disruptive races to redeem is its ability to tax.

MMT-ers are right, I think, to argue that, for fiat-money issuers who borrow in their own currency, conventional government solvency criteria are false. They are right to argue that such governments have a great deal more latitude to issue money and debt than conventional theories suggest. But that shouldn’t be taken as license to defend carelessness in the distribution of new claims, or to treat expansions of money or debt as entirely cost-free. To be fair, this is a bit of a straw man.

To be accurate, this is entirely a straw man. Again, Japan? Reality? Tinkerbell? The difference between a dependent and independent variable?

So, I’ll to acknowledge TC’s objection as important and potentially valid, but defend my positing of an MMT “solvency” constraint, at least with scare quotes in place. I don’t think it’s reasonable for MMT-ers or anybody else to write off the possibility of sharp and unexpected changes in the value of a fiat currency. The possibility is dangerous enough that it should focus the mind in a precautionary way. If MMT policy advice is to be taken seriously, it must offer a some assurance of safety against that scenario. The absence of formal default hazard provides some assurance, but without Point #7 as a backstop, not enough.

It's called sensibly designed fiscal policy with good automatic stabalizers. Oh yeah, and an academic class who knows an asset from a liability, a stock from a flow, and a bit from an atom. A lot to ask, for certain.

On the one hand, I consider this point is one of MMT’s deepest insights, and its secret weapon. So long as a government’s taxing power is strong, so long as it is capable of persuading individuals to surrender highly valued real goods and services for the ability to escape liabilities imposed by fiat, exercise of that taxing power creates a floor beneath which the value of a currency, in real goods and services, cannot fall.

However, relying too overtly on taxation to give value to a currency strikes me as dangerous and potentially counterproductive. A government’s taxing power is limited and socially costly. Governments must maintain a patina of legitimacy so that people pay taxes “voluntarily” or else they must intrusively or even brutally force compliance. In a decent society, it’s perfectly possible that governments will find it politically impossible to tax at the level consistent with price stability goals.

Here, Steve's Progressive instincts cloud the remainder of his mind. The US is certainly a decent society. But I don't pay my taxes voluntarily and neither does anyone I know. If taxes were voluntary, I wouldn't pay them. Maybe Steve can share how much extra tax he gave in 2011 (since it's 4/22, the 1040 should still be fresh in his mind)?

A Government that cannot tax is no longer a government. When a government dissolves, then its fiat currency dissolves as well. This is called "hyperinflation" and it has nothing to do with a government's "solvency" and everything to do with its existence.

I think this is true, a deep and powerful way to think about public finance. Note that a government’s “political capacity to levy and and enforce payment of taxes” depends first and foremost on the quality of the real economy it superintends. The value that a government is capable of taxing if necessary to sustain the value of its obligations increases with the value produced overall.

Again, Steve's Progressive instincts cloud what remains of his judgement. A government's capacity to impose taxes has nothing to do with the quality of the real economy it oversees and everything to do with its sovereign power. The King of some remote village will be able to collect goats in tribute so long as he is the True King. etc. A soverign who oversees a more productive economy will certainly get a richer vig, but what does that have to do with anything?

The internet is a fractious place. Many MMT-ers are civil and patient, and devote enormous energy to carefully and respectfully explaining their views. There’s no way to police other peoples’ manners. Still, even by the standards of the blogosphere, MMT-ers have a reputation as an unusually prickly bunch. That might not be helpful in terms of gaining broader acceptance of the ideas.

What crap. It's like the Pope saying to Gallileo, "if you were only nicer about this whole earth revolving around the sun the Church would listen to you more". MMT is rejected because it is heretical.

Krugman says MMT again

2011-04-22T09:16:00.000-07:00

He really needs to stop doing this. What's next -- Yglesias is going to bring it up? Back to Krugman:

Does the same thing hold true for the federal government? Well, the feds have the Fed, which can print money. But there are constraints on that, too — they’re not as sharp as the constraints on governments that can’t print money, but too much reliance on the printing press leads to unacceptable inflation. (Cue the MMT people — but after repeated discussions, I still don’t get how they sidestep the issue of limits on seignorage.)

So taxes are, first and foremost, about paying for what the government buys (duh). It’s true that they can also affect aggregate demand, and that may be something you want to do. But that really is a secondary issue.

And may I say that now is an especially peculiar time to think that taxes matter only if they reduce consumption. We have lots of excess capacity in the economy; the government can easily buy more goods and services without requiring that the private sector buy less. The only reason to raise taxes now, or promise future rises, is to address solvency concerns.

The Government can acquire real goods and services without spending money at all. Conscription. Kelo. Extension of the copyright act. The list goes on. Taxes, first and foremost, are a manifestation of sovereign power and thus lay the groundwork for fiat money. By draining the private sector of the funds it needs to purchase it's own output, they create room for the Government to take that output without generating inflation. Contra Krugman, now is an excellent time to understand how taxes reduce consumption because we are in a recession due to lack of aggregate demand due to lousy household balance sheets, and high taxes are preventing those balance sheets from being repaired. Last point to Krugman:

Discussions like this really disturb me; they indicate that there are a lot of people with Ph.D.s in economics who can throw around a lot of jargon, but when push comes to shove, have no coherent picture whatsoever of how the pieces fit together.

So true. Also, people with Nobel Prizes in economics demonstrate the same failings.

Angel investment hurts the VC market

2011-04-18T08:37:00.000-07:00

This is something I've observed as well, and highlights another problem for the traditional VC industry:

I bumped into a friend last week who sold his company a few years ago. He spent the required time with the buyer and then left. He's been spending his time since starting a family with his wife and investing in startups. He told me he's not sure he'll make a lot of money angel investing, but he's hoping to at least breakeven. So he's not doing it soley for the returns. He's doing it to stay connected to startups and support other entrepreneurs. I am certain he's not alone in his approach to angel investing.

It's fun to found a hot startup, and then cash out. The problem is that now you are no longer the founder of a hot startup, you're the guy who founded a hot startup a while ago, and then cashed out. So, after time, the conference invitations dry up, you're no longer the center of attention at parties, and Wired magazine isn't emailing you asking for your vision of Web 3.0 (or whatever)?

So what do you do? You become an angel investor, and even if you aren't the guy founding hot startups, you're the guy funding guys funding hot startups. So, now you get invited to conferences again, people want to talk to you at parties, and Wired magazine is once again asking for you to grace their pages. It's all great so long as the money keeps flowing.

Discussion question: Is the above dynamic likely to fuel bubbles, or not?

Lack of IPOs hurt the Venture Market

2011-04-08T09:50:00.000-07:00

An interesting post from Dan Primack's excellent term sheet on the lack of an IPO market hurting VCs:

Publicly, VCs may have to support the SEC's newfound flexibility [in enabling companies to have privately traded shares]. They cannot be seen by entrepreneurs as trying to force unwilling companies into the public markets, or hindering the ability of those companies to raise private capital. Today's VCs are desperate to appear buddy-buddy with the entrepreneurial community, because they believe that generates preferable deal-flow. Remember, John Doerr wore a hoodie to appear Zuckerberg-y.

Privately, however, VCs should be concerned. The relative dearth of VC-backed IPOs was a very hot topic at this past week's National Venture Capital Association annual meeting, with many investors privately grumbling that the lack of a mega-hit (i.e., Facebook) was holding back other, less well-known portfolio companies. "We need a giant marker of validation for our companies," one longtime VC told me. "Kind of like a market comp for our industry, rather than for Facebook or Zynga's industry. We need [the public markets] to trust us again."

Back in the .com boom, when companies went public everyone would use their valuations to create whatever comp they wanted. The lack of big, public IPOs is probably hurting second and third tier VCs with their portfolio's loaded with Facebook, Zynga, and Twitter also rans.

Krugman says "MMT"

2011-03-27T09:30:00.000-07:00

So, Paul Krugman has finally mentioned "Modern Monetary Theory" within the Grey Lady. A bunch of people have commented, including Interfluidity, Dean Baker(!), Corrente/Lambert(?) and probably many more.

So, will this be the crack in the dyke that brings the whole edifice of macroeconomics down? Or will it just vanish down the memory hole like Climategate? My bet is on the latter, but only if Paul stops bringing it up.

The US cell phone market

2011-03-23T15:20:00.001-07:00

The excellent Asymco has a great post about the state of the cell phone market in the US. In particular, he wonders whether the proposed AT&T/T-Mobile acquisition should be blocked on anti-trust grounds given the amount of disruption and innovation that is clearly going on in that market:

AT&T’s intent to acquire T-Mobile USA is subject to regulatory approval. Will regulators look at the deal through the lenses of sustaining the traditional industry’s profit allocation or through the lenses of device-led disruption?

In theory, regulators are to make a determination on whether the deal will reduce customer choice. But the question is really choice of what? The focus is presumably on the choice of service plans. That’s understandable, however coupled to that choice is the choice of devices and even more importantly, the choice of platforms.

He goes on to list the usual litany of complaints about US cell phones -- service is spotty, networks are bad, you need to pay to both make and receive calls, you get locked into handsets etc.

All of those are fair, but I think it's also fair to look at the flip side -- using a cell phone in the US is cheap. The only calls you pay for are those made, out of network, during business hours as most plans have free nights and weekends, and free in-network. The per-minute charges are also really low.

Also, the avalanche of innovation Apple launched with the iPhone could only have come from a market where the handset and carrier was tightly integrated because of all the expensive co-investment that needed to be made at the infrastructure level. AT&T originally said "no" to Apple, btw. Cingular ended up saying "yes" because they were a more nimble, innovative company and they needed to differentiate themselves from the big boys. AT&T ended up with the iPhone by accident as a consequence of the Cingular acquisition.

Sometimes you need tight integration to disrupt.

Let the Yen Rise

2011-03-18T21:54:00.001-07:00

The Yen is rising, and various nations are acting in concert, with Japan, to bring it back down. This is crazy.

Think about it -- Japan has just suffered a tremendous negative real shock. Buildings, roads, equipment, factories, etc. have all been destroyed and need to be replaced. More tragically, thousands of people have died and aren't there to replace them all. What the country needs is a stronger yet, so it can import more sweat and atoms from abroad to make up for everything it has lost.

Instead, it is devaluing its currency to help its exporters. So atoms, desperately needed at home, will be rearranged by sweat, which could be spent at home, and then sent abroad, in exchange for numbers in a spreadsheet.

Exports are real costs. Imports are real benefits.

Japan and the media

2011-03-16T22:31:00.000-07:00

In no way do I want to downplay the tragedy that has struck Japan, and continues to unfold. Nevertheless, my friend in Sendai seems decidedly non-plussed about the conditions, and my high-energy particle physicist relative is non-plussed about the nuclear risks.

Buy N255?

Japan -- from the ashes?

2011-03-14T21:27:00.000-07:00

A massive earthquake, a huge tsunami, and now the possibility of a nuclear meltdown. Things are looking grim for poor Japan.

Japan has enormous real problems, having suffered a massive real negative shock. Their ability to "finance" their reconstruction is (thankfully) not a real problem at all. This tragedy makes it very clear: there is a huge amount of real (sweat & atoms) work to be done, and there is a huge amount of real (swat & atoms) labor and capital ready and willing to do it. The Japanese Government can print as many Yen as it needs to to mobilize its available resources and get the country to work. Maybe now, finally, Japan will fund its demand for net private savings (equity) and escape the balance sheet recession it's been mired in for a generation.

Can a central bank make a loss?

2011-02-26T06:56:00.000-08:00

Yves Smith quotes from a Gillian Tett article on central bank losses:

Now as some readers have noticed, the Fed has also institutionalized an accounting dodge so that it will not have to admit to balance sheet losses. Commentators appear to have missed that this finesse does nothing to solve the underlying reality. The Fed can “print” its way out of balance sheet losses only to the extent that it is not constrained by inflation. If it does run into inflationary constraints, it would need an explicit bailout, irrespective of the accounting treatment.

This is nonsense.

The US Federal Reserve bank has a negative equity position. It must, as a matter of accounting, given the operational constraints (currently) governing the Treasury. Therefore, if the CB suffers a loss, then this negative equity position simply becomes more... negative? Do we care?

At a normal bank in normal times, negative equity need not stop a bank from functioning so long as its reserve account still works -- either because the Fed is funding it directly via the discount window or because it can find counterparties in the overnight inter-bank market. Regulators can always step in a shut the bank down (indeed, by law they must, although they ignore this law when they choose) but otherwise the lights can stay on, employees get paid, loans get made, etc.

At the central bank this is true, but even moreso. There is no risk that the central bank will be shut out of the reserve system because it is the serve system. It holds all reserves as liabilities. And it lives in a permanent state of negative equity, so the amount of negative equity does not matter, it simply reflects the amount of positive equity that exists in the non-central bank sector. If there is an inflationary constraint, it's because the Fed paid $1 for assets worth 20 cents, and therefore engaged if excessive fiscal policy.

Then and now

2011-02-18T08:40:00.000-08:00

Interesting pictures of Cairo in 1959 vs 2011. You can see the same thing in Pakistan if you compare the buildings made in pre-World War II and after. And in pictures of Harlem in 1950 vs 1970. The list goes on.

What's the price of a loaf of bread in Cairo?

2011-02-03T09:04:00.000-08:00

I was wondering if anyone knew what was happening to the price of goods in Cairo.

The Egyptian Pound is off just a few % from November, and, if the country is experiencing inflation it cannot be because 1) the central bank is flooding the financial system with too many reserves or 2) the deficit is too big.

Either way, I'm probably looking at this incorrectly as it's pegged to the US$ anyway (as are many Arab currencies) so they aren't running a true fiat regime.

Is a newly minted coin money?

2011-01-22T21:07:00.001-08:00

In comments, someone asked if a newly minted coin was a financial asset or not.

Here is my response -- it is not a financial asset, it is a real asset. A financial asset is an asset that has a corresponding non-equity liability. A real asset has no corresponding non-equity liability, and therefore get some nominal value associated with it and booked as equity. The details of how the nominal value get assigned can be important, but not in the context of this discussion (financial vs real assets).

A newly minted coin has no liability associated with it, and is therefore not a financial asset. If the coin belongs to the Mint that produced it, then it's nominal value would be booked as equity to that Government entity. The difference between its production cost and its nominal value would be true seignorage.

If the coin left the Mint and went into general circulation, it may not be counted as Government spending depending on how exactly the transfer happened. When the coin was deposited at a bank, then it would enter (for the first time) the reserve system as it would be booked as a deposit in the creditors account (credit bank liability), which would credit the banks reserve account (asset), which in turn would credit the reserve account (liability) held at the Fed, which would debit its (negative) equity entry. At this point, the coin has become a financial asset.

A far deeper discussion of this is at Mosler's.

Why the Government must run the right size deficit

2011-01-14T20:41:00.000-08:00

A commenter brought up this quote, which I think illustrates the mechanics of how vertical money works rather nicely:

No, money is neither of neither of these.... In an economy without capital (a technology that transfers forgone consumption today into increased POTENTIAL output tomorrow) there simply is no saving.

Take... an economy that produces only back scratching services where nobody can scratch their own back. Suppose there are 100 people in the economy and suppose that everyone only has the strength to provide one back scratch per day. Thus, daily potential output is 100 backscratches, the money supply is $100 distributed uniformly in the population so each backscratch costs a dollar.

Now, suppose one person (only one) decides he'd like to save. He wants to forgoe todays scratch but get two tomorrow. Thus, he provides a backscratch and gets paid a dollar for it which is added to the dollar he already had. However, someone else was unable to sell a backscratch but still consumed his and now has no money. Today output fell to 99 backscratches.

Now, tomorrow the guy with the extra money gets 2 backscratches and still provides one, the guy with no money gets none but still provides a backscratch. Output is back to 100 and the money is back to its uniform distribution. Furthermore, because potential output is capped at 100 total backscratches printing an extra dollar and giving it to the guy who was unemployed on day 1 just causes inflation, no increase in aggregate output. (Although it does have a welfare effect by allowing the unlucky guy to get a fraction of a backscratch.)

So, no net savings, just forgone ouput. Without capital, a way that forgone consumption today is transformed into increased potential outupt tomorrow there will always be zero net savings and any attempt on the part of agents to save in real terms will only result in an output loss. Money in no sense represents past savings here, only productive capital can do that.

I think the comment was meant to refute MMT, but instead it just illustrates the critical role the Government uniquely plays, as currency issuer, to create net financial assets (equity) for the private sector to store.

In the toy economy setup in the quote, there is no source of net financial assets. The economy is endowed with $100 net financial assets at the start. Somewhere, therefore, there must be an entity that has -$100 net financial assets, but stands outside the economy. In our world, the currency issuer (ie. US Fed for the US $) carries a negative net equity balance, and currency users (ie. everyone else) carry, overall, a positive financial asset (equity) balance.

In the example, when one backscratcher wants to save, he just reduces the real output (backscratches) and deprives someone else of income. This is exactly what can happen in the real world in paradox of thrift conditions. There is no way for the economy to increase its net financial assets (equity), all it can do is shuffle around the allocation. This shuffling may or may not result in full output.

In the example, the next period, the backscratcher who had hoarded the extra dollar got an extra backscratch, and everyone was fully employed again. Great! But suppose that the other backscratchers saw that one of their own was idle, and decided they might need some extra money stashed away as well to carry them through lean periods. Well, some of them might try to hoard a dollar too, and now real output is depressed further.

The simple solution to this is for the endogenous currency issuer to simply issue more currency that the backscratchers can happily hoard. This way, you maintain full employment, everyone has their nest egg, and all is well. If the currency issuer over does it, then it can simply tax away some of that extra money so the price of back-scratches remains $1.

Real vs Nominal

2011-01-12T21:15:00.001-08:00

Lots of activity in recent comments about the distinction between "real" vs "nominal". Here's my take:

Short version: "Real" equals atoms and/or sweat. "Nominal" equals a number in a spreadsheet.

Longer version: Real pertains to real goods and services produced by an economy. If the goods are available in a future period, they are termed "investment" in the prior period when they are produced. Nominal equals a number in a spreadsheet. When comparing numbers in a spreadsheet, you must be scrupulous to compare apples to apples, so book value to book value, or market value to market value as an example.

An inflation adjusted nominal term is not "real", because it is still a number in a spreadsheet. It is worth inflation adjust nominal values so you can account for inflation and compare nominal values meaningfully across time. Nevertheless, inflation adjusting a nominal value does not give you a real value, it just gives you an inflation adjusted nominal value. You do not need to inflation adjust real goods or services -- a chair is always a chair, a haircut is always a haircut.

"Real" also does not mean "material" or "significant".

The connection between real and nominal is subjective and contingent, and it can change. If you create a painting and sell it for $1M, then it can be booked for $1M, but $1M may be worth anything (or nothing) in the future. Moreover, if you create a painting that you think you might be able to sell for $1M, but decide to keep, it may or may not be booked at $1M depending on how accurate your perception of its market value really is. Or whatever.

Either way, the painting is "real" and its nominal value can be booked a number of different ways, but the link between them can change and is contingent.

At an economy wide level, if nominal incomes increase faster than real production, there is a risk of inflation (unless that extra income is "saved" and becomes, essentially, dead money).

Macroeconomists do not understand debt

2011-01-07T10:14:00.000-08:00

Big thanks and welcome to Andy Harless, who appears in the comments of a recent post on savings putting the orthodox macroeconomist position in plain English. Once again -- you all be the judge of what makes sense to you. First, Andy:

The crisis occurred because people (mostly in Asia) earned too much income and didn't spend enough. The crisis wouldn't have happened if they had chosen not to earn that income, and it wouldn't have happened if they had chosen to spend more. The financial and housing sectors over-expanded because Y-C was too high in the rest of the economy. You can't blame them for the minus sign, but you can blame them for choosing the values of Y and C. I say again, saving caused the crisis.

This is the old "savings glut" idea put in plain english. To buy it, you need to believe that a Chinese man, who made a VCR and sold it for Yankee dollars, and then put those dollars under his mattress and lived off rice and gruel, is responsible for Angelo Mozilo giving a $1M loan to an unemployed gardener, and then having that loan rated AAA by Moodys and sold via Lloyd Blankfein. Maybe the Chinese factory worker went to college with Geithner and therefore has an inside track to Wall Street?

According to Andy, households are flush with cash and are just not spending because the Government isn't threatening their savings enough. Thus our high unemployment. The data, and common sense, suggests that households are up to their eyeballs in debt, and are not spending because they don't have enough money.

You can see the twisted logic by which orthodox macro believes that the more money you borrow, the less money you need. Those of us with experience in reality might hold a more nuanced view. Again -- make up your own mind.

Mosler recently had a piece that tracks the non-Fed sector's fiscal position clearly from the late 90s to today.

Tron: Legacy -- the rewrite

2011-01-02T15:35:00.000-08:00

Forgive me this indulgence.

This is what the film should have done:

Overarching theme: "Man is machine". What does this mean? Does not matter.

Key elements: Clue and Flynn Jr. are mirrors of each other. Clue runs the operation, but it keeps glitching. Flynn Jr. avoids the responsibility of running the operation, but is the glitch himself. Flynn is both of their father.

Flynn Sr. is beyond human, but not quite machine. He is a wild messiah, only barely still in touch with the digital and analog world. He appears randomly, being Gnostic.

Clue and Flynn Jr finally embrace each other. The integrate, becoming a partial man/machine hybrid.

Flynn Sr embraces them both, completing the Trinity. He achieves enlightenment.

We have a 15 minute 2001-esque 3D visual light show extravaganze, while Daft Punk goes nutso.

Roll final credits.

Happy New Year!

2011-01-01T07:53:00.001-08:00

Best to all for 2011

From comments: Krugman is part of the problem

2010-12-29T16:49:00.000-08:00

Thanks to winterspeak reader Peter for drawing my attention to this Krugman quote in the comments:

“The key thing to bear in mind is that for the world as a whole, spending equals income. If one group of people — those with excessive debts — is forced to cut spending to pay down its debts, one of two things must happen: either someone else must spend more, or world income will fall.”

Please look at your paycheck and see if what your employer spends on you equals your income. If the two are not the same, what accounts for the difference? Why did Krugman not notice this rather obvious elephant in the room and write something so obviously false? Why did Peter not catch it? What bearing (if any) does this have on thinking about aggregate demand in our current economic state? Does understanding MMT have anything to offer in this context?

So many questions!

Where inflations expectation is not nonsense

2010-12-29T15:56:00.000-08:00

In a recent post where I detailed why I thought the "inflation expectations" model used by orthodox macro was nonsense, I promised to outline the one exception. Well, here it is.

The reason I reject the inflation expectations model is because it handles savings as an inter-temporal consumption decision. This fails to capture the essence of the actual savings dynamic, leading to comical predictions as proffered by Nick Rowe. While economists take a year's vacation and buy luxury items on the eve of their life savings evaporating, the rest of the species merely shift into other savings vehicles -- forex, gold, and real assets, particularly land.

That last category, however, is an exception to the rule, and here I believe inflations expectations really do alter consumption decisions on the margin. Someone who has decided to buy a house may very well decide to take on more leverage, and buy more house than they otherwise would, if they expected inflation. Real estate is about the only highly leveraged position a household can take, and I can see it being very interest rate sensitive. Our friend in Sao Paolo may very well take his cruz while he has them, and plow it into as much real estate as he can leverage himself into.

This may be part of the dynamic in an old paper I've currently mislaid that looked at historic data and concluded that real estate is the business cycle. I'll poke around for it, but if anyone know what I'm referring to, please do post it in the comments.

While ultimately, real estate may be the trigger for private sector credit expansion again, signaling the true end to this recession, it may take a while to get there. House prices are still higher than historic norms on average, although in practice this means some areas are fairly priced (or cheap) while other areas remain at bubble levels. I also think the recent bubble has taken some of the gloss of real estate, although I don't think this factor is particularly strong. I think continued labor market weakness is discouraging household formation, and there is still an overhang of homes, all of which will keep prices down. And of course there is the big backlog of shadow inventory which banks will keep dribbling into the market whenever prices start to show material appreciation.

Japan is now about 30 years into their post-bubble economy, and have yet to recover. I don't think the US will take as long, but if the Government gets serious about deficit reduction I may be proved wrong.

Merry Christmas!

2010-12-24T11:20:00.001-08:00

Happy Holidays to all winterspeak readers!

Don't blame the savers

2010-12-22T21:42:00.001-08:00

Steve Waldman blames savers for the housing bubble and financial crises. You heard me right -- Steve thinks that people who refused to take out massive NINJA loans to buy houses they could not afford at crazy prices are the guilty ones. Is he Lloyd Blankfein's puppet? Did Geithner slip him extra-special cookies when Steve flew over to meet the great man? Read through the comments and decide for yourself.

Why the inflations expectation model is nonsense

2010-12-14T21:26:00.000-08:00

Thanks to all who commented on my challenge. Big thanks to Nick Rowe especially.

A brief recap: economic models treat the savings decision as a case of inter-temporal substitution -- either I buy now or I buy later. The discount rate governs exactly how this decision is made, and the discount rate includes an inflation term. If inflation expectations increases, then future consumption is discounted more heavily, and inter-temporal substitution begins to favor the present. Or, as Nick says "the increase in expected inflation reduces the real interest rate for any given nominal interest rate"

I don't reject this model because it abstracts reality to illuminate a particular mechanic. That is the point of models. I reject this model because it fails to capture the essential economic dynamic at work here. The inflation expectations story is simply a weak one.

Take this scenario (slightly tweaked, as Nick, while long on generosity was a little short on imagination. Still, all is forgiven, and I do thank him for this list): You're living in Brazil, it's 1970s, you have a stash of cruzieros (your and your family's life savings!!) and you think the value of your nest egg is about to be blow to smithereens via a vicious bout of hyperinflation. In this case, Nick would:
- Buy a variety of luxuries
- Buy some financial assets tied to commodities
- Quit his job (take unpaid leave)

In case you think I'm joking, here's the list, verbatim:

1. A new, lighter weight canoe. Swift Mattawa, in carbon fusion. Better buy it now, before prices rise, rather than waiting till I'm too old to lift my heavier one. (Do you really want the exact model and manufacturer?)

2. Better cookware.

3. Many crates of Scotch.

4. A new field drain under the back yard.

5. New laptop for one daughter.

6. New stereo for the other daughter.

7. Small farm 30 minutes north.

8. shares in oil/gas drilling company.

9. equity mutual funds (have to ask my broker which).

10. One year's leisure (unpaid leave from work, since the money won't be worth as much, and it would be better to take the leisure now and retire a year later).

See, I was not kidding! I think the number of people who, on the eve of having their hard earned life savings obliterated, would blow it on kayaks and scotch is small.

Vivianne Vilar, who it seems has personal experience, nails it:

My mum (and all family) used to buy dollars. I can't tell you about 1979, because I was only born 2 years later, but that is what she did from when I was a kid until 1994, when the Plano Real was implemented.

Primarily, people save for things:
1. They cannot afford currently (and don't want to buy on credit)
2. Unexpected emergencies
3. Old age
4. Bequests for their kids

2-4 cannot be moved forward and so are not inter temporal decisions the way the models treat them. Therefore, if savings are threatened, people will substitute into other stores of value such as fx or gold. They will not move consumption forward, as they cannot. This is not about consumption.

1 is an interesting case. If there's something you cannot afford now, you will not go out and buy it because you'll be able to afford even less of it in the future. There is one big exception to this, which I'll write about in a future post.

Ultimately, you need to decide for yourself whether, if your nest egg is going to be hyper inflated away, you'll spend it on a fiber glass kayak or move your savings to another currency. Economists are betting on the kayak.

Obama makes the right move

2010-12-06T20:54:00.000-08:00

The Obama administration's latest stimulus is very good. Keeping income tax rates where they are, extending unemployment, and a payroll tax cut boosts aggregate demand without the Government picking winners and losers, and without red tape.

More please

Start eating out more?

2010-11-28T10:51:00.000-08:00

Economic models take it as a given that, in the face of expected inflation, savers start to spend more.

In practice, this isn't at all clear. I keep posting a simple example, and nobody seems to have a good story for how the actions taken by the individual in the scenario will lead to broad CPI increase.

Here's the example again -- please post your mechanisms in the comments:

You're a responsible Brazilian living in your decent Sao Paolo apartment (paid off!). You have a tidy pile of cruzeiros in your local bank, saved from the income your reasonable private sector job generates. But it's 1979 and you're worried about inflation looming on the horizon. What do you do?

I'm interested in two things, but all ideas are welcome. First, the above situation is not hypothetical, so people actually made decisions in these circumstances. If anyone knows what folks did in real life, I'd love to hear them. Second, this example is meant to focus on exactly how increasing inflation expectations actually leads to rising CPI. No hand-waving please, I need transactions!

Happy Thanksgiving!

2010-11-27T13:33:00.000-08:00

Best wishes to all!

QE2 is about rates, not prices

2010-11-15T21:41:00.000-08:00

A big thank you to Fernando for stepping up and playing the Monetarist. If there's a better source for why Monetarists have no understanding of money, and therefore the economy, I cannot think of it. And if any of your are wondering, Fernando is not a plant! He's the real deal. I could not make him up if I tried.

In the last couple of posts I outline why QE2 is a non-event. I assert that 1) you cannot move consumption forward, and 2) inflation expectation has no channel that leads to CPI. Fernando makes two claims:

[If there was a positive inflation expectations shock]... I would buy commodities and demand a rise in my salary.

When people expect more inflation they tend to spend more today, velocity rises.

The scenario was a sober minded Brazilian rich in Cruzeiros circa 1979.

Fernando has not responded yet, but I think it's fair to assume that, in the face of inflation, the commodities he would buy would be commodity futures, not actual sheafs of wheat. So Fernando is swapping one financial asset (nominal savings) for another financial asset (commodity futures). This would increase the price of commodity futures, but as far as I know, futures are not part of CPI. Going long futures only makes sense if the anticipated inflation comes to be, and Fernando continues to come up goose egg for any actual mechanism for this inflation. If everyone anticipating inflation goes long futures, it will have no impact on actual inflation and that positioning will come to naught.

Real life actual third world countries take a different approach to expected inflation.

Krugman is part of the problem

2010-11-06T15:27:00.001-07:00

This post totally sums up the problem with macroeconomics, and by extension, Krugman:

The simple fact is that we have a global excess supply of savings, which is doing terrible things to workers. The reasonable thing is to do something about it; it’s deeply unreasonable, and deeply irresponsible, to invent reasons not to act because you’re clinging to simplistic slogans.

Got that? Households are groaning under impossible debt burdens, they've seen their income cut and their job prospects dim, and the problem is that they have too much money in the bank.

Surreal.

You can't move consumption forward

2010-11-05T23:13:00.000-07:00

Paul Krugman gives you half the story for how inflation expectations is supposed to work. The poverty of the model is clear:

So what the Fed needs for inflation targeting is a way to tie its own hands — or, more accurately, the hands of future Fed officials. That was the whole point of my line about credibly promising to be irresponsible.

In practice, that’s really hard, especially when you have such divergent views among Fed officials themselves. The best precedent is 1933 — which was first pointed out by Peter Temin and Barrie Wigmore. In that case, the end of the gold standard convinced people that there really had been a pro-inflation, or at least anti-deflation, regime change.

When the US went off the gold standard in 1933 it switched to a fiat currency, and therefore was able to deal with the liquidity and solvency problems holding down aggregate demand in the 30s, and keeping the country in the Depression. People didn't suddenly say "Oh, our savings will be inflated away -- let's buy stuff" nor did they say "Oh, our savings will be inflated away -- let's build factories". They kept banks from collapsing and ultimately funded WW2 without worrying about the bank vaults being empty now that they had a printing press.

In economic models, expected inflation feeds into the discount rate, which then governs individual decisions about whether to postpone consumption. The idea is that when inflation expectations go up, the individual will move consumption forward, wheras if inflation expectations go down, the individual will defer consumption (ie. "save").

In reality though, it's easy to defer consumption (just buy the thing later) but it's very hard to move it earlier. You cannot pre-eat a years worth of meals, nor can you pre-live in a years worth of housing, so you won't need either of those things in the future (when it's more expensive).

Third world countries tell you what people actually do when they expect high inflation. And it isn't buying cars nor building factories.

The old newness of South Asian cinema

2010-10-22T09:20:00.001-07:00

I never liked Hindi films much, but they were distinct and culturally unique. In the inevitable push to become more independent, South Asian directors produce a bunch of films that... you've been seeing at indie film festivals for the past 30 years. True independence was Bollywood.

Federal Reserve should run an overdraft

2010-10-19T21:48:00.000-07:00

Arnold's academic career didn't pan out, and his internet startup didn't make him a millionaire either. He writes bitter posts about no one reading his book, so I guess author/pundit isn't quite working out so far. I'm sure his high-school student appreciate him though. Either way, the car wreck that is this post represents everything that is wrong with macroeconomics. Be sure to check out the comments where the horror show continues.

Here is the basics for how the banking system works in reality, and therefore what "quantitative easing" actually means.

The Federal Reserve Bank is a bank, just like BofA or Wells Fargo. The Treasury has an account at the bank, just as you or I have a checking account at our local bank. Other banks, like BofA and Wells Fargo have accounts at the Fed as well, and they are called reserve accounts.

So, that's the first thing you need to know -- reserve accounts are not made up of money held in reserve in case a loan goes bad, they are money held at the Federal Reserve for payment settlement. The reserves of money held in case loans go bad are capital. Reserves are held as assets at the bank and liabilities at the Fed. Capital is held as an equity liability at the bank, and does not exist at the Fed at all.

Misunderstanding what reserves and capital are and how they are accounted for is a fundamental error in macroeconomics. It also explains why banks aren't making loans, nor is there any inflation, even though reserve accounts are so swollen. Reserves are for payment settlement, not loan enablement, so excess reserves have no impact on anything (except letting banks really really settle payments).

When the US Government buys something, say a TV from China, the Treasury writes a cheque to the Chinese manufacturer in US$. The Chinese manufacturer then deposits the cheque in some bank that is linked to the Federal Reserve -- because all dollar accounts ultimately must tie back to the Fed. So the Treasury's reserve account is debited, and the Chinese manufacturers reserve account is credited. The total number of outstanding dollars has not changed.

When the Chinese manufacturer then buys a Treasury bill, it writes a cheque to the Treasury and the Treasury's account is credited, while the Chinese manufacturers account is debited. Again, the total number of outstanding dollars has not changed.

It's interesting to note here that the US "borrowing" from China turns out to be nothing more than a number moving from one account at the Fed to another account at the Fed. When the private sector borrows money, the total quantity of gross outstanding financial assets increases, as balance sheets get larger (a receivable asset is credited, and deposit liability is credited as well). But, when the Govt borrows, the total quantity of gross and net financial assets does not change, all that changes is their term structure.

So, suppose the Treasury account hits zero, and it writes yet another check. Will the check bounce?

Back in the days of the gold standard, the Treasury account hitting zero would mean there was no gold left in the vault. If the Treasury promised someone more gold, it could not deliver. The check would, indeed bounce.

But we are no longer on a gold standard, and for the Treasury to clear its check, all it needs is for the Fed to process the payment, and let the Treasury account go into the negative (overdraft). The Fed would need to let the Treasury account have a "-" in the spreadsheet cell that tracks its number.

Currently, this is illegal. However, the one time it happened, there was an obscure clause that let the Treasury go into overdraft temporarily until some bill was authorized and it moved back into the black. If the Fed decides to toe the line, and Congress does not change the law, it means that the US Govt will have decided to bounce its own checks. Its next decision, one presumes, will be to dissolve itself entirely.

MMT elides this point by combining the Treasury and the Fed into a single entity. It is reasonable for it to do this, as they are both part of the Government. Nevertheless, in reality they are separate, and although this law will be waived or changed when the time comes, it still exists right now.

In QE2, the Fed buys Treasury bills at longer durations, which means it changes the composition of its balance sheet. You are correct in noticing that this will have no economic consequence of note.

Arnold in Academia

2010-10-13T09:10:00.000-07:00

Arnold gets this exactly correct:

Let me tell you. For a period of about 5 to 10 years, you could not get hired as a macroeconomist at a major university without a Ph.D disseration that used Euler equations. Everybody was in love with the technique. It didn't matter whether the young graduate students using the technique had any economic intuition or not. Those of us who didn't jump onto the fad simply could not get placed out of graduate school. At MIT, Dornbusch and Fischer were the ones with the power to place graduate students in academic jobs, and so those jobs went to their dittoheads. Who then proceeded to submit and referee articles for journals and--guess what?--just about every published article conformed to what Olivier Blanchard aptly called the "haiku" of the technique.

Got envy?

Stiglitz does not understand the economy

2010-10-13T08:52:00.000-07:00

I saw Stiglitz speak many years ago at Chicago, and I was not impressed. I'm not impressed by his latest either:

Investment by the government in the internet "really transformed the economy" and, on average, returns on education, health and infrastructure have been good in the US, according to Stiglitz.

Increasing spending and not cutting taxes is the best way to boost the economy, he said.

"When you have households with an overhang of debt, homeowners owing more on their mortgage than the value of the homes, tax cuts are not going to stimulate the economy," Stiglitz said. "What we need now is to stimulate investment."

Got that? To fix the economy, the Government should just invent another internet. And, in a situation where people have too much debt and have difficulty making payments, letting them keep more of their own money so they can make payments isn't helpful.

You can't make this stuff up.

Tangled in knots

2010-10-06T10:33:00.000-07:00

It's funny to read libertarians struggling with the news story where some guy opted out of his fire department fee and his house burned down. A stubborn and obvious lack of common sense makes for yucks all around.

Tax the Rich

2010-09-25T09:09:00.000-07:00

Some U Chicago professor made the impolitic observation that taxes on the "rich" don't actually fall on the rich at all. They fall on professional, college educated, working couples. He's been pilloried, and taken down the post (although I'm sure it lives on). Nevertheless, his central observation is quite correct.

$250K/year is a good income, but not nearly enough to become a Lloyd Blankfein style malefactor of great wealth. This income will not let you buy an entry level house in a good school district in California. And I'm not talking Beverly Hills style mansions here, I'm talking 2BR 2BR 50 year old light construction in Menlo Park. It is not enough to buy material political influence, a la the great Robber Barron fortunes that seem to fuel most of the non-profit industry. And if you think public schools are mediocre -- certainly they are a shadow of what they were two generations ago -- private schools will chew up a bunch of that if you have the audacity of reproducing. Never mind that your prodigy is likely to the productive and remain out of jail.

Don't get me started on college tuition.

The WSJ's advice is comical. I mean, here we have a couple who is the very model of honest, smart, hardworking citizens, actually producing real value in the society instead of being government-backed Wall Street vampires, and they are told to:
- get by with one car
- move (the claim is that Chicago, Chicago! is too expensive to live in)
- cut discretionary expenses

The biggest joke is at the end of the article:

Never, ever, ever again blog about how hard it is to live on $300,000 or $350,000 a year at a time when one middle-aged man in four can't find a full-time job, and one in five can't find any job at all.

And how exactly will yanking your kids from private school, getting rid of a car, and cutting all discretionary expense going to help the unemployed teacher, autoworker, dry cleaner, restauranteur, and gardener?

Federal taxes do not fund spending. They moderate aggregate demand. Our professional couple here is exactly the type of person an economy, and nation, wants more of. I also suspect that their discretionary spending represents marginal AD in this economy.

The Real Problem with a Higher Inflation Target

2010-09-21T07:37:00.001-07:00

It's comical to read the reasons people give for why the Fed should not officially raise its inflation target. This one is really funny:

Part of the credibility problem stems from the political environment, especially in Congress. Imagine the day after the announcement of a plan for 3 percent inflation. Older people, creditors and workers on fixed incomes — all connected to powerful lobbies — would start to complain. Republicans would wonder whether they had found a new issue on which to campaign, namely, opposition to inflation. And Democrats would worry about what position to take. Presidents of some regional Fed banks would probably oppose the policy publicly.

Did you get that -- pensioners (who are more dependent on debt securities for income, and therefore more actively hurt by low interest rates) will get mad and those evil Republicans will then turn that into an election issue.

I have a more straightforward suggestion: the Real real problem with a higher inflation target is that the Fed has no tools to hit it. Monetary policy merely shuffles and changes the term structure of outstanding assets. It does not create new assets. Therefore, in an environment where aggregate demand is being held back by insufficient net financial assets in the private sector, the Fed can announce things until the cows come home, but it cannot influence AD, and therefore, inflation.

The Fatal Flaw is Economists

2010-09-17T14:28:00.001-07:00

Simon Johnson points to what he thinks is the fatal flaw in Basel III:

The heart of the substantive discussion regards whether tightening “capital requirements” – the buffers against losses that banks are required to hold – will have a negative impact on the economy. The banks insist that requiring them to hold more capital would slow lending and therefore slow the real economy. The global banks’ Institute for International Finance issued a paper in June that insisted on this point, but there is really no substance to their claims.

I would argue that the fatal flaw is that economists don't understand how banks work, and therefore don't understand the role of capital requirements, or what capital fundamentally is.

Higher capital requirements absolutely limit what banks can lend. Short term, they do this by creating a hard limit to the quantity of loans a bank can extent (ie. capital plays the role economists think reserves play). Long term, a more leveraged bank is more profitable than a less leveraged bank, so higher capital requirements raise the marginal cost of capital, and thus raise the hurdle rate governing the marginal loan.

Tighter lending standards are a good thing, but in the face of an administration that will not increase household aggregate demand, they will also have a negative impact on the economy.

Krugman is part of the problem

2010-09-15T07:51:00.000-07:00

MMTers like to claim Krugman as one of their own, and why not? A Noble Prize, a Princeton tenureship, and a column in the NYTimes make him quite a catch. But fundamentally he is not MMT, he is a mainstream macroeconomist, and therefore part of the problem:

It comes down to the dual fiscal problem the U.S. economy faces: short-term, the government needs to do all it can to prop up spending; long-term, it needs to reduce the deficit. The latter concern means that it would be a terrible idea to make the high-end tax cuts permanent; that would be a huge drain on the public finances, serving no good purpose. But why not a temporary extension? Because it would do very little to promote spending.

The only reason to reduce the Federal deficit, long term or short term, is to control aggregate demand if there is too much inflation. That does not exist now, and given how overleveraged and underutilized the non-Govt sector is, I don't see it appearing too much in the future either. Our recovery is L-shaped, and the US is turning Japanese (although with better equity performance, I believe).

Sloppy Google, Sloppy Apple

2010-09-03T10:15:00.000-07:00

I have a feeling that Google's new gmail/phone feature came out of a conversation that went something like this:

Googler1: Have you read pandas vs lobsters? We're pandas, and we need to become lobsters!

Googler2: Pandas are googley. Lobsters are not.

Googler3: I think the cafeteria is serving lobsters today.

Googler1: The only lobster product we have is YouTube!

Googler2: Youtube is full of inefficient time wasters. They suck.

Googler3: No, they served lobster yesterday. Today's they're serving deep friend panda. Yum!

Googler1: People seem to spend the most time on gmail after YouTube.

Googler2: Email can be productive.

Googler3: Deep friend paaanndaaa! (drools)

Googler1: Let's let people make calls from gmail, and then they will spend even more time in that application, being social, and we will be more like lobsters.

Googler2: Then maybe we can bring back Google Buzz too. Or was that Google Wave?

I also have a feeling, that Apple's Ping service came out of a conversation like this:

His Steveness: Have you read pandas vs lobsters? We make beautiful hardware, so maybe we're beavers, and we need to become lobsters!

Minion: The iPhone is social. It's like a lobster

His Steveness: Not social enough. I need a new minion!

Minion2: iTunes could be social. Music is a social thing. And we could make it easy for people to get started by using Facebook Connect!

His Steveness: But then we wouldn't control everything. I need a new minion!

Minion3: iTunes could be social. Music is a social thing. And we can make people register with us and control them.

His Steveness: Excellent! Does it involve the web in any way?

Minion3: It needn't. We can have it all run in iTunes.

His Steveness: Will this make it opaque to SEO? Will anyone be able to integrate?

Minion3: We could build it that way.

His Steveness: New minion!

Minion4: No. Never

His Steveness: Excellent. Make it so

Ping sucks. The gmail/Google phone thing doesn't make too much sense either to me. Maybe I'm missing something.

The Impotence of Monetary Policy

2010-08-27T10:31:00.000-07:00

Bernanke's Jackson Hole speech was meant to give some insight into what the Fed might do in coming months. I think it reveals how powerless the Fed is in general, and how little it understands the economy it is meant to oversee.

The prospects for household spending depend to a significant extent on how the jobs situation evolves. But the pace of spending will also depend on the progress that households make in repairing their financial positions... But on the other hand, the upward revision to the saving rate also implies greater progress in the repair of household balance sheets. Stronger balance sheets should in turn allow households to increase their spending more rapidly as credit conditions ease and the overall economy improves.

Agreed. But then here are the policy options he puts forth.

A first option for providing additional monetary accommodation, if necessary, is to expand the Federal Reserve's holdings of longer-term securities

How does changing the term structure of Fed assets help households repair their balance sheet?

A second policy option for the FOMC would be to ease financial conditions through its communication, for example, by modifying its post-meeting statement.

How does the Fed saying different words help households repair their balance sheet?

A third option for further monetary policy easing is to lower the rate of interest that the Fed pays banks on the reserves they hold with the Federal Reserve System

How does lower IOER (already just 0.25%) help households repair their balance sheet? Actually, this seems to make things worse, whereas the others have simply been irrelevant.

A rather different type of policy option, which has been proposed by a number of economists, would have the Committee increase its medium-term inflation goals above levels consistent with price stability.

And what mechanisms does the Fed have in place to help it achieve its "medium-term inflation goal" regardless of where that goal is set?

What's happening is that, in a time of over-indebted households and weak aggregate demand, workers are simply losing their jobs and remaining unemployed. While unemployed, they draw Government benefits, and thus maintain some baseline level of consumption, avoiding 1930s style debt deflation. At the same time, this large pool of unemployed workers mean businesses can keep wages down, sell into what Government supported aggregate demand is there, and pocket the rest as profits.

The big lever here is fiscal policy -- announce a payroll tax holiday, and let households actually repair their balance sheets.

UPDATE: In the meantime, low interest rates take income out of the economy. Their net effect is very unclear.

Do Bush's tax cuts help restaurants?

2010-08-21T15:05:00.000-07:00

Recently, I wondered where the marginal unit of aggregate demand comes from to guess at what impact raising taxes on the rich might have. In comments, JKH wondered how much marginal AD came from luxury items such as yachts etc.

The top 3% by income in the US make approximately $200,000 to $249,999. Not bad, but not investment banker money either. Two college educated professionals with technical degrees in mid-career, or a single lawyer fairly senior in his firm, or specialist MD, could make that by themselves. The question them becomes, how much does this group eat out at mid-end restaurants?

Bush's tax cuts

2010-08-18T10:57:00.001-07:00

One general question about tax cuts is, where does the marginal unit of aggregate demand come from? One argument says that you give it to the poor, as they spend most of their income. Another argument says that you give it to the rich, as they have more discretionary spending, and so control marginal aggregate demand.

Here's some thinking on that topic from Mark Zandi.

In most times, raising taxes on the wealthy by such a modest amount has had little impact on the economy. But these aren’t most times. The well-to-do appear unusually sensitive to changes in their finances, probably because their nest eggs are significantly smaller with the drop in stock and housing prices. Only the top 3 percent of households would have to pay higher taxes if the president got his way, but this rarefied group currently accounts for a fourth of consumer spending. If they pull back, even a bit, the recovery could be derailed.

Consumer spending makes up about 70% of the economy, so that 3% of households generate about 20% of total AD.

The impotence of monetary policy

2010-08-09T13:08:00.001-07:00

This post by Krugman sums it up. It's a pity things are even worse than he suspects:

A problem with the current BOJ policy, however, is its vagueness. What precisely is meant by the phrase “until deflationary concerns
subside”? Krugman (1999) and others have suggested that the BOJ quantify its objectives by announcing an inflation target, and further that it be a fairly high target. I agree that this approach would be helpful, in that it would give private decision-makers more information about the objectives of monetary policy. In particular, a target in the 3-4% range for inflation, to be maintained for a number of years, would confirm not only that the BOJ is intent on moving safely away from a deflationary regime, but also that it intends to make up some of the “price-level gap” created by eight years of zero or negative inflation.

…

BOJ officials have strongly resisted the suggestion of installing an explicit inflation target. Their often-stated concern is that announcing a target that they are not sure they know how to achieve will endanger the Bank’s credibility; and they have expressed
skepticism that simple announcements can have any effects on expectations.

OK, so say the BOJ or Fed announce a higher inflation target. Now what? Inflation means higher price levels, and for a price, you need a transaction. Announcing a target does not create a transaction, and therefore, does not influence a price. The BOJ's concerns that their credibility is on the line are right on -- the standard monetary mechanism (overnight interbank interest rates) has no impact on prices.

Unconventional monetary mechanisms, like changing other rates, have no impacts for the same reason. The only thing that has impact are transactions, a transfer of nominal assets from the Govt to the non-Govt sector. And this is fiscal policy, not monetary policy.

RIP: Google Wave

2010-08-05T09:30:00.000-07:00

Last year, I remarked that Google Wave reminded me of Lotus Notes. Ouch.

This year, thankfully, it's been killed.

The article lists the usual excuses engineers give to a product they built that fails: "lack of a decent marketing campaign", "ahead of its time", etc. etc. I think the main issue was that it didn't solve a real human problem.

Capital Constraints at the Margin

2010-08-03T17:27:00.001-07:00

Macroeconomic Resiliance thinks that new firm entry means that banking, at the sector level, is not capital constrained.

A popular line of argument blames the lack of bank lending despite the Fed’s extended ZIRP policy on the impaired capital position of the banking sector. For example, one of the central tenets of MMT is the thesis that “banks are capital constrained, not reserve constrained”. Understandably, commentators extrapolate from the importance of bank capital to argue that banks must be somehow recapitalised if the lending channel is to function properly as Michael Pettis does here.

The capital constraint that is an obvious empirical reality for individual banks’ does not imply that bank bailouts are the only way to prevent a collapse of the monetary transmission channel. Although individual banks are capital constrained, the argument that an impairment in capital will induce the bank to turn away profitable lending opportunities assumes that the bank is unable to attract a fresh injection of capital. Again, this is not far from the truth: As I have explained many times on this blog, banks are motivated to minimise capital and given the “liquidity” support extended to them by the central bank during the crisis, they are incentivised to turn away offers for recapitalisation and instead slowly recapitalise by borrowing from the central bank and lending out to low-risk ventures such as T-Bonds or AAA Bonds.

So the bank capital “limitation” that faces individual banks is real, in no small part due to the incestuous nature of their relationship with the central bank. But does this imply that the banking sector as a whole is capital constrained? The financial intermediation channel as a whole is capital constrained only if there is no entry of new firms into the banking sector despite the presence of profitable lending opportunities. Again this is empirically true but I would argue that changing this empirical reality is critical if we want to achieve a resilient financial system.

I would disagree. A bank knows what its cost of capital is. A bank should be able to estimate what the profitability of a new loan should be. Therefore, practically speaking, the constraint is whether the marginal profitability of the loan more than compensates for the marginal cost of capital that needs to be set aside in order to make that loan. So a bank many have plenty of capital but still not make loans if it feels they will not be profitable.

University Websites

2010-07-31T07:22:00.000-07:00

A great cartoon by xkcd on University websites.

What's funny is that regular corporate websites looked exactly the same ten years ago. In general, they are better now though.

Blast from the past

2010-07-30T07:23:00.000-07:00

Back in 2007, Arnold Kling wrote:

Finally, Zimran Ahmed writes,

I think one inevitable requirement of unwinding the housing bubble market is that housing prices have to come down to fall in line with historic trends. In some areas this means very dramatic decreases -- maybe 40%+ in real terms? I'm not sure what a "deflated housing bubble" would look like if it did not bring prices back to historic norms.

I'm sorry, but unless by "some areas" you mean areas the size of a 9-digit zip code, we're not going to see 40 percent declines in house prices.

While all areas certainly have not declined by 40%, some areas considerably larger than a "9-digit zip code" have.

Bush tax cuts and the Quantity Theory of Money

2010-07-24T21:21:00.000-07:00

The Bush tax cuts are set to expire, and it doesn't look like the Obama administration will intervene to extend them. I think this is a mistake.

The Quantity Theory of Money states:

where

MV=PQ

M is quantity of money.
V is the velocity of money in final expenditures.
Q is an index of the real value of final expenditures.
P is price

As an example, M might represent currency plus deposits in checking and savings accounts held by the public, Q real output (which equals real expenditure in macroeconomic equilibrium) with P the corresponding price level, and the nominal (money) value of output. In one empirical formulation, velocity was taken to be “the ratio of net national product in current prices to the money stock”.

Thus far, the theory is not particularly controversial, as the equation of exchange is an identity. A theory requires that assumptions be made about the causal relationships among the four variables in this one equation. There are debates about the extent to which each of these variables is dependent upon the others. Without further restrictions, the equation does not require that a change in the money supply would change the value of any or all of P, Q, or . For example, a 10% increase in M could be accompanied by a 10% decrease in V, leaving unchanged. The quantity theory postulates that the primary causal effect is an effect of M on P.

The postulation is wrong. V changes dramatically with propensity to spend, or not spend. Not spending is the same as "saving".

Those with low incomes have very little discretion in their ability to spend or not spend. They need to spend most of their income every week just to get by. Those with high incomes have more discretion in their ability to spend or not spend. Their savings rates are much higher. Moreover, if you look at after tax consumption, you'll find that inequality is much lower than pre-tax income. This is due to transfer payments, progressive taxes, and the difference in saving.

The Bush tax cuts operate at the Federal income level, and therefore can only impact those with high incomes, as Federal Income taxes are primarily paid by high income households. Therefore, an increase in the tax rate at that segment may have the largest impact on their propensity to save, and therefore V.

This recession is primarily caused by a fall in V that has not been made up by an increase in M. Fed actions have changed the composition of M, but not its quantity. The increase in quantity has come from fiscal deficits.

Debt is not a transfer

2010-07-18T12:14:00.000-07:00

In this post, Interfluidity talks about how the real sticky price in the world isn't labor, it's debt. This is correct, and is at the heart of Fisher's debt-deflation theory. Fisher's an interesting guy, because after losing all his money during the Great Depression, he actually changed his mind about how the economy works.

In the comments, Nick Rowe jumps in with the standard economic position on debt:

Suppose that last year, I borrowed from you, and promised to pay you $100 this year. Sure, that $100 is “sticky”. But it’s not a price. Last year it was a price (the price we negotiated when you gave me the loan), but it’s not a price this year. It’s not a price like the price of labour or the price of cars. The price of labour or the price of cars affects how much labour or cars we decide to buy or sell at that price. And if those price are sticky and get out of whack that can create excess demand or supply of labour or cars. But that $100 I owe you is a transfer payment. It’s like a welfare payment or social security check. The decision it affected has already been made, last year. It cannot any longer create excess demand or supply, though it could have done last year, if it had been sticky last year. What it does do is transfer resources from me to you. It affects the distribution of wealth. It’s not a measure of the scarcity of goods that people are currently deciding to buy or sell.

This position is incorrect. First, an outstanding loan is not a "transfer". When a bank makes a loan, money is not "transferred" from party A to party B. The loan is made ex nihilo by the bank crediting an asset and liability at the same time, expanding its balance sheet to both create the receivable and the deposit. It is only if the loan is defaulted on that it becomes a transfer, a transfer from the bank's equity holders to the loan recipient. Macroeconomics does not model debt, and therefore does not model the economy in a useful or realistic way.

Second, distribution of wealth very much impacts forward looking decisions, and it impacts the scarcity of goods that people are trying to buy or sell. For example, if a number of loans default, and wealth is distributed from bank equity holders to loan recipients, then the banks are undercapitalized and will not extend new credit. Moreover, bank investors will revise downward their estimation of a bank's skill in making good loans, and will increase the cost of capital if they do decide to make additional investments. All of this impacts the price of credit explicitly, and are entirely distributional outcomes.

Thirdly, willingness to pay decisions in micro are always subject to budget constraints. Wealth distribution impacts this directly again. Only in macro does the amount of money you have play no role in your willingness to spend.