Monday, 30 November 2009

Bank of Japan hints that there is room for fresh steps

NAGOYA, Japan, Nov 30 Reuters

head of the Bank of Japan said the bank will act decisively in the event of renewed financial market turmoil, his strongest hint yet at fresh support for the economy that analysts say could involve buying more government bonds or a return to quantitative easing. A government spokesman said quantitative easing will indeed be part of the talks when BOJ Governor Masaaki Shirakawa and Prime Minister Yukio Hatoyama meet this week, as the government leans on the central bank to act against deflation.

"We absolutely don't have any plan to prepare for exiting our easy policy," Shirakawa told business leaders in Nagoya, central Japan. "We had some developments in financial markets last week. If we experience financial market turmoil again, the BOJ will act aggressively and decisively," he said. Despite mounting pressure from the government, which is worried about the risk of another recession, the BOJ has said there is little it can do beyond keeping interest rates at the current 0.1 % to push up prices.

But analysts say the BOJ will eventually be pressed to increase its government bond buying or revert to a quantitative easing policy of flooding markets with extra cash. "It is likely the BOJ will do more. The most important measure is the BOJ's purchase of government bonds," said Simon Wong, a regional economist at Standard Chartered in Hong Kong. "The current path paves the way for the BOJ to further ease in terms of buying of JGBs, and the current inflation environment creates a perfect backdrop to expand monetary policy."
And that will mean a weaker yen as they will be doing what the USA and UK are doing...printing money!! KT

Asked whether the BOJ could increase its bond purchases, Shirakawa said the bank will take the most appropriate policy action to deal with economic and financial developments at the time. "The financial market is a living thing, so we'll always think of how best to maintain market stability," Shirakawa told a news conference. "We're in a position now to provide ample liquidity to the market." He said he recognised the pain felt by Japanese companies from the yen's surge to a 14-year high against the dollar, adding that he would closely examine how currency moves affect the economy. So print some more money! KT

He said the BOJ held a very cautious view of the economy and shared the government's view that the country was in mild deflation in the sense that price falls are likely to persist.

The government has declared Japan to be in deflation and has criticised as too optimistic the BOJ's view that annual consumer price falls will gradually ease and that another recession is unlikely. Hatoyama's government, only two months old and largely untested on fiscal policy, has adoptedthe kind of heavy-handed approach towards the BOJ that previous governments have used to influence monetary policy. But it has been vague on exactly what it wants the BOJ to do. The administration is considering including measures to deal with the recent surge in the yen in an economic stimulus package it plans to compile this week.

Data on Monday showed industrial output rose 0.5 percent in October and manufacturers forecast further rises in the following two months, easing some concern that the economy could slow to a standstill or even contract early next year. But the yen's surge last week is hurting manufacturers' profitability and could derail an export-driven recovery. Finance Minister Hirohisa Fujii left markets guessing on whether Tokyo would step into the currency market to stem further yen rises, warning on Monday that he had never said intervention was impossible.

Voter support for Hatoyama's cabinet is above 60 percent but has slipped gradually. The
nightmare scenario for the cabinet is an economic downturn ahead of an upper house election in mid-2010. A rebound in the manufacturing sector has been driving Japan's recovery since earlier this year. The economy grew 1.2 percent in July-September after a revised 0.7 percent expansion the preceding quarter.

As the economy weakens, the yen will become a real political football. QE is not far away here! KT

Sunday, 22 November 2009

Beef, lamb and dairy prices

The Press takes a look at developments in beef, lamb and dairy prices.

In the past month, the value of the New Zealand dollar has declined by 3 per cent against the British pound. However, this is still 13 per cent above its level at the same time last year, and 17 per cent above the average of the previous five years.

Meanwhile, the British CKT lamb leg price (cost, insurance and freight) is at the same level as this time last year and appears to have hit a ceiling for now. This would indicate exporters' margins have reduced in the past year, which is now being reflected in the falling schedule prices at the farm gate.

Why we sell our lamb at the UK lamb prices is stunning. NZ lamb is the best in the world, we must brand it as such, and be more expensive than other lamb...because it is the best! We still have a long way to go. We have to stop being commodity exporters and export a brand! KT

A further decline in schedules of up to 15 cents a kilogram was experienced across the country, with the larger falls occurring in the North Island. This has seen the schedule price of a 17.5kg lamb slip below $90 for the first time since March. Prime lambs at saleyards appear to have come into line with schedules, particularly in the North Island, where a medium prime lamb is fetching just under $90. In the South Island, the same lamb has an average $97 price.

United States imported bull gained a further US2c/lb this week, lifting to US142c/lb. The US6c/lb lift in price over the past two weeks has come about as the availability of imported bull remains tight. It is still early in New Zealand's new slaughter season, but bull numbers are already well down on where many market participants expected them to be.

Figures for the five weeks of the new season suggest New Zealand is already 6000 head down on its five- year average as good grass cover remains prevalent across the country.
As mentioned in earlier reports, this rise in price will be tested when an influx in slaughter numbers is seen.

US imported cow gained US1c/lb, as the US domestic market looked to firm slightly on the back of improved export figures to Asia. US imported cow finished the week at US131c/lb. The strengthening US imported market has flowed through to farm gate prices, with an average 4c/kg lift in schedule prices across the grades.

Grain fed beef is more expensive than grass fed beef. But NZ cows live on average 7-8 years longer than US cows. NZ cows are outside eating grass in the sunshine. US cows are inside, standing on concrete and eating corn. It's like battrey hens. I know which beef I would rather eat, and yet most of our beef goes into mince for burgers. It is a crime. KT


The NZX Agrifax weighted- average dairy commodity price peaked in November 2007 at US$5460 a tonne, before it fell 58 per cent over the course of 18 months to bottom out at US$2290 in June. Since then, the weighted-average dairy commodity price has recovered almost half of these losses, this week lifting to US$3990/tonne.

This highlights the volatility of the dairy commodities market. Anhydrous milkfat's rapid price gains over the past couple of weeks simmered this week, with only a 2 per cent rise from US$4800/tonne to US$4900/tonne. Casein and cheddar had minimal gains of 1 per cent to US$8200/tonne and US$3800/tonne respectively.

Underlying demand for wholemilk powder remains firm, adding a further US$100/tonne this week to reach US$3500/tonne. Skim milk powder's gain was slightly larger at US$150/tonne to US$3350/tonne. Butter firmed over the week, climbing 7 per cent from US$3450/ tonne to US$3700/tonne.

More than 50% of French milk goes into making cheese. Most of the exported NZ milk production goes into milk powder, the lowest end of the product range. We have to go up the value chain, then our produce exporters will be able to handle a stronger currency without getting killed.

When you have a brand, if the exchange rate goes up, you put the price up!
If you export a commodity, you are stuck with the overseas price.

We must change the model, or we are doomed!! KT

Saturday, 21 November 2009

On Monetary Policy

Here are two great posts from The Visible Hand in Economics:

On Monetary Policy

and on

the Brazilian experience

Both well worth the read, and providing some sense, compared to some of the silly comments
being made here and here.

The debate is good, but really some of the comments are so ill informed!

Rising for a fall?

This is a good summary of the current state of play, with opinions from both sides:
Rising for a fall?
Saturday Nov 21, 2009
By Heather Stewart and Larry Elliott, Observer

The din from the commodity pits on the Chicago exchanges is growing louder. Real estate agents in London's Kensington and Chelsea say they can't meet demand for 1 million-1.5 million ($2.2 million-$3.4 million) homes. Wall Street's high-tech Nasdaq exchange has wheeled out its confetti machine for the first time since the credit crunch.

Everywhere the story is the same. Gold: at a record high, above US$1100 ($1476) an ounce. Shares: 50 per cent up since March. Oil: back to almost US$80 a barrel. Bonds: yields on two-year gilts (British government bonds) at a record low. Average British house prices: up 11,000 this year.

Around the world, asset prices are booming. Relief that the global economy has avoided the Armageddon feared in March, combined with large dollops of virtually free money, have helped put a smile back on the faces of the speculators. Too big a smile, according to some experts, since the buoyancy of asset markets is not reflected in the real economy.

Away from the frenzied financial world, among struggling firms and cash-strapped families, signs of recovery from the worst downturn since the 1930s have been much patchier. The US returned to growth in the third quarter, thanks to Washington's cash-for-clunkers scheme to encourage car sales, and tax breaks for first-time homebuyers. But unemployment is at its highest level since 1983 and the number of Americans losing their homes is still rocketing.

In Europe, the big economies of Germany and France returned to growth six months ago but consumer spending remains painfully weak. In Britain, the latest official figures show the economy still contracting in the autumn after six successive quarters of negative figures. Mervyn King, Bank of England Governor, warned last week that Britain has "only just started on the road to recovery".

As share prices rocket, the question is: are policymakers trying to solve the problems caused by one of the biggest bubbles in history by pumping up another speculative frenzy?

This was what happened after dotcom shares collapsed in 2000, when former Federal Reserve Chairman Alan Greenspan slashed US interest rates to 1 per cent and left them there for three years, setting off the biggest housing boom in US history. And this time, central banks and finance ministries have added tax cuts, spending increases and "quantitative easing" - the creation of electronic money - and so created an even headier brew.

Ravi Batra, US economist and author of Greenspan's Fraud, says: "We are repeating the mistakes of Greenspan but on a much bigger scale. There is going to be another big pop in the new year."

He is not the only Cassandra. Nouriel Roubini, one of the few economists to see the crisis coming, warned this month that the US had replaced Japan as the centre of the global "carry trade" (whereby investors borrow money cheaply in a currency with low interest rates and buy risky assets that offer a return higher than the interest due on the loan).

With the US Federal Reserve pledging to keep interest rates only just above zero for "an extended period", Roubini says dollars, instead of yen, are now being used in "the mother of all carry trades", forcing up the price of all kinds of other assets.

Central bankers past and present sought last week to allay fears that, just like last time, it would all end in tears. Frederic Mishkin, a former Federal Reserve board member, said there were two sorts of bubbles: "credit boom" bubbles and "irrational exuberance" bubbles. Credit boom bubbles - like the one that burst in 2007 - were far more dangerous than irrational exuberance bubbles, such as the wild buying of technology shares, he argued, because they created a toxic feedback loop. A rise in the price of an asset such as housing allows consumers to borrow, but they then invest the money in buying a bigger home, driving prices up ever further - and so it goes on.

When prices plummet, hapless homeowners not only have a property worth a fraction of what they thought, they're also sitting on a mountain of debt. Mishkin sees the dotcom boom as less catastrophic because it didn't involve this vicious circle, and he regards the current rise in asset prices as being of this harmless, irrational kind.

Mervyn King agrees with this analysis. During a sepulchral press conference to launch the Bank of England's quarterly inflation report, the governor made it clear that he was losing no sleep over the rise in asset prices. The bank believes some increase in such prices - bonds and shares, in particular - is good for the economy because it lowers the cost of financing for companies and makes them more recession-proof. It is one of the channels by which the Bank believes the 200 billion it is injecting through quantitative easing will feed through to the rest of Britain.

King's message was clear: after a near-6 per cent drop in output since early 2008, it is premature to be drawing comparisons with the Dutch tulip mania of the 1630s, Isaac Newton losing his shirt in the South Sea Bubble of 1720, the boom-busts in US railway shares in the 19th century, or any of the periodic speculative stock market frenzies of the 20th century.

King said: "It's very important that we don't end up in a world in which everyone describes every increase in asset prices as a bubble, and every fall in asset prices as the bursting of a bubble." He made it clear he was not worried because there had not been the "rapid extension of credit" seen in the early 2000s - indeed, we are gripped by a credit shortage.

GERARD LYONS, chief economist at Standard Chartered, says he sees no sign yet that prices in the US or Britain have risen out of control: "It should not be a surprise that in the early stages of a recovery, property prices and equity prices rise, particularly if they have taken a big hit."

He is concerned, however, about China, where a return to strong growth has been achieved with a massive government stimulus programme, which has led to a jump in bank lending - potentially making it a damaging credit boom.

"Where asset prices have risen sharply alongside rampant lending and credit growth, there is more reason to think it's a bubble, and China fits into that category," he says, though he adds Beijing is well aware of the risk and is now clamping down on lending.

Even the severest critics of Mishkin's and King's laid-back approach to the current buying spree accept that some recovery in asset prices - of perhaps 20 per cent - has been justified. After the collapse of Lehman Brothers in September 2008, financial markets continued to fall sharply throughout the northern winter as global output contracted and credit dried up. By March, investors had fully priced in the possibility that the world economy could be heading for a new Great Depression, so even the first tentative pieces of good economic news sparked a relief rally.

But markets tend to have only two moods: deep gloom and wild euphoria.

Having prepared for the return of soup kitchens in the spring, they are now betting on a strong and rapid return to business as usual - a so-called "V-shaped recovery". And that's what worries analysts, who are not comforted by the age-old cry that "it's different this time".

"It sounds too good to be true and it is," says Robert Barrie of Credit Suisse. "It's time to take asset prices and credit more seriously. They can have long-run effects that are big and problematic. They took a long time to show themselves last time and could do so again."

Concerns about a new speculative bubble fall into three categories. The first is that the recent track record of central banks does not engender much optimism that they will be able to distinguish between a credit bubble and an irrational exuberance bubble, or indeed spot either sort developing.

The fed, for example, denied that the US housing market was a bubble right up until the global financial system was paralysed by the sub-prime meltdown in 2007, and the Bank of England flatly rejected arguments that central banks ought to "lean against the wind" and prevent prices in markets such as housing getting out of kilter.

Moreover, as London market analyst Andrew Smithers noted last week, even the popping of the irrational exuberance dotcom bubble, dismissed by Mishkin as relatively harmless, had baleful long-term consequences, since it led to the cuts in interest rates and taxes in the US that fed the housing bubble.

A second concern is that the fundamentals of the global economy remain weak, and when investors catch up with that grim reality, there will be another brutal crash. "The speculative economy that caused the problems in the first place has again reared its head," says Graham Turner of GFC Economics. "But the real economy continues to flounder; 2010 will be a very big year because the global economy is not fixed."

Danny Gabay, of Fathom Consulting, says the reaction of markets this month to the statement of G20 finance ministers in St Andrews, Scotland was indicative of the over-optimistic mood. "The communique said that conditions were far too weak to consider removing the economic stimulus, yet stock markets rallied by 2 per cent. Ministers were saying things are so fragile they daren't take their foot off the pedal."

Finally, there is the worry that the underlying reason bubbles keep recurring is that the modern global economy can only run on cheap money and debt, which fuel regular and powerful speculative cycles.

Batra says that in the US there has been a profound mismatch between the increased supply of goods from improved productivity and the squeeze on real wages dating back to Ronald Reagan's presidency. "Greenspan resorted to debt creation and budget deficits to bring demand and supply into balance," he says.

Turner says bubbles reflect how global capitalism now works, with firms moving operations offshore to cut wage costs, leaving demand in the world's major economies so weak that it can only be kept going by spoon-feeding consumers with cheap credit.

Even some who believe that we are back in a bubble say central bankers have little choice, such is the scale of the downturn. "My view is that we have to go on with quantitative easing for as long as we possibly can," says Crispin Odey, a London hedge fund manager.

So what happens next? Policymakers hope the rise in asset prices is a catalyst for stronger growth next year, with consumers feeling richer as house and share prices rise and so spending more. Businesses will respond to stronger consumer demand and easier financing by boosting investment and creating new jobs.

But at some point, governments and central banks will have to withdraw their emergency support by pushing up interest rates, selling the bonds they bought through quantitative easing and cutting public spending. Only then will it become clear whether central bankers are cleverly "smoothing" the most painful adjustment in the world economy since World War II, as King argues - or unleashing yet another bout of irrational exuberance.

Exuberance breaking out all over:

Shares: Heading for a fall?
Gut-wrenching declines in world share prices became a relentless routine at the height of the financial crisis, with Wall Street's Dow Jones index dropping by almost 400 points in a single day in the weeks after Lehman Brothers collapsed.

The Dow peaked at more than 14,000 in October 2007. By early this year, when traders were seriously beginning to factor in the possibility that recession in all the world's major economies would give way to a 21st-century Great Depression, it had more than halved.

Yet most of the world's indices have roared back from their lows; and some countries, including France and Germany, bounced out of the downturn more quickly than many expected.

In New Zealand, the NZX50 index fell by 44 per cent from its peak in 2007. But from its low point in March, the market has climbed by 30 per cent.

The Dow is now back above 10,000; the FTSE100 index of stocks on the London exchange has gained 50 per cent since it bottomed out in March and is back above 5300; emerging economies' stock markets have roared ahead.

Analysts are divided about whether this is a sustainable resurgence - or a dangerous bubble.

Oil: Recovering lost ground
During the relatively innocent pre-Lehman days of mid-2008, central banks fretted about inflation as oil prices surged to their record of US$147 ($197) a barrel.

Prices had already been on the slide before the financial crisis reached a peak of intensity in September and October last year, but then crashed to a low of just US$38 a barrel between Christmas and the new year as the global economy went into reverse.

Since then, prices of crude have been steadily rising as China has stockpiled commodities and traders have anticipated renewed demand throughout the world.

News that every G7 country bar Britain is growing again has helped to underpin confidence in rising energy prices and oil briefly clambered back above the US$80 mark this month. Some broking firms believe that prices are now on course to surge back through US$100 a barrel, although this would have a dampening effect on the global recovery.

Bonds: Key indicators of success
Rising prices for government bonds should come as no surprise, because they are a key indicator of the success of the aggressive policy response to the crisis by central banks.

Under "quantitative easing" - the creation of electronic money - the central bank purchases bonds from the commercial banks. The reduced supply of bonds pushes up their price and reduces yields, which move in the opposite direction to the price.

Long-term interest rates - which affect both what companies pay for their borrowing and what households pay for fixed-rate mortgages - have been driven down as a result of this policy.

In the US, the government has not just bought government bonds but corporate debt as well, to help reopen frozen credit markets and enable firms to borrow more cheaply. In Britain, the policy has been more beneficial for large corporations than small- and medium-sized companies, which are dependent on bank loans.

Gold: Safe as houses
Gold is the ultimate "safe haven" commodity in times of trouble - the Bank of England has a gold ingot that was damaged, but not destroyed, by a World War II bomb. Gold has surged in price by almost 50 per cent since January, as investors fled riskier assets.

This week the cost of a troy ounce of the precious metal hit another record, above U$1140, and TV advertisements have appeared on both sides of the Atlantic urging consumers to dust-off long forgotten jewellery and sell it for cash.

Gold has partly benefited from the waning power of the US dollar, as the two tend to move in opposite directions. The most potent symbol of the glittering metal's rising appeal came this month, when the Indian central bank bought 200 tonnes of gold from the International Monetary Fund, replacing rapidly depreciating dollar assets.

However, analysts warn that there have been unsustainable bubbles in the gold market before: the price rocketed to a peak of US$850 an ounce in early 1980, before rapidly losing more than half its value.

Housing: Don't believe the hype
Gazumping is back in London's top postcodes, mortgage approvals are on the rise and the long-predicted housing crash turned out to be a short, sharp shock, instead of the early 90s' long slog.

House prices fell 20 per cent between 2007 and this year as confidence collapsed, and it became near-impossible to secure a mortgage. But in the northern spring prices began to bounce back, and have risen for the last six months.

They are now down 13.1 per cent from the peak - though the bounce has been concentrated in London. Rock-bottom interest rates helped prevent the rash of repossessions and forced sales of other crashes, helping to prevent prices from falling off a cliff. But with fewer homes changing hands than in the boom years, some believe the crash is far from over.

Even estate agents, usually the most optimistic observers, warn that a shortage of properties for sale could be distorting the market.

In New Zealand, Quotable Value's house price index fell 10 per cent from late 2007 to early this year, but climbed by about 2 per cent in the three months to June, and according to Real Estate Institute figures, prices have kept climbing since.

Friday, 20 November 2009

Capital controls not the answer

ADRIAN CHANG 20 November 2009
The Independent
New Zealand's volatile currency woes won't be resolved by capital controls, according to a visiting central banker from a country with a history of fiddling with the dials.

Alexandre Pundek Rocha, senior adviser to the board of the Central Bank of Brazil, who was visiting New Zealand this week to promote greater business ties with Brazil, told The Independent capital controls in his region have a long history of failure.

His comments come during a period of exceptional currency volatility in New Zealand, with the kiwi increasing by about 52 per cent since March. Trade groups, economists and commentators complain unchecked capital inflows from the carry trade have hijacked the dollar.

The arguments are familiar to Pundek, who saw similar things happen in Brazil during the 1990s. He concedes countries like Brazil and New Zealand tend to attract speculative capital and have a comparative disadvantage with China, which pegs its currency at an undervalued rate.

Brazil abandoned its peg against the US dollar in January 1999 after speculative attacks on the Brazilian real caused its peg to fail. The central bank then turned to inflation targeting, much like the system in New Zealand, but has maintained much wider powers to interfere on foreign capital markets than our own Reserve Bank.

For example, it can unilaterally set a tax rate of between zero to 25 per cent on foreign capital entering the country to invest in fixed-interest bonds or shares. It exercised this power on October 20, instituting a 2 per cent tax on new money entering the country to invest in these asset classes.

Our own Reserve Bank governor, Alan Bollard, has had to restrict himself to rare and secretive forays into the currency markets and largely fruitless attempts at jawboning the dollar down.

Has Brazil's capital tax worked? It's difficult to tell, says Pundek. Capital flows have been exactly the same before and after the tax, but that doesn't mean it has failed. "You never can tell, because the flows today [without the tax] could have been even higher than they are today."

But his personal view is that imposing capital controls does nothing to address the underlying issues. He recalls in 1999 Brazil had an 8 per cent tax on incoming capital but that failed to stop a flood of speculative capital pouring into the country and driving up its currency, the real. "You delay the process, but you can never stop the process." Exactly

Senior Brazilian trade representative Mario Marconini from the Federation of Industries of Sao Paulo, says there's a growing realisation from Brazilian businesses that trying to control the exchange rate is fruitless. Yup

The long-term answer can only come from concerted international action to apply pressure on China to allow more flexibility in its exchange rate, Pundek says.

By removing China's artificially low exchange rate, the massive trade imbalances created by that rate can be corrected.

China remains the problem - KT

Wednesday, 11 November 2009

Economics focus: The lessons of 1937 | The Economist

The lessons of 1937 Jun 18th 2009
From The Economist

In a guest article, Christina Romer says policymakers must learn from the errors that prolonged the Depression

Christina Romer is the chairwoman of Barack Obama's Council of Economic Advisers and a scholar of the Depression

At a recent congressional hearing I cautiously noted some “glimmers of hope” that the economy could stabilise and perhaps start to rebound later in the year. I was asked if this meant that we should cancel much of the remaining spending in the $787 billion American Recovery and Reinvestment Act. I responded that the expected recovery was both months away and predicated on Recovery Act spending ramping up greatly.

Only later did it hit me that I should have told the story of 1937. The recovery from the Depression is often described as slow because America did not return to full employment until after the outbreak of the second world war. But the truth is the recovery in the four years after Franklin Roosevelt took office in 1933 was incredibly rapid. Annual real GDP growth averaged over 9%. Unemployment fell from 25% to 14%.

The second world war aside, the United States has never experienced such sustained, rapid growth. However, that growth was halted by a second severe downturn in 1937-38, when unemployment surged again to 19%. The fundamental cause of this second recession was an unfortunate, and largely inadvertent, switch to contractionary fiscal and monetary policy. One source of the growth in 1936 was that Congress had overridden Mr Roosevelt’s veto and passed a large bonus for veterans of the first world war.

In 1937, this fiscal stimulus disappeared. In addition, social-security taxes were collected for the first time. These factors reduced the deficit by roughly 2.5% of GDP, exerting significant contractionary pressure. Also important was an accidental switch to contractionary monetary policy.

In 1936 the Federal Reserve began to worry about its “exit strategy”. After several years of relatively loose monetary policy, American banks were holding large quantities of reserves in excess of their legislated requirements. Monetary policymakers feared these excess reserves would make it difficult to tighten if inflation developed or if “speculative excess” began again on Wall Street.

In July 1936 the Fed’s board of governors stated that existing excess reserves could “create an injurious credit expansion” and that it had “decided to lock up” those excess reserves “as a measure of prevention”. The Fed then doubled reserve requirements in a series of steps. Unfortunately it turned out that banks, still nervous after the financial panics of the early 1930s, wanted to hold excess reserves as a cushion.

When that excess was legislated away, they scrambled to replace it by reducing lending. According to a classic study of the Depression by Milton Friedman and Anna Schwartz, the resulting monetary contraction was a central cause of the 1937-38 recession. The 1937 episode provides a cautionary tale.

The urge to declare victory and get back to normal policy after an economic crisis is strong. That urge needs to be resisted until the economy is again approaching full employment. Financial crises, in particular, tend to leave scars that make financial institutions, households and firms behave differently. If the government withdraws support too early, a return to economic decline or even panic could follow.

In this regard, not only should we not prematurely stop Recovery Act spending, we need to plan carefully for its expiration. According to the Congressional Budget Office, the Recovery Act will provide nearly $400 billion of stimulus in the 2010 fiscal year, but just over $130 billion in 2011. This implies a fiscal contraction of about 2% of GDP. If all goes well, private demand will have increased enough by then to fill the gap. If that is not the case, broad policy support may need to be sustained somewhat longer.

Perhaps a more fundamental lesson is that policymakers should find constructive ways to respond to the natural pressure to cut back on stimulus. For example, the Federal Reserve’s balance-sheet has more than doubled during the crisis, drawing considerable attention.

Monetary policymakers have made it clear that they believe continued monetary ease is appropriate. Moreover, the Fed’s credit programmes are to some degree self-eliminating: as demand for its special credit facilities shrinks, so will its balance-sheet. But now may also be a sensible time to grant the Fed additional tools to help its balance-sheet contract once the economy has recovered.

Some have suggested that the Fed be authorised to issue debt, as many other central banks do. This would enhance its ability to withdraw excess cash from the financial system. Granting such additional tools now could provide confidence that the Fed will be able to respond to inflationary pressures, without it having to create that confidence by actually tightening prematurely. Fiscal health check Now is also the time to think about our long-run fiscal situation.

Despite the large budget deficit President Obama inherited, dealing with the current crisis required increasing the deficit substantially. To switch to austerity in the immediate future would surely set back recovery and risk a 1937-like recession-within-a-recession. But many are legitimately concerned about the longer-term budget situation. That is why the president has laid out a plan to shrink the deficit he inherited by half and has repeatedly emphasised the need to reduce the long-term deficit and put the debt-to-GDP ratio on a declining trajectory.

In this regard, health-care reform presents a golden opportunity. The fundamental source of long-run deficits is rising health-care expenditures. By coupling the expansion of coverage with reforms that significantly slow the growth of health-care costs, we can dramatically improve the long-run fiscal situation without tightening prematurely. As someone who has written somewhat critically of the short-sightedness of policymakers in the late 1930s, I feel new humility.

I can see that the pressures they were under were probably enormous. Policymakers today need to learn from their experiences and respond to the same pressures constructively, without derailing the recovery before it has even begun.

This is an excellent article, still relevant as to why US interest rates are not going up anytime soon. KT

Monday, 9 November 2009

No Change

Have not altered positions at all at this stage.
Still happy with all positions.