Clinging to Misguided Monetary Mentalities
For the week, the S&P500 gained 1.5% (up 20.4% y-t-d), and the Dow added 1.3% (up 13.9% y-t-d). The Morgan Stanley Cyclicals jumped 2.6% (up 62.8%), and Transports rose 3.8% (up 13.7%). The Morgan Stanley Consumer index gained 1.7% (up 20.1%), and the Utilities added 1.3% (up 0.3%). The Banks slipped 0.3% (up 6.7%), and the Broker/Dealers dipped 0.6% (up 59.1%). The S&P 400 Mid-Caps added 0.8% (up 31.5%), and the small cap Russell 2000 increased 0.2% (up 23.4%). The Nasdaq100 gained 0.7% (up 43.6%), while the Morgan Stanley High Tech index slipped 0.2% (up 58.6%). The Semiconductors declined 1.1% (up 52.2%). The InteractiveWeek Internet index added 0.2% (up 65.5%). The Biotechs jumped 1.9% (up 43.9%). With Bullion adding $3, the HUI gold index traded unchanged (up 47.5%).
One-month Treasury bill rates ended the week at 4 bps, and three-month bills closed at 6 bps. Two-year government yields dipped 2 bps to 0.83%. Five-year T-note yields were little changed at 2.28%. Ten-year yields were 2 bps higher to 3.41%. Long bond yields increased 2 bps to 4.25%. Benchmark Fannie MBS yields rose 5 bps to 4.35%. The spread between 10-year Treasuries and benchmark MBS yields widened 3 to 94 bps. Agency 10-yr debt spreads narrowed 3 to 5 bps. The implied yield on December 2010 eurodollar futures was little changed at 1.755%. The 2-year dollar swap spread increased 2.5 to 38.75 bps; the 10-year dollar swap spread increased 1.25 to 18.75 bps; and the 30-year swap spread increased 2 to negative 7.25 bps. Corporate bond spreads narrowed further. An index of investment grade bond spreads narrowed 4 bps to 138, and an index of junk spreads narrowed 31 bps to a 13-month low 568 bps.
Investment grade issuers included Anheuser-Busch $5.5bn, US Central Credit Union $2.5bn, Deere $1.25bn, Cantor Fitzgerald $500 million, and New York Life $500 million.
Junk bond funds enjoyed inflows of $203 million (from AMG). Junk issuers included American Tower $600 million, Talecris Biotherapeutics $600 million, Sinclair Television $500 million, Trico Shipping $400 million, Drummond $250 million, Alon Refining $210 million, and Lion's Gate $230 million.
I saw no converts issued.
International dollar-denominated debt issuers included KFW $3.0bn, Inter-American Development Bank $2.25bn, Banco Do Brazil $1.5bn, Royal Bank of Scotland $3.5bn, Barrick Australia $1.25bn, Colombia $1.0bn, Korea Expressway $700 million, Odebrecht $500 million, Intelsat Jackson $500 million, and Sri Lanka $500 million.
U.K. 10-year gilt yields jumped 15 bps to 3.60%, and German bund yields increased 8 bps to 3.28%. The German DAX equities index added 0.6% (up 19.4% y-t-d). Japanese 10-year "JGB" yields rose 4.5bps to 1.325%. The Nikkei 225 rallied 2.4% (up 15.8%). Emerging markets ran further into new 2009 highs. Russia's RTS equities index gained another 2.7% to a 2009 high (up 122.9%). India's Sensex equities jumped 4.1% to a new 2009 high (up 79.6%). China's Shanghai Exchange gained 2.2%, boosting 2009 gains to 63.5%. Brazil's benchmark dollar bond yields were little changed at 4.90%. Brazil's Bovespa equities index jumped 3.4% to a 2009 high (up 6.47% y-t-d). The Mexican Bolsa gained 2.3%, also to a 2009 high (up 37.3% y-t-d). Mexico's 10-year $ yields were unchanged at 5.10%.
Freddie Mac 30-year fixed mortgage rates rose 5 bps to 4.92% (down 154bps y-o-y). Fifteen-year fixed rates increased 4 bps to 4.37% (down 177bps y-o-y). One-year ARMs jumped 7 bps to 4.60% (down 56bps y-o-y). Bankrate's survey of jumbo mortgage borrowing costs had 30-yr fixed jumbo rates down 6 bps to 6.00% (down 138bps y-o-y).
Federal Reserve Credit declined $12.9bn last week to $2.107 TN. Fed Credit has declined $140bn y-t-d, although it expanded $367bn over the past 52 weeks (21%). Elsewhere, Fed Foreign Holdings of Treasury, Agency Debt this past week (ended 10/15) rose $4.1bn to a record $2.865 TN. "Custody holdings" have expanded at a 17.5% rate y-t-d, and were up $378bn over the past year, or 15.2%.
M2 (narrow) "money" supply fell $23.3bn to $8.341 TN (week of 10/5). Narrow "money" has expanded at a 2.3% rate y-t-d and 5.9% over the past year. For the week, Currency added $0.5bn, and Demand & Checkable Deposits increased $16.5bn. Savings Deposits dropped $19.7bn, and Small Denominated Deposits declined $12.3bn. Retail Money Funds fell $8.1bn.
Total Money Market Fund assets (from Invest Co Inst) dropped $42.3 to $3.404 TN. Money fund assets have declined $427bn y-t-d, or 14.1% annualized. Money funds declined $115bn, or 3.3%, over the past year.
Total Commercial Paper outstanding jumped another $27bn (9-wk gain of $255bn) to $1.326 TN. CP has declined $355bn y-t-d (27% annualized) and $184bn over the past year (12%). Asset-backed CP increased $11.3bn to $543bn, with a 52-wk drop of $165bn (23%).
International reserve assets (excluding gold) - as accumulated by Bloomberg's Alex Tanzi - were up $453bn y-o-y to a record $7.399 TN. Reserves have increased $635bn year-to-date.
Global Credit Market Watch:
October 12 - Bloomberg (John Detrixhe): "Borrowers have sold more than $1 trillion in U.S. corporate bonds in 2009, the fastest pace on record... Citigroup... and General Electric... were the year's biggest issuers... Sales compare with $873.2 billion in all of 2008, and $1.17 trillion for 2007, the biggest year for bond sales."
October 16 - Bloomberg (Emre Peker and Patricia Kuo): "The record rally in the price of loans owed by the riskiest corporate borrowers may end a two- year drought in leveraged buyouts. Banks provided almost $7.5 billion of high-yield loans in the U.S. and Europe since July 1 to finance acquisitions, more than double the amount in the three months ended June 30 and more than four times the figure in the first quarter..."
October 15 - Bloomberg (Paul Abelsky): "Russia's international currency and gold reserves jumped $7.2 billion last week, the biggest seven-day advance since June... The reserves reached $418.7 billion..."
October 13 - Bloomberg (Denis Maternovsky): "Russian banks may have $110 billion of 'problem loans' by the end of the year, or 20% of all outstanding debt, up from $70 billion and 11% in mid- 2009, Moody's... said. The ratio may reach 25% by the end of 2010..."
Government Finance Bubble Watch:
October 16 - Bloomberg (Vincent Del Giudice): "The U.S. government's annual budget deficit widened to a record $1.42 trillion as the deepest recession since the 1930s crippled tax revenue and the administration increased spending to rescue the economy. The shortfall for the 12 months ended Sept. 30 was more than triple the $455 billion record set a year earlier... During the 2009 fiscal year, revenue declined 16.6% to $2.1 trillion... Fiscal year spending increased 18.2% to $3.5 trillion. Corporate tax receipts declined 54.6% to $138.2 billion during fiscal 2009, and individual income tax collections dropped 20.1% to $915.3 billion."
October 16 - Bloomberg: "China, which forecast a 950 billion yuan ($139 billion) budget deficit this year, reported a 97 billion yuan gap in September... Fiscal revenue rose 33% in September from a year earlier... Expenditure rose 32.9%, the biggest growth this year... Fiscal spending in the first nine months of the year surged 24%..."
October 13 - Wall Street Journal (James Glynn and Enda Curran): "Australia avoided recession over the past year in large part because of strong trade with China and a healthy banking system. Now it faces a new challenge: Deciding whether policy makers went too far to stimulate an economy that is proving more resilient than many expected. The conundrum for Australia's officials and central bank is charting a course that fosters growth without risking overheating the economy -- or tipping it into a slump."Currency Watch:
October 12 - Bloomberg (Ye Xie and Anchalee Worrachate): "Central banks flush with record reserves are increasingly snubbing dollars in favor of euros and yen, further pressuring the greenback after its biggest two-quarter rout in almost two decades. Policy makers boosted foreign currency holdings by $413 billion last quarter, the most since at least 2003, to $7.3 trillion... Nations reporting currency breakdowns put 63% of the new cash into euros and yen in April, May and June, the latest Barclays Capital data show. That's the highest percentage in any quarter with more than an $80 billion increase. World leaders are acting on threats to dump the dollar while the Obama administration shows a willingness to tolerate a weaker currency in an effort to boost exports and the economy... The diversification signals that the currency won't rebound anytime soon after losing 10.3% on a trade-weighted basis the past six months, the biggest drop since 1991."
October 13 - Bloomberg (Paul Abelsky): "The dollar's share in global foreign currency holdings will decline, giving room to 'supranational' currencies in a 'gradual diversification,' Russian Finance Minister Alexei Kudrin said. 'As the period of 'flight into quality' ends, the question of changing the structure of reserves is being raised again,' Kudrin said... 'That's linked to speculations about the possibility of the dollar's devaluation.'"
October 14 - Wall Street Journal (Simon Nixon): "What is driving the recent sharp falls in sterling? In the first part of this year, the U.K. currency rallied in line with rising credit and equity markets -- which appeared to make sense, given the size of the U.K.'s banking-sector balance sheet and its exposure to risky assets. But recently that link has broken down, with the pound this week hitting a five-month low against the dollar. Blame that on the dire state of the U.K.'s public finances."
For the week, the dollar index dropped 1.1% to 75.62. For the week on the upside, the British pound increased 3.2%, the Brazilian real 1.9%, the Mexican peso 1.6%, the Australian dollar 1.5%, the Swiss franc 1.2%, and the Euro 1.1%. On the downside, the Japanese yen declined 1.2% and Taiwanese dollar 0.1%.
Another big week for the commodities indices. Gold added 0.3% to close at $1,052 (up 19.3% y-t-d). Silver slipped 1.2% to $17.47 (up 54.7% y-t-d). November Crude surged $6.80 to $78.57 (up 76% y-t-d). November Gasoline jumped 11.9% (up 86% y-t-d), while November Natural Gas was little changed (down 15% y-t-d). December Copper was about unchanged (up 101% y-t-d). December Wheat jumped 6.6% (down 18% y-t-d), and December Corn gained 2.7% (down 9% y-t-d). The CRB index surged 5.2% (up 20.3% y-t-d). The Goldman Sachs Commodities Index (GSCI) jumped 7.6% (up 45.6% y-t-d).
China Bubble Watch:
October 14 - Bloomberg: "China's foreign-exchange reserves, the world's biggest, surged as an economic recovery attracted speculative capital and a weak dollar boosted valuations of its yen and euro assets. The holdings climbed about $141 billion in the third quarter to a record $2.273 trillion, the People's Bank of China said... That was less than the unprecedented $178 billion gain in the second quarter. Swelling reserves highlight imbalances in trade and investment that world leaders pledged last month at meetings in Pittsburgh to correct to reduce the likelihood of another global financial crisis."
October 15 - Bloomberg (Lee J. Miller and Ye Xie): "China's foreign-exchange reserves are on pace to surpass $3 trillion in June 2010, adding to pressure on the government to strengthen the yuan."
October 14 - Bloomberg: "China's new lending rose in September from August, helping to drive the recovery in the world's third-biggest economy. Banks extended 516.7 billion yuan ($75.7 billion) of local-currency loans, compared with 410.4 billion yuan in August... M2... grew a record 29.3 percent rom a year earlier. China's unprecedented surge in new lending this year is fueling the nation's economic rebound at the risk of asset bubbles, bad loans and resurgent inflation... 'The government's emphasis is still on maintaining growth,' said David Cohen, an economist with Action Economics... 'Policy makers will be keeping a wary eye on potential asset bubbles, but they are not an imminent danger.'"
October 15 - Bloomberg: "China's electricity consumption rose 10.2 percent in September, the most since June last year, as the domestic economy recovered."
October 14 - Bloomberg: "China's exports fell less than economists estimated and imports dropped the least in 11 months in September... Exports declined 15.2% to $115.9 billion from a year earlier..."
October 13 - Bloomberg: "China's monthly passenger-car sales passed 1 million units for the first time... September sales of cars, sport-utility vehicles and multipurpose vehicles climbed 84% to 1.015 million... Overall vehicle sales, including trucks and busses, rose 78% to 1.33 million units."
October 15 - Bloomberg: "China's home prices rose at the fastest pace in a year in September and inflows of foreign direct investment quickened as a recovery gathered pace... Home prices in 70 cities climbed 2.8% from a year earlier... Foreign direct investment jumped 18.9% to $7.9 billion..."
October 14 - Bloomberg (Chia-Peck Wong and Kelvin Wong): "Henderson Land Development Co. said it sold a Hong Kong apartment at a world record price hours after city Chief Executive Donald Tsang signaled the government may release more land to deflate a property bubble. Henderson... sold a 68th-floor duplex in the city's Mid-Levels district for HK$71,280 ($9,197) per square foot. The company said it may ask HK$100,000 per square foot for two penthouses on the 88th floor..."
October 12 - Bloomberg (Kartik Goyal): "India's industrial production rose the most in 22 months, suggesting the central bank may have scope to make an early exit from emergency stimulus measures. Output at factories, utilities and mines jumped 10.4% in August from a year earlier..."
October 12 - Reuters: "India's economy can expand 7% in 2009/10, and the Reserve Bank of India must weigh the trade-off between growth and inflation when it reviews its policy stance later this month, a top government adviser said..."
October 15 - Bloomberg (Michael Dwyer): "India may need 'assertive' monetary tightening to control inflation similar to the steps taken by former U.S. Federal Reserve chairman Paul Volcker in the early 1980s, according to Lombard Street Research... 'India could soon need Volcker's policy," Maya Bhandari, a senior economist at Lombard Street...said... 'Inflation is poised to shoot through the roof.'"
Asia Bubble Watch:
October 14 - Bloomberg (Seyoon Kim): "South Korea's unemployment rate fell for the second time in three months in September as the nation's economy recovers from the global economic slump. The jobless rate dropped to 3.6% from 3.8% in August..."
October 12 - Bloomberg (Shamim Adam): "Singapore raised its 2009 economic forecast after gross domestic product expanded for a second consecutive quarter... The economy will shrink 2% to 2.5% this year, less than an earlier forecast..."
October 13 - Bloomberg (Joyce Koh): "The ranks of millionaires in the Asia-Pacific region thinned by 14% last year as a stock market rout eroded wealth, according to a report by Capgemini SA and Merrill Lynch Wealth Management. The number of people in the region with at least $1 million in financial assets... slipped to 2.4 million... The value of assets held by the region's millionaires slid 22% to $7.4 trillion."
Latin America Watch:
October 15 - Bloomberg (Joshua Goodman and Adriana Brasileiro): "Brazil's retail sales rose for the fourth consecutive month in August... Retail sales rose 4.7% in August from a year ago..."
October 13 - Bloomberg (Adriana Brasileiro): "Striking Brazilian workers are winning salary increases that outpace inflation, adding to concern the nation's economic recovery will prompt policy makers to lift interest rates from record lows. Construction and auto parts workers secured raises last month of as much as 10%, according to Sao Paulo-based Central Sindical dos Trabalhadores, the country's largest union representing 22 million employees. Banco do Brasil SA, Brazil's largest state-owned lender, was among banks agreeing to a 6% raise..."
Unbalanced Global Economy Watch:
October 12 - Bloomberg (Peter Woodifield): "London West End office rents fell 30% in the first nine months of the year, reaching the lowest level since 2003, said real estate broker Knight Frank LLP."
October 13 - Bloomberg (Brian Parkin): "Germany's tax revenue in September was less than the same month a year ago... Federal, state and municipal tax revenue last month was 7.4% lower than a year earlier..."
October 13 - Bloomberg (Paul Abelsky): "Russia's 2009 inflation rate may be between 10.5% and 11%, below the government's forecast of 11% to 12%, Interfax reported, citing Yevgeny Khotulev, head of the Economy Ministry's department for macroeconomic forecasting."
October 14 - Bloomberg (Jacob Greber): "Australian consumer confidence jumped to the highest level in more than two years as rising employment and share prices buoyed sentiment after the central bank raised interest rates last week."
October 13 - Bloomberg (Tracy Withers): "New Zealand's retail sales rose in August at more than twice the pace expected by economists, adding to signs the economy's recovery... is gathering pace... Sales increased 1.1% from July..."
U.S. Bubble Economy Watch:
October 15 - Bloomberg (Dan Levy): "U.S. foreclosure filings climbed to a record in the third quarter... according to RealtyTrac Inc. A total of 937,840 homes received a default or auction notice or were repossessed by banks, a 23% increase from a year earlier..."
October 12 - Bloomberg (John McCormick): "The Chicago Transit Authority proposed service cuts and boosting some bus and train fares 33% to close a $300 million budget gap prompted by pension obligations and the weak economy."
October 12 - Bloomberg (Steven Church): "The Chicago Cubs filed for bankruptcy as part of a plan by owner Tribune Co. to sell the baseball team to the family of TD Ameritrade Holding Corp. founder Joe Ricketts. Chicago National League Ball Club LLC listed assets and debts of more than $1 billion..."
MBS/ABS/CDO/CP/Money Fund and Derivatives Watch:
October 13 - Bloomberg (Darrell Preston, Edward Klump and Aaron Kuriloff): "Harris County-Houston Sports Authority, which built the Texas city's 71,500-seat National Football League stadium, may need to refinance $1 billion in debt and pay as much as $142 million ahead of schedule on bonds and interest-rate swaps. The agency, operator of Reliant Stadium for the NFL's Texans, must pay $117 million over the next five years after JPMorgan Chase & Co. demanded accelerated retirement of variable-rate bonds due in November 2030, said J. Kent Friedman, the authority chairman... The extra costs will push higher annual debt service by $20 million to at least $83.7 million in 2011 from $62.3 million this year."
Real Estate Watch:
October 12 - Bloomberg (Sarah Mulholland): "The volume of delinquent commercial mortgages jumped sevenfold last month as borrowers who got loans with lax terms fail to make debt payments amid sinking real estate values, according to Credit Suisse Group AG. In September, installments on $22.4 billion of mortgages were at least 60 days late, up from $3.2 billion a year earlier... The delinquency rate rose 33 bps to 3.34%..."
Central Banker Watch:
October 15 - Bloomberg (Jacob Greber): "Australia's central bank can't be too timid in raising its benchmark interest rate now that the threat of an economic crisis in the nation has passed, Reserve Bank Governor Glenn Stevens said, pushing up the local currency. 'If we were prepared to cut rates rapidly, to a very low level, in response to a threat but then were too timid to lessen that stimulus in a timely way when the threat had passed, we would have a bias in our monetary policy framework... Experience here and elsewhere counsels against that approach.'"
October 15 - Financial Times (Ralph Atkins): "Jean-Claude Trichet, European Central Bank president, told banks... to return to their 'traditional role of providing a service to the real economy', accusing them of having focused too much on 'unfettered speculation and financial gambling'. His strongly worded criticism, at a banking conference in Frankfurt, highlighted European policymakers' fears that the recovery of the financial market is encouraging bankers worldwide to believe life can return to how it was before the crisis... 'Looking back on the years before the crisis erupted, we can see that there was a dramatic shift in focus in large parts of the financial sector - away from facilitating business, trade and real investment towards unfettered speculation and financial gambling.'"
October 12 - Bloomberg (Jody Shenn and Dawn Kopecki): "Fannie Mae and Freddie Mac have made supporting President Barack Obama's mortgage-modification program a main focus of their business in recent months, the government-run companies' chief executive officers said. 'The thing that's taken up the most of our time is the development of the Making Home Affordable program,' Michael J. Williams, Fannie Mae's CEO, said... Freddie Mac CEO Charles E. Haldeman Jr. said his company's role in the anti-foreclosure program is its 'big accomplishment' this year. Freddie Mac has boosted certain staff by 70% and been hiring outside companies to send individuals 'door-to-door' to increase participation, he added."
October 15 - Bloomberg (Jerry Hart and William Selway): "U.S. state tax collections in the second quarter tumbled a record 16.6%, the most in almost half a century... The revenue plunge was the biggest since at least 1963, the Nelson A. Rockefeller Institute of Government said... State income has dwindled for two straight quarters, according to the Albany-based research organization. The slide caused $26 billion in deficits for budgets beginning July 1, the typical calendar in most states..."
October 13 - Bloomberg (Jeremy R. Cooke): "Build America Bonds are becoming so popular in the lowest-rated and most-populous U.S. state that investors may start calling them 'Build California Bonds,' according to Municipal Market Advisors... Treasurer Bill Lockyer said last week that California may sell as much as $15 billion of bonds in the next nine months... Build America Bonds so far have accounted for about $7 billion of the more than $18 billion in general obligation bonds California has sold in 2009."
October 13 - Bloomberg (Jeremy R. Cooke and Michael McDonald): "Borrowing costs for U.S. state and local governments are rising from a 42-year low after investors turned 'cold and inhospitable' to the yields that municipal issuers led by California sought for their debt."
October 12 - Reuters (Jim Christie): "If you're looking for work, don't look in California. The world's eighth largest economy is still finding its feet after suffering multiple economic shocks, including a housing slump, mortgage crisis and recession. Employers in California... are expected to keep cutting staff in 2010 as the wider U.S. jobs market recovers... The state has 12.2% unemployment..."
New York Watch:
October 14 - Bloomberg (Michael Quint): "New York's budget deficit for the current year may grow to $4.1 billion, or 37% more than estimated last month... according to Comptroller Thomas DiNapoli. 'This budget has simply not held together,' DiNapoli said... The spending promises made in April, when lawmakers passed a $133.5 billion spending plan 'are not sustainable in the face of falling revenue,' he said."
October 14 - Bloomberg (Tomoko Yamazaki): "Hedge funds returned 2.5% in September, heading for their best performance in six years... Eurekahedge Pte said. The Eurekahedge Hedge Fund Index, tracking more than 2,000 funds, gained for the seventh straight month, bringing its y-t-d advance to 16.1%... The industry grew by $26.3 billion last month, bringing total assets managed to $1.42 trillion..."
Clinging to Misguided Monetary Mentalities
Nobel Prize economist Paul Krugman - of Princeton and the New York Times - wrote a noteworthy piece this week: Misguided Monetary Mentalities (NYT 10/12/09).
"One lesson from the Great Depression is that you should never underestimate the destructive power of bad ideas. And some of the bad ideas that helped cause the Depression have, alas, proved all too durable: in modified form, they continue to influence economic debate today.
What ideas am I talking about? The economic historian Peter Temin has argued that a key cause of the Depression was what he calls the 'gold-standard mentality' By this he means not just belief in the sacred importance of maintaining the gold value of one's currency, but a set of associated attitudes: obsessive fear of inflation even in the face of deflation; opposition to easy credit, even when the economy desperately needs it, on the grounds that it would be somehow corrupting; assertions that even if the government can create jobs it shouldn't, because this would only be an 'artificial' recovery.
In the early 1930s this mentality led governments to raise interest rates and slash spending, despite mass unemployment, in an attempt to defend their gold reserves. And even when countries went off gold, the prevailing mentality made them reluctant to cut rates and create jobs. But we're past all that now. Or are we? America isn't about to go back on the gold standard. But a modern version of the gold standard mentality is nonetheless exerting a growing influence on our economic discourse. And this new version of a bad old idea could undermine our chances for full recovery."
First of all, Dr. Krugman states that "the bad ideas that helped cause the Depression... continue to influence economic debate today." Well, let's say they were actually "bad ideas." Even then his implication would be only somewhat true. There may be some feeble little impact on what has regressed to one lopsided "debate." But, regrettably, ideas regarding sound money and Credit long ago lost their influence on actual economic policymaking.
Dr. Krugman, like so many economists of our time, is an inflationist. He, like so many before him, sees easy Credit and the government printing press as the solution to unemployment and other economic problems. And - in our age of electronic "money" and unbounded global finance - there are apparently no longer any bounds to U.S. fiscal and monetary stimulus.
Messrs. Greenspan and Bernanke are inflationists. The inflationists have been running the show since easy Credit was employed to juice the system after the 1987 stock market crash. The consequences of that bout of policy-induced excess led to a more potent inflationist policymaking elixir in the early-nineties to mop up the financial mess. Since then, ever more emboldened Credit inflation has been required to battle crisis after crisis after crisis. Easy money and Credit - the bane of Capitalism - were allowed to overwhelm the workings of the system. The point of Trillion dollar deficits and zero interest rates has been reached - with the undeterred inflationists now bent on this sorry state of affairs continuing indefinitely.
By now, one would hope the inflationists would challenge their own views, doctrines and Mentalities. Instead, they trumpet the same old failed policy responses - only in much larger dimensions and with greater conviction. And that is precisely the flaw in inflationist doctrine: once it gets rolling it becomes extremely painful to rein in the forces pushing for only greater inflation. The more spectacular the inflationary boom and bust - the more strident the inflationists become.
History is strewn with enough collapses, worthless currencies and social upheaval that I find it ridiculous that the inflationists would today be taking shots at sound money and Credit. It is the inflationists Clinging to Misguided Monetary Mentalities. The principle of sound money and Credit has no reason to have to defend itself.
Inflationism doctrine is riddled with failings: Easy Credit distorts system pricing mechanisms; foments destabilizing speculation; spurs societal wealth transfer; distorts the underlying economic structure; fosters financial fragility; and debases the currency - to name just a few. History - including recent history - validates this analysis.
Yet there are two particular facets of today's inflationism that make "Keynesian" policymaking extraordinarily dangerous. First, the global backdrop is one of unchecked Credit and the absence of any disciplining global monetary regime. Policy mistakes are free to run longer and with enormous global financial and economic consequences. Second, policymakers and pundits herald incredible post-Bubble policy responses, while failing to recognize that aggressive stimulus is, once again, fostering problematic Bubbles. For too long the inflationists have been negligent in their disregard for Bubble dynamics.
From Dr. Krugman: "Consider first the current uproar over the declining international value of the dollar. The truth is that the falling dollar is good news. For one thing, it's mainly the result of rising confidence..."
While confidence in the global reflationary backdrop may be rising, the dollar is in trouble. And many dollar apologists will claim the greenback has no immediate replacement and thus will retain its status as the world's reserve currency. This line of reasoning misses the key point: the dollar reserve global monetary "regime" has broken down as a mechanism for supporting stable global Credit and economic performance. Unchecked global finance now rules, a consequence of the massive and ongoing devaluation of the world's reserve currency.
Only the inflationists could argue the dollar's current predicament is "good news." I don't see it. I don't view a world economy rebalancing or becoming more stable. Instead, we're witnessing the unleashing of another furious global boom and bust cycle. Crude oil traded above $78 this week as gold responded to the weak dollar by surging to an all-time record high. U.S. wealth is being shifted overseas, and Americans' savings are being devalued. We are losing financial power by the day. Good news? More easy Credit to the rescue?
The inflationists are keen to argue that, with "inflation" remaining so low, policymakers enjoy unusual latitude to stimulate. By this point, haven't we learned that rising CPI is not a primary contemporary risk associated with ultra-loose monetary policy? The mispricing of risk, unchecked speculation, asset-Bubbles, and economic maladjustment have already proven themselves as deleterious effects of loose money. I group these types of responses to unstable finance ("money and Credit") as "Monetary Disorder." Anyone watching global markets these days must recognize that Monetary Disorder remains powerfully entrenched.
Krugman Concludes: "We do seem to have avoided a second Great Depression. But giving in to a modern version of our grandfathers' prejudices would be a very good way to ensure the next worst thing: a prolonged era of sluggish growth and very high unemployment."
The first Great Depression was triggered by financial collapse - a historic boom and bust. The jury is still out on the second. The inflationists believe their policy prescriptions strengthen system underpinnings. I believe another bout of global Credit and speculative excess increases the likelihood of eventual financial meltdown. And I believe a dollar crash significantly increases the risk of a very problematic U.S. financial crisis. Worse than benign neglect won't suffice. Dr. Krugman doesn't think it makes any sense to consider raising rates. I don't think it makes any sense to disregard the reality that fiscal and monetary policy went to dangerous extremes.
The time has come for a more level-headed and even-handed approach. As much as they abhor the notion of sound money and Credit, the inflationists need to back away from their dogma before it's definitely too late. A prolonged period of slow growth and sluggish employment is not the worst-case scenario.