The United States of Europe

January 26th, 2015

The U.S. has been imitating Europe for years, boosting government spending and racking up debt, creating a healthcare system that doesn’t work and adding costly new social benefits.

Now it’s Europe’s turn to imitate the U.S.  As expected, European Central Bank head Mario Draghi announced a quantitative easing (QE) program for Europe last week.

Does this look like deflation to you?

Does this look like deflation to you?

Over the past six years, the U.S. Federal Reserve Board’s three QE programs boosted the Fed’s balance sheet from less than $1 trillion to $4.48 trillion.  In comparison, the ECB’s QE program is modest; the ECB will purchase $1.24 trillion of existing sovereign bonds and debt securities over the next 18 months.

But any QE program would be modest in comparison with the Fed’s.  And, long term, maybe the first round of QE doesn’t work, the ECB will continue to imitate the U.S. and follow with additional rounds of bond buying.

The ECB’s action raises a few questions:

If Draghi believes that bond buying is going to help Europe, why hasn’t he tried it before now?  The ECB has tried everything but QE, but primarily relied on forward guidance, which amounts to talking about the economy.  Forward guidance would be an absurd economic policy anywhere, but in a central bank – but not as absurd as QE.  Forward guidance also doesn’t require the purchase of trillions of dollars’ worth of assets. Read the rest of this entry »

Swiss Diss

January 20th, 2015

“It is said that the Swiss love only money … this is not true. They also love gold.”                                                                                                                          Anonymous

 The last time we checked, Switzerland was still part of Europe.

Then again, Switzerland has long been different from its European brethren.  Switzerland is historically an observer, not a participant.  Neutrality gives the country points for ethics among the peace-loving folk – although it didn’t stop the Swiss from dealing with the Nazis during World War II. Swiss Franc

Switzerland is also “the vault of the world.”  It’s where money and wealth are omnipresent, but never talked about.  “Swiss” and “bank” go together like “Swiss” and “watch.”

But there’s a big difference between the Swiss National Bank and the European Central Bank.  While the ECB is likely to announce a quantitative easing program to fight deflation next week, Switzerland this week strengthened its currency with a surprise announcement that it was removing its cap on the value of the Swiss franc.

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The Year of “May”

January 12th, 2015

We’re well into January, but 2014 demanded a bit of reflection before commenting.  Was it a good year or a bad year?

We still don’t know.  We’re calling it the Year of “May,” although that title could have gone to 2013, 2012, 2011 or even 2010.

Using “may” in a sentence illustrates why 2014 was the Year of “May.”  The economy may be improving, but it may not be improving by much.  Interest rates may go up, but they may stay put for a while.  The Federal Reserve Board may be done with quantitative easing, but it may be using other easy money measures to keep the stock market lovefest going.  Europe may also begin quantitative easing.2014

In 2015, we may find out what Fed Chair Janet Yellen means by “macroprudential supervision.”  During 2014, we may have joined the rest of the world in moving toward deflation, or, if the economy really is improving, we may soon be meeting – or even exceeding – the Fed’s inflation expectations.

See how useful that word “may” is?  It sums up a year in three letters.  It’s so noncommittal, so indefinite, so milquetoast … so 2014.  We may be at war with the Islamic State, Russia may be taking over eastern Europe and the Middle East may be in worse shape than it was before the Arab Spring.  Then, again, it may not be. Read the rest of this entry »

It “Eats Societies Alive”

January 5th, 2015

“Oh, no!” you’ve probably been thinking.  “The cost of filling my gas tank dropped again!”

Falling prices are a good thing for the cash-strapped American consumer, whose income on-average has fallen to where it was in 1994, as we’ve reported.  But behind every silver lining, there’s a black cloud and leave it to us to find it. Deflation

Deflation is typically a sign that all is not well with the economy.  Prices drop when the economy is so weak that consumer demand drops.  When prices drop, profits decrease, stock prices drop, and unemployment and bankruptcies increase.  Consumers put off purchases and wait for prices to fall further, which contributes to even further deflation.  Deflation was an issue during the Great Depression and every period of deflation has been accompanied by a recession.

Raúl Ilargi Meijer of The Automatic Earth says deflation “eats societies alive,” explaining that “Deflation is not lower prices. Deflation is people not spending, then stores lowering their prices because nobody’s buying, then companies firing their employees, and then going broke. Rinse and repeat. Less spending leads to lower prices leads to more unemployment leads to less spending power.”

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Do You Believe in Santa Claus? You May Be A Keynesian.

December 29th, 2014

The Christmas season is an appropriate time to reflect on Keynesian economics, given this: believing in Keynesian economics is a lot like believing in Santa Claus.

Most Americans grow up believing some chubby guy in a red suit has the stamina to deliver gifts worldwide to billions of people in a single night.  Young children, by their nature, are self-absorbed and gullible enough to think that Santa knows how they behaved throughout the year and will deliver presents accordingly. Santa Keynes 2

Most of us grow up and realize that reindeer can’t fly, Santa would freeze to death in the North Pole and his elves would unionize.

But not everyone outgrows gullibility.  Some become Keynesian economists.  As Keynesians, they don’t quite understand unemployment, because they never experience it – there is plenty of demand for Keynesians, who can find jobs working for the government, in academia or as journalists.

Keynesians believe that increased government spending (aka “aggregate demand”) stimulates the economy and money can be handed out, like Christmas presents, with only positive consequences.  They even believe that a dollar spent by the government results in many dollars being spent throughout the economy (the “Keynesian multiplier”).  Since they believe there is a Santa Claus, they give little thought to the reality that someone, somewhere has to pay for this largesse.

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Patience Pays Off for Fed, Investors

December 22nd, 2014

The new word is “patient.”  And it’s a humdinger.

The Dow Jones Industrial Average soared more than 700 points over two days last week after Federal Reserve Board Chair Janet Yellen announced that the Fed will be “patient” about ending its easy money stance. DJIA

It took three months of hard work for the Fed to come up with the new word, but apparently it was time well spent.

In September, as we’ve reported, the Fed announced that it would wait a “considerable time” before raising interest rates.  That caused much fretting.  Media such as The New York Times devoted entire articles to what the Fed meant by “considerable.”  Pundits, who apparently have the power to read minds, determined that “considerable” meant that the Fed would begin raising rates in the summer of 2015.

We missed the economics classes where the definition of “considerable” was determined to mean “10 months from now,” but apparently such classes exist, as practically every pundit agreed on the timeline.

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The Markets Need Psychotherapy

December 15th, 2014

“The whole idea that the stock market reflects fundamentals is, I think, wrong.  It really reflects psychology.  The aggregate stock market reflects psychology more than fundamentals.”

Robert Shiller, Nobel Prize-winning economist

Tired of low returns?  You may be a bond investor.

Bond investors have been “growing tired of low returns, the endless warnings that rates are about to rise, and constant reminders of the dangers of riskier bonds,” according to Jeffrey Matthias, CFA, CIPM of Madison Investment Advisors.

At the same time, they’ve watched the stock market continue to break new records every time there’s another sign that a central bank somewhere may buy a few bonds or lower interest rates into negative territory.

“None of us have ever lived through this kind of extreme, long-lasting suppressed rate environment,” Matthias wrote, and, as a result, those bond investors who are mad-as-hell-and-are-not-going-to-take-it-anymore have been frustrated enough to take on a lot more risk for a little more yield. Central Bank Assets

When you chase yield, you catch risk.  It’s a dangerous reaction to the yin and yang of investing – fear and greed.

“Typically, when markets are moving higher,” Matthias wrote, “most investors turn greedy and want more.  Should an investor’s more conservatively positioned portfolio produce lower returns when the market surges, the investor may regret not having taken more risk.  In contrast, should a riskier portfolio drop significantly in market value, the opposite may happen and an investor may begin to regret (his or her) decision to have invested in risker assets.  This can be accompanied by a fearful overreaction.”

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Inflation Is Too Low? Tell That To American Consumers.

December 8th, 2014

We’ve explained in the past how the federal government puts a yellow smiley face on its unemployment figures by excluding Americans who have given up looking for work and including part-time workers as if they are fully employed.

Similarly, the Congressional Budget Office estimates the cost of a tax increase or tax reduction under the assumption that the increase will have no impact on taxpayer behavior – so tax cuts have no economic benefit and tax increases produce revenue without harming the economy.CPI

So we shouldn’t be surprised that the Consumer Price Index (CPI), which measures inflation, rigs the numbers by excluding increases in the cost of food and energy.

The Federal Reserve Board’s $3.5 trillion in bond buying failed to boost inflation to the target rate of 2%, but the Fed could have accomplished its goal without buying a single bond.  All it had to do was change the method used for calculating CPI.

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Give Us Back Our Gold!

December 1st, 2014

“This is gold, Mr. Bond.  All my life I’ve been in love with its color … its brilliance, its divine heaviness.”

                                                   Auric Goldfinger

Gold prices recently hit a four-year low, while stock prices seem to hit a new record almost weekly.  So which is the better investment today?

Before answering that question, consider the latest worldwide trend.  “Repatriating” gold is becoming as fashionable as quantitative easing and stimulus spending.

Germany’s central bank started the trend last year with its decision to return some of the country’s gold home from vaults in the U.S. and Paris.  It was followed by a campaign called “Bring Our Gold Back Home,” but Germany has since backed off on plans to repatriate more gold.Gold Prices

Netherlands has already moved 122 tons of gold back home.  And Switzerland voted yesterday on its “Save Our Swiss Gold” initiative, which would force the Swiss National Bank to buy gold every time it buys euros, which it has done to curb the rise of the Swiss franc.

If the initiative were to pass, Zerohedge noted, “it will undoubtedly set off alarm bells throughout the gold market, as yet more physical gold will need to be repatriated and another sizeable, price-insensitive buyer will enter the marketplace.”

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Land of the Setting Sun

November 21st, 2014

Let’s pretend that the United States economy is a football team.  The coach calls the play.  The running back runs right up the middle and is thrown for a loss.  What does the coach do on the next play?  Run the ball up the middle for a loss.  And the play after that?  Run the ball up the middle for a loss.  And the play after that?  Run the ball up the middle for a loss.

Other teams see what’s happening to the U.S. economy.  So what do they do?  Run the ball up the middle for a loss.  In Japan, in Europe and elsewhere the losses mount.  What’s the conclusion?

  1. Running the ball up the middle every play will result in a loss, or
  2. We need to run the ball up the middle more often.

JapanThe answer, if you’re paying attention to central banks and the actions of Japanese Prime Minister Shinzo Abe is, of course, B., as logic and politics rarely travel on the same highway.

Formerly the world’s number two economy behind the U.S., Japan’s future couldn’t have been brighter back in the ’80s, when “Japan Inc.” was all the rage.  Today, if there really was a Japan Inc., it would have long ago declared bankruptcy.  The “Land of the Rising Sun” has become the “Land of the Setting Sun.”

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