Inflation is always and everywhere a monetary phenomenon…Government spending may or may not be inflationary. It clearly will be inflationary if it is financed by creating money, that is, by printing currency or creating bank deposits. If it is financed by taxes or by borrowing from the public, the main effect is that the government spends the funds instead of the taxpayer or instead of the lender or instead of the person who would otherwise have borrowed the funds. Fiscal policy is extremely important in determining what fraction of total national income is spent by government and who bears the burden of that expenditure. By itself, it is not important for inflation. –Milton Friedman, “The Counter-Revolution in Monetary Theory” (emphasis in original) Friedman’s idea was radical when he suggested it in 1970, but it has since become boringly mainstream. Nowadays the standard line is that central banks have all the power and (usually) offset the impact of fiscal policy changes. So it was refreshing to read a speech by Christopher Sims at this year’s Jackson Hole economic symposium suggesting that the common view has things backwards. To the extent central banks have any impact on inflation, it’s by tricking elected officials:
Four banks have stolen loads of column inches on Wednesday with news that they are developing “a new form of digital cash that they believe will become an industry standard to clear and settle financial trades over blockchain, the technology underpinning bitcoin”. In the fanfare, however, lots of common sense has been abandoned. The big idea here (allegedly) is that banks will use a “utility settlement coin” to bypass the need for costly and inefficient fiat liquidity from the cbank. The utility settlement coin, based on a solution developed by Clearmatics Technologies, aims to let financial institutions pay for securities, such as bonds and equities, without waiting for traditional money transfers to be completed. Instead they would use digital coins that are directly convertible into cash at central banks, cutting the time and cost of post-trade settlement and clearing.
Citi’s Matt King has some harsh words for central bankers ahead of this week’s gathering in Jackson Hole, Wyoming: he says they’ve broken the market. King echoes a group of fund managers who say central banks’ stimulus efforts are distorting the way global markets function. The problem is this: with negative yields on $13 trillion of safe assets, investment managers are crowding into the shrinking group of investments with yield — or into securities they may be able to sell to central banks.
Here’s an interesting thought from Grant Spencer, the Deputy Governor in charge of financial stability at the Reserve Bank of New Zealand: While boosting the capacity for development and housing supply is paramount, it is also important to explore policies that will keep the demand for housing more in line with supply capacity…We cannot ignore that the 160,000 net inflow of permanent and long-term migrants over the last 3 years has generated an unprecedented increase in the population and a significant boost to housing demand…There may be merit in reviewing whether migration policy is securing the number and composition of skills intended. While any adjustments would operate at the margin, they could over time help to moderate the housing market imbalance.
Central banks issuing their own digital currencies (on blockchains, naturally) is an idea currying ever more favour in high-brow economic and banking circles. Fedcoin. BoEcoin. ECBcoin. They’re all (allegedly) at it — or at the very least contemplating the idea as a work-around to the zero lower bound and other niggling monetary problems. This month the BoE issued a paper on the topic entitled “The macroeconomics of central bank issued digital currencies. A related blog “Central bank digital currency: the end of monetary policy as we know it?” was published this week. But if you Google “central bank blockchain” you’ll find a gazillion references or more from all over the world talking about the subject.
Everybody knows much of the City of London was vehemently opposed to Brexit because of fears of what might happen to banks’ interests if so-called “passporting” rights into and out of the European system were lost. What is less talked about, however, is Brexit’s impact on the European payments clearing system, Target2 — and how the passporting issue connects by way of Target2 to the realm of sovereign monetary policy. At the absolute heart of the matter is the status and treatment of payment systems worldwide, and whether or not they can really be treated as something independent and thus distinct from national monetary policy (and hence open to commercial competition) — or as integral to sovereign interests.
This is a guest post from Richard Koo, chief economist of the Nomura Research Institute and, amongst many other things, author of “The Holy Grail of Macroeconomics, Lessons from Japan’s Great Recession”, which lays out his balance sheet recession thesis in detail. The post is an updated extract from his most recent note for Nomura and reproduced here, with his permission, for your arguing pleasure… The US, the UK, Japan, and Europe all implemented quantitative easing (QE) policies, but the understanding of how those policies work apparently differs greatly from country to country, leading to very different outcomes. With the US economy doing better than the rest, there has been some debate in Europe as to why that is the case.
One interesting quirk of the post-Brexit market mess has been the lack of any mad dash for emergency dollar liquidity — so far, at least. Since the referendum, the use of the Federal Reserve’s foreign-exchange swap facilities, meant to help global banks in need of dollar funding, has been “dwarfed” by previous periods of global market stress, according to a Tuesday note from Citigroup analysts.
We promised we’d only return to this when we had a bit more clarity about who might step into Raghuram Rajan’s shoes at the RBI when he leaves in September. Well, does this from the Times of India yesterday count? NEW DELHI: The government has narrowed its long list of candidates for the next Reserve Bank of India governor to just four. The four short-listed candidates are: Reserve Bank of India deputy governor Urjit Patel, former deputy governors Rakesh Mohan and Subir Gokarn and State Bank of India chief Arundhati Bhattacharya. Yes. At the least, it’s three less names to deal with than we had last time.
Fresh from the inbox, first from Goldman: We expect the BoE to implement policy actions aimed at maintaining market functioning (in difficult circumstances), by activating swap lines with other major central banks and by announcing additional liquidity operations, including the provision of term funding for UK banks.
Friends, advisors, clients, counterparties: it’s almost over. By Friday we’ll have emerged from the tyranny of the Brexit campaign into a brave new world where either: a) things will be the same and we’ll still be arguing about it; or b) things will be the same but we’ll be arguing about it in Brussels and maybe there’ll be less immigration, eventually, who knows. In the meantime, the Civil Service is trying to remember what trade negotiations are like; currency traders are girding their loins for an orgy of volatility; and the FX strategists over at Credit Suisse are looking back to Black Wednesday for clues on just how royally screwed (or Absolutely Fine) we’ll be in the event of a Leave vote and subsequent sterling crash. Namely, in the event the Bank of England decides to intervene in the currency markets to protect the pound, will it be successful and can it depend on help from the Fed, ECB and BoJ? First some Black Wednesday history, chartified:
It has been a difficult Monday morning for India’s bankers, economists and analysts. Not only has the Rajan-era come to an unexpected close but the monsoon has thumped into the country. Now, where once certainty and clean pants existed, a world of confusion and splashed trouser legs sits soddenly. The usual notes are coming through into our inbox too, most expressing said confusion and near-term worry, even though markets are shrugging a bit so far. Here’s a one month view of the INR and the Sensex:
Raghuram Rajan: “I want to share with you that I will be returning to academia when my term as Governor ends on September 4, 2016″ [updated]
Rajan is going ex-RBI. A chunk from the statement that has just gone up on the Indian central bank’s website: I took office in September 2013 as the 23rd Governor of the Reserve Bank of India. At that time, the currency was plunging daily, inflation was high, and growth was weak. India was then deemed one of the “Fragile Five”.
The Cambridge Security Initiative jointly led by Sir Richard Dearlove, former chief of the Secret Intelligence Service, and professor Christopher Andrew, a former official historian of MI5, is a think tank specialising in security and intelligence. The initiative has released a report on cashless society, authored by Alfred Rolington and the verdict is… cash is still king, and don’t expect to see it disappear any time soon. This, however, runs contrary to the rhetoric of some central bankers these days, among them Andy Haldane, the BoE’s chief economist who has floated the idea of having the central bank issue its own digital cash as a means of combatting the zero lower bound. Haldane has also said central bank–issued digital currencies form a core part of the Bank’s research agenda as a result.
This guest post from Manmohan Singh warns that while QE created excess reserves, removing those reserves from the system will have an important impact on the markets’ financial plumbing – and that will need to be incorporated in monetary policy decision making. Singh is the author of Collateral and Financial Plumbing and a senior economist at the IMF. Views expressed are his own and not of the IMF. ____ Expanded central bank balance sheets that silo sizeable holdings of US Treasuries, UK Gilts, Japanese Government Bonds (JGBs), German Bunds and other AAA eurozone collateral have placed central bankers in the midst of market plumbing. It’s now going to be very difficult for them to walk away from that role.
Charted by CreditSights last week, with no points for noting the commodity component of the defaults: They add that “the US HY issuer-weighted default rate is approaching the historical average of 5.4%” and that “eight new defaults in April 2016 would put US HY default rates at the same level as the historical average. With 18 US HY defaults already taking place during 1Q16 this is entirely possible, although it is more likely that default rates will reach the historical average in May or June 2016.”
Everyone has an opinion or a theory about what really caused the global financial crisis of 2008. The usual suspects include subprime securities, a housing bubble, financial engineering gone mad, Black Scholes risk models, global imbalances, dollar liquidity shortages and in some cases even Gordon Brown having sold off all the UK’s gold leaving the country with nothing solid when we needed it most. But what if there was another, more subtle, cause? One we all failed to notice because by its very nature it was designed not to be noticed? A cause connected, instead, to some misleading nomenclature and the tricks language plays on our brain when the etymology behind a word or a phrase is forgotten about due to its overly common dispersal.
China is growing at 6.7 per cent and broadly stabilising, “down slightly from the end of last year but comfortably within the government’s targeted range, as housing and infrastructure cushioned a slowdown from financial services.” Yay? Well (and this is taking the GDP figure at face value) not if it’s just being propped up by the same old tools which led everyone to worry about its growth model in the first place. Which it looks like is what’s happening…
From the New York Times, November 13, 1979 (please note emphasised text): PARIS – Central banks of the major Western industrial powers have privately agreed on a two-stage plan for controlling the explosive growth of the so-called Eurocurrency markets that they now believe is fuelling world inflation, according to a senior central bank governor closely involved in the discussions. The governors of the central banks are reviewing the new Eurocurrency control scheme at their regular secret monthly meeting at the Bank for International Settlements in Basel. However, they are unlikely to unveil it formally before the end of the year, according to the source.
Jefferies: Japan has a fever and the only prescription is NGDP targeting and zero coupon perpetual bonds
We’re paraphrasing a bit in the headline but Jefferies do think the Japanese authorities are in a corner, painted in by a strengthening yen, tighter monetary conditions and a drop in inflation expectations.
Donald Trump — one of the few remaining American presidential candidates who failed to attend Camp Alphaville last summer — has repeatedly promised he will build a wall along the southern border, with construction costs to be covered by the Mexican government. Since last August, Trump has asserted he can extract this concession by threatening to close America’s trade deficit with Mexico and by threatening to confiscate southbound remittances. Despite being one of Trump’s signature policies for more than six months, the release of a memo fleshing out a few additional details has led to a flurry of additional coverage, much of it concerned with the possible humanitarian consequences. We don’t want to focus on whether the idea is actually sound, but on what the proposal can teach us about the balance of payments. It’s possible Trump’s plan, if enacted, could actually cause America’s trade deficit to widen.
Every little sales increase helps Tesco, which is back in the black; McCormick has dropped its bid for Premier Foods; the FCA wants to shake up the IPO process. FT Opening Quote, with commentary by City Editor Jonathan Guthrie, is your early Square Mile briefing. You can sign up for the full newsletter here.
Ben Bernanke first gained the catchy but unfortunate nickname “Helicopter Ben” when he gave a speech in 2002 endorsing Milton Friedman’s idea of a metaphorical helicopter drop of money as an extreme but effective way of combating deflation – a moniker that haunted him when he introduced a $4tn quantitative easing programme at the Federal Reserve. But in his latest blogpost at Brookings he has cautiously endorsed the concept again. While careful not to step on current Fed chair Janet Yellen’s toes by suggesting at all that this is a likely course of action – and the US economy is doing fairly well, if unspectacularly – he now writes that it shouldn’t be ignored as a policy tool:
Back when the Basel III regulations were being debated in the wake of the crisis, it was common to hear dire warnings that rules limiting how much banks can borrow would constrict lending and lower real output. Even some who ostensibly support higher equity capital requirements think there are “trade-offs” between a safer financial system and economic growth. New research from Leonardo Gambacorta and Hyun Song Shin of the Bank for International Settlements suggests this thinking is backwards: “both the macro objective of unlocking bank lending and the supervisory objective of sound banks are better served when bank equity is high.”