MetaFilter posts tagged with economiccycles

As bad as inflation is deflation is much, much worse

Mutant — Sun, 27 Sep 2009 10:38:24 -0800

Why is deflation far worse than inflation? After all, prices are falling, goods and services get cheaper, what's not to like? Modern Central Bankers are well armed to wage war against inflation; high interest rates effectively slows the circulation of money, extinguishing inflation as the United States did by raising the Fed Funds rate to a record 20% in 1981. But these same tools don't apply to deflationary scenarios, as nominal interest rates can not be cut below zero, a barrier recognised by Fed Chairman Ben Bernanke who in 2004 concluded ¹ "the nominal policy interest rate may become constrained by the zero lower bound." [ .pdf ] And one must not underestimate the destructive power of deflation; as deflation pressures drive down prices, as the demand for goods and services first drops, then accelerates as businesses layoff workers, leading to further declines in wages even as unemployment rises. As deflationary expectations take hold defaults on loans of all types rise as the value of assets plummets and banks first curtail then totally stop lending, leading to the emergence of a vicious cycle much Japan's deflationary spiral. Adding to contemporary deflationary pressures, we know bank lending is declining, even among firms receiving government funds. So the question is how can we incentivise banks to begin lending again? Harvard Economist Greg Manikw has an idea - penalise banks for hoarding cash by canceling a percentage of currency held dormant in reserve and not lent to consumers and businesses; effectively achieving negative interest rates. In a similar vein, last July Sweden starting charging interest for funds held dormant by banks, effectively penalising institutions for hoarding cash and driving an increase in personal sector lending, while The UK considers the same approach. Will Bernanke and The Fed follow suit? ¹Bernanke, B., S., Reinhart, V., R., Sack, B., P., 2004, "Monetary Policy Alternatives in the Zero Bound" Finance and Economics Discussion Series, Divisions of Research & Statistics and Monetary Affairs, Federal Reserve Board, Washington, D.C.

Why the US won't see hyperinflation

Mutant — Wed, 13 May 2009 01:16:13 -0800

The Bulls vs. Bears? The incessant back and forth between equity market longs and shorts is well known to most retail investors via a variety of distribution channels; financial television, the print media, online news. But the really big market battle, one with the potential to impact the entire US economy, happens, as is usual in finance, just out of sight of retail eyes ... Not seen since the 80's, Bond Vigilantes is a phrase applied to institutional class investors who purchase government treasuries to satisfy their long dated obligations. Cognizant of the risks of inflation, they actively demand compensation in real terms for their investments. In recent weeks they have caused a UK government bond auction to fail, and have driven US bond yields higher. But even as Bond Vigilantes drive interest rates higher, the US Treasury is actively purchasing securities in the open market. This is, by any measure, an epic battle, one taking place almost sight unseen and one with very high stakes: can Ben Bernanke and the yet unseen US economic recovery tolerate higher bond yields? Speaking of the power of Bond Vigilantes to compel honesty in government spending, Clinton policy advisor James Carville, was famously quoted: "I used to think if there was reincarnation, I wanted to come back as the president or the Pope or a .400 hitter. But now I want to come back as the bond market. You can intimidate everybody"

To everything there is a season and this is true of Economics

Mutant — Fri, 06 Mar 2009 05:27:10 -0800

Everybody knows the economy and thus the markets move in cycles. Economic expansion naturally leads to contraction, driven by credit and business cycles. But are economic booms followed by busts inevitable? At Business School today we accept and even teach cycles, for example the Kitchin inventory cycle (three to five years in length, first postulated by Joseph Kitchin in 1923), the Juglar fixed investment cycle (seven to eleven years in length, discovered by French physcian Clement Juglar in 1860) and the Kuznets infrastructue investment cycle (fifteen to twenty five years in length, postulated by Nobel Laureate Simon Kuznets), but could there be longer wave cycles dominating and driving these higher frequency waves? Nikolai Kondratieff was a Russian economist who favoured a holistic view, believing that efficient forecasts of economic activity and thus the markets had to integrate social and cultural trends. This broad perspective convinced him that amid the apparent chaos of the capital markets, long term unifying processes existed which could be leveraged for forecasting purposes. Kondratieff believed capitalism followed forty to sixty year cycles of economic growth followed by depression. These cycles are now known as "Kondratiev waves". Kondratieff waves postulate four basic "seasons" to the economic cycle; Summer, characterised by sharp increases in the money supply, leading to investment and inflation. Spring follows as the money injected into the economy during summer drives an expansion in business activity. Autumn, which sees a peak in share prices and relatively high debt levels amid slowing business activity is followed by Winter, where we observe bankruptcies and cratering share prices. To many followers of Kondratieff, the G20 are currently deep in winter [.jpg]. , and some have put together data summarising Kondratieff winters since the 1700's. While there is not much academic research corroborating Kondratieff's work, during periods of economic stress we tend to see increased interest in wave theories.

"... first by inflation and then by deflation, ..."

Mutant — Thu, 20 Nov 2008 04:28:22 -0800

Tangible evidence of deflation? The prices of commodities, houses and a wide range of consumer goods have collapsed, with observers predicting continued declines. While many point back to The Great Depression as an example of damaging deflation, the recession of 1920-1921, a frequently overlooked period in economic history, is perhaps the best example we've got of a deflationary wave similar to what might now taking place. During the period 1920 to 1921, wholesale prices declined some 36%, "the largest one year decline on record" (Vernon, 2007)¹ [.pdf] . By contrast, US CPI declined 1% for the month of October alone (roughly 13% annualised), the largest drop observed in 61 years, and a rate that may accelerate as The Great Unwinding continues. Deflation: The Good, The Bad and The Ugly. Excellent single link deflation Q&A. ¹Vernon, J., R., 2007, The 1920-21 Deflation: The Role of Aggregate Supply, Economic Inquiry, Volume 29 Issue 3, pp 572 - 580