"If money isn't loosened up, this sucker could go down" - George W. Bush warned in September 2008

Friday, May 21, 2010

Really great links - Fed - Greece - Debt overhang

Tim Duy - Fed disconnect - "To summarize, the Fed believes we are facing another threat to demand, either via financial or real trade linkages, at a time when lending activity continues to fall, suggesting that monetary policy is too tight to begin with. But the Fed stance is to believe that monetary policy is on the verge of being too loose, and, if anything, planning needs to be made to tighten policy. At the same time, Fed policymakers also believe fiscal policy needs to turn toward tightening as well. Meanwhile, unemployment hovers just below 10%, nor is it expected to decline rapidly, and inflation continues to trend downward.
        All of which together suggests that the Fed's policy stance is seriously out of whack with policymaker's interpretation of actual and potential economic developments. And I have trouble explaining the disconnect."

Crispin Odey (via Jonathan Davis) - Greece - "The shorthand story of Greece (according to Odey) is that this was an economy, not unlike many emerging market economies, in which prior to entry into the EU and more importantly the Euro, tax revenues raised 25% of GNP, the government spent 28% of GNP and the deficit of 3% of GNP was funded by the printing press. The ensuring inflation of 10% meant that interest rates were at 15%. Government debt loitered around 40% of GNP making interest payments equal to 6% of GNP. Stability of a sort prevailed, poverty of a sort held rein.
        The Greeks enter the Euro. The government starts thinking like Brussels. Spending rises effortlessly towards 40% of GNP. Taxes rise to 31%. The shortfall is no longer monetised. Fellow Europeans now buy the debt issued. Interest rates fall to Euro levels. Average cost of debt falls to 5% and the government contents itself that although their debt has risen to 120% of GNP they are still only paying out 6% of GNP in interest payments. Then the lenders finally awake from their happy slumbers and realise that this debt is never going to be repaid. The wake-up call came from the new government denouncing the previous government’s tax revenue numbers."

Baseline Scenario - Debt overhang - "Prime Minister George Papandreou said this week that Greece needs to see strong investment in order for the austerity program to work. While the government cuts fiscal spending, he said, it needs new private business to employ the dismissed workers so that they are productive, can pay taxes and do not need unemployment benefits.
        The problems are strikingly reminiscent of Latin America in the 1980s. Those nations borrowed too heavily in the 1970s (also, by the way, from big international banks) and then — in the face of tougher macroeconomic conditions in the United States — lost access to capital markets. For 10 years they were stuck with debt overhangs, just like the weak euro zone countries, which made it virtually impossible to grow.
        Debt overhangs hurt growth for many reasons: business is nervous that taxes will go up in the near future, the cost of credit is high throughout society, and social turmoil looms because continued austere policies are needed to reduce the debt. Some Latin America countries lingered in limbo for a decade or more."

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