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

Tuesday, June 22, 2010

Really great links - Inflation - Deficits - Germany

John Cochrane - Inflation - "The scenario leading to inflation starts with poor growth, possibly reinforced by to larger government distortions, higher tax rates, and policy uncertainty.
        Lower growth is the single most important negative influence on the Federal budget. Then, the government may have to make good on its many credit guarantees. A wave of sovereign (Greece), semi-sovreign (California) and private (pension funds, mortgages) bailouts may pave the way. A failure to resolve entitlement programs that everyone sees lead to unsustainable deficits will not help.
        When investors see that path coming, they will quite suddenly try to sell government debt and dollar-denominated debt. We will see a rise in interest rates, reflecting expected inflation and a higher risk premium for U.S. government debt. The higher risk premium will exacerbate the inflationary decline in demand for U.S. debt. A substantial inflation will follow — and likely a “stagflation” not inflation associated with a boom. The interest rate rise and inflation can come long before the worst of the deficits and any monetization materialize. As with all forward-looking economics, no obvious piece of news will trigger these events. Officials may rail at “markets” and “speculators.” Economists and the Fed may scratch their heads at the sudden “loss of anchoring” or “Phillips curve shift.”"

John Cochrane - Deficits and default - "Put another way, the U.S. problem, large prospective deficits with a relatively small stock of outstanding debt, would otherwise put us in a real fiscal pickle, since we can’t devalue debt we haven’t issued yet. Even an infinite price level — a default of all outstanding US debt, cutting future interest payments to zero — is not enough to pay for the CBO’s projections of Social Security and Medicare deficits. On the other hand, the fact that real surpluses increase with inflation makes it much more likely that the government will choose inflation rather than explicit spending cuts. Again, one should not think of surpluses as exogenous in this fiscal analysis. Really we should think of the Government’s decision to inflate, trading off distorting taxes, useful or politically popular spending, and the distortions caused by inflation, and the ability to place blame elsewhere in making this decision."

Tyler Cowen - Understanding German fiscal policy - "The Germans see themselves as having made the necessary wage adjustments, in advance, and in a manner that Keynesian economics is skeptical of. The Germans also see themselves as having produced and maintained true credibility about future fiscal policy (how many other countries can claim that?) by a constitutional amendment, a lot of tough talk, and a relatively robust real economy. German bonds are a safe haven investment, even though Germany's numbers, such as the debt-gdp ratio, are not overwhelmingly wonderful. That's a testament to German public sector management.
        Did I mention that -- after unification -- the Germans tried (against their will, they had to) more than a decade of massive fiscal stimulus, and subsidization of consumption, starting with well under full employment, and yet with mediocre results? That wasn't long ago."

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