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

Friday, July 30, 2010

Really great links - Recession warning - Ice Age - Black Friday - TARP

John Hussman - Recession warning - "Based on evidence that has always and only been observed during or immediately prior to U.S. recessions, the U.S. economy appears headed into a second leg of an unusually challenging downturn."

Albert Edwards - Ice Age - "We are at the most dangerous stage in the Ice Age – the ‘post-bubble cycle’. For although it is clear that leading indicators have turned downwards, the choir of sell-side sirens is singing its song of reassurance. The lesson from Japan was that once the cyclical rally is over, any downturn in the leading indicators should find you stuffing beeswax in your ears to block out that lilting melody so as to avoid the jagged rocks of recession.
        My views on the outlook could not be clearer. They may be wrong, but at least they are clear. We still call for sub-2% 10y bond yields and equities below March 2009 lows.
        I have for a very long time likened events now unfolding with what we saw in Japan a decade ago. Of course there are some major differences, but one can still draw clear parallels to see how extreme equity overvaluations unwind in a post-credit bubble world.
        I have long maintained that even within a structural bear market, there are huge returns to be made in equities from participating in short-lived cyclical rallies like the one we have just seen. The Nikkei regularly used to enjoy 40-50% rallies as policy stimulus drove pronounced cyclical upturns in both GDP and profits. You had to remember however that you were still in a structural bear market and you had to get out when the cycle began to top out. A downturn in the leading indicators proved to be a very useful sell signal for equity investors."

Craig Pirrong - Black Friday, 24 September, 1869 - "I have long been fascinated by Black Friday, 24 September, 1869. On that day, a massive corner in gold collapsed, throwing the American financial system into chaos.
        My initial interest in the subject stemmed from my interest in corners <..>. The episode shows how corners work; how they can fail; and interestingly, illustrates some of the game theoretic aspects of corners. Specifically, Fisk and Gould were in a prisoners’ dilemma, and in the event, Gould ratted out on Fisk, selling when prices were driven up at the end by a surge of Fisk buying. When Fisk stopped buying, the price collapsed, leaving Fisk with a boatload of losses, and Gould with a nice gain. (Gould was actually selling to his erstwhile partner Fisk in some of his trades.)
        But Black Friday also relates to one of my other obsessions–clearing. Since about 1997, I’ve used the story of Black Friday to show that (a) clearinghouses can fail, and (b) that the consequences of said failure are catastrophic."

Tweet of the day - Garett Jones - TARP - "U.S. Stock Mkt Cap: $15T. Fall in stocks when House rejected TARP: 7%=$1T. P(PermReject|Vote)=1/3. So value of TARP=$3T."

Tuesday, July 27, 2010

Really great links - Next credit crisis - Choc-finger - Monetary aggregates -

Craig Pirrong - Capital standards and the next crisis - "Enhanced capital requirements are again being touted as a way of preventing the next crisis. But the Basel Rules were a response to a crisis–the Latin American debt crisis–that paved the way for the next one.
        If the incentive system encourages financial institutions to take on tail risks (due, for instance, for implicit government guarantees), those institutions will find the vulnerabilities in the capital requirements through which they can smuggle such risks onto their balance sheets, like hackers identifying and exploiting each new vulnerability in Windows.
        The existence of vulnerabilities is inevitable–no centrally created set of risk prices will be even close to right. Which means that enhanced capital requirements provide a false sense of security.
        The problem is that the ability of the institution that can price risks more accurately–the capital markets–is fatally undermined by the very real prospect of bailouts of institutions that fail. That is the Original Sin, and as long as we remain in that fallen state, a future crisis is almost inevitable, capital requirements or no. Indeed, the main effect of capital requirements as implemented will be to determine exactly what causes the crisis, not the likelihood of its occurrence."

Craig Pirrong - Chocolate Kisses, or the Financial Times in the Tank - "In this case, it appears that Armajaro already had customers for the cocoa delivered to it. See!, the commentor says, there is real demand, real customers. Well, if you know anything about manipulation, you know that the biggest danger is related to burying the corpse of the manipulation: that is, selling the massive deliveries that you take to squeeze the market. A clever fellow bent on manipulating the market pre-arranges the funeral. If the reports about forward sales of old crop cocoa to processors are correct, that was done in this case. So, rather than being exculpatory, such sales are actually evidence of manipulative intent.
        The other common excuse, again seen in my SA comments, is that the stuff that is delivered will be consumed. Well, duh. It’s not like the guy is going to eat it all himself, or burn it, or build houses out of cocoa beans. It is going to be consumed. But manipulation distorts consumption pattens–the timing and location of consumption. The stuff is consumed, but in the wrong place at the wrong time, and too much of it is shipped around to the wrong places. The fact that the delivered cocoa will eventually be consumed does not imply that the deliveries are efficient.
        All in all, none of the arguments raised in Armajaro’s defense are even remotely exculpatory, and some are actually adverse. A final judgment would require a full forensic and econometric evaluation of prices, pricing relationships, price-quantity relationships, and movements of cocoa. Time permitting I hope to do some of that. But at this juncture, there is sufficient evidence to conclude that there is a colorable case against Armajaro, and that the arguments raised in its defense are risible.
        Taking huge deliveries in a large backwardation is consistent with manipulation. This is especially true when one party takes all the deliveries. Delivery economics are pretty straightforward, and if they work for one party they tend to work for several. One firm taking all of the deliveries is suspect."

J├╝rgen Stark - Member of the Executive Board of the ECB - Analysis of M3 and other monetary aggregates - "Money has been ignored. In the canonical New Keynesian macro-model on which the intellectual foundations of inflation targeting rests, money has been considered a redundant element in the monetary transmission mechanism. At best, money is seen as a useless appendix to the model, serving only to confuse and distract any policy-maker misguided enough to consider it. Now that the financial crisis has exposed the fault lines underlying this model...
        The timing of this work in 2007 to enhance monetary analysis was most opportune. Having faced excessive money growth for years, we were indeed perceiving severe challenges. The calls we received at the time were to simply ignore them. We did not find reassurance in these calls. We remained uneasy, but we had no idea ex ante how the excesses in money and credit would eventually unwind.
        At the time, we issued warnings about upside risks to inflation. Eventually the imbalances manifested themselves in successive asset price collapses, a systemic banking crisis, a sharp deceleration in money and credit growth, and a precipitous fall in output.
        Despite our humble performance as economists in forecasting this specific sequence of events, no one can credibly claim that what actually materialised was the most likely among a range of possible scenarios. I think it is fair to say that in order to contain risks to price stability – whether to the up or the downside – there was a pressing need to head off these excesses, instead of dealing with them after the fact.
        Because of the current financial stability issues, we have been applauded for the monetary analysis, but we are again called to limit its scope. Previously we were asked to plug monetary information into an inflation forecast. Now we are being asked to plug it into the emerging framework for macro-prudential analysis. As a by-product, monetary analysis may both help and be helped by the analysis of bank balance sheets for macro-prudential purposes. However, we do not want to limit monetary analysis to this end. We need to maintain a comprehensive view of the transmission of money to the economy and to focus on pursuing price stability, in line with our mandate."

Monday, July 26, 2010

Really great links - Misallocating resources - Death of paper money - Austerity - DeLong vs. Rogoff

John Hussman - Misallocating resources - "Since the late 1990's, many employees have earned paychecks for producing capital goods that did not turn out to be worth what companies spent, and consumers have received loans for amounts which they are not actually able to repay. Both of these outcomes have been the economy's way of forcing a large but rather overlooked "correction" in the income distribution back from corporate profits (and by extension shareholders) and toward the average American worker.
        All of this is extraordinarily inefficient, because some people have effectively received windfalls (for example, those who sold their homes at the top of the real estate bubble, and those who have defaulted on large amounts of consumer credit), while other hard-working people have been stiffed. But one way or another, the equilibrium outcome of the economy has been to ensure - whether the transfer of purchasing power was voluntary or not - that American workers were able to purchase the output that was actually produced by the economy.
        What's fascinating about this, however, is that shareholders are still ignoring it. They also ignore the large percentage of reported earnings that are actually quietly distributed to corporate insiders through the issuance of stock and options. They blindly accept that "share repurchases" are somehow a pleasant distribution of earnings, whereas the majority of share repurchases are actually made by companies to do nothing more than offset the dilution from stock shares and options granted to insiders. A good question to ask in the years ahead, immediately after profits are reported, is "how much of this figure is actually delivered to shareholders?" If you've been attentive over the past decade, the answer turns out to be much closer to the dividend yield than to the operating earnings yield that companies have reported.
        For a moment, at least, it is good to be a corporate insider, particularly at major financial companies. First, you get to report productivity gains and "operating profits" - not by making smart investments in productive assets, but instead by writing up debt thanks to Treasury intervention, by misstating your balance sheet thanks to FASB changes last year, and at industrial firms, by cutting the number of workers per unit of capital. Next, you quietly write off large losses on bad investments and unrecoverable loans as "extraordinary expenses," to which investors pay no notice. And to add insult to injury, you deliver a significant portion of the remaining profits to yourself as "incentive compensation," followed by buybacks of stock to offset the dilution, which investors actually cheer because they don't realize they've been taken for suckers."

Ambrose Evans-Pritchard - Velocity of paper money - "The crucial passage comes in Chapter 17 entitled "Velocity". Each big inflation -- whether the early 1920s in Germany, or the Korean and Vietnam wars in the US -- starts with a passive expansion of the quantity money. This sits inert for a surprisingly long time. Asset prices may go up, but latent price inflation is disguised. The effect is much like lighter fuel on a camp fire before the match is struck.
        People’s willingness to hold money can change suddenly for a "psychological and spontaneous reason" , causing a spike in the velocity of money. It can occur at lightning speed, over a few weeks. The shift invariably catches economists by surprise. They wait too long to drain the excess money.
        "Velocity took an almost right-angle turn upward in the summer of 1922," said Mr O Parsson. Reichsbank officials were baffled. They could not fathom why the German people had started to behave differently almost two years after the bank had already boosted the money supply. He contends that public patience snapped abruptly once people lost trust and began to "smell a government rat".
        Some might smile at the Bank of England "surprise" at the recent the jump in Brtiish inflation. Across the Atlantic, Fed critics say the rise in the US monetary base from $871bn to $2,024bn in just two years is an incendiary pyre that will ignite as soon as US money velocity returns to normal."

Brad DeLong - Austerity - "Well, history tells us that there are times and circumstances when countries’ refusal to listen to calls for retrenchment and austerity has led to economic disaster. Times when a country’s supply of savings is inelastic and more government borrowing leads to sharp rises in and high real interest rates are times in which government budget deficits have drained the pool of savings, reduced private investment, and slowed growth--as they did in the U.S. in the second Reagan and the first Bush administration. Times when monetary and fiscal laxity leads to an expectation that government debt will be monetized and to rapid rises in inflation expectations are times in which policy has made a deep recession to restore price stability inevitable--as happened in the U.S. in the Nixon, Ford, and Carter administrations. And times when irrational exuberance on the part of foreign investors leads a country’s public or private sector to borrow heavily in foreign currency, it needs to pre-emptively retrench before foreign investor exuberance wears off, or else--as happened to East Asia in 1997-8, to Mexico in 1994-5, or to Argentina innumerable times since 1890."

Brad DeLong - Rogoff is wrong on debt worries - "Prof Rogoff sees the economy now as suffering from structural maladjustments generated by the expansion of the 2000s in which workers must be trained in new kinds of jobs and shifted over to different sectors in which they have no previous experience, and that that process cannot proceed rapidly without generating inflationary pressures that will destabilise confidence in price stability. I see an economy in which there is enormous slack pretty much everywhere – empty retail storefronts in Berkeley just to my left, anyone? – in which even the US housing stock is no longer above its trend, and in which we are currently building houses at half the trend pace. If output in even our single-family residential-housing sector is significantly depressed below its steady-state growth value – if, economy-wide, 10 per cent of the spending that ought to be there is missing – then we need not policies that carefully create new jobs only in the appropriate sectors but instead policies that create new jobs pretty much anywhere."

Friday, July 23, 2010

Really great links - Time for monetary stimulus - Fiscal future

Joseph Gagnon - Time for a monetary boost - "Clearly, the case for monetary stimulus is strong. But what form should it take? With financial markets now in healthier shape, the Fed does not need to invoke the "unusual and exigent circumstances" clause to lend directly to the private nonbanking sector. Rather, it should return to its traditional roles of lending to the banking system and buying Treasury securities. Three actions, in particular, would be helpful at this time.
        First, the Fed should lower the interest rate it pays on bank reserves to zero. This is a small step, as the current rate is only 0.25 percent, but there is no reason to pay banks more than the rate paid by the closest substitute, short-term Treasury bills. Three-month Treasury bills currently yield 0.15 percent, and that rate, too, should be brought down to zero.
        Second, the Fed should bring down the rates on longer-term Treasury securities by targeting the interest rate on 3-year Treasury notes at 0.25 percent and aggressively purchasing such securities whenever their yield exceeds the target. That is a 65-basis point reduction from the current rate of 0.90 percent. This step would also push down longer-term yields and reduce a wide range of private borrowing rates, encouraging business investment, supporting the housing market, and boosting exports through a weaker dollar. Moreover, pushing down yields on short- to medium-term Treasury securities is precisely the strategy for fighting deflation recommended by Ben Bernanke in 2002.
        Finally, the Fed could bolster the stimulative effects of these actions by establishing a full-allotment lending facility to enable banks to borrow (with high-quality collateral) at terms of up to 24 months at a fixed interest rate of 0.25 percent."

Niall Ferguson - Today’s Keynesians have learnt nothing - "When Franklin Roosevelt became president in 1933, the deficit was already running at 4.7 per cent of GDP. It rose to a peak of 5.6 per cent in 1934. The federal debt burden rose only slightly – from 40 to 45 per cent of GDP – prior to the outbreak of the second world war. It was the war that saw the US (and all the other combatants) embark on fiscal expansions of the sort we have seen since 2007. So what we are witnessing today has less to do with the 1930s than with the 1940s: it is world war finance without the war.
        But the differences are immense. First, the US financed its huge wartime deficits from domestic savings, via the sale of war bonds. Second, wartime economies were essentially closed, so there was no leakage of fiscal stimulus. Third, war economies worked at maximum capacity; all kinds of controls had to be imposed on the private sector to prevent inflation.
        Today’s war-like deficits are being run at a time when the US is heavily reliant on foreign lenders, not least its rising strategic rival China (which holds 11 per cent of US Treasuries in public hands); at a time when economies are open, so American stimulus can end up benefiting Chinese exporters; and at a time when there is much under-utilised capacity, so that deflation is a bigger threat than inflation.
        Are there precedents for such a combination? Certainly. Long before Keynes was even born, weak governments in countries from Argentina to Venezuela used to experiment with large peace-time deficits to see if there were ways of avoiding hard choices. The experiments invariably ended in one of two ways. Either the foreign lenders got fleeced through default, or the domestic lenders got fleeced through inflation. When economies were growing sluggishly, that could be slow in coming. But there invariably came a point when money creation by the central bank triggered an upsurge in inflationary expectations."

Monday, July 19, 2010

Really great link - Financial reform that should have happened

The Money Demand blog is on a holiday and will return on Friday. Meanwhile, here is a link to one of the better financial reform proposals. Alas, the "reform" that we have have now will do nothing to prevent the credit boom-bust cycle.

Tuesday, July 13, 2010

Really great links (precognition edition) - Tyler Cowen - Jeremy Grantham

Tyler Cowen (January 2005) - If I believed in Austrian business cycle theory - "1. I would think that Asian central banks, by buying U.S. dollars, have been driving a massive distortion of real exchange and interest rates.
        2. I would think that the U.S. economy is overinvested in non-export durables, most of all residential housing.
        3. I would think that we have piled on far too much debt, in both the private and public sectors.
        4. I would think these trends cannot possibly continue."

Jeremy Grantham (September 2007) - Danger: Steep drop ahead - "But even if this crisis is contained, we are facing some near certainties that should be understood.
        First, house prices may move on euphoria in the short term, but long term they depend on family income - the ability to pay mortgages and rent. At levels well above the normal four times family income, the market gradually loses first-time buyers until prices break and fall back to affordable levels.
        Second, profit margins are at record levels around the world. They have lifted stock prices directly alongside the rising earnings. They have served to raise P/E multiples as well, for surprisingly, investors on average reward higher margins with higher P/Es. This is fine for an individual stock, but for the entire market, multiplying boom-time profits by high P/Es is horrific double counting and sends markets far too high in good times (and far too low in bad times).
        Third, and most important, risk will be repriced. Last year a broad base of risk measures - including volatility (VIX), junk and emerging debt spreads, CD rates, high-quality vs. low-quality stock values - reflected the lowest risk premiums in history. On some data, indeed, investors actually appeared to be paying for the privilege of taking risk."

Thursday, July 8, 2010

Really great links - Macroeconomic tail risks - Keynes and Geithner

Brad DeLong - Macroeconomic tail risks - "What is the "macroeconomic tail risk" which, Gabaix claims, it is individually rational for businesses to fear, and hence makes it collectively and socially rational for businesses to save and refuse to invest?
        Gabaix never says.
        Is it a fear that we will suddenly forget the past generation of progress in technology and organisation, and that only businesses with cash will be able to regroup and survive and evolve business models that will fit our reversion to the technologies of the 1970s? No. Is it a fear that workers will suddenly develop a very strong taste for leisure and that as a result real wages will have to rise massively, and that only businesses with cash will be able to regroup and evolve new business models that will fit the new higher-real-wages economy? No. Yet those are the only two "macroeconomic tail risk" shocks I can think of that would make it socially and collectively rational for businesses as a group to refuse to invest in new capacity right now—for, after all, whatever new capacity we build will be unusable if we forget our technological knowledge, and unprofitable if the real wage rises massively. Thus I believe that Professor Gabaix is hopelessly confused when he claims that "macroeconomic tail risk" makes it socially and collectively rational—"optimal" is the word he uses—for businesses to save rather than invest.
        The macroeconomic tail risk that businesses today fear is not a Great Forgetting of technology and organisation or a Great Vacation on the part of the North Atlantic labour force. The macroeconomic tail risk that businesses fear is another breakdown of the credit channel: a situation in which banks dare not lend because they cannot themselves raise funds, and they cannot themselves raise funds because every possible source fears that the bank itself is underwater—has no skin in the game of intermediating the flow of funds and every incentive to gamble for resurrection by playing a game of "heads I profit, tails you pay" with its creditors. Asset price declines that impair the capital of financial intermediaries greatly magnify the principal-agent problems of finance, and it is that magnification of principal-agent problems and consequent cutoff of their own access to additional funding when they need it that underpin business desires to boost their holdings of safe, high-quality financial assets at the expense of their ownership of real physical capital."

John Hussman - Keynes and Geithner - "The Keynesian view is that government spending is simply a monolithic letter "G." Keynes cared little about the productivity or lack thereof to which public resources were devoted, even writing " If the Treasury were to fill old bottles with bank-notes, bury them at suitable depths in disused coal-mines which are then filled up to the surface with town rubbish, and leave it to private enterprise on well-tried principles of laissez-faire to dig the notes up again... there need be no more unemployment." The only difference between Keynes and Tim Geithner is evidently that Geithner prefers to place the bottles a bit closer to Wall Street."

Monday, July 5, 2010

Really great links - Undervalued assets - Sticky wages - European stress tests - Trapped in depression - Greece

Robert Hall - Interview with Minneapolis Fed - Q: What should be done by the Fed - A: "Well, it does point in the direction of focusing on things like lower rates for corporate bonds, BAA corporate bonds. They appear to be undervalued private assets, although that’s not been one of the types of assets that policy has seen as appropriate to buy or to help private organizations to buy. That would be one way to turn."

Alex Tabarrok - Sticky wage transmission mechanisms - "Tyler, for example, writes:
        [Consider] illegal immigrant Mexican construction workers, a group which lost jobs in large numbers following the crash. Are they -- who often came from $1 a day environments -- also supposed to have sticky wages? They are out of work in massive numbers.
        The focus here is on the unemployed workers with the argument implicit that it's the stickiness of their wages which counts (which makes sense given the standard story). But suppose that the problem is that firms can't get capital to expand--perhaps because the banking system is not working well--then what matters for firm expansion is free cash flow. But sticky wages keep firm costs high, reducing free cash flow "

Yves Smith - European stress test - "Imitation is the most sincere form of flattery. The ECB and European bank regulators are copying the US playbook for the stress tests, with results for 100 banks expected to be released around July 23. But the European authorities seem to have failed to understand why the US effort worked. The first was that Team Obama is particularly good at PR, and it used those skills to full advantage. Despite considerable evidence otherwise, it got the press to convey the message that the tests were tough, and the banks really were sound. Second, Geithner & Co. had a kitty they could draw on.
        By contrast, the Europeans have been simply dreadful at the optics of their various rescue operations, with disarray and disagreements covered extensively by the media. Admittedly, this exercise is being conducted by bank regulators, so it is likely to be more cohesive, but “more cohesive”, with a process involving agencies in different countries, may not be cohesive enough. And “show me the money” is a major problem. The reason for this exercise is concern over possible sovereign debt losses. Who is going to back up the banks at risk? Um, sovereign states, admittedly ones not considered at risk of default (France and Germany), but whose ability to bail out their own banks is limited for practical and political reasons."

Ambrose Evans-Pritchard - Trapped in depression - "It is obvious what that policy should be for Europe, America, and Japan. If budgets are to shrink in an orderly fashion over several years – as they must, to avoid sovereign debt spirals – then central banks will have to cushion the blow keeping monetary policy ultra-loose for as long it takes.
        The Fed is already eyeing the printing press again. "It's appropriate to think about what we would do under a deflationary scenario," said Dennis Lockhart for the Atlanta Fed. His colleague Kevin Warsh said the pros and cons of purchasing more bonds should be subject to "strict scrutiny", a comment I took as confirmation that the Fed Board is arguing internally about QE2.
        Perhaps naively, I still think central banks have the tools to head off disaster. The question is whether they will do so fast enough, or even whether they wish to resist the chorus of 1930s liquidation taking charge of the debate. Last week the Bank for International Settlements called for combined fiscal and monetary tightening, lending its great authority to the forces of debt-deflation and mass unemployment. If even the BIS has lost the plot, God help us."

John Dizard - It’s no secret: Greece is restructuring debt - Healthcare system liabilities - "You don't need to be a secret agent to find out that Greece has started to restructure its state debts"

Thursday, July 1, 2010

Really great links - Panic of 2007 - Pass the parcel - Tax cuts - Marginal product of capital

Joseph Tracy, Executive Vice President, NY Fed - Panic of 2007 - "There are many parallels between the Panic of 1907 and the events of 2007. In both cases, credit intermediation had shifted outside of the core banking sector. An investment boom preceded each panic—the earlier in copper and the later in housing—with much of the credit being funded by sources outside of any existing liquidity protections. When the bubbles began to deflate and prices began to fall, loan defaults quickly developed precipitating funding runs on the institutions involved in extending this credit. What seemed like large liquidity buffers by individual firms were quickly drawn down. Funding withdrawals precipitated asset sales, which put further downward pressure on asset prices. The resulting credit contractions adversely affected the real economy, setting up an adverse feedback loop that exacerbated the initial losses.
        Given the parallels between the events of 1907 and 2007 and, more importantly, the similarities of the lessons learned from those episodes, I believe the most instructive name for our latest financial crisis is the "Panic of 2007." In the rest of my remarks, I will explore in greater detail the factors behind the panic, as well as the responses by the Federal Reserve.
        If the lessons from the panics of 1907 and 2007 are incorporated into the reforms, we may well avoid the Panic of 2107."

Martin Wolf - This global game of ‘pass the parcel’ cannot end well - "Our adult game of pass the parcel is far more sophisticated: there are several games going on at once; and there are many parcels, some containing prizes; others containing penalties.
        So here are four such games. The first is played within the financial sector: the aim of each player is to ensure that bad loans end up somewhere else, while collecting a fee for each sheet unwrapped along the way. The second game is played between finance and the rest of the private sector, the aim being to sell the latter as much service as possible, while ensuring that the losses end up with the customers. The third game is played between the financial sector and the state: its aim is to ensure that, if all else fails, the state ends up with these losses. Then, when the state has bailed it out, finance can win by shorting the states it has bankrupted. The fourth game is played among states. The aim is to ensure that other countries end up with any excess supply. Surplus countries win by serially bankrupting the private and then public sectors of trading partners. It might be called: “beggaring your neighbours, while feeling moral about it”. It is the game Germany is playing so well in the eurozone.
        What have these four games to do with the G20 summit? In a word, everything. The first game scattered toxic assets across the financial system. The second left the non-bank private sector with a debt overhang and deleveraging. The third duly damaged the finances of states. The fourth helped cause the crisis and is now an obstacle to recovery. Above all, these games are all linked to one another and so have to be changed together."

Gauti Eggertsson - What fiscal policy is effective at zero interest rates? - "Tax cuts can deepen a recession if the short-term nominal interest rate is zero, according to a standard New Keynesian business cycle model. An example of a contractionary tax cut is a reduction in taxes on wages. This tax cut deepens a recession because it increases deflationary pressures. Another example is a cut in capital taxes. This tax cut deepens a recession because it encourages people to save instead of spend when more spending is needed. Fiscal policies aimed directly at stimulating aggregate demand work better. These policies include 1) a temporary increase in government spending; 2) temporary tax cuts directly aimed at stimulating aggregate demand rather than aggregate supply, such as an investment tax credit or a cut in sales taxes. The results are special to an environment in which the interest rate is close to zero, as observed in large parts of the world today."

Tweet of the day - Garett Jones - "Marginal product of capital that matters is net, not gross. MPK-depreciation rate<0 likely true when K not very useful."

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