Tuesday, May 28, 2013

Too little, too late, EU remains on the wrong track

In its annual verdict on national budgets of all 27 EU members France, 
Spain and the Netherlands will be given a waiver on the annual 3 per cent deficit limit. Brussels will also free Italy from intensive fiscal monitoring despite its new prime minister’s decision to reverse a series of tax increases imposed by his predecessor. EU eases hard line on austerity.
(Spiegel, 2103)

This is fine but ultimately theatrics. Europe's policy makers have enabled an initial recession --that was triggered by the irresponsibility of the continent's banking sector-- to turn into a depression all for the ostensible purpose of adherence to a sound finance regime that was consistent with the Maastricht Treaty. We see the result in the massive unemployment numbers, particularly amongst youth in the periphery.
Policy prescriptions that wish to mimic the austerity experience of Canada in the 1990s would do well to remember the following:

Is there a flexible exchange rate to help with adjustments?
See how the Canadian dollar fared with the US dollar during the period 1990-2003.

Is your main trading partner growing?
After the downturn at the end of the G.H.W. Bush era the United States experienced strong growth during the Clinton terms, enabled in no small part by the flood of capital to replenish the nation's fixed capital stock during what would be called the tech boom.

How is your main trading partner's labour market?
Robust in the case of the United States during Canada's austerity drive (see the line representing Clinton).

How is your main trading partner's fiscal house?
National debt as a percentage of GDP improved during the two Clinton terms.
Austerity is tough medicine but for a small open economy like Canada's it was made possible thanks to external factors. The biggest factor being that its main trading partner, the United States, was in a healthy situation and the destination for its exports and Canada was able to depreciate its way to growth with the CADUSD exchange rate hitting 0.63 in 2003. Concurrently, the following happened below:
Canada's Balance of Trade (1990-2003)

Canadian GDP growth rate --note that it improved but is markedly lower than that of the United States (above)
Government Debt to GDP peaked in the mid 1990s to come down once growth was re-established.
Federal Budgetary Balance: Government had its fiscal house 'in order' so to speak by the turn of the century.
None of this will happen in the Eurozone. The peripheral nations have been sent to purgatory with little hope of emancipation; those wishing for structural reform as a result of the troika's edicts fail to recognize that such reform is an issue of political economy that the sovereign nation's body politic must come to grips with --it isn't something that will be solved by narrowly restrictive policy tools.

I will use Rob Parenteau's words to sum up as he was one of the original analysts who warned of the dire consequences of austerian policies (the full deck can be downloaded from this page).

The Eurozone Predicament: 3 Policy Strait jackets and Market Fundamentalism
  • Common currency means varying nominal exchange rate is not available to any one nation
  • Fiscal policy is subject to 3% fiscal deficit floor with fines
  • Monetary policy is subject to one size fits all committee
  • Burden of adjustment is largely shifted onto relative prices, private income deflation, and product innovation
  • Because markets are presumed to gravitate to full employment, utility maximizing equilibrium best on their own, undistorted by "artificial" policy interventions
  • If you rapidly reduce fiscal deficits in eurozone, you will also reduce private sector net saving
  • More difficult for private sector to service and reduce debt
  • Quest for fiscal sustainability in eurozone implies bank risk higher than government risk as private loans sour
  • Unless maxi-depreciation can produce large increase in trade balance for region as a whole, otherwise:
    • Peripheral eurozone trade balance swing tips up German , Dutch exporters unless new markets found

Parenteau's Key Takeaways:
  • If the current account is in deficit, and exchange rate policy is constrained, the private sector is more likely to be placed on a route to financial fragility and instability
  • The domestic private and government sectors cannot deleverage at the same time without a large, sustained increase in the trade (or current account) balance
  • Since European banks are more highly leveraged, the pursuit of fiscal sustainability may prove unsustainable if it lead to more private debt distress and bank losses.

Spiegel, Peter. "EU eases hard line on austerity." Financial Times, Online edition, sec. Europe, May 28, 2013. http://www.ft.com/intl/cms/s/0/22348284-c7a6-11e2-be27-00144feab7de.html
Thompson, . "Europe's Record Youth Unemployment: The Scariest Graph in the World Just Got Scarier." The Atlantic, May 05, 2013. http://m.theatlantic.com/business/archive/2013/05/europes-record-youth-unemployment-the-scariest-graph-in-the-world-just-got-scarier/276423/ (accessed June 3, 2013).
Parenteau, Rob. "Minsky & the Eurozone Predicament: Transcending the Dismal Science." April 14-16, 2010. http://www.levyinstitute.org/conferences/minsky2010/

Demographic death knell of triple A sovereigns

 From FT.com (John Auther's Note).

Monday, May 27, 2013

Austerity's rationale courtesy of 18th century Scotland

The Scots have given us great thinkers in political economy. In the modern era, we had John Kenneth Galbraith, whose ancestry was Scottish, and more recently Mark Blyth, a professor of political economy at Brown University has taken to the airwaves to promote his book, "Austerity: The History of a Dangerous Idea".

Blyth goes back to the Scottish Enlightenment to show that in the current debate concerning austerity we remain in thrall to the ideas of Adam Smith and David Hume, in this article (excerpted below)"

Both Hume and Smith had good reason to fear debt, both public and private. British national debt grew from 5 percent of GDP in 1700 to 25 percent of GDP in 1761, rising to 34 percent of GDP in 1814 at the height of the Napoleonic wars. Hume’s opinion was sharpened by the bankruptcy of the Bank of France (thanks to the paper money scheme of fellow-Scot John Law), while Smith’s faith even in private credit was shaken by the bankruptcy of the Ayr Bank a few years before the publication of The Wealth of Nations.

However, both Hume and Smith were quite wrong about debt. Hume predicted the collapse of the British economy through debt financing by the late 1700s – just as the U.K. was about to go through a century of expansion and growth. Smith similarly predicted the growth of “enormous debts which at present oppress, and will in the long-run probably ruin, all the great states of Europe.” But the U.K. paid back its debts after 1815, with public debt falling to 6.6 percent of GDP by 1866 and remaining low until the next great war of 1914. In 1945, government spending amounted to 70 percent of the U.K.’s economy. But the debt fell once again as the economy grew and the debt was retired after the Second World War.

...the logic of government crowding-out private investment both pointed to seems to make sense (so long as we assume perfectly efficient markets and positive interest rates). And it’s in part because economists’ inherent distrust of the state and all its works persists. But it may also be because Smith and Hume do have a point, one that Keynes would agree with.

Keynes famously said that ‘the boom, not the slump, is the time for austerity.’ Yet in the boom, when money is plentiful, there is no incentive for a minister, as Hume had it, to raise taxes and pay back the debt. Rather, we hope that growth will do the job for us, or we delegate the task out to the central bank, which as Smith reminds us, is owned by the same merchant interest. So we never do austerity in the boom. We give ourselves another round of tax cuts instead such that the bias towards debt that our Scots forebears noted continues, even in the good times. [emphasis added]

Blyth, Mark. "Austerity’s Scottish Ghosts Haunt the Modern Economic Mind." The Daily Beast. . http://www.thedailybeast.com/articles/2013/05/12/austerity-s-scottish-ghosts-haunt-the-modern-economic-mind.html (accessed May 27, 2013).

Thursday, May 23, 2013

Times change, and so do Canadian expectations...

In a post from last September there was surprise on the part of your blogger as to why the dealing community was so bullish in terms of expectations for the Bank of Canada raising benchmark interest rates this year (2013). Anyone that has followed the musings and scribblings of your humble scribe is aware of his reticence in conceding to the inexorable upward movement of rates as in times past; to wit, as has been argued on a number of occasions, this time --barring a co-ordinated global restructuring and co-operation by the G20-- is different from previous business cycles where rates have risen in a lock step fashion with the business cycle.

But times change, and so do Canadian expectations...

The median end of quarter forecasts see no change in BOC rates from the dealing and analyst community. Indeed, the median and mode forecasts for the BOC benchmark rate in 2014 is 1.00% -- exactly where it is right now. Of course, this does not preclude the possibility of a rate hike in 2014. We live in the real world replete with uncertainty --it can be of either the Knightian or Keynesian brand-- not the imaginary world of rational expectations. But fundamentally, the dealers and analysts are seeing the same data that you and I are seeing:

Source: Box 4 - Bank of Canada Monetary Policy Report

Canadian economic activity was weaker than expected in 2012. On an average annual basis, real GDP grew by 1.8 per cent, compared with the 2.4 per cent projected in the April 2012 Monetary Policy Report The most important contributors to this unexpected weakness were exports and, to a lesser extent, business fixed investment, the effects of which were only partly off set by higher inventory investment and weaker imports (Chart 4-A) Government expenditures and household spending were roughly in line with expectations. [emphasis added]

For example, Canadian exports of non-energy commodities to China and other emerging-market economies (EMEs) have become more significant to Canadian trade in recent years EMEs recovered relatively quickly from the global recession, but their economic growth was weaker in 2012 than the Bank had expected Finally, competitiveness challenges may also have played a role, with the Canadian dollar remaining strong and productivity growth weak

Approximately two years ago, the BOC was making the bet that despite consumption tapping out the household sector and the government committing to fiscal retrenchment, a driver for sustained growth to close the output gap would be the business sector coming to the fore and stepping up with capital investment. This hasn't happened.
At the most basic level, notwithstanding headwinds from global dynamics, this is an incipient flow of funds issue. Why would the business sector invest without seeing the concomitant demand domestically. In turn, larger businesses are able to tap capital market to exploit return on otherwise moribund cash.

Marc Lavoie and Mario Seccareccia have framed the dynamic in their presentation "Competitive Pressures in the Banking Sector, Perverse Incentives, and Financial Stability: Understanding the Canadian Experience"
Instead of industry being the net borrower vis-à-vis the banking sector, growing profits and retained earnings associated with fairly flat business investment have slowly transformed (or “rentierized”) the non-financial business sector itself into a net lender that seeks profitable outlets that provide high financial returns for its internal funds (see Fig. 2 below).

On the other hand, households have become net borrowers and have thus become an additional source of revenue for business enterprises from the increasing net spending of the household sector.
Banks have become financial conglomerates engaged in lucrative investment banking by layering their assets, engaging in cross-boundary arbitrage, and loosening credit by permitting the household sector to take on an increasing debt load without a concomitant rise in real personal disposable income. [emphasis added]
Without the rise in real incomes the stock of rising debt will have to be serviced for years to come. The younger demographic cohort needs to service that stock of debt with a flow of income that isn't rising as fast as the real cost of living (that incorporates supply side shocks of rising food, transportation, and childcare costs for those with families).

The older demographic, likes cohorts before them, will not have the same propensity to consume as they did during their working years and the rise in the dependency ratio is just beginning in Canada.

Outgoing Bank of Canada Governor, Mark Carney, in a characteristically sermon like passage yesterday warned:
We cannot grow indefinitely by relying on Canadian households increasing their borrowing relative to income. Nor can residential investment remain near a record share of GDP, particularly given signs of overbuilding and overvaluation in segments of the real estate market. [emphasis added]
The irony --if one can call it that-- is that the aggressive monetary easing has snookered the small open economy that is Canada into a corner. The underlying fragility of the household sector cannot withstand a 400 basis point rise in interest rates that have been characteristic during past recoveries but neither does the central bank want to encourage more borrowing in light of a policy of easy money in an uneasy world.

Friday, May 17, 2013

Despite C.D. Howe Institute's ministration BOC rates will remain where they are.

The Statistics Canada release this morning stated "The Consumer Price Index (CPI) rose 0.4% in the 12 months to April, following a 1.0% increase in March. Declining gasoline prices were largely responsible for the 0.6 percentage point difference in the 12-month change in the CPI. Price decreases for the purchase of passenger vehicles were also a factor."
The 12-month change in the Consumer Price Index (CPI) and the CPI excluding gasoline
This flies in the face of the Paul Masson's C.D. Howe clarion call for higher Bank of Canada rates when the central bank maintains the official line of maintaining a flexible inflation-targeting framework of core inflation at 2% within a 1-3% operating band.

An open question: where does the C.D. Howe Institute want the BOC rate to be by this time next year? In terms of the great bogey man of inflation, perhaps it is concerned about expectations and with it (inflation) being "always and everywhere a monetary phenomenon" hence that call for a pre-emptive BOC hike.

This misses on a fundamental observation that everyone should see (whether they choose to or not is another question). Over the long term, a tighter monetary policy will not help solve the underlying weakness in the Canadian economy --it is but one part of a toolkit of policy measures. The fact that governments increasingly rely on it is emblematic of a deliberate vacuum in the Canadian political economy debate where the voices of reason have been shoved to the side in favour of shills for vested interests.

As has been outlined on this blog on a number of occasions, we continue to have growth in precarious employment, a lack of real income growth for those below the affluent percentile, an increasing reliance on resource extraction, real estate and the low end service sector for job creation while implicitly knowing that the real estate as a driver of GDP growth during the past decade cannot continue forever. 

Residential investment (aka real estate development) party will be over (BOC MPR April 2013)

We, as a nation, are back to Harold Innis and W.A. Mackintosh's staples Canada with a pinch of race to the bottom globalization: hewers of wood, drawers of water and servers of French fries.

All of the aforementioned factors ultimately affect demand which in turn should be a driver for where output should be but in the traditional neoclassical view output is always supply side driven and the elusive ‘closing of the output gap’ we’ve been hearing about is, in theory, closing faster than a speeding bullet anytime now, or over the coming quarters…… or not.

Slack in the Canadian Economy (BOC MPR April 2013)

Paul Masson's C.D. Howe commentary urging a rise in the Bank of Canada rate is wedded to the rules over discretion role of monetary policy and presumably under a Taylor Rule regime the BOC rate would be ~3.5% (according to back of the envelope calculation)

Taylor Rule Model (Source: Bloomberg)
Professor Masson does make a number of valid points in his paper:
(i) low rates punish households that rely on investment income;
(ii) low rates disproportionately increase the long dated liabilities of pension plans and makes life challenging for insurance companies in particular but financial institutions generally;
(iii) low rates can be a driver for asset price bubbles;
(iv) in the Canadian context low rates have been a cause for 'evergreening' (further leveraging) rather than deleveraging.

While these points are valid, they do remain thoroughly incomplete:
(i) financial repression in addition to inflation is the oldest trick in the book as an alternative to growth to manage debt servicing;
(ii) actuarial deficits are based on a point in time projection and are open to criticism in their methodology but they do not represent a flow that adds to a stock of debt and financial institutions like banks have tractor investments on the asset side of their balance sheet that have shielded them somewhat after the financial crisis but fundamentally lower rates are not good for their net interest margins as they suffer margin compression; (iii) central banks have been deluded into thinking that macroeconomic policy with an inflation targeting framework has been responsible for controlling inflation and the recent run up in assets is the consequence but flow of funds into non productive assets by financial institutions has been going on for the good part of the past 15 years;
(iv) don't forget inequality: pent up demand to consume combined with greater barrier to enter the housing market has created the spike in the debt to income ratio.

Source: Debts and Assets: A Big Focus for Households (Sébastien LaRochelle-Côté, Chief Advisor, Statistics Canada )
Macroeconomics isn't just about science --when authors claim that it is they are being scientistic not scientific. It is also about recognizing the patterns from yesterday, understanding political and societal realities of today and weaving comprehensible narratives incorporating those elements for policy tomorrow.

At the federal level, Finance Minister Flaherty has pledged to slay the deficit by Fall 2015 and implied in this projection is that this will be done through positive growth rather than cuts. But what happens when the household and government sectors deleverage at the same time (as the former will have to do the latter has pledged to do)?

The business sector won’t be investing in fixed capital formation anytime soon, and doesn’t see the demand drivers to increase employment.

Source: Box 3 Factors Weighing on the Outlook for Business Investment (BOC MPR April 2013)
When you combine this with the demographic dilemma of an aging population in Canada and its Western trading partners --think of the Eurozone in particular but also China and eventually the United States-- for which there is no palatable prescription and  you will realize that there is little scope for monetary policy to be anything but accommodative at this time and into the medium term.

Policy makers have snookered themselves; raising rates would pre-emptively cause a severe recession with possible debt deflation consequence as a worst case scenario. This does not preclude the possibility of a rate hike in 2014 --stranger things have happened; think back to John Crowe's tenure as BOC governor-- but if that were to happen then expect a retracing back to 1% thereafter upon realization of the policy error.

Thursday, May 16, 2013

Getting a product to market -- what they don't cover in business school

Anyone who has had to sit through lectures on strategy knows of Porter's Five Forces:

Anyone who has specialized in understanding how new technologies get to market know of Geoffrey Moore's Crossing The Chasm:

Furthermore, the famous line from chapter two of Adam Smith's Wealth of Nations states
"It is not from the benevolence of the butcher the brewer, or the baker that we expect our dinner, but from their regard to their own interest. We address ourselves, not to their humanity, but to their self-love, and never talk to them of our own necessities, but of their advantages."
But what happens when the self interest of parties acts as a barrier to technological advancement that can bring a superior product to market? What happens when the self interest of parties is inimical to the safety of the consumer who purchases the said parties' products?

The website Fairwarning (1) exposes such behaviour and today highlighted the complicity of the power tool industry's attempt to stop a company called SawStop from successfully marketing the only saws with skin-sensing technology, in this piece: "After More Than a Decade and Thousands of Disfiguring Injuries, Power Tool Industry Still Resisting Safety Fix"

As Myron Levin and Lilly Fowler write

Read the rest of the story at www.fairwarning.org with the takeaway that (i) self interest isn't necessarily benign in terms of outcomes; it can be dangerous; (ii) invention and innovation often occurs outside the citadel of big business and getting something to market can involve navigating the complex world of powerful lobbies and legal obfuscation ("barriers to entry").

In closing, recall that Ralph Waldo Emerson stated that "If a man has good corn or wood, or boards, or pigs, to sell, or can make better chairs or knives, crucibles or church organs, than anybody else, you will find a broad hard-beaten road to his house, though it be in the woods" -- which is often misquoted as the building a better moustrap story -- but in reality market forces in the 21st century are not so simple.

(1) A shorter version is of the story is available at Mother Jones

Wednesday, May 8, 2013

Iron Lady's Lasting Legacy: Releasing The Kraken of Global Finance

At this time last month the passing of Margaret Thatcher was met with fulsome tributes from supporters and derisive attacks from detractors -- such was the polarizing nature of the Iron Lady. Thatcher's refusal to compromise, and belief in what she believed [1], was countered with her own contradictions: the ostensible promotion of classical liberal ideals contradicted by support of dictators, most notably Augusto Pinochet, who clamped down on the freedom and democratic choices of citizens [2]. As Richard Dowden wrote in The Guardian "A close aide once told me that she opposed apartheid more on the grounds that it was a sin against economic liberalism rather than a crime against humanity. She also was bitterly against sanctions of any sort – they were a crime against free trade." [emphasis added]
Readers of this blog understand the unapologetic empathy towards all people --particularly the lower classes-- finding their voice in society and having a say in their right to a decent livelihood. In contradiction, Thatcher famously went on to state that (in terms of society):
I think we have been through a period when too many people have been given to understand that when they have a problem it is government’s job to cope with it. ‘I have a problem, I’ll get a grant. I’m homeless, the government must house me.’ They are casting their problems on society. And, you know, there is no such thing as society.[emphasis added]
 The late Baroness' mastery of rhetoric belies an appalling acknowledgement  (or lack therof) of history, the ebb and flow of social relations that underpin economic transactions and the role of power and class in everyday life. Without an adherence to community and finding one's place in society there is no place for individual responsibility --as the individual would not be alive to make that choice; the two are different sides of the same coin and commentary to the contrary is naïvely pernicious.
Government is not the answer to all problems but it isn't necessarily the source of all problems either. The Old Institutionalist Economics framework of Thorstein Veblen, most eloquently forwarded by John Kenneth Galbraith in the modern era, understood the place of power: the power of Big Business, that of Government, and of Labour (or Unions in the 1970s) acting as a counterbalance against each other. More recently, William H. Janeway, who is a private equity veteran not a socialist, made the case for government in The Two Innovation Economies:

In the United States, the government constructed transformational networks (the interstate highway system), massively subsidized their construction (the transcontinental railroads), or played the foundational role in their design and early development (the Internet). Activist states around the world have funded basic science and served as early customers for the novel products that result. For a quarter-century starting in 1950, the US Department of Defense – to cite one crucial example – combined both roles to build the underpinnings of today’s digital economy.
Thatcher's rise to the top came not because the British people appreciated her ideas on economic policy but due to the complete detachment of Britain's public sector unions from the reality that the rest of the British public faced during the severe Winter of Discontent. The mere fact that Britain's old Labour party was seen as weak in the face of union militancy meant that the voting population's choice of Thatcher over James Callaghan was 'a rational choice.'
Sam Gindin, formerly of the CAW and presently a part of York University has framed unions in the following manner in a Jacobin magazine interview:
Unions emerged out of the working class but they are not class organizations. They bring together a subset of workers with a common workplace who look to the union to represent their particular interests. During the postwar period of growth and near full-employment, the wage gains and private welfare state negotiated (pensions, health care) spread to other unionized workers (and a few more universal demands like Social Security spread even more generally). But – and this is the lesson of the past three decades – that period has ended. Sectional unionism, even when militant, was no match for the corporate/state counter-attack of the 80s and 90s.
The capitulation of unions, and the defeat of labour by extension was made possible by the Iron Lady's lasting legacy: releasing the Kraken of Global Finance. The Kraken analogy is apt as the former sea creature has effectively defeated the Leviathan of Big Government in shaping policy that has ultimately shaped society over the past three decades. (Any resemblance of the Kraken below to Matt Tabbi's "great vampire squid wrapped around the face of humanity, relentlessly jamming its blood funnel into anything that smells like money" is entierely deliberate.)

There is no alternative: Release the Kraken

It happened in the City by way of The Big Bang in 1986 and set the stage for the deregulation of policies that had been enforced during the period after The Great Depression:
 From the 1930s to the 1980s, many countries had policies of financial regulation that included many of the following (See Endogenous Money 101 [4]):

  • (1) Interest rate ceilings;
  • (2) Liquidity ratio requirements;
  • (3) Higher bank reserve requirements;
  • (4) Capital Controls (that is, restrictions on capital account transactions);
  • (5) Restrictions on market entry into the financial sector;
  • (6) Credit ceilings or restrictions on the directions of credit allocation;
  • (7) Separation of commercial from investment (“speculative”) banks;
  • (8) Government ownership or domination of the banks. (Ito 2009: 431–433).
Jayati Ghosh, a professor at the Centre for Economic Studies and Planning at Jawaharlal Nehru University, wrote recently about global finance: capital flows, financialization [3], and the resulting asset inflation ("bubbles" in speculative rather than productive assets) in the developing world
Meanwhile, the other concern is that many developing countries are trying to cope with the continuing ramifications of the global crisis by generating their own bubbles in domestic asset markets. This happens in a variety of ways: stimulus measures that target sectors like real estate and housing; other fiscal concessions granted to encourage more financial saving and investment; liberal rules for extension of consumer finance for purchase of durable goods; financial liberalisation measures that encourage more expansion of the sector; and so on.
These may create temporary mini-booms in certain economies, but these are temporary at best and in the current fragile external environment they may be even more short-lived. And the bursting of those bubbles will be even more painful in the context of the global economic headwinds. At the same time they will also encourage the same tendencies that continue to make developing countries export capital to the North, at the cost of meeting their own citizens’ needs and fulfilling their own development projects.[emphasis added]
It was in relation to a McKinsey Global Institute report on "Financial Globalization: Retreat or reset?" and a PDF of Ghosh's article "Is Global Finance Finally Shrinking?" that is available here
With the financial crisis in the rear view mirror there has been a creeping tendency to believe that all is well and that trend growth is set to return after austerity sets economies back on a self correcting path of growth.
This is unfortunate in both the delusional sense of self correction and the prescriptive sense of an unwelcome lost decade that will certainly be the result in Europe and a possibility elsewhere without a necessary rebalancing globally. 

Orthodox thinking supports the concept of financialization through the argument that it enhances efficiency because markets are best in pricing future economic outcomes and financial speculation --when prices diverge from a fundamental value-- is, as the argument goes, a stabilizing factor. Reality informs us otherwise.  
While we understand that this may be the case in an idealized abstract world justifying general equilibrium, in  the messy real world the opposite is true.

The effects of policies from a generation ago can be papered over but not forever. What we are living with now is the unequalled strength of the Kraken of Global Finance where capital inflows can be fleeting. In effect, we have business cycle that are led by asset bubbles where speculation has driven capitalist boom phases. The flipsisde to this are the ensuing financial crises with busts and central banks scrambling to stop debt deflation. This blog will explore the rich history of deflation theories --as subscribed by Veblen, Schumpeter, Minsky and Fisher-- in future posts.

[1] "Hayek's powerful Road to Serfdom, left a permanent mark on my own political character, making me a long-term optimist for free enterprise and liberty"
[3] Financialization means the increasing role of financial motives, financial markets, financial actors and financial institutions in the operation of the domestic and international economies. (Gerald A. Epstein "Introduction: Financialization and the World Economy")
[4] From the blog Social Democracy for the 21st Century: A Post Keynesian Perspective (link: socialdemocracy21stcentury.blogspot.com )

Tuesday, May 7, 2013

The precarious nature of employment today means more "losers" and fewer "winners" tomorrow

Since the end of The Great Recession the focus has been on the moribund job growth in the United States and the hara kiri policy bloodletting in the Eurozone that will ensure at least a lost decade and probably more for the population in the euro periphery. This has provided shelter for Canadian policymakers with the National Post going so far as to say that "At G20, Flaherty still has his economic bragging rights."

But the game of bragging (when there is nothing to truly brag about) is afoot and for those clinging to the questionable certainty of mean reversion the coming year will be a testing one. Will new Bank of Canada Governor, Stephen Poloz, and the governing council raise rates by this time next year? This blog has gone on record in maintaining the view that barring Promethean internationally co-ordinated policy (which is highly unlikely) Canadians are in for a secular period of low rates with none of the expected rate normalization seen in previous cycles.

Amongst the many reasons for rate hike scepticism, the composition of job growth is most troubling with 4 of 5 new employees finding temporary employment since the recession began in 2008..

Canada: Growth in permanent and temporary workers
Globe and Mail economics reporter Tavia Grant explored this further in her recent piece, "Canada's shift to a nation of temporary workers":
What many employers would call flexible work, others would call precarious. A joint study by McMaster University and the United Way in February found four in 10 people in the Greater Toronto and Hamilton region are in some degree of precarious work (defined as a state of employment that lacks security or benefits) – and that this type of employment has risen by nearly 50 per cent in the past two decades. It also found that people in insecure work tend to earn 46-per-cent less than those in secure positions, and rarely get benefits.
In a previous post there was an cursory exploration of Guy Standing's view of such workers -- insecure, young, and with no bargaining power--  who arguably fit into the framework of his book "The Precariat: The New Dangerous Class" (Some have argued that the idea of the precariat dates back to French sociologist Pierre Bourdieu).

Fitting Standing's class structure into a stylized income segmentation of tax filers in Toronto, one comes to a troubling observation: how do people on such relatively low incomes get by in an increasingly expensive city? Toronto is simply another example of what has happened elsewhere: cities gentrifying and becoming  increasingly expensive for a greater portion of the population.

Precariat et al.
All tax filers in Toronto (median income 2010) = $27,200

 Middle Class
Top 10% Toronto (median income 2010) = $104,600

 Upper Middle Class
Top 5% Toronto (median income 2010) = $135,700

Top 1% Toronto (median income 2010) = $283,400
Top 0.1% Toronto (median income 2010) = $1,024,200

Top 0.01% Toronto (median income 2010) = $3,898,800

With the majority of job growth coming in the form of temporary jobs it begs the question of what will be the future catalyst for growth? The increasingly precarious nature of employment today begets more "losers" and fewer "winners" tomorrow. The marginal propensity to consume for those consigned to temporary work will be higher and conversely the marginal propensity to save lower as will the ability to save up for a down payment. In turn, how will this segment be able do the things that Canadians in generations past took for granted, such as buying a single family residence, due to the barrier to entry of high house prices. Moreover, the rising inequality we see today will manifest itself with pensioners tomorrow that are knee deep in debt and working to make ends meet. This is part of the irresistible forces of the globalization model and technology that has enabled the disappearance of many jobs.

And it will continue. William H. Janeway remains someone who understands the capitalist system for what it is --inherently unstable yet dynamic and full of opportunity-- had this to say recently:
The processes of creative destruction continue to play out.  Five years ago Nokia and Motorola ruled the mobile world, with Blackberry as the leader in the enterprise market.  Where are they now?  Plus the maturation of open source technologies and access to cloud-based computing and storage resources on an as needed basis has radically reduced the cost of development for new start-ups.  Even Apple's extraordinary success is beginning to look transient in the post-Jobs age.

How does one contend with such change when planning for the future? There are no easy answers but the steady dismantling of the social contract embedded since the time of Lester B. Pearson will create ferment, resentment and anger amongst those left behind in a society of fewer "winners" and many more "losers".

Monday, May 6, 2013

Can Germany be weaned off the export driven growth model?

In a Project Syndicate post from April 23, Should Germany Exit the Euro?, Hans-Werner Sinn laid out his arguments for continued austerity, against eurobonds, and the rationale that the Euro periphery, particularly Greece, Portugal and Spain, would have to become 20-30% cheaper. George Soros immediately posted a riposte to Sinn's assertions which can be followed at the side of the original post.

Here is Soros' latest retort, posted earlier today (April 6, 2013):
George Soros 
Hans-Werner Sinn’s response confirms my fear that the euro will eventually destroy the European Union. The longer it takes, the greater the political damage and the human suffering – and it may take a long time. Given that the way the euro is currently managed puts the “peripheral” countries at a serious competitive disadvantage in terms of their access to capital, they are condemned to a lasting depression and a continuing decline in their competitive position.

As Sinn says, Germany will not accept Eurobonds. The German Supreme Court has indicated that Germany will require a referendum before Eurobonds can be introduced, and it is currently considering whether the European Central Bank has exceeded its powers. The Bundesbank has submitted a brief that criticizes the legitimacy of some of the ECB’s recent actions. It argues that, under the German constitution, the ECB is prohibited from making any decisions that impose potential liabilities on German taxpayers, because it is not subject to German parliamentary control.
A decision in favor of the Bundesbank would put the periphery position in an even more dire position. It is bound to strengthen anti-European sentiment. If current policies persist, they are bound to lead to the disorderly disintegration of the EU. Surely that is not what Germany wants.
I do not agree with all of Sinn’s arguments, but there is no point in getting bogged down in the details. The point is that the current state of affairs is intolerable. Sinn claims that the root cause of the euro crisis is that the Mediterranean countries are not competitive. If he represents German public opinion correctly, a mutually agreed breakup of the Eurozone into two currency blocs would be preferable to preserving the status quo.
The division of the euro into two blocs would cause serious dislocations. Germany assuming the role of a benign hegemon would benefit everyone, but that seems to be unattainable. The division of the euro could save the EU, provided that the periphery retains possession of the euro. Given that their debt is denominated in euros, this would enable them to avoid a default that would destabilize the global financial system. And France, in its current competitive position, would be better suited to act as the eurozone’s leader, rather than to remain a passenger in a car driven by Germany.

Michael Dauderstädt is even less diplomatic in his assessment of Germany's policy reaction in this thoughtful policy analysis piece, Germany's Economy: Domestic Laggard and Export Miracle,  from April 2012.

Germany is largely responsible for the duration and depth of the crisis. If the German government had endorsed mutual responsibility of all Eurozone governments, a common European bond (eurobond) and an active role for the ECB in the bond markets and as lender of last resort, the crisis would have ended immediately in May 2009. Germany’s reluctance to save Greece and other highly indebted euro-countries (Ireland, Portugal and Spain) increased the panic of the financial markets and thus the cost of any further rescue package. Germany’s (as well as the EU’s and the IMF’s) insistence on austerity policies in the GIPS countries exacerbated the crisis. The ensuing recession there reduced their capacity to service their debt and increased the crucial debt/GDP ratio (by lowering the denominator).

Recession or even depression now loom in the Eurozone. In late autumn 2011, a new banking crisis similar to the Lehmann crisis of 2008 threatened to happen. The banks which have relied on government bonds as collateral were close to losing their creditworthiness. Rating agencies downgraded first Eurozone states and then Eurozone banks. A crisis could be averted only by massive injections of liquidity by the ECB and other central banks. The corporate sector and households are affected by the credit crunch. Growth forecasts for the EU and for the global economy have been revised downwards. For an export junky such as Germany this forebodes a painful decline in sales.

Here are some charts that illustrate Germany's export dependency.

All data from Statistisches Bundesamt.

More on this issue --export dependency and current account imbalances-- in a future post.