Saturday, June 23, 2012

Are Inflation Hawks Smarter than the Bond Market?

Inflation Hawks (think Ron Paul, Paul Ryan, Paul the Apostle)  have been saying for the past several years (since 2008 if memory serves) that runaway inflation is just around the corner, and hyperinflation is a likely possibility. To corroborate their predictions, they cite data like this:

Thats the monetary base, and yes it explodes round about 2008 before leveling off recently. This increase in the base, they say, will in short order lead to massive growth in the broader money aggregates; working with a short-run simplifeid QTOM, that gives you a surefire diagnosis of future inflation.

The bond market disagrees (and so can you!). "It" seems to know that aggregate demand is driven by nominal spending, and the extent to which nominal spending splits between more real GDP and more inflation is determined by the elasticicity of the short run aggreate supply curve. Given recent slow growth of nominal GDP (its increased about 6% total since 2007), and persisitent capacity underutilization and unemployment that are likely to lead to an elastic aggregate supply curve, inflation of any severity just not a likely scenario. I know it, the bond market knows it, and you should know it too. As evidence, here's a chart showing the yield on indexed and non-indexed T- Securities. The difference between the two is the amount of expected inflation.

* Note the consistency.

Friday, June 15, 2012

Money in Europe is TIGHT! (And Interest Rates are a Useless Guide)

I had not been previously able to find the stats to investigate this (even though they were on FRED the whole time, under my incompetent nose). I did a few data transformations (in an attempt to paint the picture I wanted to see in order to create a picture of whats going on. Here's what I came up with.

Two things. 

1. This chart seems to corroborate what Milton Friedman  Scott Sumner always says about interest rates being a piss poor  misleading guide to the stance of monetary policy. I mean, just look at that correlation. Interest-rates plunged along with the growth in the money supply; and that even going by the change in quantity of euros, not a percent of the total! 

2. Europe is clearly literally suffering from contractionary monetary policy; their M2 supply is growing at a vastly slower rate than pre-crisis, again, in terms of quantity, not just rate. 

But hey, interest rates are still low, so money must be easy, right? Right?

The Crisis Carried Off All the Spreads...

Here is a fascinating chart that I plucked from the bowels of the internet. It shows the bond yields of various Eurozone economies, plus the U.K. A few things to point out:

1. Look how the yields were already converging before the creation of the euro; the euro was something that was expected to lower interest rates for the periphery by allowing them to borrow "at German rates" but it looks to be like it was going to happen anyway, probably due to the free flow of capital that came with the Common Market.

2. Rates stayed low and converged from 2002-2008, when the financail crisis hit and Nominal GDP collapsed. This is a pie in the face to people who think the fiscal crisis is all about the periphery loading up on debt. If thats the case, YIELDS SHOULD HAVE DIVERGED AS DEBT WAS MOUNTING. Greece, Italy, and Portugal did not suddenly start running deficits in 2008. Spain and Ireland were running SURPLUSES.

3. To belive that credit markets happily loaded up on way to much periphery debt without thinking about it and keeping rates low and then suddenly decided debt was out of control and that rates needed to soar is to imply that financial markets are so irrational and unpredictible that bond trading should be outlawed. Today. Somehow, I doubt anyone actually intendeds to make that arguement.

4. Clearly, another explaination is needed. And that explaination is that the ECB has beening running a tight monetary policy since 2008, which is to say a low rate of growth of the money supply relative to the velocity of money, which together determine Nominal GDP. And this low growth has made debt levels unsustainable when they would otherwise not be.

PS: I realized Mark Thoma had the same chart on his blog earlier that day. Not where I got it from, though that place probably got it from there. Just so nobody thinks I consider one of my favorite blogs the "bowels of the internet."

Thursday, June 7, 2012

Skills Sharp on Both Sides of the Atlantic!

Mark Thoma has a good post on the lack of evidence of a shortage of skills in the US labor market as a cause of high unemployment and low output. It meshes with what I was saying about Europe a few posts ago, about how producutive Europeans are being kept from work for nominal reasons (more elaboration later). Anyway, its true, on both sides of the pond. Check it out.

Wednesday, June 6, 2012

Does Loose Money cause Lower or Higher Nominal Rates? Revised

Here's a revised chart for the below post, this time going back to the 1960s. I wanted to be able to include the inflationary '70s to constrast with the disinflationary '80s. Enjoy.

Tuesday, June 5, 2012

Does Loose Money Lower or Raise Nominal Interest Rates?

Scott Sumner always quotes Milton Friedman who said something to the effect of "low nominal interest rates indicate that money has been tight, high rates that money has been loose."

I take it by this he was going by the Fisher Equation i = r + π e

Where "loose" money cause expected inflation to rise and hence nominal interest rates; "tight" money does the opposite, while the real interest rate stay constant at the loanable funds equilbrium.

I'd like to do some statistical testing for this hypothesis, and might sometime soon. For now, here is a crude plotting of the M2 money aggregate, percent change year by year, with the 10 year nominal Treasury rate. Enjoy.

Monday, June 4, 2012

The Eurozone Crisis Is NOT an Economic one (part 1)

At least not in an authentic economic sense. Not when we define economics for what it actually is, as the production and distribution of goods and services.

I'll be clear.

All we keep hearing from the chorus that includes everyone from the highest chamber of government ot the lowest of the punditry class is that the Eurozone faces a deep, intractible problem that that is the reason so many Europeans must remain unemployed, fiscal austerity must continue, Germany must keep forking over more bailout funds, ect. But in a real sense, there is nothing different about Europe then there was before the crisis.

A few quick questions.

Have Greece, Italy, Spain, and Ireland experienced a massive destruction of their physical capital stock over the past five years? No.

Have their labor supplies been cut by a pandemic or have their workers suffered a collective bout of amnesia that has robbed them of their technical skills or business knowledge?

Has the level of technology drastically reverted in a Dark-Age style atrohpy of productivty? No.

Then Y = f(A,K,L) has not changed in any meaningful sense. If anything, technology, and the potential labor supply have only continued to grow over the course of the crisis. So in a real sense, there is no economic problem, if we understand an economic problem to be a failure of a country's ability to produce goods and services.

To be continued...