We live in a global economy. And, unless we destroy the global economy that now exists the way the world destroyed the first global economy starting with the 1914 conflict and proceeding through the next fifty-five years or so, we will continue to face the duties and responsibilities of operating within a world economy. And, those duties and responsibilities begin with the currency of the country.
It is hard to have confidence that the United States accepts this fact.
I know that we are in a recession (depression?). I know that the immediate pressure on the Obama Administration is to “get the economy going again.” I know that the Treasury Department and the Federal Reserve, both dependent partners in the effort to get the financial system functioning, must provide whatever means it takes to avoid further deterioration of financial markets.
Still, there is a need to listen to what markets are saying about what the government is doing. And, the financial markets are saying that the United States dollar is in trouble. And, consequently, the United State government is in trouble.
The value of the Euro relative to the United States dollar climbed to 1.3768 at the close of business yesterday. This represents an 11.7% decline in the value of the dollar since Ben Bernanke became Chairman of the Board of Governors of the Federal Reserve System on January 31, 2006. It represents a 23.0% decline in the value of the dollar since Bush 43 became President on January 20, 2001 when Alan Greenspan was the Chairman of the Board of Governors of the Federal Reserve System.
The numbers are about the same if you look at a trade weighted series. The trade weighted value of the dollar versus major currencies has declined by 23.6% since Bush 43 was inaugurated, and, has declined 5.4% since Ben Bernanke became Chairman.
Of course, the figures look even worse if one focuses upon the lows in the value of the dollar which came about in March, 2008. Using this as the standard we find that the trade weighted value of the dollar declined 33.4% from the beginning of Bush 43 and 17.5% since Bernanke was sworn in. The current numbers look great compared with these, but the current figures benefit from the ‘flight to quality’ that took place following the September 2008 meltdown of the United States financial system.
All during the Bush 43 Administration, both the United States Treasury Secretary, whoever that was, and the Fed Chairmen gave lip service to the importance of the value of the United States dollar, yet no one did anything about it. And, the dollar continued to decline. Certainly someone should have understood that the decline in the value of the currency indicated something was wrong with the way the finances of the United States government were being run.
It is very apparent that the Federal Reserve System is NOT independent of the federal government of the United States. One has to go back to Paul Volcker and then back to William McChesney Martin to find Fed Chairmen that acted independently of the Executive Branch of the government. President Carter knew that Volcker would be independent of his administration if Volcker became the Fed Chairman but believed that he had to appoint him anyway. Certainly Arthur Burns and Bill Miller (remember him?), were not independent of the Presidents they served. And, people are realizing more and more that Alan Greenspan was nothing short of a water-carrier for the Presidents he served.
Not being independent of the Executive Branch means that the Federal Reserve is very subject to the position of the federal budget. Even Paul Volcker was eventually tainted with the huge (at the time) budget deficits run up by the Reagan Administration. Still, during his tenure as Fed Chairman, Volcker saw the trade weighted value of the dollar against major currencies rise by 6.4%.
Overall, during the time that Greenspan was Chairman of the Fed, the trade weighted value of the dollar against major currencies declined by only 16.7%. Greenspan’s grade improved in the 1990s due to the movement of the federal budget from a substantial deficit when the Clinton Administration took over in 1993 to a surplus by the time Bush 43 assumed office. In fact, this measure of the value of the dollar rose 13.9% during the Clinton administration.
The important thing to remember is that in the last half of the twentieth century world financial markets came to realize that substantial government budget deficits often got financed, one way or another, by the central bank of that country. As a consequence of this realization, participants in these world markets moved against the currencies of countries that began running large deficits if they believed that the central bank’s of that country were not fully independent of the government. The result was that governments became much more conservative in controlling budget deficits and central banks became much more independent of their governments.
The United States, in the latter half of the twentieth century, except for the early years that Paul Volcker was the Fed Chairman and during the 1993-2001 period, seemed to feel that they were exempt from this constraint. Yet, international financial markets responded to United States deficits and the possibility that they could be monetized in the same way that they responded to the “loose living” of other governments. They sold the dollar and the value of the dollar, for the most part, declined.
As participants in world financial markets perceive that things are beginning to settle down and that financial institutions are not going to completely self-destruct, they will continue to move out of United States Treasury securities and will continue to move out of the United States dollar. The foundational belief behind this movement is that the United States government is just putting too much debt out into the world. First, there were the huge budget deficits created by Bush 43 and now there are the huge budget deficits being created by the Obama administration. To people in the world financial markets, the lessons of the last fifty years still apply.
The path the economy and the financial markets follow relating to how the deficit problem works out is anyone’s guess right now. Who would have ever written the script for how the 2000s have evolved up until now? The historical evidence points to the fact that huge amounts of debt issued by governments cause dislocations. These dislocations have to work themselves out. How these dislocations work themselves out is different in every case. The general consequence of large budget deficits, however, is that large amounts of government debt are not good for the value of a country’s currency. I believe that this is as true for the United States as it is for any other country. The value of the dollar will continue to decline over the next several years.
My grades for the past three Fed Chairmen? Paul Volcker gets the best grade. I am assigning him a grade of plus 6.4. Ben Bernanke is second highest with a grade of negative 5.4 and Alan Greenspan comes in last with a grade of a minus 16.7. Unfortunately, when the grade is negative, we all have to pay for it!
Showing posts with label Greenspan. Show all posts
Showing posts with label Greenspan. Show all posts
Thursday, May 21, 2009
Thursday, October 30, 2008
On Daming "Free" Markets!
Currently, there is a rush to jump on the bandwagon to damn the concept of free markets…or, at least “freer” markets. I say “freer” markets because the American economy has never had totally “free” markets. But, the current meltdown has coincided with the claim that “freer” markets don’t work!
We even see the sorry spectacle of Alan Greenspan appearing before Congress and admitting that he was “shocked” that the system didn’t work as he had imagined it would. The problem with this, in my mind, is that Alan Greenspan, in his responses, had to take one of two positions. The first one was to admit that his conceptual thinking about how financial markets and the economy worked was wrong. The second one was that he…and the Fed…and the Bush administration…screwed up royally.
Perhaps there was really only one response that Greenspan considered.
It is important to consider the second possible response, however, because it is important for our consideration of how we interpret the financial meltdown and the causes of this meltdown. How we interpret these events will influence our efforts to regulate or re-regulate the financial system.
Returning to the concept of “freer” markets one must argue that we can never achieve completely free markets, that there will always be laws, regulations, and regulators that impact financial and economic markets. The issue is where the balance is struck between more oversight and control and less oversight and control.
The danger is that if we totally focus on the idea that markets don’t work very well without a lot of regulation and oversight we will set the balance further to the side of constraining and controlling the economic and financial system. In my opinion, this would not be helpful, in the longer run, to the financial system and the health of the economy and economic growth.
Certainly, industry leaders cannot be absolved of all responsibility. It can be strongly argued that the past eight years or so did not produce a stellar performance by the leaders of finance and commerce in the United States. Risk management and executive oversight fell fall short of what should have been desired. But, this is not the entire story.
For economic and financial markets to function in an effective way they must be associated with “appropriate” monetary and fiscal policies. I have argued for a long time that the monetary and fiscal policies of the Bush administration have been abysmal and these policies created an environment that encouraged the behavior that was exhibited by our leaders of finance and commerce. (See my post of October 28, 2008, “The Threat of Too Much Regulation,” http://maseportfolio.blogspot.com/.)
My big fear is that, in a rush to judgment, all the blame will be placed upon the greed of the bankers and the fact that financial markets don’t work well if they don’t have a lot of regulation. If we re-regulate American finance and industry assuming this to be the only story, I fear that we will only be dampening our future and our children’s future.
Also, if we make this assumption about our bankers and the financial markets we will let Mr. Bush and Mr. Greenspan “off the hook”. Our governmental leaders are at least as guilty of the current financial morass as are our industry leaders…IF NOT MORE! If we are to re-regulate financial institutions and financial markets in a sensible and realistic way we cannot ignore the role that our government leaders played in the current crisis. WE MUST BE VERY CAREFUL NOT TO OVER-REGULATE!
We even see the sorry spectacle of Alan Greenspan appearing before Congress and admitting that he was “shocked” that the system didn’t work as he had imagined it would. The problem with this, in my mind, is that Alan Greenspan, in his responses, had to take one of two positions. The first one was to admit that his conceptual thinking about how financial markets and the economy worked was wrong. The second one was that he…and the Fed…and the Bush administration…screwed up royally.
Perhaps there was really only one response that Greenspan considered.
It is important to consider the second possible response, however, because it is important for our consideration of how we interpret the financial meltdown and the causes of this meltdown. How we interpret these events will influence our efforts to regulate or re-regulate the financial system.
Returning to the concept of “freer” markets one must argue that we can never achieve completely free markets, that there will always be laws, regulations, and regulators that impact financial and economic markets. The issue is where the balance is struck between more oversight and control and less oversight and control.
The danger is that if we totally focus on the idea that markets don’t work very well without a lot of regulation and oversight we will set the balance further to the side of constraining and controlling the economic and financial system. In my opinion, this would not be helpful, in the longer run, to the financial system and the health of the economy and economic growth.
Certainly, industry leaders cannot be absolved of all responsibility. It can be strongly argued that the past eight years or so did not produce a stellar performance by the leaders of finance and commerce in the United States. Risk management and executive oversight fell fall short of what should have been desired. But, this is not the entire story.
For economic and financial markets to function in an effective way they must be associated with “appropriate” monetary and fiscal policies. I have argued for a long time that the monetary and fiscal policies of the Bush administration have been abysmal and these policies created an environment that encouraged the behavior that was exhibited by our leaders of finance and commerce. (See my post of October 28, 2008, “The Threat of Too Much Regulation,” http://maseportfolio.blogspot.com/.)
My big fear is that, in a rush to judgment, all the blame will be placed upon the greed of the bankers and the fact that financial markets don’t work well if they don’t have a lot of regulation. If we re-regulate American finance and industry assuming this to be the only story, I fear that we will only be dampening our future and our children’s future.
Also, if we make this assumption about our bankers and the financial markets we will let Mr. Bush and Mr. Greenspan “off the hook”. Our governmental leaders are at least as guilty of the current financial morass as are our industry leaders…IF NOT MORE! If we are to re-regulate financial institutions and financial markets in a sensible and realistic way we cannot ignore the role that our government leaders played in the current crisis. WE MUST BE VERY CAREFUL NOT TO OVER-REGULATE!
Thursday, July 10, 2008
Yes, Greenspan is to blame!
There has been a lot of discussion recently about who is to blame for the current economic and financial situation. I firmly believe that Alan Greenspan cannot be excluded from those that deserve such blame. There is only one question that needs to be asked: who was the Chairman of the Board of Governors of the Federal Reserve System in the period from 2001 until January 31, 2006? Now look at the chart of the exchange rate between the U. S. Dollar and the Euro during this time. (http://research.stlouisfed.org/fred2/series/EXUSEU?cid=95.)
Need I say more?
By the end of 2006 things were beginning to unravel in the rest of the economy. The rest is history.
Greenspan was an expert on the minutiae pertaining to business cycles. He cut his teeth during the time when understanding short term movements in the economy, independent of what was going on in the rest of the world, was the fashion in economic forecasting. Times changed. Greenspan didn’t.
The result:
Substantial dislocation in world and domestic economic and financial markets;
Substantial commodity price inflation; and
The largest sell-off of American assets in the history of the United States. See “Foreign Investors Pile Up More Pieces of Americana,” http://www.nytimes.com/2008/07/10/business/worldbusiness/10wealth.html?_r=1&oref=slogin.
Certainly monetary policy is not the sole cause of the present unpleasantness. The irresponsible fiscal policy of the period cannot be passed over and the failure of the United States government to develop a sound energy policy must also be included in the picture. But, Greenspan cannot be excused from events because of what was happening in the housing market or some other market. This just diverts attention.
The most important price in an economy is the price of its currency in foreign exchange markets. In watching over this price…Greenspan failed miserably.
Need I say more?
By the end of 2006 things were beginning to unravel in the rest of the economy. The rest is history.
Greenspan was an expert on the minutiae pertaining to business cycles. He cut his teeth during the time when understanding short term movements in the economy, independent of what was going on in the rest of the world, was the fashion in economic forecasting. Times changed. Greenspan didn’t.
The result:
Substantial dislocation in world and domestic economic and financial markets;
Substantial commodity price inflation; and
The largest sell-off of American assets in the history of the United States. See “Foreign Investors Pile Up More Pieces of Americana,” http://www.nytimes.com/2008/07/10/business/worldbusiness/10wealth.html?_r=1&oref=slogin.
Certainly monetary policy is not the sole cause of the present unpleasantness. The irresponsible fiscal policy of the period cannot be passed over and the failure of the United States government to develop a sound energy policy must also be included in the picture. But, Greenspan cannot be excused from events because of what was happening in the housing market or some other market. This just diverts attention.
The most important price in an economy is the price of its currency in foreign exchange markets. In watching over this price…Greenspan failed miserably.
Friday, February 29, 2008
What About Inflation and the Dollar?
Paul Volcker, former Chairman of the Federal Reserve System, has written that “a nation’s exchange rate is the single most important price in its economy; it will influence the entire range of individual prices, imports and exports, and even the level of economic activity.” (Paul Volcker and Toyoo Gyohten, Changing Fortunes, Times Books, New York, 1992, page 232.) If “a nation’s exchange rate is the single most important price in its economy” one really has to be concerned that the United States has allowed the value of the dollar to decline so precipitously over the past six years or so. Volcker alludes to all kinds of things that can happen to the nation that lets its exchange rate decline, but he doesn’t even mention one other possibility, a situation that has arisen since he wrote the quotation presented above, and that is the situation, like the one that has arisen, in which a country’s assets become so cheap that foreign interests can acquire them at historically low prices.
It is important to see just how badly the United States Dollar has declined in value to get some appreciation for the problem. From the year 2001 through the year 2007, the Dollar has declined at a compound rate of over 7% per year to the Euro. In terms of the British Pound, the Dollar has declined at a compound rate of over 5.5% per year. The same is true of an index of major currencies against the Dollar as compiled by the Federal Reserve System. An index that includes a broader range of currencies produced by the Federal Reserve shows a more moderate rate of decline of about 3.3% per year. However you measure it, though, the United States Dollar has not fared well in world markets during much of the Bush Administration.
These market results are important because they indicate how world financial markets are betting on relative rates of inflation in the different countries. If one works with what is called the Purchasing Power Parity (PPP) Theory for exchange rates in its pure form, one can argue that the change in any nation’s currency against the currency of another nation can be represented by the difference in the expected rates of inflation between the two countries. In this were the case, it could be argued that the difference in expected rates of inflation between the United States and England is in excess of 5.5 percentage points. That is, whatever the market expects the rate of inflation to be in England, they expect the rate of inflation in the United States to be 550 basis points higher.
Since the PPP Theory does not work exactly, we cannot just extrapolate the figures presented above and apply them to differences in expected rates of inflation. However, we don’t need to do this. We can just argue that the differences presented above provide some ballpark ‘guesstimate of anticipated relative rates of inflation. If one argues in this way, the conclusion can be drawn that, whatever the real estimates are, participants in world markets believe that inflation in the United States is much worse than it is in other countries or areas in the world. If the differences were just 1% to say 1.5%, it could be argued that the differences were non-existent or too small to worry about since the PPP Theory was not exact. However, at the magnitudes that have existed over the past six years, the differences, I believe, cannot be ignored. Market participants believe that inflation is expected to be much worse in the United States than it is in other areas of the world! The only country that is not listening to this is the United States.
Why is this happening to the value of the United States Dollar?
Let’s step back for a minute. At one time it was assumed that the United States government could run any kind of economic policy that it wanted and not have to pay for it to any degree in world financial markets. The reason for this was that the United States was a ‘big’ country and was not subject to the same pressures that ‘small’ countries were. Much of International Macroeconomic Theory relates to ‘small’ countries, but theorists and practioners, historically, have generally argued that because of its dominating size, the United States could act in a way that the ‘small’ countries of the would could not. They could get by doing what they wanted to do without much regard to international financial markets.
What happens to the ‘small’ countries when they try and do this? Well, they were kept in hand by that amorphous, unidentifiable, shady group of people called ‘international bankers’. If a ‘small’ country conducted its fiscal policy in a way that ran substantial deficits (for that county) and did not have an independent central bank, thereby increasing the possibility that the inflation rate in the country would rise, these ‘international bankers’ would sell the currency of that country in the foreign exchange markets, the foreign exchange rate would decline and the government would have to back track and reduce or eliminate the deficit and make its central bank independent of the national government.
The argument was put forward that this clandestine band of ‘international bankers’ usurped the sovereignty of nations so that the nations could no longer run their own economic policies. During this time we saw leaders, like Francois Mitterrand of France, a militant socialist, back off from combating the ‘international bankers’. They made their central banks independent of the government and began to conduct a more conservative fiscal policy. For example, Mitterrand freed the central bank of France making it independent of the national government. And, in the 1990s and the early 2000s, many other nations followed suit, making their central banks independent and mandating inflation targets for the conduct of monetary policy. But, these were all ‘small’ countries.
Now we come to the United States. After balancing the Federal budget, the United States Government, under the leadership of President George W. Bush, created massive Federal deficits through the implementation of major tax cuts and the expenses related to fighting a foreign war. In addition, the Federal Reserve System, led by Alan Greenspan, acted as a complacent component of the Federal Government and kept its target for the Federal Funds rate below 2% for over two years and at 1% for approximately a year during this time. In the past, the United States government could ignore the ‘international bankers.’ No more!
Just like any ‘small’ country in a similar situation, the international bankers’ began to sell Dollars and continued to sell them as the large deficits persisted. Yet, the Federal Reserve remained seemed to ignore the decline. The result? The United States does not seem to be a ‘large’ country anymore! Globalization has come back to hit the United States!
Still the price indices produced in the United States do not reflect this perceived inflation…at least up to this time. But, there are those that believe these price indices understate the true rate of inflation. See, for example, the perceptive article “Inflation May Be Worse Than We Think” by David Ranson of H. C. Wainwright & Co.: http://online.wsj.com/article/SB120407506089695263.html?mod=todays_us_opinion. Furthermore, we see in the commodity markets that wheat, oil and gold have all hit new highs. And, the Euro rose above $1.50 for the first time. Maybe the United States needs to put aside ideology and listen to what the market is telling us.
And, there is one piece of anecdotal evidence that maybe needs to be mentioned. In the early 1920s, John Maynard Keynes wrote about the ‘profit inflation’ that existed in England. This was a situation where profits had risen but the real wages of the worker had not. He was concerned with the restlessness in the country that had arisen due to the resulting redistribution of incomes. What I would like to point out is that all of the major candidates campaigning to become the Democratic nominee for President of the United States have taken a more and more populist position on economic policy as the campaign has progressed. Ohio is a prime example of how this message has resonated with a fairly large portion of the population. The question therefore is…has inflation really been a problem for the United States over the past several years? The magnitude of this inflation has not yet surfaced in the statistics, but it may have been experienced and felt by participants in the financial markets and by workers and by households.
It is important to see just how badly the United States Dollar has declined in value to get some appreciation for the problem. From the year 2001 through the year 2007, the Dollar has declined at a compound rate of over 7% per year to the Euro. In terms of the British Pound, the Dollar has declined at a compound rate of over 5.5% per year. The same is true of an index of major currencies against the Dollar as compiled by the Federal Reserve System. An index that includes a broader range of currencies produced by the Federal Reserve shows a more moderate rate of decline of about 3.3% per year. However you measure it, though, the United States Dollar has not fared well in world markets during much of the Bush Administration.
These market results are important because they indicate how world financial markets are betting on relative rates of inflation in the different countries. If one works with what is called the Purchasing Power Parity (PPP) Theory for exchange rates in its pure form, one can argue that the change in any nation’s currency against the currency of another nation can be represented by the difference in the expected rates of inflation between the two countries. In this were the case, it could be argued that the difference in expected rates of inflation between the United States and England is in excess of 5.5 percentage points. That is, whatever the market expects the rate of inflation to be in England, they expect the rate of inflation in the United States to be 550 basis points higher.
Since the PPP Theory does not work exactly, we cannot just extrapolate the figures presented above and apply them to differences in expected rates of inflation. However, we don’t need to do this. We can just argue that the differences presented above provide some ballpark ‘guesstimate of anticipated relative rates of inflation. If one argues in this way, the conclusion can be drawn that, whatever the real estimates are, participants in world markets believe that inflation in the United States is much worse than it is in other countries or areas in the world. If the differences were just 1% to say 1.5%, it could be argued that the differences were non-existent or too small to worry about since the PPP Theory was not exact. However, at the magnitudes that have existed over the past six years, the differences, I believe, cannot be ignored. Market participants believe that inflation is expected to be much worse in the United States than it is in other areas of the world! The only country that is not listening to this is the United States.
Why is this happening to the value of the United States Dollar?
Let’s step back for a minute. At one time it was assumed that the United States government could run any kind of economic policy that it wanted and not have to pay for it to any degree in world financial markets. The reason for this was that the United States was a ‘big’ country and was not subject to the same pressures that ‘small’ countries were. Much of International Macroeconomic Theory relates to ‘small’ countries, but theorists and practioners, historically, have generally argued that because of its dominating size, the United States could act in a way that the ‘small’ countries of the would could not. They could get by doing what they wanted to do without much regard to international financial markets.
What happens to the ‘small’ countries when they try and do this? Well, they were kept in hand by that amorphous, unidentifiable, shady group of people called ‘international bankers’. If a ‘small’ country conducted its fiscal policy in a way that ran substantial deficits (for that county) and did not have an independent central bank, thereby increasing the possibility that the inflation rate in the country would rise, these ‘international bankers’ would sell the currency of that country in the foreign exchange markets, the foreign exchange rate would decline and the government would have to back track and reduce or eliminate the deficit and make its central bank independent of the national government.
The argument was put forward that this clandestine band of ‘international bankers’ usurped the sovereignty of nations so that the nations could no longer run their own economic policies. During this time we saw leaders, like Francois Mitterrand of France, a militant socialist, back off from combating the ‘international bankers’. They made their central banks independent of the government and began to conduct a more conservative fiscal policy. For example, Mitterrand freed the central bank of France making it independent of the national government. And, in the 1990s and the early 2000s, many other nations followed suit, making their central banks independent and mandating inflation targets for the conduct of monetary policy. But, these were all ‘small’ countries.
Now we come to the United States. After balancing the Federal budget, the United States Government, under the leadership of President George W. Bush, created massive Federal deficits through the implementation of major tax cuts and the expenses related to fighting a foreign war. In addition, the Federal Reserve System, led by Alan Greenspan, acted as a complacent component of the Federal Government and kept its target for the Federal Funds rate below 2% for over two years and at 1% for approximately a year during this time. In the past, the United States government could ignore the ‘international bankers.’ No more!
Just like any ‘small’ country in a similar situation, the international bankers’ began to sell Dollars and continued to sell them as the large deficits persisted. Yet, the Federal Reserve remained seemed to ignore the decline. The result? The United States does not seem to be a ‘large’ country anymore! Globalization has come back to hit the United States!
Still the price indices produced in the United States do not reflect this perceived inflation…at least up to this time. But, there are those that believe these price indices understate the true rate of inflation. See, for example, the perceptive article “Inflation May Be Worse Than We Think” by David Ranson of H. C. Wainwright & Co.: http://online.wsj.com/article/SB120407506089695263.html?mod=todays_us_opinion. Furthermore, we see in the commodity markets that wheat, oil and gold have all hit new highs. And, the Euro rose above $1.50 for the first time. Maybe the United States needs to put aside ideology and listen to what the market is telling us.
And, there is one piece of anecdotal evidence that maybe needs to be mentioned. In the early 1920s, John Maynard Keynes wrote about the ‘profit inflation’ that existed in England. This was a situation where profits had risen but the real wages of the worker had not. He was concerned with the restlessness in the country that had arisen due to the resulting redistribution of incomes. What I would like to point out is that all of the major candidates campaigning to become the Democratic nominee for President of the United States have taken a more and more populist position on economic policy as the campaign has progressed. Ohio is a prime example of how this message has resonated with a fairly large portion of the population. The question therefore is…has inflation really been a problem for the United States over the past several years? The magnitude of this inflation has not yet surfaced in the statistics, but it may have been experienced and felt by participants in the financial markets and by workers and by households.
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