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Fed’s Jackson Hole Participants to QE-Exit Whacked Emerging Economies: Drop Dead

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The latest Fed confab at Jackson Hole is demonstrating that central bankers were so keen to avoid taking much blame for the global financial crisis that they also failed to learn critical lessons from it. That lapse in turn is directly related to the present emerging markets upheaval that has the potential to morph into something worse.

In case you managed to miss it, the prospect of the end of QE is leading investors to rearrange their portfolios in a fundamental way. One of the most widely-followed sayings among traders is “Don’t fight the Fed.” Having the central bank that runs the world’s reserve currency on the verge of ending its extraordinary bond market interventions and indicating that it expects later to enter a conventional tightening cycle is a fundamental change in stance. This shift is particularly important for risky investments, such as those in emerging economies, since the Fed’s super accommodative posture fueled a global carry trade. As Ambrose Evans-Pritchard wrote last week:

India’s rupee and Turkey’s lira both crashed to record lows on Thursday following the US Federal Reserve releasing minutes which signalled a wind-down of quantitative easing as soon as next month….

A string of countries have been burning foreign reserves to defend exchange rates, with holdings down 8pc in Ecuador, 6pc in Kazakhstan and Kuwait, and 5.5pc in Indonesia in July alone. Turkey’s reserves have dropped 15pc this year…

It was Fed tightening and a rising dollar that set off Latin America’s crisis in the early 1980s and East Asia’s crisis in the mid-1990s. Both episodes were contained, though not easily.

Emerging markets have stronger shock absorbers today and largely borrow in their own currencies, making them less vulnerable to a dollar squeeze. However, they now make up half the world economy and are big enough to set off a crisis in the West.

Fears of Fed tightening have pushed borrowing costs worldwide to levels that could threaten global recovery. Yields on 10-year bonds jumped 47 basis points to 12.29pc in Brazil on Thursday, 33 points to 9.72pc in Turkey, and 12 points to 8.4pc in South Africa…

Hans Redeker from Morgan Stanley said a “negative feedback loop” is taking hold as emerging markets are forced to impose austerity and sell reserves to shore up their currencies, the exact opposite of what happened over the past decade as they built up a vast war chest of US and European bonds.

The effect of the reserve build-up by China and others was to compress global bond yields, leading to property bubbles and equity booms in the West. The reversal of this process could be painful.

“China sold $20bn of US Treasuries in June and others are doing the same thing. We think this is driving up US yields, and German yields are rising even faster,” said Mr Redeker. “This has major implications for the world. The US may be strong to enough to withstand higher rates, but we are not sure about Europe. Our worry is that a sell-off in reserves may push rates to levels that are unjustified for the global economy as a whole, if it has not happened already.”

So given that developing economies have become canaries in the coal mine as far as the Fed’s taper is concerned, their central bankers are calling on the Fed to show a bit of mercy, say by going a bit easier on them and/or coordinating with other central banks. Not surprisingly, it appears that the most these petitioners will get are some comforting words. From the Financial Times today:

The world’s top policy makers must be more aggressive in handling the unfolding emerging markets crisis, the finance minister of Africa’s largest economy has warned, calling for greater action on global capital flows and currency volatility.

Pravin Gordhan, South Africa’s finance minister, told the Financial Times in an interview that there is an “inability to find coherent and cohesive responses across the globe to ensure that we reduce the volatility in currencies in particular, but also in sentiment…

“There’s no doubt that the multilateral institutions that participate in, and often work for, and with, the G20 need to desperately try to come up with new answers and do some heterodox thinking to find a new framework which will enable us to embrace the current environment, create less volatility,” he said…

Mr Gordhan added that while it was understood that “you cannot manage all of these phenomena in a fine-tuned way”, policy makers needed to “come up with better answers” to reduce volatility and create a more predictable environment.

But policy makers at Jackson Hole did not have many answers for Mr Gordhan. “As much as we may like to find it, there is no master stroke that will insulate countries from financial spillovers,” said Terrence Checki, the head of international affairs for the New York Fed.

In a paper presented to the Jackson Hole conference, Hélène Rey of the London Business School concluded that central banks would struggle to adapt their policies to avoid spillovers to other countries, because it would conflict with their domestic goals.

In fairness, Christine LaGarde did say the IMF was ready to help, but the python-like embrace of an IMF rescue is not likely to be the sort of assistance the beleaguered central bankers were seeking.

The fact is that the current emerging markets upheaval demonstrates that the economics policy elite has been unwilling to look at the real roots of the crisis and come up with workable remedies. And Gordon’s remarks give a clue as to why this hasn’t occurred: that it would require “heterodox thinking” which really means “heretical thinking”. Not only would policymakers and the public need to identify the bad policies and decisions that produced the crisis (naming names!) but also abandon some deeply held beliefs.

Not surprisingly, Carmen Reinhart’s and Ken Rogoff’s idea that high government debt levels were bad for growth was touted widely because it justified what amounted to policy prejudices. Yet another finding they published around that time, that high levels of international capital flows are correlated with more frequents and more severe financial crises, got nowhere near the same level of attention.

Similarly, Claudio Borio and Piti Disyatat of the Bank of International Settlements published a paper in 2010, “Global imbalances and the financial crisis: Link or no link?” that argued, persuasively, that overly high international capital flows were a direct cause of the financial crisis, and those resulted from “excessive financial elasticity”, which one might also call too little regulation. Borio has the misfortune to be the Cassandra of financial crises; he joined William White in trying to warn Alan Greenspan and other central bankers in 2003 of a global housing bubble and was brushed off. His 2010 paper with Disyatat was written defensively and for professional economists and thus is not layperson-friendly. Andrew Dittmer’s translation helps explain why: the paper also savages Bernanke’s self-serving “global savings glut” explanation of the crisis. From Dittmer’s summary:

The global financial crisis led to widespread dislocations and misery. However, another set of victims, hitherto overlooked, were central banking authorities and professors of economics who had staked their names on the thesis that the current configuration of the global financial system (which they had helped to engineer) was generally wonderful. These unfortunate souls were forced to come up with an explanation for the crisis on short notice, and it had to be an explanation in which they themselves played no role.

Ben Bernanke et al. rose brilliantly to the challenge. They remembered that many Asian countries had stocked up on foreign currency reserves in the hopes of never again being at the mercy of the IMF (26, note). Obviously, trying to resist the IMF was wrong and deserved criticism. Moreover, saying bad things about the Chinese would inevitably be welcomed in foreign policy circles eager to talk about the coming “bipolar confrontation” between America and China.

This “savings glut” theory argued that savings by Asian (and Middle Eastern) countries had washed like a tidal wave onto US financial markets, effectively forcing US money managers to invest imprudently in the course of their attempts to cope. For instance, these “excess savings” were widely assumed to have reduced long-term interest rates, thereby making credit cheaper.

There were some obvious problems with the global imbalances theory. Before the crisis exploded, many of the same economists had pointed to the same imbalances as a happy coincidence of needs, leading to better results for all (23). According to the sort of economic theory that was used in these explanations, if “global imbalances” were causing long-term interest rates to fall, that was simply a natural market outcome that should be contributing to equilibrium (23)…

Despite the consensus of these eminent authorities, we have decided to take a second look at the theory. Unfortunately, we have found further problems.

The idea of “national savings” or “current account surplus” refers to the total amount of exports sold minus the total amount of imports sold (more or less). The “excess savings” theory holds that this excess had to have been financed somehow, and so presumably by countries in surplus, like China.

However, for the US in 2010, the total amount of financial flows into the US was at least 60 times the current account deficit (9), counting only securities transactions. If this number were correct, then inflows would be 61 times the current account deficit, and outflows would be 60 times the current account deficit. The current account deficit is a drop in the bucket. Why would anyone assume it had anything to do with the picture at all?

Moreover, if the “savings glut” theory was correct, we would expect there to be certain historical correlations between the following variables: (a) current account deficits of the US, (b) US and world long-term interest rates, (c) value of the US dollar, (d) the global savings rate, (e) world GDP. There aren’t (4-6, see graphs).

You would also expect credit crises to occur mainly in countries with current account deficits. They don’t (6).

Suppose we look at a more reasonable variables: gross capital flows (13-14). What do we learn about the causes of the crisis?

Financial flows exploded from 1998 to 2007, expanding by a factor of four RELATIVE to world GDP (13), and then fell by 75% in 2008 (15). The most important source of financial flows was Europe, dwarfing the contributions of Asia and the Middle East (15). The bulk of inflows originated in the private sector (15).

If we look instead at foreign holdings of US securities (15-16), Europe is still dominant, but China and Japan are a little more prominent due to their large accumulations of foreign exchange reserves (15). Still, the Caribbean financial centers alone account for roughly the same proportion as either China or Japan (16). Other statistics provide a similar picture (17-19).

So what caused the crisis? Clearly, the shadow banking system (mainly based around US and European financial institutions) succeeding in generating huge amounts of leverage and financing all by itself (24, 28). Banks can expand credit independently of their reserve requirements (30) – the central bank’s role is limited to setting short-term interest rates (30). European banks deliberately levered themselves up so they could take advantage of
opportunities to use ABS in strategies (11), many of which were ultimately aimed at looting these same banks for the benefit of bank employees. These activities pushed long-term interest rates down. Short-term rates remained low because the Fed didn’t raise them as long as inflation didn’t appear to be an issue (25, 27).

The Asian countries played a small role as well. They didn’t want US/European-driven asset price inflation to spill over into distortions in their economies, and so they protected themselves by accumulating foreign exchange reserves (26 and 26 note). That was mean of them. If they had allowed more spillover, then the costs of the shadow banking system would have been partly borne by them, and that would have made the credit crisis less severe in the advanced countries (26). As things stand, instead, the advanced countries are suffering, while Asian countries have bounced back strongly (26).

What should we do? Well, we have suggestions for theory and practice. Let’s start with the practical suggestions.

Countries should do a better job of restraining their financial sectors (24). However, that will probably not be enough (24). Countries should also work together to share the burden of consequences of further crises (27). Unfortunately, countries are irrational and political and so are often unwilling to cooperate in ways we consider wise (27).

Now this important paper covers even more ground, but the parts above are most germane for this discussion.

In shorter form, the implication is that too much in the way of international capital movements is destabilizing. Thus restricting capital movements, as in tougher financial regulations or even targeted capital controls, would be desirable. Yet the economics elite (no doubt due at least in part to indoctrination by bankers) believes that allowing international investors to chase returns is a good thing. They seem unable to recognize that hot money by its very nature isn’t reliable as a source of real economy funding and worse, its sudden influx and exodus will distort the pricing of capital for real economy projects.

In the wake of the crisis, central banks and national regulators have done virtually nothing to address this problem. And it appears to have gotten worse. We’ve written often of the dangers of tight coupling, that overly interconnected systems are vulnerable to catastrophic failure. If one node on the grid goes out, the damage propagates through the system faster than officials can intervene. The combination of extensive counterparty exposures and an undercapitalized shadow banking system created just this sort of danger in the runup to the crisis.

While some measures are underway to reduce counterparty exposures, such as moving more activities to exchanges and centralized clearing, they don’t appear to be far-reachign enough to change the architecture of the financial system. We’ve seen some evidence that the interconnectedness has increased, such as investors moving in massive herd-like “risk on, risk off” trades, and concerns that ETFs, which have become a favored trading vehicle for many investors, are a potential source of systemic risk. Yet tellingly, the Jackson Hole participants seem unwilling to recognize that the only way to reduce the risk of international hot money is to change the structure of the grid. For instance, a Reuters write-up of a Jackson Hole paper by one of France’s former central bankers, Pierre Landau, worked through several ideas for alleviating the negative feedback loops of the unwind of what he called “more accommodative monetary conditions than warranted.” Unfortunately, he concluded that it would be well-nigh impossible to get the political support for the needed national coordination. He concluded:

As a result, the outlook for global capital markets is not encouraging, Landau said, warning of a “segmentation” between nations with surplus capital and others that will suffer from a dearth of investment due to a lack of access to capital.

“The most likely scenario is that of progressive fragmentation of the international financial system,” he added

This sort of thinking is why we are likely to have another bout of bad outcomes. More compartmentalization of international capital markets is necessary and desirable, precisely because regulation and legal systems are nation-based. Having capital able to escape proper oversight has repeatedly led to miserable results for everyone but the speculators who were able to cash in their chips before the casino collapsed (or more recently, was bailed out). So we can either have an organized and well-thought out approach to containing cross-border money flows, or we can have it take place as a result of panicked, uncoordinated action and possible or actual institutional failures. It’s looking more certain that because the authorities are unwilling to do the hard intellectual and political work to move to a more robust system, we’ll have a chaotic end game instead.

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32 comments

  1. john cruise

    ecuador’s currency is the us dollar
    please explain 8 per cent drop in reserves….
    [wonderful place to visit,Galapagos,Andes]
    outstanding country

    1. LucyLulu

      Central bank reserves, or government reserves if there is no central bank, are held in foreign currencies (or the international currency….. the yellow metal ‘bugs’ find attractive). They are used to purchase that nation’s domestic currency in foreign currency markets, as needed, to support the desired rate of exchange.

    2. craazyboy

      There it would be simple “currency flight” from the country. (from banking system – which ultimately drains central bank reserves)

      Here, June TIC data indicated foreigners(mostly central banks) sold $40B in treasury bonds. Not sure if they took the dollars home or left them here.

      1. nonclassical

        “…More compartmentalization of international capital markets is necessary and desirable, precisely because regulation and legal systems are nation-based.”

        ..so true-but what’s the alternative?…one world government-regulation? A new
        Bretton-Woods??

        1. craazyboy

          I’m not a fan of cap controls, at least the way they have been done historically around the world because the usual thing is they capture the little guys savings and the big guys still do whatever they want. (which has been by far the damaging things)

          Then it is the central banks that set off the “search for yield”, carry trades, and massive derivative creation and their stated goal is to drive us into higher risk investments. (mostly the big guys again) I don’t like that game either because then it ends and we little people are the last to know when it’s ending.

          The alt is controlling multinational banking – but not much to cheer about there so far. Also globalization in general if we want to have our very own countries and jobs within our borders.

        2. craazyboy

          I’m not a fan of cap controls, at least the way they have been done historically around the world because the usual thing is they capture the little guys savings and the big guys still do whatever they want. (which has been by far the damaging things)

          Then it is the central banks that set off the “search for yield”, carry trades, and massive derivative creation and their stated goal is to drive us into higher risk investments. (mostly the big guys again) I don’t like that game either because then it ends and we little people are the last to know when it’s ending.

          The alternative is controlling multinational banking – but not much to cheer about there so far. Also globalization in general if we want to have our very own countries and jobs within our borders.

  2. profoundlogic

    Great post, and this little tidbit from that 2010 paper caught my attention…

    “So what caused the crisis? Clearly, the shadow banking system (mainly based around US and European financial institutions) succeeding in generating huge amounts of leverage and financing all by itself (24, 28). Banks can expand credit independently of their reserve requirements (30) – the central bank’s role is limited to setting short-term interest rates (30). European banks deliberately levered themselves up so they could take advantage of
    opportunities to use ABS in strategies (11), many of which were ultimately aimed at looting these same banks for the benefit of bank employees.”

    The same accounting control fraud continues to this day, just on a larger scale, and with the overt admission of government regulators stating that the criminals are too big to indict or prosecute. If it looks like organized crime, just zoom out a bit, say 40,000 feet or so. That should do just fine.

    1. C

      many of which were ultimately aimed at looting these same banks for the benefit of bank employees.”

      I agree although I would replace the word “employees” with “top executives” as many bank employees even mid-level traders did not win out from the looting.

  3. Moneta

    It was not charity. Emerging countries were used by the West to produce cheap goods and keep consumerism alive.

    Over the last 40 years, the West has built itself up even more (bigger houses, more cars, etc.) and requires ever greater amounts of energy and resources to maintain its lifestyle.

    Therefore, it is hard to believe that it will let emerging markets consume the cheap energy that it needs for itself.

  4. from Mexico

    Yves Smith said:

    It’s looking more certain that because the authorities are unwilling to do the hard intellectual and political work to move to a more robust system, we’ll have a chaotic end game instead.

    I think the only “hard intellectual work” the “authorities” will be doing is that which is required to craft whatever pseudoscience is necessary to justify the policy mandates of the finance sector.

    1. Lambert Strether

      Yep. They’re doing plenty of hard intellectual and political work, just not with public purpose in mind (or, more subtly, they identify public purpose as their own). Crafting and maintaining bullshit takes skilled, and very expensive, artisans. They’re doing plenty of hard work.

      1. fresno dan

        I think there is nothing more difficult for a human than to admit he is wrong. If you have spent your life studying a theory, and using bias and group think to selectively pick data to confirm your view of the theory, it is just not within most people to say that facts and my theory do not coincide.
        I think when you strip it down, it was simple corruption. and hostage taking – bail us out or the economy gets it!!!!And we continue in this mess because of a purposeful policy that we will not prosecute wrong doing.

        1. from Mexico

          fresno dan said:

          And we continue in this mess because of a purposeful policy that we will not prosecute wrong doing.

          Now that’s something I could really get into: punishing financial criminals.

          The Mennonites and Anabaptists, like our modern-day liberals, didn’t believe in punishing anybody. But Calvin and the Catholics of that time, like our modern-day conservatives (at least when it comes to dealing with the little people), really got into that punishment thing.

          “[T]he intention of the [Old] Law was that retaliation should be sought out of the love of justice…and this remains still in the New Law,” wrote Aquinas. Aquinas insisted that it is not merely allowable but positively “meritorious for princes to exercise vindication of justice with zeal against evil people.”

          John Calvin argued that the “true righteousness” of the civil magistrate is “to pursue the guilty and the impious with drawn sword,” and if magistrates should rather “sheathe their sword and keep their hands clean of blood…they will become guilty of the greatest impiety…”

          This may put me slightly to the right of Attila the Hun, but when it comes to banksters, what Aquinas and Calvin had to say rings mighty true.

  5. from Mexico

    Yves Smith said:

    And Gordon’s remarks give a clue as to why this hasn’t occurred: that it would require “heterodox thinking” which really means “heretical thinking”. Not only would policymakers and the public need to identify the bad policies and decisions that produced the crisis (naming names!) but also abandon some deeply held beliefs.

    Yep. As Joseph Stigliz put it, the new economic ideologies

    replaced the religious doctrines that had so long held sway over humankind but were [now] held with the same emotional fervor; indeed the fervor was reinforced by the false sense that the [new economic] ideologies rested on scientific premises.

    –JOSEPH E. STIGLITZ, Wither Socialism?

    The Enlightenment faithful believed that all that was needed to achieve an eartly paradise was to sweep away the old superstitions and replace them with reason and science. But in reality all that happened was that we replaced the wicked old superstitions with a whole new outfit of equally misleading ones. The social, economic and racial order stayed largely unchanged, and the only thing that changed was the symbolism and rationale used to give it intellectual and moral legitimacy. This is the point that María Elena Martínez drives home in Geneological Fictions:

    Only in the eighteenth century, however, would invocations of nature as the basis of difference between men and women as well as between human goups begin to emerge as a prominent discourse…. As scientific explanations to sexual and racial difference gained ground over religious ones, colonial Mexico’s population became subject, like the animals and plants in natural histories, to increasingly elaborate and visual taxonomic exercises that made the genering of race and racing of gender as well as social hierarchies seem to be ordained by nature.

    Furthermore, the common people of Mexico suffered mightily under the reforms of the enlightened Bourbon monarchs:

    Furthermore, the dramatic assertion of the state’s extractive role did not help spread economic wealth within colonial society. By the late eighteenth century, New Spain’s population paid 70 percent more in taxes than that of Spain. Because approximately 40 percent of tax revenues went to Madrid and because colonial governments had to absorb the costs of greater defense obligations and bureaucratic reconfiguations, Mexico’s budget deficit grew at an alarming rate. At the same time, the already acutely uneven distribution of wealth worsened. Indeed, the little upward mobility there was tended to favor peninsulars (main beneficiaries of the crown’s expansion of the bureaucracy), while surging royal tax and tribute demands elevated pauperization rates among the rest of the population. Among the most affected were rural working people, who underwent a decrease in their real wages and incomes.

      1. from Mexico

        Well certainly monarchy remains a simple symbol of injustice to the American imagination. This conviction finds expression today as one of the fundamental tenets that informs neoconservatism.

        However, as Martínez goes on to explain, “No racial discourse is ever entirely new” and “race builds on old beliefs, tropes, and stereotypes”:

        In Mexico and the rest of the Iberian Atlantic world, the expansion of mercantile capitalism and advent of new understandings of the body and biological reproduction within the natural sciences began to secualrize the concept of limpieza de sangre. Its association with Spanishness and whiteness and its interaction with class enabled the exclusion of people…from some religious and public offices. But as has been stressed repeatedly in this book, the inconsistency between royal definitions of purity of blood and exclusionary practices did not mean that the original and more religious meanings of the concept did not have major ramifications in colonial Mexican society….

        These colonial developments, a vivid example of how historical processes and ideological constructs…influence a society’s understandings of biological reproduction and race, enable the emergence of a Mexican vision of a Catholic mestizo patria… That vision and all of its ambivalences toward native and especially black ancestries would survive independence and continue to haunt Mexican political imaginaries throughout the nineteenth and twentieth centuries and beyond.

        1. nonclassical

          …interestingly, NY Times Sunday held it’s every 3 years, “France can’t afford to go on the way it is” binge editorial…

          and every 3 years they have turned out to be wrong-(used to be every 10 years)

          What AmeriKans don’t comprehend regarding France is people power-I’ve been there when everyone went on strike for 3 weeks…as usual, government finally capitulated-asked people to go back to work on a Thursday….”the people” responded they would take a long weekend, and return to work on Monday…

          Lambert and others here oft rue the U.S. “left”, as not active or vociferous enough…Wisconsin was an example of “the people” standing up-and Obama-our leaders defining they were NOT part of that process….

          as far as “the left” I know was concerned (Obama’s “professional left”) that was the end of any trust in him…worse-dems haven’t comprehended that “the left” IS “professional-educated…too educated to follow obvious nonsense…(as opposed to the blind believers of the right..)

  6. Tyler Healey

    “… QE … doesn’t actually do anything of … economic consequence but market participants, and the Fed, act as if it does matter for the macro economy. And it also has some what can be called ‘supply side’ effects as it shifts available private sector assets between reserves, tsy secs, and agency mortgage backed securities.”

    - Warren Mosler, 24 Aug 2013

    No wonder it’s not working; it’s a supply-side policy.

      1. nonclassical

        ..and how did QE get started, and when??:

        http://www.barlettandsteele.com/journalism/vf_oct09_1.php

        A Reverse Holdup

        “The intention of Congress when it passed the bailout bill could not have been more clear. The purpose was to buy up defective mortgage-backed securities and other “toxic assets” through the Troubled Asset Relief Program, better known as tarp. But the bill was in fact broad enough to give the Treasury secretary the authority to do whatever he deemed necessary to deal with the financial crisis. If tarp had been a credit card, it would have been called Carte Blanche. That authority was all Paulson needed to switch gears, within a matter of days, and change the entire thrust of the program from buying bad assets to buying stock in banks.”

        …let’s not forget prior to bushpaulson “bait and switch” mortgage holders were to be included in “adjustment”…which is reason so many dems voted FOR “bailouts”…most were quite chagrined when mortgage holders were switched out of process:

        http://www.rollingstone.com/politics/news/wall-streets-bailout-hustle-20100217

        http://www.themodernsurvivalist.com/archives/515

  7. C

    This sort of thinking is why we are likely to have another bout of bad outcomes. More compartmentalization of international capital markets is necessary and desirable,…

    At the risk of being heterodox I would argue that there may still be problems with some fracturing. Specifically if the fracturing winds up walling off capital in countries that have it now (i.e. Asia) and away from the ones that need it (i.e. Europe) that would be a problem at least for the Europeans.

    1. Yves Smith Post author

      There is a difference between total balkanization and putting some restrictions in place. One of the biggies now is the “home host” rule, which allows banks to keep no capital in countries where they have subsidiaries, The local regulators call the home country regulator and ask it to inject capital if they decide they don’t like what they see.

      Having regulators in host countries put some minimal standards in place as a condition of dealing with residents (companies incorporated in that country + retail customers who place transactions through them) would have a fair bit of impact.

      And in general, you can’t have a highly efficient system and have it be robust. Formula One cars can typically run only one race. So insisting we can’t reduce the level of international capital flows means you are voting for more banking crises, which have turned out to further entrench the bankers. Are you sure you want that?

      1. susan the other

        This was a great summary of the state of reality in banking and finance. Thank you. My new favorite quote is now from what you just said, “You can’t have a highly efficient system and have it be robust.” But I’m also left wondering what conflict is going to happen between “home host” protocols and all the new “free trade” extra-legal tribunals. Most interesting.

  8. TomDority

    Economic rent imposed by the ‘economic profession’ has been in force, and supported by those who most benefit by it’s workings – the kleptocrats, monopolists and speculators – The Rentier class. It has been in effect for a hundred years…since the concept that land holds value in dollars – that land transmogrifies /transmutes (or other magical phrases) into money. What we need is a better (revive the old meanings of things like – wealth, financial capital, industrial capital, human capital, public purpose etc. so that a real conversation can be had.
    The financial profession has prostituted itself to the neo-economics – the magical economics that replaced classical economics long ago. It was replaced and instituted by the vested interests who supported ‘higher’ Chicago school learning.
    This talk of regulation as a panacea to the workings of finance is not effective – - to make regulation effective one must place a tax (not a cost of doing business fine) upon those activities that do economic harm and are against the public good. Tax the proper things that extract wealth – ie; the rentier class, and un-tax the wealth producing activities – labour, buildings, real production, real capital.
    As normal, sane human beings, where should we lay the heavier taxes, on industry or speculation?.

    In spite of the ingenious methods devised by statesmen and financiers to get more revenue from large fortunes, and regardless of whether the maximum sur tax remains at 25% or is raised or lowered, it is still true that it would be better to stop the speculative incomes at the source, rather than attempt to recover them after they have passed into the hands of profiteers.
    If a man earns his income by producing wealth nothing should be done to hamper him. For has he not given employment to labor, and has he not produced goods for our consumption? To cripple or burden such a man means that he is necessarily forced to employ fewer men, and to make less goods, which tends to decrease wages, unemployment, and increased cost of living.
    If, however, a man’s income is not made in producing wealth and employing labor, but is due to speculation, the case is altogether different. The speculator as a speculator, whether his holdings be mineral lands, forests, power sites, agricultural lands, or city lots, employs no labor and produces no wealth. He adds nothing to the riches of the country, but merely takes toll from those who do employ labor and produce wealth.
    If part of the speculator’s income – no matter how large a part – be taken in taxation, it will not decrease employment or lessen the production of wealth. Whereas, if the producer’s income be taxed it will tend to limit employment and stop the production of wealth.
    Our lawmakers will do well, therefore, to pay less attention to the rate on incomes, and more to the source from whence they are drawn.

    Written around 1925

    1. nonclassical

      ..yup-likely included in this historical polemic:

      http://www.thriftbooks.com/viewdetails.aspx?isbn=0195115120

      ($3.97-free shipping)

      The comprehensive Wall Street: A History, by Manhattan College finance professor Charles Geisst, is a meticulous examination of the economic cycles, legendary financiers, and monumental transactions that have shaped the fiscal structure of the United States. The sweeping tale ranges from Revolutionary War days to the California Gold Rush, from the Civil War to the Depression, and from the great 1950s bull market to the ongoing 1990s boom. Geisst’s narrative is pinned to the relationship between finance and government, and tracks the latter’s increasing involvement in the former to show where matters stand today

  9. psychohistorian

    Two points have not been brought up which I think should.

    The US dollar is the current Reserve Currency and the presses have been running full tilt since 2008. That money has gone to the banks that have (undoubtedly) used that cash to make money off the spread between the dollar and other countries currencies as they try to maintain “parity” with the dollar. The plutocrats doing this manipulation don’t give a fig about any specific nation states except the one with all the nukes and ability to bully the rest of the world.

    The US banks are pushing derivatives on the world whether they like it or not. The last I read Brazil was the only holdout in South America and this QE move will put their resolve to the test. Derivatives are the next iron fist tool of controlled devolution of individual nation state existence….is that a good thing?

    I just thought of a new bumper sticker:

    The Reserve Currency has no clothes!

  10. RBHoughton

    I wish there was less quoting other men’s minds and more original thought in these commentaries. Excuse me speaking frankly but I seldom have time to read the links provided and when I have I usually find they can be paraphrased in a sentence or two.

    Cum’n chaps, this isn’t a memory test, there’s no points for the most links. We have a really scary scenario taking shape before us and need some bright ideas on it.

  11. Lune

    Perhaps finally we’ll have a discussion about the utility of capital controls. The most successful emerging economy (China), had capital controls throughout its most explosive growth periods, and has them still. So why do economic theorists still view capial controls as antithetical to growth and/or investment?

    At any rate, the political will to implement cap controls doesn’t have to be found in America or Europe: it’s in the emerging countries dealing with capital flight. Let Bernanke’s decisions squeeze those countries a bit harder and you’ll see them overcome any political resistance. India is already implementing soft capital controls with restrictions on retail and business foreign exchange operations. If conditions persist, these can easily firm up. After all, the spectre of an IMF embrace still strikes fear into every Asian central banker, hopefully enough fear to overcome any lobbying by the speculators.

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