By Houses and Holes, editor of MacroBusiness and founding publisher and former editor-in-chief of The Diplomat magazine. Originally published at Macrobusiness.
Lambert here: Listen to this with your morning coffee. Two cups, it’s long but lively.
Find attached a recent speech by the FT’s Martin Wolf on the evolving context of the post-GFC world and the lessons we have and haven’t learned. Essential weekend viewing.
Macrobusiness commenter Gunnamatta helpfully provided a partial transcript of some real zingers. Here it is:
‘The financial sector in the modern western world does not lend for business – business lending is almost insignificant. Its principle job is to leverage up property assets – mostly household but also commercial property – and in the process generate, when you think about it, a massive rise in real prices of this stuff, and massive increases in household debt.’
‘At this point intelligent economists would say ‘This wouldn’t have happened if they had used their money wisely.’ This is perfectly true. But as I have already told you, they didn’t, they put it into housing. And housing is really not a very good asset to back foreign borrowing against, because it’s completely non-tradable unless you intend to sell all the houses to Chinese people.’
‘There is a simple solution for the US housing problem – allow a hundred million Chinese people to come to America and buy the houses. And since they paid for them anyway, why not?’
‘And what we had was a situation in which the emerging world as a whole became huge net creditors of the developed world. We borrowed all this money – and we threw it away. Very very simple. Colossal wastage of this capital. And now they want their money back. And the answer of course is that they will get it back, in depreciated dollars.’
‘My basic rule is when the government tells you there is nothing to worry about, the thing you do is you take your money out.’
‘The Eurozone was created and the net flows across the Eurozone just exploded. And Germany was the dominant creditor. It went actually from a small deficit to a gigantic surplus, it’s the second largest surplus country in the world, by the way. And then there are a few other surplus countries of which the most important is the Netherlands. And down below you get these absolutely enormous deficits, by far the most important was Spain. But a number of countries, Spain, Portugal, Greece are the most important were running current account deficits of 10% of GDP for roughly a decade, their net external positions went to about 110-120% of GDP and all this stuff was invested wisely and sensibly in in overpriced houses. It is not surprising that we ended up in a very very large mess.’
(of nations in Eurozone with net government debt of more than 100%) ‘And they are all going to default. We just don’t know when.’
‘In essence we have the same financial system as before, except that the banks are bigger and more concentrated, and more diverse, and they are very marginally less leveraged – but they are less leveraged, as I put it in one thing it is the difference between being unbelievably over-leveraged and merely being extraordinarily over-leveraged, so basically the leverage ratios have halved but they are still very very very high. The interconnections of the banking system are the same, and it is not at all clear that any of the underlying problems that have been revealed in risk management and so forth have been resolved.
The second think which I would like to link with this. The other thing we have learned definitively, absolutely definitively, that the dominant dogma of central banking, which was that ‘if we stabilise prices’ – this brings us all the way back to Wicksell and Hayek, it brings us back 100 years of debate – ‘if we stabilise prices, or price expectations, in this case inflation expectations, the economy would be stable and we could assume the financial sector wouldn’t cause us problems’ that proposition has also I think been definitively disproved. And for that reason central banks are engaged in a desperate attempt to put together a coherent doctrine of what it is they are about when they get back to normal, if they get back to normal. Remember Japan hasn’t got back to normal for twenty years’
‘Our views about the financial sector and our views about monetary policy were, in my view, simply demolished, and we don’t yet have a coherent and agreed alternative.’*
‘The third lesson I would draw, and it is controversial, but to a first approximation, a long period, to a first approximation, there are some exceptions, a very lengthy period of running very large current account deficits is likely to be a warning of a very significant financial macro crisis, unless ……….. the money is being invested. Because by definition some sector of the economy is a very large net borrower……..that the money is being invested in extremely valuable assets which have a particular property of being able to service foreign debt – they are tradables. And this is almost inconceivable because one of the consequences of a large current account deficit, a concomitant, is a huge appreciate of the real exchange rate, which has exactly the opposite effect. ’
‘On the other hand. If Canada and Australia managed to really succeed in screwing up where they are it will be impressive’
Supports MacroPrudential regulation
Winter is coming. Or not!
NOTE * So for macro, Wolf says we don’t even know what the alternatives are. Yet for the political class (and their owners) TINA rules. Seems contradictory!