Category Archives: Economic fundamentals

Bill Mitchell: Demystifying Modern Monetary Theory

Yves here. This is a useful and accessible talk by one of the leading Modern Monetary Theory developers, Bill Mitchell of the University of Newcastle, interviewed here by Marshall Auerback of INET.

This talk is wide-ranging, and starts by pointing out that in key ways, Modern Monetary Theory incorporates basic concepts that have perversely omitted from mainstream macroeconomics, largely for ideological reasons. This conversation does not get much into central bank operations, which is the basis for MMT’s claim that it is a much more accurate representation of how monetary operations work for a fait currency issuer like the US than textbook or popular press accounts that are based on outdated “gold standard” notions.

In typical Australian fashion, Mitchell is blunt, so I suspect readers will find this talk to be more lively and accessible than typical economists’ fare.

Yanis Varoufakis: Greek and European Prospects for 2015

Yves here. Yanis Varoufakis discusses the prospects for negotiations between a new, likely Szyria-led Greek government and the Troika over the next Greek restructuring. Varoufakis in effect argues that the Greeks should go hardball because the Trokia’s demands are unreasonable. We’ll find out soon enough whether the incoming government has the public support and the guts to do so.

As much as a Grexit would be a lose-lose of major proportions, Varoufakis argues that the logic of current Eurzone arrangements is driving members to a break-up. Indeed, some observers believe that Germany would like to kick Greece out of the Eurozone. As Marshall Auerback put it by e-mail:

As far as Germany goes, let me quote Macbeth:

I am in blood
Stepped in so far that, should I wade no more,
Returning were as tedious as go o’er.‎

Wolf Richter: It’s Official – Inflated Home Prices Strangle US Housing Market

Mortgages are hard to get, and inventories of homes for sale are low: Those have been the dominant reasons cited by the industry to rationalize the crummy home sales that have disappointed pundits for over a year. But now those memes have been debunked by homebuyers themselves.

Wolf Richter: First Oil, Now US Natural Gas Plunges, “Negative Igniter” for New Debt Crisis

Yves here. Wolf has been keeping a sharp eye out on how shale gas players were junk bond junkies, and how that is going to lead to a painful withdrawal. Here, he focuses on one of the big drivers of the heavy borrowings: the deep involvement of private equity firms, who make money whether or not the companies they invest in do well, by virtue of all the fees they extract. The precipitous drop in natural gas prices is exposing how bad the downside of a dubious can be, at least for the chump fund investors.

It’s hard to imagine an industry that is a worse candidate for private equity than oil and gas exploration and production. The prototypical private equity purchase is a mature company with steady cash flow. Oil and gas development is capital intensive and the cash flows are unpredictable and volatile, because the commodity prices are unpredictable and volatile.

A less obvious issue is that it actually takes a lot of expertise to run these businesses. This is not like buying a retailer or a metal-bender. Now private equity kingpins flatter themselves into believing that experts are just people they hire, but here, the level of expertise required, and the fact that the majors are way bigger than private equity firms means that the private equity buyers don’t know enough to vet whether the guy they hire is really as good as he says he is. Like all outsiders, they are way too likely to be swayed by the sales pitch and personality rather than competence.* And even with all the money that private equity has thrown at energy plays, it’s not clear that New York commands much respect in Houston.

As one private equity insider wrote in June, ironically just before oil priced peaked:

Saudis Tell Shale Industry It Will Break Them, Plans to Keep Pumping Even at $20 a Barrel

When the Saudis announced their intention not to support oil prices when they were sliding towards $90 and plunged quickly through that level, we deemed the move to be a masterstroke. It served to damage both economic and political enemies. On the economic front, the casualties would include renewables, Canadian tar sands, and the US shale gas industry. On the geopolitical front, the casualties would include Iran, Syria, Russia…. and the US.

Even though Riyadh is nominally still an ally, relations with the US are fraught. The Saudis are mighty unhappy with America over its failure to get rid of Assad, its refusal to indulge Saudi demands of attacking Iran (our leaders may be drunk on power, but they haven’t quite gone over the deep end) and or indirectly working with Iran against ISIS (which started out as Prince Bandar’s private army and may still have the kingdom as a stealth patron). So the Saudis are not at all unhappy if the US suffers as a result of the whackage of its energy industry. First, that’s an inevitable outcome if the Saudis are to succeed in maximizing the value of their oil assets, which is a survival issue for the royal family. Second, since relations between the US and Riyadh are frayed right now, it is an opportune time to show that the kingdom is not to be treated casually.

Yesterday, the Saudis made it even more clear that they are not pulling out of their game of chicken with other energy producing nations. The Saudis will keep pumping and by implication, will force production cuts on others.

Combatting Eurozone Deflation: QE for the People

Yves here. This post describes why having the ECB give money directly to citizens would do a better job of fighting Eurozone deflation than the US version. The author starts from the premise that QE worked in the US, when there is ample reason to believe it worked only for financial institutions and a small portion of the population. Here, the ECB would engage in what amounts to a fiscal operation, which also would have dome more to stimulate the economy than the Fed’s QEs.

Mathew D. Rose: Germany’s Dubious Successes

Germany will have clocked up a number of dubious concomitant successes this year. But these products of German hubris look like pyrrhic victories

Michael Pettis: Is China Really Turning Away from the Dollar?

Yves here. This important post by Michael Pettis addresses whether the efforts of the Chinese to diversify their foreign investments away from the dollar will be a negative for the US. Pettis is skeptical of that thesis, and some of his reasons are intriguing. Like quite a few experts, he doubts that China’s role in sponsoring an infrastructure bank will be a game changer, and he also points out, as we have regularly, that the Chinese cannot deploy their foreign exchange reserves domestically without driving the renminbi to the moon (via selling foreign currencies to buy RMB), which is the last thing they want to have happen. A more surprising, but well argued thesis is that reduced Chinese purchases of US bonds would be a net plus for the US.

Get a cup of coffee. This is a meaty, important article.

Blowback from Oil Price War: Sovereign Wealth Funds Selling Investments

While there has been ample discussion the impact of falling oil prices on the national budgets of major oil producing nations, there’s been less media focus on how some of the countries that face budget squeezes are likely to react.

Consider what a difference nine days makes. Moody’s gave six Middle Eastern countries a thumbs up on December 8, based on the assumption that oil prices will average $80 to $85 a barrel in 2015. With WTI now at $55.33, it appears reasonable to assume a price of $60 or below for the first half of 2015. The consensus is that production cuts will lead to much firmer prices in the final two quarters,* but $70 a barrel would now seem a more reasonable forecast for the year.

Here is the money part of the Moody’s assessment (emphasis ours):

How Putin’s Fealty to the Washington Consensus Made His Currency Crisis Worse

Who needs sanctions when intellectual capture produces such swimming results? The US-led restructuring of the Russian economy after the USSR fell is a gift that keeps on giving.

Hoisted from comments:

Oil, Ruble and Ideology

Yves here. Since the financial media is covering the continuing meltdown of the ruble intensely, we thought it would be helpful to add some information that seems to be missing from most reporting. This post by Jacques Sapir from the 14th (hat tip Michael Hudson) provides important detail on the importance of oil to the Russian economy (far less than typically depicted, although it is the biggest source of foreign exchange), the impact of the fall of the ruble and oil prices on the domestic budgets, and the odds of a Russian default. Note that Sapir is sanguine on the default front and does not see a rerun of 1998 in the offing, by virtue of of Russia having large foreign currency reserves. Note that Menzie Chinn of Econbrowser differs, and uses a chart from the Economist to make his point:

What are the Odds of a Commodities-Led Global Financial Crisis?

Yves here. While the odds of commodities-triggered 2008 style meltdown is still not the most likely outcome, recall that that pessimists like yours truly assessed the likelihood of Seriously Bad Things Happening as of early 2008 at 20-30%, which I then saw as dangerously high. In other words, tail risks are bigger than they appear.

Some of the things that favor worse outcomes than one might otherwise anticipate is investor irrationality, or what one might politely call herd behavior. For instance, a major news story today was how investors are dumping emerging markets assets willy nilly, when many are not exposed to much if any blowback from lower commodity prices and quite a few are seen as net beneficiaries. The offset is that central banks have been conditioned to break glass and overreact when banks start looking wobbly. But the Fed may be slow to get the memo, since it sees recent data (the last jobs reports and retail sales data) as strong, and is also predisposed to see its medicine as working even though it is really working only for those at the top of the food chain.

Note that this report is from Monday in Australia, and look how much oil prices have dropped since then. WTI is now at $54.28 per Bloomberg.

Jeffrey Sommers and Michael Hudson: The Koch Brothers’ Governors

The Koch Brothers are the closest thing the United States has to Russia’s oligarchs.