Bernanke's Speech and its implications

What the world needs now?

It’s not love sweet love.

Bernanke in the speech he gave today, besides looking at the circumstances of Asian economies in the business cycle, the ostensible topic of his speech, returned to a theme he has visited in the past. This is the danger of persisting imbalances: surpluses and deficits alike.

While he was very vague about how this should be approached, he was again clear on what needs to be achieved. High savings countries need to consume more and reduce the gap between savings and investment at home. High spending countries need to save more. There is a little something for everyone.

At the same time there is little evidence that any country is taking up a stand to pursue these objectives. Yet the risks are growing

Perspective on imbalances

One issue is that under the gold standard there were rules to the game. Deficit countries were forced to adjust because under the gold standard they lost gold reserves if they let current account deficits persist. No one wanted to run out of gold. So deficit counties usually hiked interest rates and slowed their economies down, contracting imports in the process to rebalance their trade, maybe they even ran a recession. While that system was disciplined it was also confining and it had the side effect that it rewarded countries that had gold mines. The current loose FX system that has few rules and none enforced has been short on discipline – very short. Hence imbalances have arisen, persisted and become enlarged in way that they never could under the gold standard.

G-20 not up to the challenge

The G-20 tried to consider a US treasury proposed to accomplish these same ‘Bernanke’ objectives when it last met. The proposal got lip service only. Absent some concerted effort to accomplish the goals of adjusting savings/investment imbalances, the pressure for adjustment will fall on the exchange rate.

Connections and linkages

The imbalances are one of the reasons for the dollar to be losing ground. The exchange rate is a remedy for US BOP ills since a weaker dollar will choke off US exports and spur US imports. But the dollar’s drop brings other tensions to the surface. Moreover, it is unlikely that the dollar can fall enough to purge the US structural deficit problem. The need for some sort of coordinated effort involving the realization of enlightened self-interest is long overdue. Yet the world’s most important economies are not about to cut any deals. Each sees its current state as in some way optimal for its own needs even though the whole picture is one of a very dysfunctional economic community.

The risk

History suggests that the sorts of problems that arise in the wake of these huge imbalances persisting and being extended are not minor inconveniences. Yet there is no agreement even on pursuing the goals that Bernanke has spoken of repeatedly and that were put on the table at the recent G-20 meeting. Growing payment imbalances have ended badly whether it was due to OPEC countries’ rising wealth, rising Japanese trade surpluses or China’s huge foreign exchange reserve accumulation. We can only wonder if the fallout from these imbalances will get worse as the imbalances themselves get bigger and they are getting bigger - in absolute terms and larger relative to GDP.

Can’t have your Egg Foo Yung and eat it too

China has goals that are bizarre. They are mutually inconsistent. It wants a weak currency to keep its competiveness in tact yet it does not want to keep accumulating dollar assets of which it has in abundance. But if it does not purchase those dollar investments, its currency will rise in value. The lack of a foreign exchange system with clear rules allows China to act like this lost soul with deeply conflicted goals.

The point, the risk, the dysfunction

To be sure Bernanke’s point is a sharp one. No one can tell you when we must get off this path onto one like the one Bernanke urges. By not adjusting, and letting a normal business cycle recovery occur led by US growth with surging US imports and a widening US current account deficit we are playing with fire. It’s a prescription for something bad to happen. It’s like high blood pressure. No one knows what price you pay for it, but we know it puts you more at risk to various health issues. So why leave this problem untreated when we have options and when better systemic health is in everyone’s best interest? That is the unanswered question.

A Noble Nobel Prize in Economics

Math gods! Economics has become too much about math. I find it curious that economics, which is social science is being vilified for being pushed in the direction of being a social science. Huh?

Curriculum: When I received my PhD in Econ over 30-Years ago Harvard was in a snit about dropping its history of thought requirement. B-schools have been short on ethics training. If it ain't math or quantitative it ain't worth studying.

NOT! - I can't you tell how glad I was that I read Koopman's "Three essays' in graduate school!!??

Ptolemy is dead - Are markets gods? Do all the planets rotate around them? Is there nothing about morality and ethics B-leaders need to know? What about anyone knowing about history (in this case economic history) and 'human behavior', read 'consumer behavior' (woo-hoo social science social science!)? Can the world really be subsumed in a series of equations (Issac Asimoz- read his Foundation series)? Maybe if the equations are complex enough. Maybe it's not just Sci-Fi, but it still is for now. But I doubt we are at that level of understanding for either human behavior or math, indeed I know it.

Math guys may get Econ PhDs from MIT but they work for Social Science wonks - Anyone who does policy work knows the importance of the non-math stuff. Public policy-trained economics often occupy high level jobs since success at some level is more about understanding politics, motivations and advertising (spin) than about having the best quality 't' or 'F' statistic. In any even I am far too suspicious of that quant work since the people with the same opinions keep 'proving' that they right even though guys on the other side keep 'proving' that 'they' are really wrong.

From X + Y = Z to the X-factor -- While 'The Journals' may cringe at this, in my grad work I'd taken a course in law and economics that a was a very useful way to put the quantitative stuff in its place. Up to now the 'quant' stuff was like The Blob, absorbing everything in sight. Models have a role, but its not to be placed on the altar. Broadening what economics is and does is a good thing. This Nobel prize does that.

Our inabilities are many - The inability to construct non explosive derivatives (Danger Will Robinson!, danger!) out of something as simple as a home mortgage should tell you that Quant economists exaggerate their abilities. My Dad helped people buy and sell homes for over 30-Years and never blew anyone up. I guess it takes a village...one of idiots who think they are rocket scientists. If that seems off point then assess our ability to forecast something as fundamental as an exchange rate or even productivity.

Oh, yeah we can forecast things with trend. Good for us. Economics may have been taken down a notch to some but it seems to have found its soul with this award... these awards. I admit to being heartened more by the subject matter rewarded than by the fact that a woman won (shared)the top prize. Good for her, but better for what she did.

Policy Stinks

Policy STINKS! I don’t need no stinking stimulus…if it’s like this

I was critical of the stimulus plan from DAY ONE. The CBO scored it poorly. My point was and is that the plan had more ‘agenda’ than ‘stimulus’. So, one big Bronx cheer for Democrats that packed a roughly $850bln plan with stuff that was Democrat or friends-of-Democrat (FOD) friendly. More and more it’s looking like they spent a TON of (our!) money with little effect-sound familiar? Republicans do not have the patent on that! And- as you would expect the Democrat’s tack is to blame Republicans for it… (oh, their recession is worse than we thought. But in doing this don’t forget the role of the House and Senate ‘banking committees’ in making and changing the rules that destabilized markets since they each were headed by…Democrats). I hope no one let’s them off the hook for this. ALL politicians are the SAME. We have ONE party in America and it is run by the lobbyists. Moreover, just as the stimulus plan was crude and half-hearted from the start, the President, all on his own, has been reluctant to be a positive force. He has sourly met even pieces of good news. Then he switched his interest to health care reform and has been trying to sell THAT as an economic stimulus plan (sorry, that’s pretty lame, even if we like you).

Yeah! We lose the Olympics and gain a modicum of fiscal respectability - And then Mr O took time out to go to Denmark to plump for one of the biggest money losing schemes in the world that comes periodically (well second to the money spent and misallocated in election year cycles anyway), The Olympics! Why was that so important? Is Chicago in such great fiscal shape that it wanted to lose $6bln or so by staging the games? Or since Barack is from there, did Chicago think it could toddle right over to DC and Mr O would arrange for them to get the money from us? So Rio ‘won’ the Olympics...did it really win or did it just get stuck for the bill at the next global sports party? Hey, party in Rio, Lula’s buying!