Category Archives: Macro

The New Corporation – Documentary

Following on from the very successful documentary ‘The Corporation’ comes ‘The New Corporation’. The Corporation​ examined an institution within society. THE NEW CORPORATION reveals a society now fully remade in the corporation’s image, tracking devastating consequences and also inspiring movements for change. Click on the link below to view screening options – The New Corporation

The Supercycle and MMT

I listened to a very good interview on the David McWilliams podcast in which he talks with Dario Perkins the super cycle and the end of neoliberalism. A lot of the discussion was around the paper that Dario Perkins had written – A New Supercycle Running on MMT – in which he sees MMT as delivering a superior fiscal-monetary mix.
The fact that fiscal policy must take over from monetary policy has been the apparent with the range of policies that were implemented after the GFC. Since the late-19th century the super cycle can be placed into three phases of Capitalism influenced by macro-financial-political regimes – see chart below. MMT could provide the intellectual rationale for a new form of capitalism – Capitalism 4.0. Over the last century the pendulum has swung between extreme fiscal and extreme monetary policy with the global economy primed for another change.

1920’s – Monetary policy dominated but ineffective during the Great Depression
1930’s – Fiscal policy dominated as there was a need for government intervention to get the economy moving after the Great Depression
1940’s – 1960’s – Fiscal Policy – with the 2nd World War and the recovery process post-war.
1970’s – Stagflation and fiscal policy is no longer effective and Keynesian economics as government spending just causes higher inflation and higher unemployment.
1980’s – Monetary policy gains traction and inflation is brought under control. Central Banks become independent and fiscal policy and government intervention is seen as a restriction to growth. With Reagan and Thatcher Neoliberalism was the ideology of the day

Source: A New Supercycle Running on MMT

Have we reached a new regime – Capitalism 4.0?
The GFC was a warning that capitalism in its present form was not working and there was potential for a new regime change. However governments adopted austerity and QE which made inequality worse. The issue was that there was no alternative to the neoliberalism Capitalism 3.0 but with the arrival of COVID-19 governments have been forced to spend up large and there is a belief that the old system doesn’t work and that maintaining Capitalism 3.0 will not make the situation any better. Stephanie Kelton, author of The Deficit Myth, argues that we need to rethink our attitudes towards government spending.

Modern Monetary Theory (MMT)
MMT states that a government that can create its own money therefore:Cannot default on debt denominated in its own currency;

  • Can pay for goods, services, and financial assets without a need to collect money in the form of taxes or debt issuance in advance of such purchases;
  • Is limited in its money creation and purchases by inflation, which accelerates once the economic resources (i.e., labor and capital) of the economy are utilised at full employment;
  • Can control inflation by taxation and bond issuance, which remove excess money from circulation, although the political will to do so may not always exist;
  • Does not need to compete with the private sector for scarce savings by issuing bonds.
  • Within this model the only constraint on spending is inflation, which can break out if the public and private sectors spend too much at the same time. As long as there are enough workers and equipment to meet growing demand without igniting inflation, the government can spend what it needs to maintain employment and achieve goals such as halting climate change.

It will be interesting to see if MMT can enjoy the same presence in economic policy that monetarism and Milton Friedman experienced in the post-stagflation time period. Back then there was a political revolution primed to embrace monetarism and neoliberal ideas and an electorate that had experienced a serious economic crisis – stagflation. Subsequently the influence of MMT will come down to politics.

Joe Biden seems to have embarked on a more radical macro-economic policy which has various instruments that are found in MMT. Will there be other political leaders who embrace this paradigm like Reagan and Thatcher in the 1980’s with Friedman and monetarism?

Source: A New Supercycle Running on MMT

The New Inflation Threat – Cost Push and Demand Pull – should we be worried?

If you are teaching macro policy this podcast from the BBC Business Daily programme is excellent. They debate whether inflation will be a short-term phenomenon or have a longer lasting impact on the global economy. It features Mohamed El-Erian, economic adviser and president of Queens’ College, Cambridge, who thinks central banks are already behind the curve when it comes to keeping inflation in check. Dana Peterson of the US Conference Board takes the view that it will be temporary. They also interview a restaurant owner Luke Garnsworthy. Now that England’s third lockdown has mostly lifted, customers are itching to spend and he can’t find enough staff for his kitchens. But, he says raising prices and wages isn’t an option for him. The key points from the podcast are below:

Demand Pressures
A year ago the global economy was in shutdown mode with no demand as consumers had nowhere to go. However with significant spending by governments to support those who have lost their job and the fact that people can’t spend has meant that there is a lot of pent up demand waiting to unleash itself on the market. Now that a lot of countries have opened up their economies, aggregate demand is surging and making up for lost time. This has been a surprise to many but something that is likely to continue especially in those countries that are able to contain the virus and vaccinate their citizens.

Supply constraints
Many supply chains have been slow to return to their pre-covid volume. Problems with containers, availability of container ships have made it very difficult for producers to access component parts, raw materials etc. Commodity prices, eg oil, are on the rise accompanied by semiconductor chip shortages and the Suez Canal tanker incident have caused both businesses and consumers to worry about rising prices.

Countries like Bangladesh, India and Vietnam are central to the global supply chain but the severe nature of the pandemic in these countries has added another bottleneck.

A further problem is the lack of available labour which has resulted in some firms increasing their wages in order to attract workers – Amazon and McDonald’s have done this. But higher wages are unlikely to compensate for structural unemployment – mismatch of skills – which has been very prevalent. In order to compensate for these increasing costs companies will be tempted to put up their prices.

But should we be worried?
Dana Paterson, chief economist at The US Conference Board, believes that the long-term threat of inflation is exaggerated. She suggests that prices are rising in areas that were very popular during the pandemic but as it subsides consumers will switch their spending to other areas that wasn’t possible during the pandemic – eg. bars, restaurants, movies, theatre etc.

The emergence of working from home should offset some of the minimum wages increases in some economies as employees can save on commuting costs and move to cheaper accommodation. Businesses can also save on office space and hire more workers from low-cost areas.

The rise of e-commerce has generated more competition and has helped to keep prices lower. International supply chains, outsourcing and the likely continued relative strength of the US dollar will work to keep prices down. The US Fed view higher prices as a healthy economy and want to see it rise above its 2% target before increasing interest rates. Also tolerating more inflation gives the Fed time to meet its full-employment mandate. There should be more concern about the type of inflation that becomes prevalent – asset price inflation. This is especially true in New Zealand.

David McWilliams podcast – The end of neoliberalism?

Below is a link to a David McWilliams podcast which I recommend – excellent for macro policy.

130 – The end of Neo-Liberalism & economic super-cycles explained with Dario Perkins

There is mention of the collapse of the European Super League and that this could be that defining moment when the irresistible force of a once all-conquering ideology came crashing into the immovable object of a new reality, with devastating consequences.

The interview with Dario Perkins – 20 minutes in – is particularly worth listening to. They talk about Modern Monetary Theory (MMT) and that we shouldn’t worry where the money comes from as the central bank can just print it – spend first and tax later. It’s fiscal policy that will decide whether central banks can meet their inflation targets.

Joe Biden – the world’s most unlikely radical – is a convert to MMT. He is to MMT what Ronald Reagan was to monetarism. Biden’s agenda is to compress inequalities, rip the economy away from Wall Street and give it back to the man on the street by using government spending as an arm not just of economics but democracy underpinned by fairness. Biden wants to reverse the past 30 years and lead us into a new macroeconomic supercycle, which might also last decades.

A2 Economics – The Accelerator

Just been covering this topic with my A2 class. The accelerator will come up either as a multiple-choice question or part of an essay. The accelerator theory states that investment is determined by the RATE AT WHICH INCOME, AND HENCE OUTPUT, CHANGES OVER TIME. The principle states simply that unless the rate of increase in consumption is maintained, the previous level of investment will not be maintained.

This theory assumes that firms try to maintain some constant relationship between the level of output and the stock of capital required to produce that output. In other words, we assume a constant capital-output ratio which can be expressed in either physical terms or money terms. The accelerator helps us to understand how small changes in demand in one sector can be magnified and spread throughout the economy. The example below assumes that the firm starts with 8 machines each year and 1 machine wears out each year and that each machine can produce 100 units of output per year. In the second year, demand rises for capital goods rises by 200% (from 1 to 3). When the rate of growth of demand for consumer goods slows in year 4, demand for capital goods falls. In year 6 demand drops and they is no requirement for any investment.


Limitations of Accelerator:

* Firms can meet output with stocks – may not need investment
* Changes in technology may mean firms don’t need to invest in as much capital as before
* Firms need to be convinced that demand is long-term to warrant investment
* Limited supply of technology available

Adapted from CIE AS and A Level Economics Revision Guide by Susan Grant

Consumption Function Cake

Went through the consumption function this morning with my A2 class and I recalled the superb cake that A2 student Lara Hodgson made for the class a few years ago – here’s hoping for a similar cake this term. Remember that the standard Keynesian consumption function is written as follows:

C = a + c (Yd) – where:

  •   C = total consumer spending
  •    a = is autonomous spending
  •    c (Yd) = the propensity to spend out of disposable income

Autonomous spending (a) is consumption which does not depend on the level of income. For example people can fund some of their spending by using their savings or by borrowing money from banks and other lenders. A change in autonomous spending would in fact cause a shift in the consumption function leading to a change in consumer demand at all levels of income. The key to understanding how a rise in disposable income affects household spending is to understand the concept of the marginal propensity to consume (mpc). The marginal propensity to consume is the change in consumer spending arising from a change in disposable income. The higher the mpc the steeper the gradient of the consumption function line. As you can imagine the consumption of cake was fairly rapid.

Addressing savings glut needs more than monetary policy

Today central banks have a limited toolkit and the powers to deal with the savings glut (see image below), lack of investment, climate change and income inequality. There is a lot of money in the system but the velocity of circulation is slow – MV=PT – and this is one reason why we have little inflation.

Velocity of circulation of money is part of the the Monetarist explanation of inflation operates through the Fisher equation:

M x V = P x T

M = Stock of money
V = Income Velocity of Circulation
P = Average Price level
T = Volume of Transactions or Output

Add to this COVID-19 and the impact it has had on especially developing economies and we have economic stagnation.

Source: Bloomberg Economics

Some economists have suggested the need for more expansionary fiscal policy as well as structural reform to achieve economic growth. The latter being a long-term policy can take the form of price controls, management of public finances, financial sector reforms. labour market reforms etc. Although the US Federal Reserve is adopting a flexible average inflation target to avoid a disinflationary environment it will not be enough to deal with secular stagnation.

Secular stagnation
Since the GFC in 2008 it is evident that low interest rates are the new normal and according to Larry Summers (former Treasury Secretary) we are in an era of secular stagnation. This refers to the fact that on average the ‘natural interest rate’ – the rate consistent with full employment – is very low. There can be periods of full employment but even with 0% interest rates private demand is insufficient to eliminate the output gap. The US was in a liquidity trap for eight of the past 12 years; Europe and Japan are still there, and the market now appears to believe that something like this is another the new normal.

Paul Krugman suggests that there are real doubts about unconventional monetary policy and that the stimulus for an economy should take the form of permanent public investment spending on both physical and human capital – infrastructure and health of the population. This spending would take the form of deficit-financed public investment. There has been the suggestion that deficit-financed public investment might lead to ‘crowding out’ private investment and also how is the debt repaid? Krugman came up with three offsetting factors

  1. When the economy is in a liquidity trap, which now seems likely to be a large fraction of the time, the extra public investment will have a multiplier effect, raising GDP relative to what it would otherwise be. Based on the experience of the past decade, the multiplier would probably be around 1.5, meaning 3% higher GDP in bad times — and considerable additional revenue from that higher level of GDP. Permanent fiscal stimulus wouldn’t pay for itself, but it would pay for part of itself.
  2. If the investment is productive, it will expand the economy’s productive capacity in the long run.This is obviously true for physical infrastructure and R&D, but there is also strong evidence that safety-net programmes for children make them healthier, more productive adults, which also helps offset their direct fiscal cost (Hoynes and Whitmore Schanzenbach 2018).
  3. There’s fairly strong evidence of hysteresis — temporary downturns permanently or semi-permanently depress future output (Fatás and Summers 2015).

Source: “The Case for a permanent stimulus”. Paul Krugman cited in “Mitigating the COVID Economic Crisis: Act Fast and Do Whatever It Takes” Edited by Richard Baldwin and Beatrice Weder di Mauro

Bloomberg Economics – Yellen, Summers Say Central Banks No Match for Savings Glut

OCR – LSAP – FLP = New Zealand’s Monetary Policy Toolkit

Below is a useful flow diagram from the ANZ bank which adds Large Scale Asset Purchases (LSAP) and Funding for Lending Programme (FLP) to the Official Cash Rate (OCR – Base Rate)

LSAP – this is the buying of up $100 billion of government bonds – quantitative easing
FLP – this gives banks cheap lending based on the Official Cash Rate – could be about $28 billion based on take up
OCR – wholesale interest rate currently at 0.25%. Commercial banks borrow at 0.5% above OCR and can save at the Reserve Bank of New Zealand (RBNZ) at 1% below OCR.

With FLP and more LSAP this will mean lower lending rates and deposit rates. This should provide more stimulus in the economy and allay fears of future funding constraints making banks more confident about lending. Add to this a third stimulus – an OCR of 0.25%. The flow chart shows the impact that these three stimulus policies have on a variety of variables including – exchange rates – inflation -unemployment – consumer spending – investment – GDP. Very useful for a class discussion on the monetary policy mechanism.

Eight body problem in economics

Physicists and mathematicians have puzzled over the three-body problem – the question of how three objects orbit one another according to Newton’s laws. No single equation can predict how three bodies will move in relation to one another and whether their orbits will repeat or devolve into chaos.

John Mauldin of Mauldin Economics wrote about the eight-body problem in economics in which we cannot predict how the economy will react when eight variables change. He lists the following:

What is certain is that as government fiscal intervention starts to lose its effectiveness it will be inevitable that monetary policy will continue to remain very accommodating with bond buybacks and record low interest rates. COVID-19 has turned conventional economic thinking upside down.