Archive for the ‘Inflation’ Category

How to keep an AUD30bn surplus

The short version: you can’t. Not (politically) tenably, at any rate.

The Federal Government could deliver a record budget surplus of between $26 billion and $30 billion under its new fiscal policy tactic for putting downward pressure on inflation.

As the Government faced calls yesterday from a business group to freeze spending, it is emerging that the surplus for next financial year is set to be much larger than the $18 billion flagged.

This would allow the Government to use the budget to sell its message that it is tightening fiscal policy enough to contain inflationary pressures despite keeping its promised $31 billion in tax cuts.

The Treasurer, Wayne Swan, said yesterday the Government would apply a “new era of fiscal discipline” for years to get inflation under control.

Mr Swan said a Business Council of Australia submission calling for no real spending increases correctly identified challenges in areas like improving workforce skills and infrastructure.

I don’t know how the government plans to pull that off. Our economy is under very serious inflationary pressure – as was well-presented only over the weekend by Ross Gittins:

When our real resources reach the point of being fully employed, the economy (gross domestic product; aggregate demand) simply can’t grow faster than aggregate supply is growing – which these days the econocrats estimate to be 3.5 per cent a year at most, and probably nearer 3 per cent.

When we attempt to grow faster than that we don’t succeed, we just generate imports and inflation.

If, for instance, the state governments decide it’s time to start making inroads into the infrastructure backlog, their extra spending is more likely to bid up wages in the construction sector than cause more roads and schools to be built.

So how do we reduce the likelihood of such an unhappy event? By reducing the need for the Reserve Bank to rely as heavily on the blunt instrument of further interest-rate rises by making more use of the budget’s braking power.

And that means Kevin Rudd not being so stupid as to keep his ill-considered promise to cut taxes in July.

Needless to say, now that they are in opposition, the liberal party has a different view:

the Opposition Leader, Brendan Nelson, defended the Coalition’s approach. “As a Liberal Party we take the view that those taxes [are] money taken out of the pockets of hard-working, everyday Australians,” Dr Nelson said.

“Once we’ve delivered on our commitments in defence and health, education and roads and all of the things that we need to do to look after pensioners, then that money wherever possible ought to be returned to the people who actually paid it.”

Actually, as a liberal party, you should not have set those tax revenues up in the first place, while allowing a now-probably-non-solvable export bottleneck to hold productivity back.

Budding Austrian economists! This is why (big G) Government isn’t supposed to take away more than the minimum required to do the things for which it was created. It always ends in tears, eventually. I don’t much look forward to another recession we will have to have had (I’m the Picasso of tenses, it’s true).

Given, as Gittins explains, that we are at (and, probably beyond) the non-accelerating inflation rate of unemployment, giving Australian households AUD31bn in negative taxation is not going to help much – irrespective of how much money the government isn’t giving back.

If today’s IHT is correct, the commodities boom could, soon, be boosting Australia’s income still further, as Latin America faces its own problems:

Argentina and Brazil are facing the possibility of short-term energy crises from a lack of natural gas, which is needed to fuel industries and generate electricity for residents. Bolivia is sitting in the middle, with the region’s largest gas reserves.

I’m with Gittins: the government should really consider holding onto that money for awhile. Pour it into the migration of labour within the economy, from low to high-productive areas/industries, if necessary.

This returns us to the notion of complexity, though. If you’d promised AUD31bn in tax cuts, and then I came along and explained the macroeconomic risks of delivering on that promise – the promise of tax cuts – what would you do? Unfortunately, the government is also in politics.



So, of all the posts I’ve ever made, this one is by far the most popular:


It routinely is the most popular post on any given day for the last month or more, and the fourth-highest ever (after one on the Phillips Curve, one on Minimum Efficient scale and my About Me page).

Well, and as the blog Big Picture detailed yesterday, the likes of the Wall Street Journal seem to catching on to the idea (my post was December 1st of last year – it was hardly the first time I’d thought about or mentioned it, nor was I anything like close to being the first to raise the issue).

A simultaneous rise in unemployment and inflation poses a dilemma for Fed Chairman Ben Bernanke. When the Fed wants to fight unemployment, it lowers interest rates. When it wants to damp inflation, it raises them. It’s impossible to do both at the same time.

Yes, it has taken this long for this basic fact of macroeconomics – one that we teach in Eco 1 (and that I’ve made a point of explaining in each of my last three semesters to date) – to start making the rounds amongst the grown-ups.

Should you ever be given pause to wonder how nobody saw this coming (and let us hope that you don’t) – some people just have a real blind spot for the trucks that hit them, I guess.

So much for the “short-term” Term Auction Facility

Like households with tax cuts, we internalise government concessions, and immediately integrate into our set of perceived entitlements. So this is really not a surprise:

US banks have been quietly borrowing massive amounts of money from the Federal Reserve in recent weeks by using a new measure the Fed introduced two months ago to help ease the credit crunch.

The use of the Fed’s Term Auction Facility, which allows banks to borrow at relatively attractive rates against a wider range of their assets than previously permitted, saw borrowing of nearly $50bn of one-month funds from the Fed by mid-February.

… the move has sparked unease among some analysts about the stress developing in opaque corners of the US banking system and the banks’ growing reliance on indirect forms of government support.

“The TAF … allows the banks to borrow money against all sort of dodgy collateral,” says Christopher Wood, analyst at CLSA. “The banks are increasingly giving the Fed the garbage collateral nobody else wants to take … [this] suggests a perilous condition for America’s banking system.”

I would remind you that this is public money. As well as all the attendant moral hazard problems, this devalues your money – either your stake in the public purse, or your own purse. More money means that money is of less value. More money means increasing inflationary pressure, meaning your income and wealth are of less value.

Do we get compensated for the risk? We do not. Invest in a risky stock and you demand a higher return. Here we get only the word of our government that it’s for the best – a decision made at a table at which no ordinary person is allowed a seat.

I want a bloody tax cut that explicitly represents the depreciation of my income and purchasing power caused by the Federal Non-Reserved Bank.

The only thing heating up in China is commodity prices

Officially, fuel is up anywhere from 8 to 11% over last year, in China (click for larger image):

China Retail Price Index

Of course these are official statistics – possibly implying they are subject to bias but, more specifically, that they are subject to local temporal and geographical variation. Big variation, sometimes: forget not the death-tainted sale of cooking oil in China, last year.

So, given this story:

Severe snowstorms over broad swaths of eastern and central China have wreaked havoc on traffic throughout the country, creating gigantic passenger backups, spawning accidents and leaving at least 24 people dead, according to state news reports.

In many areas, where snow has continued falling for several days, the accumulation has been described as the heaviest in as many as five decades.

“Due to the rain, snow and frost, plus increased winter use of coal and electricity and the peak travel season, the job of ensuring coal, electricity and oil supplies and adequate transportation has become quite severe,” said Prime Minister Wen Jiabao in a statement issued late Sunday.

Shanghai’s weather is, according to the BBC, not all that bad:

Shanghai weather

But (a) I’m not poor. I live in a rich country, making more than enough money to keep myself in heated (in New York, of course, you’ve no choice. Half the time we’re opening windows to keep from being baked alive: NY apartments represent, for me, exactly why building-wide heating is a daft idea), (b) I live where it’s routinely that cold. I’m prepared, my clothes are appropriate, my diet is appropriate (I can cook) and my buildings are made appropriately.

Shanghai – historically – hasn’t had all that bad a January, to date. At its worst, however, its minima have still been at or above freezing, looking at the last 10 years:

Shanghai history

Nothing that would prepare a people for snap freezes – particularly poorer/rural people with less insulation (or, mid-winter, spare heating/cooking fuel). It will be interesting to see how cooking and heating oil prices do, for the rest of their winter.

How to escape inflation: cryo-preservation

Context: I was reading this piece in Wired, about a photographer who shoots top-secret ‘things’. I highly recommend it: the pictures here include radioactive waste, a practice-field for the study of decomposing bodies and – seriously – a bottle of HIV. I believe I will purchase her book. I’m not expecting any alien autopsies, but it was quite strange to see such things even existing, let alone photographed with such ordinary composition.

Anyway. Amongst them is this (click for larger version):

Wired pic

The Cryonics Institute in Clinton Township, Michigan, currently preserves 74 legally dead human patients and 44 dead pets, charging the same price it has charged since its establishment in 1976: $28,000 with advance reservation.

And I paused. Of all the strange things in this set of photographs, a price that has remained the same since 1976 was truly the most odd. Jumping over to The Bureau of Labour Statistics’ Inflation Calculator, I found that USD28,000 in 1976 would get you USD102,031.21 in 2007. Now, the Cryonics Institute lists itself as non-profit, but that’s just crazy.

The package up for which one signs includes up-front and ongoing costs – but those, too, appear not to be indexed although they must be, surely. If they aren’t, then new cryonics clients (customers? Patients?) have to be charged more, to cross-subsidise the existing, too-expensive ones.

And what about the attendant services? Ah. Your USD28,000 gets you frozen. It doesn’t get you prepared for the freezing, and it doesn’t get you shipped to Clinton Township, Michigan, for storage.

CI fee schedule

Click the image for the larger version. So all the stand-by, transport services appear to be fully-indexed. Treatment, stabilisation, air-ambulance, etc. are all provided by Suspended Animation, though – another company entirely. Between municipal electricity, gas and water, not to mention land taxes, cleaning services, ‘parts’ (lightbulbs, paint-job, an electrician every now and then), etc., there is still no explanation for how/why the cryo-preservation service can remain the same price it was more than 20 years ago.

So, there you go. You can literally beat inflation by restricting your consumption solely to an apparently inflation-free basket of goods and services. Of course if you stay alive, you can earn money and get ahead of the entire game (for example if you’d invested your USD28,000 in 1976, you could enter cryo-preservation today with (at least) nearly USD75,000 in the bank, so there is that), so I wouldn’t recommend actually doing it.

Building a ‘national savings culture’

Two Australian stories – inflation first. Prime Minister Rudd has worked out that, in order to slow the economy, C in the Y = C + I + G + NX has be attacked – and what better way than to boost Savings?

Householders could be offered incentives to cut spending and save more of their income as part of the Federal Government’s drive to control inflation.

Mapping out a five-point plan to fight inflation yesterday, Kevin Rudd said he wanted to build a national savings culture to help reduce demand pressures which were pushing up prices.

“Providing attractive incentives to save can help take the pressure off inflation, help people save for their future and help lift national savings,” the Prime Minister said.

While he did not give details, measures likely to be examined include encouraging higher superannuation contributions and tax breaks for savings.

Mr Rudd also promised to increase the budget surplus to around $18 billion next financial year and to speed up policies to train more skilled workers and get more people into the workforce.

“Householders” is a term of art – you don’t need to own a house in order to benefit (although you will certainly benefit more, thus). Rudd is also coming good on his technocrat’s credentials.

Cabinet also decided yesterday to go ahead with plans to establish Infrastructure Australia, a body to co-ordinate public and private investment in areas such as ports, roads and railways.

That should be interesting to watch – Lord knows, a lot of countries (the US in particular) could benefit from some thinking along those lines.

The news also comes at the same time as the demand factors behind Australia’s inflation are reinforced.

An official survey of the prices paid by businesses has found they are paying less than expected mainly due to falling prices for imported goods.

Prices paid by retailers, manufacturers and wholesalers rose by 0.6 per cent over the final three months of last year, nearly half the pace expected by economists.

But another survey of prices, those paid by consumers, is due out tomorrow and is still expected to show inflation running hot.

This is as opposed to, say, excess liquidity (I warned you) and cost-push, oil-and-food factors driving inflation elsewhere. Australia’s is a function of incomes: incomes increase, consumption increases. Demand increases, Prices increase (holding Supply relatively constant). Feeding back by way of information, Rudd’s plan to attack the propensities to save and consume (while the incentives further trim the budget) seems like a pretty smart move. We shall see.

Macro catch-phrases for 2008/9: “excess liquidity”, “co-ordinating” Fiscal and Monetary policy

Reading Bloomberg, I noticed (to my surprise) that China appears to be breaking away from the peloton on this one – although, being an over-heating economy, they have the advantage. It also struck me that these were issues that would be buzzing around the economics and financial pages by mid-year.

China plans to better coordinate fiscal and monetary policies in 2008 to help reduce its trade surplus and mop up excessive liquidity, Vice Finance Minister Li Yong said today.

China’s money supply grew at the slowest pace in seven months in December, the central bank said yesterday, after it took measures to cool inflation and prevent the economy from overheating. China may face pressure from Europe and the U.S. to allow faster gains by its currency after the nation’s trade surplus surged 48 percent to a record $262.2 billion last year.

This harks back (like, two days) to the report by the United Nations’ Economic and Social Commission for Asia and the Pacific (UNESCAP), Key Economic Developments and Prospects in the Asia-Pacific Region 2008. As well as all the cool stuff I mentioned in the previous post, the report had this contribution, vis. inflation-via-money-supply-growth:

ESCAP Figure 8

Increasing liquidity has led to growing inflation concerns in a number of countries as discussed above. China is witnessing its highest level of inflation in 10 years. India recently experienced inflation at a two-year high in January before aggressive tightening measures dampened prices.

Other than general increases in consumer price inflation, liquidity has been funnelled into purchases of particular assets driving up their prices rapidly. Some asset prices may be considered unrealistic in view of underlying valuations. The price-earnings ratio for the equity market in China stands at 59 times 2007 earnings, by far the highest such ratio in Asia. India is the only country in the region where housing prices have risen faster than real incomes over the past four years.

Major urban centres of India such as Bangalore and Mumbai have seen a doubling of housing prices in 2005 and 2006. Viet Nam has recently witnessed dramatic increases in equity and property prices. The Republic of Korea has also seen a substantial rise in property prices in some urban areas.

Managing currency appreciation has also led to fiscal costs for Governments. Foreign exchange reserves have been invested mainly in low-yielding United States government bonds. In terms of liabilities, Governments have had to pay higher rates of interest on the bonds that they have issued for the purpose of monetary sterilization.

The result has been significant costs for central banks throughout the region. The level of impact varies across countries depending on the spread between local and United States interest rates. It has been estimated that India, which has comparatively high interest rates, would face a cost in fiscal year 2007 of 2 per cent of GDP.

Another cost has been the loss in the capital value of foreign reserve holdings as the value of the dollar has steadily declined over the year. For example, China currently would suffer a capital loss on its reserves of around $50 billion as a result of a 5 per cent dollar depreciation.

With apologies to the report’s authors, I broke up the paragraphs and removed footnotes/references (page 21 of the report, if you’re interested).

The statement also mentions the use of “administrative” tools to fight inflation (due to be set at a targeted 4.6% for the year 2008), about which the Vice Finance Minister was not specific. Should be interesting: we’ve seen China’s administrative responses to inflation, already. This sounds like more of the same: price controls/ceilings (meaning shortages and more runs on goods), and/or capital controls (meaning less foreign investment – perhaps they’ll have to arrest journalists without Yahoo’s help?).

Pulling back a bit. We’ve seen the risks of all this money being pumped into our economies, here. I figure that – given the sheer amount of it all – will become a problem fairly quickly. Perhaps. The advantage of debt-backed money is that it can disappear pretty quickly, as well. The question is what becomes of all the money being pumped into the economy? Does it fill in the holes left by all the debt dropping off the face of the earth (no real net effect), or does it generate yet more Greenspanian over-investment, later in the year?

HowTo: the Quantity Theory of Inflation. Or, China’s idiosyncratic monetary policy at work again.

The Velocity of Money is how many times the same money must circulate to purchase everything. We don’t have a dollar for every dollar’s worth of Good or Service, out there. You spend a dollar, then the store-owner spends the dollar, then the second store-owner spends it.

Hence the Velocity of Money: V=\frac{PQ}{M}, where M is the money supply and PQ is Price x Quantity, or GDP.

The Quantity Theory of Inflation, following this, runs thus:

  1. If M = PQ the price level is stable (no inflation)
  2. If M > PQ the price level is increasing (inflation)
  3. If M < PQ the price level is decreasing (deflation)

For the Quantity Theory of Inflation, Velocity is assumed to be constant and stable: since Delta V = 0 it drops out of the equation. Assuming that Prices are an increasing function of the Money Supply, we have inflation: too much money. Hence, during a boom period, too much money results in inflation. The Wikipedia link offers some of the criticism of the theory (such as its assumption that the Money Supply is exogenous – not at all the case these days, when we have credit-based, rather than properly Fiat, Money).

And that’s inflation. This is why our central banks bump around the Money Supply: their prime directive (sorry – too Robotics-ish?) is price stability. China’s approach? Go straight for the prices.

Prime Minister Wen Jiabao responded Wednesday to growing public anxiety about inflation by announcing that China would freeze energy prices in the near term, even as international crude oil futures have topped $100 a barrel.

The move to hold down prices came as inflation hit an 11-year high in China. A recent nationwide public opinion survey found that “rising prices of consumer goods” ranked as the top public concern, followed by income inequality and corruption.

The freezes, announced on the government’s main Web site, followed a meeting of the State Council, led by Wen on Wednesday, to revise policies on price controls. Prices of oil products, natural gas and electricity will be frozen in the near term. Rates for public water bills also will be frozen, as will the cost of public transportation tickets.

This is becoming a fashion for the Party: they froze prices last year (calling into question just how near-term this measure is going to be). Fortunately China is no Iran: they can probably keep it up for a good long while, although the distortion this will have in their markets will be significant (demand for gasoline a big one).

Distortions are clearly not that big a concern for the Party: they’re openly working to dampen their bulk of iron ore demand, during negotiations over the benchmark price. And by ‘dampen’, I mean their macroeconomy (such as it is dampenable at all).

China is pushing the same outcome, though – these pressures (on the prices of oil and food) are exogenous. China can have inflating prices, or shortages. They seem to be going with the latter. The question for us is which serves our needs (that long march of freedom and democracy, remember?) best? I’m not a fan of this approach – it’s more destabilising than mere inflation and, what is worse, the distortions extend outwards into foreign investment, real or potential. Slowing that down only slows down China’s movement towards market-based systems, political (non-corrupt) devolution, etc.

Inflation in Iraq

Thanks to the blog Opit (whom I believe has new digs over at Opera) for this one – he posted it in response to the post about malnutrition in Africa.

From Yahoo, originally from the Inter-Press news service (who also have article running at the moment that details 2007 being the worst year yet for Iraq):

The Iraqi government announcement that monthly food rations will be cut by half has left many Iraqis asking how they can survive.

The government also wants to reduce the number of people depending on the rationing system by five million by June 2008.

the U.S.-backed Iraqi government has announced it will halve the essential items in the ration because of “insufficient funds and spiralling inflation.”

The cuts, which are to be introduced in the beginning of 2008, have drawn widespread criticism. The Iraqi government is unable to supply the rations with several billion dollars at its disposal, whereas Saddam Hussein was able to maintain the programme with less than a billion dollars.

“In 2007, we asked for 3.2 billion dollars for rationing basic foodstuffs,” Mohammed Hanoun, Iraq’s chief of staff for the ministry of trade told al-Jazeera. “But since the prices of imported foodstuff doubled in the past year, we requested 7.2 billion dollars for this year. That request was denied.”

The trade ministry is now preparing to slash the list of subsidised items by half to five basic food items, “namely flour, sugar, rice, oil, and infant milk,” Hanoun said.

The imminent move will affect nearly 10 million people who depend on the rationing system. But it has already caused outrage in Baquba, 40 km northeast of Baghdad.

“The monthly food ration was the only help from the government,” local grocer Ibrahim al-Ageely told IPS. “It was of great benefit for the families. The food ration consisted of two kilos of rice, sugar, soap, tea, detergent, wheat flour, lentils, chick-peas, and other items for every individual.”

Another grocer said the food ration was the “life of all Iraqis; every month, Iraqis wait in queues to receive their food rations.”

According to an Oxfam International report released in July this year, “60 percent (of Iraqis) currently have access to rations through the government-run Public Distribution System (PDS), down from 96 percent in 2004.”

Bugger. I think I’ve made this point with regard to the Chinese government, previously: people will accept non/un/anti-democratic (or otherwise dysfunctional) government, provided that they can at least eat, live in a house, pursue their own happiness as best they can. Take that away, and people start wondering, openly, why you’re the government. In the backs of our minds, we never properly forget that we invented government.

Which would make it suck for the Iraq government. Like any other government, they’re dealing with inflation that is predominantly exogenous – they can only buy what they can afford with the money they had. The fact that Hussein managed to feed people (under wildly different circumstances) will also not help (no, all the shit Hussein also did to them does no matter, because what you and I think is irrelevant to a man who can’t feed his family. That’s just the way it is, and you’re welcome to call a jobless man with hungry children stupid and irrational and ungrateful. In fact, I dare you).

I’d also be interested to see how the US responds to this, both from their administration responsibility perspective (increase aid? Ask for more foreign support? We already saw Africa’s experience with inflation, yesterday), and from the perspective of military occupation (since this problem will also, to some extent (a) affect the costs of the US mission in Iraq, and (b) affect the angriness of the people faced by the US mission in Iraq. Especially if Iraqis decide to blame that mission for the inflation).

Retail didn’t make it, after all

Not – former Eco 1 students will know – that it was ever going to. By the numbers:

1) Retail sales just weren’t … ooh, what’s that word? Good.

Last-minute purchases over the pre- Christmas weekend failed to salvage what may be the slowest- growing holiday spending season in five years.

2) Taking retailers – and Wall Street – with them.

U.S. stocks dropped for the first time in four days on concern slower sales at Target Corp. and the biggest drop in home prices in at least six years signal consumer spending may weaken more than expected.

3) And onwards and outward. In fact, we can add appreciating oil prices and declining gasoline stocks (meaning future appreciation in gasoline prices, meaning less post-gas disposable income, and more cost-push inflation in prices) to the big drop in house prices (meaning that people have less household wealth to back their consumption, just as their incomes are in trouble).

Crude oil rose above $96 a barrel in New York on speculation an Energy Department report tomorrow will show that U.S. inventories fell for a sixth week.

Supplies dropped 1.75 million barrels in the week ended Dec. 21, according to the median of nine responses in a Bloomberg News survey of analysts. Prices also rose after Turkish jets bombed suspected Kurdish rebel camps in northern Iraq, the military said on its Web site.

Home prices in 20 U.S. metropolitan areas fell in October by the most in at least six years, a private survey showed today.

Property values fell 6.1 percent from October 2006, more than forecast, after dropping 4.9 percent in September, according to the S&P/Case-Shiller home-price index. The decrease was the biggest since the group started keeping year-over-year records in 2001. The index has fallen every month this year.

So much for that killer 1.1% increase in consumer spending. The blog The Big Picture has an excellent re-cap of it “all”, also – particularly with regard to the numbers being bolstered by (i) purchases of gasoline and dinners at restaurants and (ii) things marked-down heavily.