Weekly Commentary: On Inflation and Other Politically Troublesome Economics

• 11-Jun-21
• admin

It used to be said that Economics is a science.  

 

Really?

 

Science is generally free from political biases.   Economics is very far from that standard.   As a matter of fact, economics cannot be divorced from the politics that drive its vitality and shape its essence.   Perhaps that is obvious to most folks but it is quite amazing to see the heightened political biases in economic strategy and discourse these days.  

 

Take inflation for example.  

 

The discussion on everyone’s lips these days is whether there is inflation in the US economy.   The thought is that after the Covid recession of 2020, a strong rebound, currently assessed by most financial market observers to have begun in earnest, will spur inflation and cause the US Federal Reserve to pull back on its easy monetary policies and asset purchases.   Interest rates may go up; markets may become unhinged.

 

The data has shown that last month, inflation has increased to 4.2 percent, when in the previous few months, the data showed core inflation to be between 1.5 to 2 percent.   Many market participants are sure this is an indication that inflation has had a resurgence.

 

Fed officials however have essentially called that a blip in the longer term trend.  In their words, the short term uptick may not be an indication of the trend, as the numbers coming in subsequent months will revert to the mean, bringing down the average.   They insist that there is still no evidence that inflation has become unmanageable, and they are sticking with the policy of near zero interest rates. 

 

To be honest, whether inflation is at 4.2 percent or 1.5 percent, it is actually historically low.   High inflation, excluding the basket cases in contemporary Latin America, and the historical episodes that happened after global conflicts in Germany, Japan, China, etc, the current experience with inflation in the developed countries is really mild in their last quarter century of economic experience.   When it crosses double digit levels, then perhaps it can really be called “inflationary”.   4 percent?   Nah…

 

So the best way to interpret this super-sensitivity with inflation data is that people are extraordinarily happy with the asset positions based on ultra-low interest rates and they don’t want something to come along to upset their apple carts.  That one thing, short of military conflicts, is probably inflation which will motivate central banks to redress their current benign attitude towards interest rates, helping to maintain elevated asset pricing.  In other words, all major asset managers and rich people in the world are superlong equities, bonds, real estate, gold and probably short US dollars.   And they don’t want anything to change their good fortunes…

 

To pile on to these inflationary expectations that may end the fabulous uptrend in the markets, they view the Biden Administration’s multiple expansionary budgets with some trepidation.   After all, too much spending by government is likely to be inflationary.   When there have been a couple of trillion dollars in the covid response packages, and then another couple of trillion on infrastructure, and some more on a plan to resist the ascendancy of China, the fear of such government largesse becomes heightened.   They think the Fed will, in time, end up capping all these government injections into the economy with an early end to super-low interest rates that sustain elevated levels of asset prices. 

 

Hence we see that what is supposed to be government beneficence to bring the large swathes of the American population out of the Covid crisis, general poverty and deprivation is being resisted politically by the opposition party which decry these efforts as socialism and a betrayal of the American ethic.   Economics is being painted in political blacks and whites.   Inflation is almost turned into a kind of Salem witch.   Government spending?   It’s from the devil’s arsenal.   And government participation in the economy is definitely evil.

 

Herein lies another dilemma in the modern capitalist economy.    The people who worry about asset markets are obviously the rich.   They don’t want the Biden Administration to be profligate which will lead to the Fed fearing a flare-up of serious inflation and then raising interest rates, which will then blow up the good times of continuously rising markets. 

 

On the other hand, those who have nothing to gain from markets are the poor, and they will be asking how they can survive the remaining days of the recession, when they were already hard pressed by the unequal economic system before Covid started.  

 

As such, this inflation debate is, if I may say so, a red herring.   There is no inflation of any order of significance that should really worry any sane person.  It’s all about perception of what is “high” inflation, in the audience of the elite that can influence Fed perception.   They just don’t want “inflation” to change the ongoing policy and this is an elitist position.   The poor are not in any kind of risk at all, threatened by the kinds of inflation that impoverished people in Indonesia, India or China care about, such as the price of rice or sugar or pork – all earth-shaking problems we have seen in recent years.   There is really no inflation of the kind that is of real concern in the US and the developed countries.   

 

And the rich are just as unperturbed with the well-being of the lower 50, 60, 70, even 80 percent of the rest of the population.   The current government under Biden seems to care, launching multiple initiatives to create jobs, or improve the safety net for these disadvantaged segments of the economy, but the opposition to them is strong.  

 

If that is not politics, I don’t know what is…

 

Paul Krugman, the Nobel Laureate in economics writing in the New York Times, has this to say about the expansionary budgets of the Biden administration.

“The Economic Consequences of Cancelling Keynes”

These days it often seems that you can’t turn on your TV without encountering a well-paid, influential figure being given copious airtime to explain how he’s being “canceled” by our oppressive woke culture. Yes, some people really have been victims of unjustified smears, but the widespread exploitation of the “cancel culture” meme by people who are doing fine does some genuine harm.

For one thing, all this whining on the part of privileged people has the (intentional) effect of distracting public attention from the enormous real injustices facing many Americans.

 

It also makes it hard to talk about serious cancellation, which happens all the time.

What should we be talking about when we talk about cancellation? It certainly doesn’t mean saying mean things — I’m not “canceling” Bitcoin advocates when I suggest that much of what they say is “libertarian derp.” It also doesn’t mean ignoring points of view that have little claim to be taken seriously; The Times is under no obligation to publish guest essays by people claiming that satanic pedophiles control the Democratic Party.

 

But there is a real phenomenon in which powerful interests try to block the dissemination of ideas they find threatening, for whatever reason. In fact, it happens a lot. So let me talk about one example I know a fair bit about: attempts to cancel Keynesian economics. I say “attempts,” plural, because it has happened twice: an overtly political attempt to block the teaching of Keynesian economics in the 1940s and ’50s, and a subtler freezing out of Keynesian ideas in the decades leading up to the 2008 financial crisis.

John Maynard Keynes’s theory that depressions were caused by inadequate demand, and that governments could cure them with deficit spending, was accepted by many American economists in the late ’30s and early ’40s. And in 1947, when the economist Laurie Tarshis published one of the first economic principles textbooks embodying the new doctrine, many schools decided to adopt it.

 

But then came an organized smear campaign, with many university trustees and donors demanding that orders for the book be canceled. This campaign was successful, at first: Sales of Tarshis’s book dwindled. It wasn’t until a year later, when Paul Samuelson’s “Economics” somehow slipped through, that Keynesianism became a staple of undergraduate courses.

Right-wingers continued to complain — William Buckley’s “God and Man at Yale” was, to an important degree, a screed against the horrible fact that Yale professors were teaching Keynes. But the blockade was broken for the time being.

 

Round two was, as I said, subtler. In the 1970s some economists began arguing that Keynesianism must be wrong, because the phenomena Keynes described couldn’t happen in an economy of perfectly rational individuals and perfectly functioning markets.

 

You might consider this a weak critique — but in the culture of economics, with its demand for rigorous modeling, it carried weight. Defenders of Keynes, uneasy about a theory that relied on plausible descriptions of behavior rather than ineluctable mathematics, lacked all conviction; enemies of Keynes were filled with a passionate intensity. Just a few years into the anti-Keynesian backlash, influential economists were ridiculing the whole doctrine, declaring that whenever anyone engaged in Keynesian theorizing, “the audience starts to giggle and whisper to one another.”

 

Many economists privately continued to find Keynesian ideas persuasive. But it soon became common knowledge that major journals would not publish anything overtly Keynesian. During my own early career, I and others simply took it as a fact of life that if you wanted to get tenure, you would have to build your publication record in subfields that steered clear of the core issue of depressions and how they happen; you could sometimes smuggle some Keynesian material into your papers, but only if it came wrapped in a model that seemed to be mainly about something else.

So Keynes had in effect been canceled.

 

Then came the 2008 crisis and its aftermath, which demonstrated that Keynes had been right all along. The slump reflected a collapse in demand; governments that responded with deficit spending were able to mitigate the downturn, while those that practiced fiscal austerity made it worse. And the anti-Keynesian theories that had dominated the journals for several decades proved perfectly useless.

It may also be worth noting that current policy debates continue to be conducted largely in a Keynesian framework. Critics of President Biden’s policies, most famously Larry Summers, aren’t disputing the stimulative effect of deficits — on the contrary, they’re contending that the stimulative effect will be too big for the economy to handle.

 

But the years of Keynesian cancellation had a heavy cost. Many economists entered the crisis ignorant of basic concepts that had been worked out many decades earlier, because you couldn’t publish those concepts in the journals or teach them in many (not all) graduate programs. This intellectual impoverishment, I’d argue, weakened and distorted the policy response: We had a much worse, much more prolonged slump than we might have had if the ideas needed to fight the slump hadn’t been suppressed.

So yes, cancellation can be a serious issue and should be fought. Unfortunately, making that case is harder than it should be when so many privileged people conflate the real thing with not being invited to fancy dinner parties.”

Paul Krugman,

The New York Times,

1 Jun 2021

 

 

Indeed there is plenty of evidence that proper government spending on infrastructure works to improve an economy.  Call it what you will, but socialist China has caught up with the United States with its government and state sector being an active participant in the economy.   Not just for a select group of capitalists but for the masses of the poor in the country that have already been elevated out of misery that plagued them for hundreds of years.   On the current  trajectory, China and its state-owned companies will engage in government sponsored development of chips, green energy, e-cars and batteries as well as digital currencies.   Before the end of this decade, China will become the largest, and perhaps most advanced, economy in the world.    Objectively, what’s so bad, or evil, about that?

 

It’s not economics that should conform to politics.   Rather, political perceptions of what’s good or bad, virtuous or evil, in economics must change.

 

And talking of digital currencies, Krugman also had this to say about bitcoin and other crypto adventures.

 

“Technobabble, Libertarian Derp and Bitcoin

A number of readers have asked me to weigh in on Bitcoin and other cryptocurrencies, whose fluctuations have dominated a lot of market news. Would I please comment on what it’s all about, and what’s going on?

Well, I can tell you what it’s about. What’s going on is harder to explain.

The story so far: Bitcoin, the first and biggest cryptocurrency, was introduced in 2009. It uses an encryption key, similar to those used in hard-to-break codes — hence the “crypto” — to establish chains of ownership in tokens that entitle their current holders to … well, ownership of those tokens. And nowadays we use Bitcoin to buy houses and cars, pay our bills, make business investments, and more.

Oh, wait. We don’t do any of those things. Twelve years on, cryptocurrencies play almost no role in normal economic activity. Almost the only time we hear about them being used as a means of payment — as opposed to speculative trading — is in association with illegal activity, like money laundering or the Bitcoin ransom Colonial Pipeline paid to hackers who shut it down.

Twelve years is an eon in information technology time. Venmo, which I can use to share restaurant bills, buy fresh fruit at sidewalk kiosks, and much more, was also introduced in 2009. Apple unveiled its first-generation iPad in 2010. Zoom came into use in 2012. By the time a technology gets as old as cryptocurrency, we expect it either to have become part of the fabric of everyday life or to have been given up as a nonstarter.

 

If normal, law-abiding people don’t use cryptocurrency, it’s not for lack of effort on the part of crypto boosters. Many highly paid person-hours have been spent trying to find the killer app, the thing that will finally get the masses using Bitcoin, Ethereum or some other brand daily.

But I’ve been in numerous meetings with enthusiasts for cryptocurrency and/or blockchain, the concept that underlies it. In such meetings I and others always ask, as politely as we can: “What problem does this technology solve? What does it do that other, much cheaper and easier-to-use technologies can’t do just as well or better?” I still haven’t heard a clear answer.

Yet investors continue to pay huge sums for digital tokens. The values of major cryptocurrencies fluctuate wildly — Bitcoin fell 30 percent Wednesday morning, then made up most of the losses that afternoon. Their collective value has, however, at times exceeded $2 trillion, more than half the value of all the intellectual property owned by U.S. business.

Why are people willing to pay large sums for assets that don’t seem to do anything? The answer, obviously, is that the prices of these assets keep going up, so that early investors made a lot of money, and their success keeps drawing in new investors.

This may sound to you like a speculative bubble, or maybe a Ponzi scheme — and speculative bubbles are, in effect, natural Ponzi schemes. But could a Ponzi scheme really go on for this long? Actually, yes: Bernie Madoff ran his scam for almost two decades, and might have gone even longer if the financial crisis hadn’t intervened.

Now, a long-running Ponzi scheme requires a narrative — and the narrative is where crypto really excels.

First, crypto boosters are very good at technobabble — using arcane terminology to convince themselves and others that they’re offering a revolutionary new technology, even though blockchain is actually pretty elderly by infotech standards and has yet to find any compelling uses.

Second, there’s a strong element of libertarian derp — assertions that fiat currencies, government-issued money without any tangible backing, will collapse any day now. True, Britain, whose currency was still standing last time I looked, went off the gold standard 90 years ago. But who’s counting?

Given all this, are cryptocurrencies headed for a crash sometime soon? Not necessarily. One fact that gives even crypto skeptics like me pause is the durability of gold as a highly valued asset. Gold, after all, suffers from pretty much the same problems as Bitcoin. People may think of it as money, but it lacks any attributes of a useful currency: You can’t actually use it to make transactions — try buying a new car with gold ingots — and its purchasing power has been extremely unstable.

So when John Maynard Keynes called the gold standard a “barbarous relic” way back in 1924, he wasn’t wrong. But the metal’s mystique, and its valuation, live on. It’s conceivable that one or two cryptocurrencies will somehow achieve similar longevity.

Or maybe not. For one thing, governments are well aware that cryptocurrencies are being used by bad actors, and may well crack down in a way they never did on gold trading. Also, the proliferation of cryptocurrencies may prevent any one of them from achieving the semi-sacred status gold holds in some people’s minds

 

The good news is that none of this matters very much. Because Bitcoin and its relatives haven’t managed to achieve any meaningful economic role, what happens to their value is basically irrelevant to those of us not playing the crypto game.”

 

Paul Krugman,

The New York Times

20 May 2021

 

Please don’t ignore the warning of an extremely intelligent person, the Nobel prize winner in economics, Paul Krugman.

 

 

Wai Cheong

Investment Committee

The writer has been in financial services for more than forty years. He graduated with First Class Honours in Economics and Statistics, winning a prize in 1976 for being top student for the whole university in his year. He also holds an MBA with Honors from the University of Chicago. He is a Chartered Financial Analyst.