European leaders claim to have reached a deal to solve the European debt crisis. This is not the first time they have made such a claim, but there are reasons to be optimistic. Not only is the solutions presented much more extensive then previous measures, markets also seem to have welcomed them. This is important since stock markets have fallen after previous deals to 'save the euro', reflecting their inadequacy. This time around expectations were already high as seen in the healthy growth in equity prices is recent days, still the deal seems to have lived up to those high expectations. As reflected in the subsequent stock market rally.
The deal seems sound in that it supposedly deals with all the negative side effects of a Greek partial default. Which is what the 50% write down of the value of Greek bonds must be seen as. This being a default should in a normal situation trigger insurances agains defaults taken out by many owners. Since it seems very unclear who would have to pay what in such a situation, it could potentially trigger another credit crisis. Luckily this write down is 'voluntary', in order to avoid such default insurances from being valid. Of course no one would voluntarily agree to lowering the dividend on their bonds except under pressure from outside institutions to do so. But what matters is not not if this is a Greek default or not, it obviously is, what matters is if it is classified by such by the bond ratings agencies. And it shouldn't be.
This means the burden of a Greek default will fall mainly on the big owners of such debt. These include big European banks. The failure of which could lead to economic collapse. This problem is supposedly solved by beefing up bank capital so that they can sustain such losses. If the banks can't do it themselves national governments will help, if even they are unable the EFSF, the European bail out found will pick up the tab.
This found will also deal with the third potential problem associated with a Greek default. If Greece is allowed to default then what about other indebted countries? This is the question investors could start to ask, increasing borrowing costs for indebted European countries. The bail out fond was created to solve this problem, by buying bonds if yields rise too high it was supposed to ensure that markets didn't hesitate to lend to debt burdened governments. But it was deemed too small by markets and fears persisted. This problem seemed hard to tackle since the fond was too small to save economics giants such as Spain and Italy, but boosting it further could endanger the belief in the founds creditors ability to pay out such extraordinary sums of money. This seems to have been solved by instead of increasing the found, allowing it to partially compensate investors in case of government defaults. By covering some of their potential losses the bail out found is expected to do much more to keep the costs of governmental borrowing down by decreasing the risk of investing in European bonds.
With all these 'fixes' in place the European economy should be able to handle a big write down of Greek debt and lessen worries surrounding European banks and governmental finances.
Thursday, October 27, 2011
Saturday, September 24, 2011
Diving below zero
The typical way Central Banks give a helping hand to the economy is by lowering interest rates. By making it cheaper to borrow they can encourage spending and thereby create growth. Today countries such as America and the United Kingdom find themselves in a situation of near zero nominal interest rates. From this one could easily draw the conclusion that interest rates can't be used to stimulate demand further.
This is of course true if we think of interest rates in a nominal sense. But in a real sense, that is when taking inflation in to account there is no such limit. Let's say that nominal interest rates are at 0% while inflation is at 2%, then the real interest rate would be a negative 2%. Borrowers would then in effect get paid to borrow. Since Central Banks hold the power over the printing press they are free to set inflation at whatever level they choose. The higher they push inflation the cheaper borrowing will become. This can be done purchasing pretty much anything of value and paying with fresh money.
Quantitative easing would be a good example of this practice. Even if more attention is given to its power to channel private investment over from public debt to the stock market and they way that it lowers the currency. By in effect increasing the money supply it also drives real interest rates further and thereby has the same positive effect on the economy as a lowering of the prime interest rate.
If the actions of central banks are constrained by anything it is their fear of inflation. Not by any practical limit on their power to shape the business cycle.
This is of course true if we think of interest rates in a nominal sense. But in a real sense, that is when taking inflation in to account there is no such limit. Let's say that nominal interest rates are at 0% while inflation is at 2%, then the real interest rate would be a negative 2%. Borrowers would then in effect get paid to borrow. Since Central Banks hold the power over the printing press they are free to set inflation at whatever level they choose. The higher they push inflation the cheaper borrowing will become. This can be done purchasing pretty much anything of value and paying with fresh money.
Quantitative easing would be a good example of this practice. Even if more attention is given to its power to channel private investment over from public debt to the stock market and they way that it lowers the currency. By in effect increasing the money supply it also drives real interest rates further and thereby has the same positive effect on the economy as a lowering of the prime interest rate.
If the actions of central banks are constrained by anything it is their fear of inflation. Not by any practical limit on their power to shape the business cycle.
Friday, September 9, 2011
Governments could do more
The world economy is slowing and a return to negative growth in Europe and America is a real possibility. There is a lot governments could do to prevent this.
Governments everywhere are cutting spending and raising taxes with the aim of cutting their budget deficits leading to a fall in demand. This is not what the world economy needs right now. Some states understandably needs to get their house in order, Greece, Portugal, Italy and Spain are in this category. But many of the nations who are not plagued by high interest rates on their debt are also tightening the belt. If another recession is to be prevented it would be a good idea for those economies who can afford to do so to stimulate demand by increased spending or cutting taxes. This would have to be financed by additional borrowing but it is hard to imagine a more advantageous time to borrow then now when investors are thirsting for the safety of government bonds. The United States, Germany and Japan can all borrow at almost no cost when taking inflation in to accountant. signaling that their debt burden is not a problem and there is room for much more borrowing. Increased spending by these nations together with those smaller states with sound finances could help compensate for the necessary austerity measures in the troubled European countries.
Then there is the ECB which has lots of room to act with its key interest still relatively high. A lowering of which should greatly help the economy. Over in America the prime interest rate is still near zero, making it harder for the Fed to boost the economy by conventional means. But since they control the money supply there is no limitations on their ability to support the economy, even if this will have to be done by less tested and therefore more uncertain measures such as quantitative easing. The risk of an expansionary monitory policy is always high inflation, but with such a weak economy this should be less of a risk. If the inflation figures ends up a bit over the central bank targets this would of course not be a good thing, but preferable over a return to recession.
Governments everywhere are cutting spending and raising taxes with the aim of cutting their budget deficits leading to a fall in demand. This is not what the world economy needs right now. Some states understandably needs to get their house in order, Greece, Portugal, Italy and Spain are in this category. But many of the nations who are not plagued by high interest rates on their debt are also tightening the belt. If another recession is to be prevented it would be a good idea for those economies who can afford to do so to stimulate demand by increased spending or cutting taxes. This would have to be financed by additional borrowing but it is hard to imagine a more advantageous time to borrow then now when investors are thirsting for the safety of government bonds. The United States, Germany and Japan can all borrow at almost no cost when taking inflation in to accountant. signaling that their debt burden is not a problem and there is room for much more borrowing. Increased spending by these nations together with those smaller states with sound finances could help compensate for the necessary austerity measures in the troubled European countries.
Then there is the ECB which has lots of room to act with its key interest still relatively high. A lowering of which should greatly help the economy. Over in America the prime interest rate is still near zero, making it harder for the Fed to boost the economy by conventional means. But since they control the money supply there is no limitations on their ability to support the economy, even if this will have to be done by less tested and therefore more uncertain measures such as quantitative easing. The risk of an expansionary monitory policy is always high inflation, but with such a weak economy this should be less of a risk. If the inflation figures ends up a bit over the central bank targets this would of course not be a good thing, but preferable over a return to recession.
Tuesday, September 6, 2011
Palestinian statehood
It seems fairly likely that the UN general assembly will recognize Palestine as a sovereign state later this year. What does this mean? Since it is the general assembly and not the security council (in which such a resolution would never pass) it doesn't really mean anything. The security council would have the authority as the UN's only super national body to force the creation of a Palestinian state. The general assembly can just say that they believe a Palestinian would be a rather good idea, it has no power to tell a sovereign state such as Israel what to do, only the security council could do that. It would how ever be a PR nightmare for Israel.
So what one might ask, why should Israel be occupying the Palestinian territories in the first place? The answer is that it is necessary for Israeli security. There are basically two types of security threats to the Jewish state. Foreign invasion and terrorism.
The Arab states have attempted to destroy Israel a number of times since its creation. This is what sparked the occupation of the Palestinian territories in the first place. In order to prevent enemy armies from being stationed at walking distance from Israel's cities, Israel occupied a part of Jordan (the West Bank) and a part of Egypt (Gaza) after the six-day war.
This occupation has contributed greatly to Israel's security by moving its previously near indefensible border. But it has also created a new security threat in the form of terrorism. This is not an existential threat like the threat posed by foreign armies but the prospect of having rockets fired in to kindergartens and busses blown up by suicide bombers is something Israel must protect itself from. The occupation while being at least partially the cause of the terrorism has also turned in to a mean for Israel to protect itself from terrorism. The daily rocket attacks that followed the Israeli pullout from Gaza made that clear.
Unfortunately before these two security concerns are satisfied the occupation is necessary for Israel to protect itself. The threat of foreign occupation has lessened as Israel has made peace with Egypt and Jordan but it is still technically at war with a number of Arab states and the Egyptian revolution has also once again raised the prospect of a return to hostilities between Israel and its old enemy. The terrorist groups who routinely try to slaughter Israeli civilians seek not only an end to the occupation but the end of Israel itself. So a Palestinian state would not solve the terrorism problem.
What is needed is a true peace between Israel and the Muslim world as well as an end to terrorism and acceptance of Israel's right to exist. Unfortunately we are no where near achieving this today. A Palestinian state remains incompatible with Israel's need for security and will sadly have to wait.
So what one might ask, why should Israel be occupying the Palestinian territories in the first place? The answer is that it is necessary for Israeli security. There are basically two types of security threats to the Jewish state. Foreign invasion and terrorism.
The Arab states have attempted to destroy Israel a number of times since its creation. This is what sparked the occupation of the Palestinian territories in the first place. In order to prevent enemy armies from being stationed at walking distance from Israel's cities, Israel occupied a part of Jordan (the West Bank) and a part of Egypt (Gaza) after the six-day war.
This occupation has contributed greatly to Israel's security by moving its previously near indefensible border. But it has also created a new security threat in the form of terrorism. This is not an existential threat like the threat posed by foreign armies but the prospect of having rockets fired in to kindergartens and busses blown up by suicide bombers is something Israel must protect itself from. The occupation while being at least partially the cause of the terrorism has also turned in to a mean for Israel to protect itself from terrorism. The daily rocket attacks that followed the Israeli pullout from Gaza made that clear.
Unfortunately before these two security concerns are satisfied the occupation is necessary for Israel to protect itself. The threat of foreign occupation has lessened as Israel has made peace with Egypt and Jordan but it is still technically at war with a number of Arab states and the Egyptian revolution has also once again raised the prospect of a return to hostilities between Israel and its old enemy. The terrorist groups who routinely try to slaughter Israeli civilians seek not only an end to the occupation but the end of Israel itself. So a Palestinian state would not solve the terrorism problem.
What is needed is a true peace between Israel and the Muslim world as well as an end to terrorism and acceptance of Israel's right to exist. Unfortunately we are no where near achieving this today. A Palestinian state remains incompatible with Israel's need for security and will sadly have to wait.
Friday, August 26, 2011
Why the wait?
In response to projected low growth for quite some time the federal reserve has announced they will be keeping interest rates near zero until 2013. Its European counterpart raised its benchmark interest rate last month and there is no sign of them changing their mind. This is odd seeing how the euro zone is in worse shape then America. The ECB should have to worry about high levels of inflation, especially with the German economy coming to a halt. One would expect it to step in to help the ailing economy.
One possible explanation for this is that the inflation the ECB fear is inflation of its own making. While waiting for the European bailout found to be granted the power to buy bonds in the secondary market by the member nations national parliaments, and it is not even certain that it will be, the ECB will have to fill this function. They have already bought Italian and Spanish bonds to keep down those countries borrowing costs and they might have to come to the rescue again. If these bond purchases become too expensive the ECB must pay for them with newly printed money. This will increase the money supply and lead to inflation, much the same way lowering the interest rate would. It is quite possible the ECB fears that both actions taken together would lead to excessive inflation, so they have to put off lowering the interest rate to give itself room to act in the bond market if so needed.
One possible explanation for this is that the inflation the ECB fear is inflation of its own making. While waiting for the European bailout found to be granted the power to buy bonds in the secondary market by the member nations national parliaments, and it is not even certain that it will be, the ECB will have to fill this function. They have already bought Italian and Spanish bonds to keep down those countries borrowing costs and they might have to come to the rescue again. If these bond purchases become too expensive the ECB must pay for them with newly printed money. This will increase the money supply and lead to inflation, much the same way lowering the interest rate would. It is quite possible the ECB fears that both actions taken together would lead to excessive inflation, so they have to put off lowering the interest rate to give itself room to act in the bond market if so needed.
Blame the Euro
How did Europe burry itself in debt? It all has to do with the Euro protecting profligate southern nations from the discipline bond markets usually would have imposed.
Normally the interest rate a nation has to pay on its debt is based on two thing, expected inflation and the risk of default. In cases where a country is in control of its own currency the risk of default is pretty much zero, since they can always inflate away their debts. As debts increase so does the temptation for governments to generate higher inflation lowering that debt in real terms, to compensate for that potentiality markets will demand a higher interest rate. But for a euro country the power to print money and thereby generate inflation was taken from the individual member nations. Since inflation expectations now were the same for all euro member no matter how much they borrowed all euro members could borrow at the same low interest rate. Allowing profligate members to borrow in a manner that had previously been impossible.
Then the financial crisis hit, governments had to take on the debts of failing banks and try to compensate for drop in private sector demand all while tax revenues dried up. For those who had already borrowed excessive this added debt became too much. It rose to such levels where markets started to fear that they would simply refuse to pay back the money they owed. So they started to demand a higher interest rate to compensate for the risk of these countries actually defaulting on their loans. Interest rates they could afford to pay, making a default even more likely, leading to even higher interest rates and so on.
This whole crisis would never have arisen if it wasn't for the euro. The bond markets would not have allowed any indebted nation to borrow like in such a reckless fashion.
In order for Europe to not find itself in this situation again a variety of measures are started to be implemented. Mainly legal limits on how a member country can borrow, both in the form of treaties and national legislation. Such limits of course existed before the crisis but were simply ignored. Hopefully these will be design in such a way that they can't be. Potentially by handling the power to punish rule breakers over to the European court of justice.
Normally the interest rate a nation has to pay on its debt is based on two thing, expected inflation and the risk of default. In cases where a country is in control of its own currency the risk of default is pretty much zero, since they can always inflate away their debts. As debts increase so does the temptation for governments to generate higher inflation lowering that debt in real terms, to compensate for that potentiality markets will demand a higher interest rate. But for a euro country the power to print money and thereby generate inflation was taken from the individual member nations. Since inflation expectations now were the same for all euro member no matter how much they borrowed all euro members could borrow at the same low interest rate. Allowing profligate members to borrow in a manner that had previously been impossible.
Then the financial crisis hit, governments had to take on the debts of failing banks and try to compensate for drop in private sector demand all while tax revenues dried up. For those who had already borrowed excessive this added debt became too much. It rose to such levels where markets started to fear that they would simply refuse to pay back the money they owed. So they started to demand a higher interest rate to compensate for the risk of these countries actually defaulting on their loans. Interest rates they could afford to pay, making a default even more likely, leading to even higher interest rates and so on.
This whole crisis would never have arisen if it wasn't for the euro. The bond markets would not have allowed any indebted nation to borrow like in such a reckless fashion.
In order for Europe to not find itself in this situation again a variety of measures are started to be implemented. Mainly legal limits on how a member country can borrow, both in the form of treaties and national legislation. Such limits of course existed before the crisis but were simply ignored. Hopefully these will be design in such a way that they can't be. Potentially by handling the power to punish rule breakers over to the European court of justice.
Wednesday, August 24, 2011
No tax cuts for working Swedes
There won't be any additional cuts to the Swedish income tax as previously promise by the Reinfeldt government. The reason for this is disappointing growth figures. I would say that this is somewhat odd reasoning on the governments part since there is no better argument for lower taxes then low growth. A tax cut would boost demand in the economy, exactly what is needed when the economy is growing slowly. The main argument for cutting the income tax made by the government has been that it would increase employment. Something that surely will be more of a need for now when economy is slowing then it would have been otherwise.
If the Swedish economy's impressive growth spurt had continued this would have been a better argument against cutting taxes then in support of it. Then the danger would have been increased inflation and the creation of bubbles especially in the property market. Problems a tax cut would have made worse. If the inflation threat had been seen as serious, the Swedish Riksbank would have had to react by raising interest rates faster then it otherwise would, counteracting the positive effects of the tax cut.
These actions by the Swedish government seem to be in line with a pro-cyclical fiscal policy exacerbating the swings of the business cycle by boosting the economy in good times and strangling it in bad times.
The only defense for such a policy would be fiscal discipline, an unwillingness to spend beyond ones means. The consequences of which many of Sweden's European neighbors are suffering. But unlike them Sweden has no existing debt problem. It could easily run a budget deficit without this unnerving the markets. It does however have a budgetary rule of a 2% surplus, with the aim of continuously chipping away at Sweden's already manageable public debt. But this 2% goal is over the whole business cycle, giving the government room to help the economy during bad times given that they then show restraint during good times.
If the Swedish economy's impressive growth spurt had continued this would have been a better argument against cutting taxes then in support of it. Then the danger would have been increased inflation and the creation of bubbles especially in the property market. Problems a tax cut would have made worse. If the inflation threat had been seen as serious, the Swedish Riksbank would have had to react by raising interest rates faster then it otherwise would, counteracting the positive effects of the tax cut.
These actions by the Swedish government seem to be in line with a pro-cyclical fiscal policy exacerbating the swings of the business cycle by boosting the economy in good times and strangling it in bad times.
The only defense for such a policy would be fiscal discipline, an unwillingness to spend beyond ones means. The consequences of which many of Sweden's European neighbors are suffering. But unlike them Sweden has no existing debt problem. It could easily run a budget deficit without this unnerving the markets. It does however have a budgetary rule of a 2% surplus, with the aim of continuously chipping away at Sweden's already manageable public debt. But this 2% goal is over the whole business cycle, giving the government room to help the economy during bad times given that they then show restraint during good times.
Monday, August 22, 2011
Let's do the twist!
With growth slowing markets are expecting the Federal Reserve to do something. Many is expecting another round of quantitative easing, a QE3. Meaning the Fed will start buying government bonds with freshly printed money. This has the obvious downside of pushing up prices.
There is however an alternative that won't lead to inflation. The Fed could do what is called a twist, selling its maturing bonds and using that money to buy long term debt. This should drive down the yield on long term government bonds making them less attractive as a safe hiding place when the future looks uncertain. This should force investors to return to the stock market and boost share prices. Making everyone who owns stocks a little richer, boosting demand in the economy, creating new growth. At seemingly no real cost.
There is however an alternative that won't lead to inflation. The Fed could do what is called a twist, selling its maturing bonds and using that money to buy long term debt. This should drive down the yield on long term government bonds making them less attractive as a safe hiding place when the future looks uncertain. This should force investors to return to the stock market and boost share prices. Making everyone who owns stocks a little richer, boosting demand in the economy, creating new growth. At seemingly no real cost.
The morality of central banking
Republican presidential candidate Rick Perry made the news with his comment that it would be almost treasonous for the Federal Reserve to print more money. I'm a bit unclear on what he meant by this but my guess is that what he is talking about is anther round of QE, the practice where the Central Bank buys government bonds with newly printed money in order to lower bond yields and instead channel investment in to the stock market. This has the added effect of keeping government borrowing costs low, encouraging more borrowing by the federal government. Which I'm assuming is why Mr. Perry has a problem with it.
There is also a broader mistrust of central banks in some right wing circles. Since the abandonment of the gold standard central banks have gained full control over the money supply by their control over the printing presses. This means that they can determine the value of all money. In effect they can cut all workers wages in half if they so wish, or drain all the value out of people's life time savings. Believers in limiting the power of government are understandably uncomfortable with this. Instead they want "sound money" tied to gold or some other stable asset.
I have some sympathy for this view but is satisfied by keeping the power over the printing press at an arms length from the politicians by the means of central bank independence. Something that can be seen as threatened when politicians like Mr Perry try to influence them by deeming some policy decisions treasonous.
There is also a broader mistrust of central banks in some right wing circles. Since the abandonment of the gold standard central banks have gained full control over the money supply by their control over the printing presses. This means that they can determine the value of all money. In effect they can cut all workers wages in half if they so wish, or drain all the value out of people's life time savings. Believers in limiting the power of government are understandably uncomfortable with this. Instead they want "sound money" tied to gold or some other stable asset.
I have some sympathy for this view but is satisfied by keeping the power over the printing press at an arms length from the politicians by the means of central bank independence. Something that can be seen as threatened when politicians like Mr Perry try to influence them by deeming some policy decisions treasonous.
Sunday, August 21, 2011
Why?!
Stock markets are collapsing in general, bank shares are dropping even fastest. Banks are seemingly unwilling to lend to each other. Why? It all seems to have coincided quite nicely with the downgrade of Americas sovereign debt. But the likelihood of an American default is not the reason for all this. If it was investors would be unwilling to lend to the US government, instead they are falling over each other trying to get America to take their money, yields on treasury bonds are at record lows. Taking expected inflation in to account investors are actually paying for the privilege of lending money to the US government.
Why are investors desperate to lend the American government? It's for the same reason the stock market is dropping like a stone. Unexpectedly low growth in America and Europe. The economy isn't growing on its own since everyone is still buried in debt since the financial crisis and are still paying it off. In Europe spending cuts and tax increases are doing a better job then expected at killing growth. In America a newfound fixation on the debt is making any plan to spend more politically impossible. Here if anything the S&P downgrade played a part, by making any government stimulus even less likely. When it comes to monetary policy the Federal Reserve has already tried its old tricks and some new to breath new life in the the economy so more action and the effectiveness of such is questioned. On the other side of the atlantic the ECB is focused on buying up Spanish and Italian debt to keep those economies from being crushed by interest rates they can not afford to pay. So the economy is stagnating and there does not appear to be anything governments can or at least are willing to do to help. So markets are realizing that the companies they have invested in aren't going to do as well as they had expected, driving down their value making the alternative in the form of government bonds look much more attractive.
Investors are especially keen on getting rid of bank shares since banks are perceived to be especially vulnerable as the economy slows. This is partly because some of them own a large amount of government bonds of risky origin like Greek and Portuguese bonds. But also that the value of their assets in general will fall as the economy slows potentially giving them liquidity problems.
So to sum it all up, it is all to do with lower then expected economic growth.
Why are investors desperate to lend the American government? It's for the same reason the stock market is dropping like a stone. Unexpectedly low growth in America and Europe. The economy isn't growing on its own since everyone is still buried in debt since the financial crisis and are still paying it off. In Europe spending cuts and tax increases are doing a better job then expected at killing growth. In America a newfound fixation on the debt is making any plan to spend more politically impossible. Here if anything the S&P downgrade played a part, by making any government stimulus even less likely. When it comes to monetary policy the Federal Reserve has already tried its old tricks and some new to breath new life in the the economy so more action and the effectiveness of such is questioned. On the other side of the atlantic the ECB is focused on buying up Spanish and Italian debt to keep those economies from being crushed by interest rates they can not afford to pay. So the economy is stagnating and there does not appear to be anything governments can or at least are willing to do to help. So markets are realizing that the companies they have invested in aren't going to do as well as they had expected, driving down their value making the alternative in the form of government bonds look much more attractive.
Investors are especially keen on getting rid of bank shares since banks are perceived to be especially vulnerable as the economy slows. This is partly because some of them own a large amount of government bonds of risky origin like Greek and Portuguese bonds. But also that the value of their assets in general will fall as the economy slows potentially giving them liquidity problems.
So to sum it all up, it is all to do with lower then expected economic growth.
Markets disagree
In the last few weeks we have seen a downgrade of American sovereign debt by S&P as well as all three major ratings agencies coming out in support of France's continued AAA rating. Markets seems to disagree. The people who actually invest in government bonds are rallying to American debt while selling off their French government bonds.
The interest rate on French 10 year bonds is about 3% while its American counterpart is closer to 2%. In real terms the difference is even larger since American inflation expectations are higher then expected European inflation. If markets agreed with S&P that French debt really was safer then American debt those numbers should be switched.
The interest rate on French 10 year bonds is about 3% while its American counterpart is closer to 2%. In real terms the difference is even larger since American inflation expectations are higher then expected European inflation. If markets agreed with S&P that French debt really was safer then American debt those numbers should be switched.
China has built a big boat
Historians love to tell us that we should study more history so we can learn from it. Reading about China's completion of its first aircraft carrier and the fear this has sparked in its neighbors I can help to feel that a good parallel for this is pre-WW1 Germany. China fills about the same role in the power balance in early 21 century Asia as Germany did in 20th century Europe. They both are/were large states who's rapid rise in both economic and military power is threatening the balance of power in the region which previously has constrained any one nation from dominating the continent in question.
Americas role in today's Asia is very similar to Britain's traditional role in the European power struggle. As an outsider determined to prevent any one nation from gaining control of their continental neighbors. Britain has historically faced down a series of continental powers to this end. In Americas short history they have effectively prevented both Japan and later Russia from achieving this goal, now the threat looks like it might come from China.
What is especially troubling with this comparison is what convinced Britain of the German threat in the decade leading up to WW1 was the German plan to go from a nation with very limited maritime capabilities to build a fleet to challenge the power of the Royal Navy. Today the American fleet that holds the position previously held by the British and it is China that is building up its naval capabilities.
Americas role in today's Asia is very similar to Britain's traditional role in the European power struggle. As an outsider determined to prevent any one nation from gaining control of their continental neighbors. Britain has historically faced down a series of continental powers to this end. In Americas short history they have effectively prevented both Japan and later Russia from achieving this goal, now the threat looks like it might come from China.
What is especially troubling with this comparison is what convinced Britain of the German threat in the decade leading up to WW1 was the German plan to go from a nation with very limited maritime capabilities to build a fleet to challenge the power of the Royal Navy. Today the American fleet that holds the position previously held by the British and it is China that is building up its naval capabilities.
Sovereign debt and size
There seem to be a strong correlation between the size of countries and the amount of debt they can acquire before their interest rates start spiraling out of control. Most people seem to imagine some 100% of GDP threshold after which a countries debt burden becomes unsustainable. This number seems about right for most troubled European countries. But looking at the massive Japanese economy it is completely off. Their debt to GDP ratio is closer to 200% of GDP yet their borrowing costs are the lowest of any country. This size theory helps when it comes to understanding the ease at which America can borrow. The American public debt burden is large and more importantly growing. Yet they can borrow at almost no cost.
This size debt tolerance relationship can likely be explained by a bigger bond market being less affected by a group of worried investors selling their bonds.
This relationship is also something we should keep in mind when considering the effect of the much debated euro bond. It is usually thought of as a way to drive down borrowing costs by sharing the risk with countries with less debt. Mainly benefiting from Germany's thrifty ways. But the size relationship should imply that there is also a benefit in a larger economic base. This is supposedly something that even more responsible countries like Germany could benefit from, or at least help mitigate some of the harm done by having to guarantee the debts of their less well behaved neighbors.
This size debt tolerance relationship can likely be explained by a bigger bond market being less affected by a group of worried investors selling their bonds.
This relationship is also something we should keep in mind when considering the effect of the much debated euro bond. It is usually thought of as a way to drive down borrowing costs by sharing the risk with countries with less debt. Mainly benefiting from Germany's thrifty ways. But the size relationship should imply that there is also a benefit in a larger economic base. This is supposedly something that even more responsible countries like Germany could benefit from, or at least help mitigate some of the harm done by having to guarantee the debts of their less well behaved neighbors.
Europe to the rescue
The ECB has come to the rescue of Spain and Italy, by buying up their bonds after investors started to sell of the debt of the two troubled southern giants they can once again borrow at an affordable interest rate.
This is probably a good thing since the ECB prevented the sovereign debt crisis from spreading, at least for a while. But is not all good. Depending on the size of the purchases required by the ECB it might not be able to sterilize its bond purchases and be forced to pay for them with newly printed money and thereby increasing the european money supply creating inflation. Unlike a traditional change in the money supply carried out through interest rate adjustments, this increase benefits only Spain and Italy at a cost paid by all other euro members. A lowering of the prime interest rate benefits all euro member by lowering the cost of borrowing, but this bond purchase lowers the borrowing costs of Spain and Italy. Meanwhile the inflation will eat in to value of the money of all Europeans.
Then there is the long run problem, by averting this crisis the central bank might have contributed to a whole slew of future crises. Once the ECB has popped its cherry in the bond market governments will come to expect it to put out again. This takes some of the pressure off them to solve their debt problem. The markets reacted to what they saw as less then satisfactory plans by the Spanish and Italian governments to reduce their debts. By the ECB coming to the rescue they lose some of the incentive to act.
This is probably a good thing since the ECB prevented the sovereign debt crisis from spreading, at least for a while. But is not all good. Depending on the size of the purchases required by the ECB it might not be able to sterilize its bond purchases and be forced to pay for them with newly printed money and thereby increasing the european money supply creating inflation. Unlike a traditional change in the money supply carried out through interest rate adjustments, this increase benefits only Spain and Italy at a cost paid by all other euro members. A lowering of the prime interest rate benefits all euro member by lowering the cost of borrowing, but this bond purchase lowers the borrowing costs of Spain and Italy. Meanwhile the inflation will eat in to value of the money of all Europeans.
Then there is the long run problem, by averting this crisis the central bank might have contributed to a whole slew of future crises. Once the ECB has popped its cherry in the bond market governments will come to expect it to put out again. This takes some of the pressure off them to solve their debt problem. The markets reacted to what they saw as less then satisfactory plans by the Spanish and Italian governments to reduce their debts. By the ECB coming to the rescue they lose some of the incentive to act.
Friday, August 12, 2011
How to get rid of public debt
With most western countries buried in public debt and looking to clean up their act it might be a good to offer an overview of their options. There is basically three ways for a country to lower its debt to GDP ratio, austerity, growth and inflation.
Most debt ridden European countries are now implementing some sort of austerity plans. These basically involves raising taxes and cutting spending. The logic here is simple, turning budget deficits in to budget surpluses they can start to pay off their debt instead of adding to it.
These practices however have the downside of strangling economic growth. Since a country's ability to pay off its debt depends on it's size relative to the size of the economy, this matters. If a country's economy would simply grow by a few percentage points every year its debt to GDP ratio would in time fall to manageable levels, given that its debts aren't growing faster then the economy itself. The easiest way to manufacture growth is by increasing spending and cutting taxes, this practice would however add to the deficit, which is the opposite of what we are trying to accomplish. But there are other ways to create growth without adding to the budget deficit. A country can deregulate product and service markets in order to raise productivity. Ease labor market laws in order for the country's workforce to be better utilized. Promote competitiveness by ending government monopolies and selling off state owned firms, both in the hope of raising productivity but also to collect some much needed cash for debt payments.
Another way is to bump up inflation. Most western countries have an inflation target around 2%, if this was raised by a few percentage points this would quickly eat away at existing public debt. The downsides of inflation has previously been discussed in this blog but much of the negative sides of inflation could be remedied if the increased inflation was kept at a stable rate, let's say 6% instead of 2%. The higher inflation rate would be known in wage negotiations so that new wage increases could take it in to account. Interests rates would adjust themselves to the expected higher inflation so to not punish savers by keeping the real interest rate (interest rates minus inflation) unchanged. Of course buyers of newly issued government bonds would take the new higher inflation rate in to account too, so it would not help the indebted country here. It would only help them with bonds issued when expected inflation rates were lower, on these the cost for the state would be significantly lowered. Imagine a 10-year bond being issued before the inflation increase, the indebted country would then only need to pay back a portion of that debt in real terms. There is however a risk that once a country has bumped up its inflation target markets might come to fear another increase and demand to be compensated for this risk by a higher interest rate.
A combination of the first two somewhat contradictory measures are already being pursued to some extent in in troubled European countries. Inflation has however been kept down by successive interest rate increases by the ECB. It probably wouldn't hurt if it took a more relaxed attitude to inflation fighting and let prices rise a bit. Especially now that German growth seems to be slowing and a low euro interest rate is less likely to create bubbles in the German economy.
Most debt ridden European countries are now implementing some sort of austerity plans. These basically involves raising taxes and cutting spending. The logic here is simple, turning budget deficits in to budget surpluses they can start to pay off their debt instead of adding to it.
These practices however have the downside of strangling economic growth. Since a country's ability to pay off its debt depends on it's size relative to the size of the economy, this matters. If a country's economy would simply grow by a few percentage points every year its debt to GDP ratio would in time fall to manageable levels, given that its debts aren't growing faster then the economy itself. The easiest way to manufacture growth is by increasing spending and cutting taxes, this practice would however add to the deficit, which is the opposite of what we are trying to accomplish. But there are other ways to create growth without adding to the budget deficit. A country can deregulate product and service markets in order to raise productivity. Ease labor market laws in order for the country's workforce to be better utilized. Promote competitiveness by ending government monopolies and selling off state owned firms, both in the hope of raising productivity but also to collect some much needed cash for debt payments.
Another way is to bump up inflation. Most western countries have an inflation target around 2%, if this was raised by a few percentage points this would quickly eat away at existing public debt. The downsides of inflation has previously been discussed in this blog but much of the negative sides of inflation could be remedied if the increased inflation was kept at a stable rate, let's say 6% instead of 2%. The higher inflation rate would be known in wage negotiations so that new wage increases could take it in to account. Interests rates would adjust themselves to the expected higher inflation so to not punish savers by keeping the real interest rate (interest rates minus inflation) unchanged. Of course buyers of newly issued government bonds would take the new higher inflation rate in to account too, so it would not help the indebted country here. It would only help them with bonds issued when expected inflation rates were lower, on these the cost for the state would be significantly lowered. Imagine a 10-year bond being issued before the inflation increase, the indebted country would then only need to pay back a portion of that debt in real terms. There is however a risk that once a country has bumped up its inflation target markets might come to fear another increase and demand to be compensated for this risk by a higher interest rate.
A combination of the first two somewhat contradictory measures are already being pursued to some extent in in troubled European countries. Inflation has however been kept down by successive interest rate increases by the ECB. It probably wouldn't hurt if it took a more relaxed attitude to inflation fighting and let prices rise a bit. Especially now that German growth seems to be slowing and a low euro interest rate is less likely to create bubbles in the German economy.
The future of Swedish tax cuts
The Swedish government had planed to cut taxes (mainly income taxes) sometime next year, now that looks less certain. With increasingly ruthless austerity measurers in Europe, a slowdown of the American economy and inflation fears in China, demand for Swedish exports is likely to decrease. This has brought down projections for Swedish growth. The Reinfeldt government want to run a small budget surplus, something that might be incompatible with new tax cuts. So which will the government choose, fiscal discipline or tax cuts? Both are likely to appeal to voters in the upcoming election.
Given that Swedish elections in later years have been fought over the issue of high unemployment, I would place my bets on further tax cuts. Giving Swedes a bit more spending money should increase demand in the economy helping to compensate for lost exports. Since the bulk of the tax cuts are likely to be aimed at the income tax, that could also cut unemployment by making work more rewarding. A favorite argument if the Reinfeldt government. But if the economy really is heading for more troubled times the cause of increased unemployment is likely to lie in low demand for workers, and not in the willingness of workers to seek employment. Making it harder to argue that lower income taxes would be especially effective in fighting unemployment. Rather they would simply stimulate aggregate demand leading to increased employment the same as all other tax cuts that leaves tax payers with more money in their wallet.
Given that Swedish elections in later years have been fought over the issue of high unemployment, I would place my bets on further tax cuts. Giving Swedes a bit more spending money should increase demand in the economy helping to compensate for lost exports. Since the bulk of the tax cuts are likely to be aimed at the income tax, that could also cut unemployment by making work more rewarding. A favorite argument if the Reinfeldt government. But if the economy really is heading for more troubled times the cause of increased unemployment is likely to lie in low demand for workers, and not in the willingness of workers to seek employment. Making it harder to argue that lower income taxes would be especially effective in fighting unemployment. Rather they would simply stimulate aggregate demand leading to increased employment the same as all other tax cuts that leaves tax payers with more money in their wallet.
Wednesday, August 10, 2011
The inflation tax
As the world economy is slowing down governments has two categories of tools to use to help their economies, fiscal and monetary policy. One involves the state increasing spending or cutting taxes to stimulate demand while the other involves the central bank simply printing new money and injecting it in to the economy. To many monetary policy might seem preferable since you would then get something for nothing. While fiscal policy is financed by tax money either collected now or sometime in the future, monetary policy simply involves printing some new money.
But monitory policy is paid for with inflation rather then taxes, which will have a similar effect on the citizenry. As the supply of anything increases its worth falls, this is as true of money as it is of tomatoes. When more money is created the value of all other money decreases. So in order for this new printed money to come in to existence the money in everyone's bank accounts will be worth a little less and everyones salaries will decrease a little in real terms. Instead of paying a direct tax to the government (either now or sometime in the future) to finance its fiscal policy the value is directly extracted from your bank account and your salary.
But monitory policy is paid for with inflation rather then taxes, which will have a similar effect on the citizenry. As the supply of anything increases its worth falls, this is as true of money as it is of tomatoes. When more money is created the value of all other money decreases. So in order for this new printed money to come in to existence the money in everyone's bank accounts will be worth a little less and everyones salaries will decrease a little in real terms. Instead of paying a direct tax to the government (either now or sometime in the future) to finance its fiscal policy the value is directly extracted from your bank account and your salary.
Monday, August 8, 2011
The future of secular Turkey
Turkey's mildly Islamist Government has been prevented from more fully embracing an Islamist agenda by two forces. The first is the powerful and staunchly secular Turkish army, the second is the prospect of EU membership, both of these are fading.
Last week the top military brass resigned in protest over the arrests of officer charged with alleged plot making. In effect handing over power over the military to the civilian government by giving them their pick of replacement. This is hugely important since the army has seen itself as defenders of Ataturks vision of a secular Turkey and has in modern history toppled no less then four governments by the means of military coups. With them neutralized the most serious bulwark against the islamization of Turkey has been overcome.
The lure of EU membership and the massive economic gains that would entail for Turkey has helped democratize the country and preserving the countries secular attitudes have been part of this. The EU does not want any of its members practicing sharia law or any similarly undemocratic behavior. But the likelihood of EU membership is diminishing as Europeans view immigration (especially Muslim immigration) in a increasingly negative light. The French President and the German Chancellor influenced by these sentiments have made it clear that their countries oppose a Turkish membership. If Turkey's EU ambitions really are hopeless then these is no more need for them to cater to foreign audiences, the Turkish government can instead focus on domestic opinion which has a much more positive view on Islamist policies.
It is now up to the Turkish people in a truly democratic fashion to prevent the islamization of their country through the ballot box, unfortunately they are much less trustworthy in their commitment to secularism.
Last week the top military brass resigned in protest over the arrests of officer charged with alleged plot making. In effect handing over power over the military to the civilian government by giving them their pick of replacement. This is hugely important since the army has seen itself as defenders of Ataturks vision of a secular Turkey and has in modern history toppled no less then four governments by the means of military coups. With them neutralized the most serious bulwark against the islamization of Turkey has been overcome.
The lure of EU membership and the massive economic gains that would entail for Turkey has helped democratize the country and preserving the countries secular attitudes have been part of this. The EU does not want any of its members practicing sharia law or any similarly undemocratic behavior. But the likelihood of EU membership is diminishing as Europeans view immigration (especially Muslim immigration) in a increasingly negative light. The French President and the German Chancellor influenced by these sentiments have made it clear that their countries oppose a Turkish membership. If Turkey's EU ambitions really are hopeless then these is no more need for them to cater to foreign audiences, the Turkish government can instead focus on domestic opinion which has a much more positive view on Islamist policies.
It is now up to the Turkish people in a truly democratic fashion to prevent the islamization of their country through the ballot box, unfortunately they are much less trustworthy in their commitment to secularism.
German power
In recent history Germany has tried and failed in their attempt to dominate the European continent twice at an enormous cost both in financial and human terms. It is ironic that they now through a process of European fiscal integration are placed in a position in many ways similar to what they tried to achieve in the two world wars they sparked.
As a response to the European sovereign debt crisis the Euro zone is moving ever closer to fiscal union, which in practice means transferring money from successful European countries (mainly Germany) to troubled European countries (most of them). In exchange for this fantastical generosity the lenders (again principally Germany) is able to force these countries to go through hugely painful and unpopular programs of austerity and economic transformation, in essence becoming more Germanic. Since Germany along with Sweden are the current prime examples of the famous Protestant work ethic and fiscal responsibility, there is likely no better example to recreate Europe’s economies in the image of. And in the long run it is likely to benefit both parties by putting Europe’s troubled economies back on track and in the process rebuilding and boosting the European market for German exports. However this is not the point, Europe could very well have thrived under the tutelage of Kaiser William and maybe even the brutal hand of the Fürer, but it meant what was then seen as an unacceptable loss of national freedom. The point is that by peaceful and benevolent means Chancellor Merkel has the potential to achieve what Germany’s militaristic leaders have failed to, power to control the domestic policies of its European neighbors and even reshape their societies to her liking.
As a response to the European sovereign debt crisis the Euro zone is moving ever closer to fiscal union, which in practice means transferring money from successful European countries (mainly Germany) to troubled European countries (most of them). In exchange for this fantastical generosity the lenders (again principally Germany) is able to force these countries to go through hugely painful and unpopular programs of austerity and economic transformation, in essence becoming more Germanic. Since Germany along with Sweden are the current prime examples of the famous Protestant work ethic and fiscal responsibility, there is likely no better example to recreate Europe’s economies in the image of. And in the long run it is likely to benefit both parties by putting Europe’s troubled economies back on track and in the process rebuilding and boosting the European market for German exports. However this is not the point, Europe could very well have thrived under the tutelage of Kaiser William and maybe even the brutal hand of the Fürer, but it meant what was then seen as an unacceptable loss of national freedom. The point is that by peaceful and benevolent means Chancellor Merkel has the potential to achieve what Germany’s militaristic leaders have failed to, power to control the domestic policies of its European neighbors and even reshape their societies to her liking.
Sunday, August 7, 2011
Do we want Assad gone?
Today we can read in the paper today how Saudi Arabia has recalled its ambassador from Syria, shortly after the Arab League condemned the Syrian crackdown. The Assad family's hold on power is looking ever more fragile. This begs the question, do we want the Syrian dictator gone?
Surely he has repressed his people and by allying himself with Iran he has made himself an enemy of the West. Still the removal of dictators, however despicable is likely to cause a new set of troubles. As seen after the toppling of Saddam. Like Iraq Syria is split between several religious groups, and like Iraq it is ruled by a privileged (religious) minority. The fall of Assad could be followed by a bloody struggle and maybe even civil war. Only in this case there aren't thousands if American troops to keep the situation from exploding. If the revolution results in a power vacum Al-Qaida and other Islamists can take root, like they did in Iraq.
The fall of Assad would be a joyous event. But there is the risk that we will start missing him not soon after.
Surely he has repressed his people and by allying himself with Iran he has made himself an enemy of the West. Still the removal of dictators, however despicable is likely to cause a new set of troubles. As seen after the toppling of Saddam. Like Iraq Syria is split between several religious groups, and like Iraq it is ruled by a privileged (religious) minority. The fall of Assad could be followed by a bloody struggle and maybe even civil war. Only in this case there aren't thousands if American troops to keep the situation from exploding. If the revolution results in a power vacum Al-Qaida and other Islamists can take root, like they did in Iraq.
The fall of Assad would be a joyous event. But there is the risk that we will start missing him not soon after.
Wednesday, July 27, 2011
Closing tax loopholes
In the debt ceiling debate going on i Washington the question has come up if the closing of tax loopholes is a tax increase or not. Since Republicans refuse to raise taxes, instead closing tax loopholes is seen as a potential compromise. I would argue that the question to be asked shouldn't be if the closing of loopholes is a tax increase or not, rather we should ask if the effects on the economy of closing tax loopholes is the same as the effects of raising taxes. Since it is the economy we should care about and not semantics.
A tax increase has a negative effect on the economy largely because it leaves less money in peoples pockets leading to lower consumption, which is the driving factor of economic growth. The effect of closing tax loopholes is that people and companies will pay more taxes, so it would have the same negative effects as a tax increase.
Progressive taxes, making the rich pay a higher percentage of their earnings, has the effect of making hard work, education and risk taking pay less, thereby discouraging it and negatively effecting the economy. The American tax system is highly progressive in theory but not in practice since there is a multitude of tax loopholes keeping taxes on high earners low. Economist Milton Friedman has argues that if it wasn't for all these loopholes Americas progressive tax system would have destroyed the American economy. So the closing of tax loopholes would mean a higher tax burden on wealthy Americans, which would discourage the kind of activity that is beneficial to the economy, the same way a new tax on the well off would.
Higher taxes might well be necessary to keep down the American deficit, but we should not pretend that the negative effects of closing tax loopholes is not the same as the negative effects of a tax increase. They are.
A tax increase has a negative effect on the economy largely because it leaves less money in peoples pockets leading to lower consumption, which is the driving factor of economic growth. The effect of closing tax loopholes is that people and companies will pay more taxes, so it would have the same negative effects as a tax increase.
Progressive taxes, making the rich pay a higher percentage of their earnings, has the effect of making hard work, education and risk taking pay less, thereby discouraging it and negatively effecting the economy. The American tax system is highly progressive in theory but not in practice since there is a multitude of tax loopholes keeping taxes on high earners low. Economist Milton Friedman has argues that if it wasn't for all these loopholes Americas progressive tax system would have destroyed the American economy. So the closing of tax loopholes would mean a higher tax burden on wealthy Americans, which would discourage the kind of activity that is beneficial to the economy, the same way a new tax on the well off would.
Higher taxes might well be necessary to keep down the American deficit, but we should not pretend that the negative effects of closing tax loopholes is not the same as the negative effects of a tax increase. They are.
Tuesday, July 26, 2011
Starving the Leviathan
The more ideological wing of the American Republican party is convinced that the growth of the state is a threat to their liberty and their way of life. Their chosen tactic in combating this nemesis is tax cuts. By withholding the necessary founds they intend to keep the size of the state in check. This plan sounds pretty reasonable and everyone hates to pay their taxes, so it should have a wide appeal beyond the ideological hard core.
The plan however seems to ignore the fact that the American government can borrow money freely and doesn't have to pay for its spending with the taxes it collects, it has been borrowing to pay for its lavish ways for years. Sure there will come a point where borrowing is no longer a possibility, but that far off in the future. Investors feel no anxiety over lending money to America as evident by the very low interest it is required to pay on its bonds. So any tax cuts are more likely to feed the deficit then starve the state.
If it is their wish to shrink the state this is better done in a more direct way by cutting spending, even if this sound much less pleasant then lower taxes in the ears of the electorate. This could even be done in combination with higher taxes. As long as the taxes go to paying off the deficit and not pay for new government spending.
The plan however seems to ignore the fact that the American government can borrow money freely and doesn't have to pay for its spending with the taxes it collects, it has been borrowing to pay for its lavish ways for years. Sure there will come a point where borrowing is no longer a possibility, but that far off in the future. Investors feel no anxiety over lending money to America as evident by the very low interest it is required to pay on its bonds. So any tax cuts are more likely to feed the deficit then starve the state.
If it is their wish to shrink the state this is better done in a more direct way by cutting spending, even if this sound much less pleasant then lower taxes in the ears of the electorate. This could even be done in combination with higher taxes. As long as the taxes go to paying off the deficit and not pay for new government spending.
Tuesday, July 12, 2011
The more the merrier - Does the launch of Google+ benefit consumers?
With the rapid decline of MySpace, Facebook has quickly acquired a near monopoly position among social networks. Now Google is entering the arena with its new Google+ product, potentially threatening Facebook’s dominant position. Is this a good thing for consumers? The knee-jerk reaction is ‘Yes, competition always benefits the consumer’ but this might be one of those odd cases where it is not necessarily so.
Competition is usually thought of as necessary to force companies to better service their customers and keep prices down. In the case of Facebook this would mean continuous improvements to their product. The recent introduction of the geo-tagging feature Places allowing users to ‘check-in’ to visited locations would be good example of an action to keep the service relevant and competitive. It is also likely the threat of competition that is keeping Facebook a free service and probably more importantly it prevents them from terrorizing the consumer with more and excessively intrusive advertisements.
At the same time Facebook’s dominant position greatly benefits consumers by gathering all their friends and family on to one service. Imagine a system where people owned phones of different colors, red, green, blue and purple - and only a red phone could be used to call another red phone and so on. Requiring users to own multiple phones and keep track of which color phones their friends own. It is hard to see this situation benefiting consumers, it is more likely to drive them mad. Social networks are usually not developed to interact with each other so a situation with several large competing networks would likely look very much like our different colored phone scenario, requiring users to jump between different services depending on who they wish to interact with.
So what conclusion can we draw from this? It would appear to me that the most beneficial situation for consumers would be one where one social network has a near monopoly position, let’s say this company is Facebook. But other services like Google+ are successful enough to keep the dominant network on its toes and force it to stay competitive but not successful enough to challenge its position as most peoples primary social network. Alternatively completely replacing the old giant and taking its monopoly position.
It might be that social network market is a natural monopoly which can’t sustain more than one major player and the market leader can maintain its monopoly only as long as it offers the best alternative for consumers, supposedly both features and user base would be taken in to account when evaluating this. Once it fails to satisfy its customers it is quickly cannibalized by another service which then takes its place as the new dominant service.
Competition is usually thought of as necessary to force companies to better service their customers and keep prices down. In the case of Facebook this would mean continuous improvements to their product. The recent introduction of the geo-tagging feature Places allowing users to ‘check-in’ to visited locations would be good example of an action to keep the service relevant and competitive. It is also likely the threat of competition that is keeping Facebook a free service and probably more importantly it prevents them from terrorizing the consumer with more and excessively intrusive advertisements.
At the same time Facebook’s dominant position greatly benefits consumers by gathering all their friends and family on to one service. Imagine a system where people owned phones of different colors, red, green, blue and purple - and only a red phone could be used to call another red phone and so on. Requiring users to own multiple phones and keep track of which color phones their friends own. It is hard to see this situation benefiting consumers, it is more likely to drive them mad. Social networks are usually not developed to interact with each other so a situation with several large competing networks would likely look very much like our different colored phone scenario, requiring users to jump between different services depending on who they wish to interact with.
So what conclusion can we draw from this? It would appear to me that the most beneficial situation for consumers would be one where one social network has a near monopoly position, let’s say this company is Facebook. But other services like Google+ are successful enough to keep the dominant network on its toes and force it to stay competitive but not successful enough to challenge its position as most peoples primary social network. Alternatively completely replacing the old giant and taking its monopoly position.
It might be that social network market is a natural monopoly which can’t sustain more than one major player and the market leader can maintain its monopoly only as long as it offers the best alternative for consumers, supposedly both features and user base would be taken in to account when evaluating this. Once it fails to satisfy its customers it is quickly cannibalized by another service which then takes its place as the new dominant service.
Wednesday, July 6, 2011
Why are Vending Machines such a common sight in Tokyo?
If you were to walk around in Tokyo or any other major city in Japan you are likely to be struck by the extraordinary amount of vending machines. Vending machines selling everything from soup to flowers to CDs. This isn’t something we westerners are used to and is likely to strike us as somewhat odd. It is only natural to wonder why this is?. How come vending machines are so much more prevalent in Tokyo than in big Western cities like Berlin or Stockholm?
A friend of mine who is studying Japanese in Tokyo explained that this is typical of the anti-social culture in major Japanese cities. But being an economics student I couldn’t help to wonder if there isn’t an economic dimension to this question as well.
Economists love to think about the cost of things. One thing Japanese cities are famous for are their high costs of living. Their highly centralized population’s demand for housing is enormous, which is driving up the price of apartments. When the cost of living is high, workers will demand higher wages. High wages makes hiring more costly. Vending machines could be an easy way to get around paying expensive workers.
Of course its not only apartment prices that are high as a result of dense living conditions. Renting space for your business will also be expensive, even if it is just a small shop. Vending machines take up very little space and are usually placed outside on the sidewalk. That way they do not take up valuable business space. When rents are high these things matter.
Another thing Japan is famous for is the country’s unusually low level of immigration. It is almost impossible to become a Japanese citizen and it is very hard to get permission to stay and work. Combining this with an aging population and we have a shortage of cheap labor. The supply of cheap labor will affect wages. Wages eat into profits which makes vending machines look even more attractive.
Another result of Japans highly centralized population is that there will likely be a demand for a wide variety of products at all hours. Of course there is always a small part of the population who would like a cup of soup or a bouquet of flowers at 2 in the morning. But only when a large amount of people reside within a relatively small area will that demand be large enough to be worth serving. It's not much more expensive to have a vending machines turned on 24 hours a day then 12 hours a day, so that market made up of sleepless tokyoites is easy to service. In comparison hiring workers for the night shift will be expensive, not only is the costumer base smaller at night, workers are likely to be more expensive. Working retail at night is both uncomfortable and less safe then working days. Workers will likely demand to be compensated for this inconvenience. Demands you will not be hearing from vending machines.
A friend of mine who is studying Japanese in Tokyo explained that this is typical of the anti-social culture in major Japanese cities. But being an economics student I couldn’t help to wonder if there isn’t an economic dimension to this question as well.
Economists love to think about the cost of things. One thing Japanese cities are famous for are their high costs of living. Their highly centralized population’s demand for housing is enormous, which is driving up the price of apartments. When the cost of living is high, workers will demand higher wages. High wages makes hiring more costly. Vending machines could be an easy way to get around paying expensive workers.
Of course its not only apartment prices that are high as a result of dense living conditions. Renting space for your business will also be expensive, even if it is just a small shop. Vending machines take up very little space and are usually placed outside on the sidewalk. That way they do not take up valuable business space. When rents are high these things matter.
Another thing Japan is famous for is the country’s unusually low level of immigration. It is almost impossible to become a Japanese citizen and it is very hard to get permission to stay and work. Combining this with an aging population and we have a shortage of cheap labor. The supply of cheap labor will affect wages. Wages eat into profits which makes vending machines look even more attractive.
Another result of Japans highly centralized population is that there will likely be a demand for a wide variety of products at all hours. Of course there is always a small part of the population who would like a cup of soup or a bouquet of flowers at 2 in the morning. But only when a large amount of people reside within a relatively small area will that demand be large enough to be worth serving. It's not much more expensive to have a vending machines turned on 24 hours a day then 12 hours a day, so that market made up of sleepless tokyoites is easy to service. In comparison hiring workers for the night shift will be expensive, not only is the costumer base smaller at night, workers are likely to be more expensive. Working retail at night is both uncomfortable and less safe then working days. Workers will likely demand to be compensated for this inconvenience. Demands you will not be hearing from vending machines.
Rejecting the ‘blood for oil’ myth while not dismissing the importance of Gulf oil
When discussing the Iraq war someone inevitably makes the loony claim that America went to war to war to steal Iraq’s oil. There is usually not much more behind this accusation then Iraq has a lot of oil so obviously President Bush being an old oil man must be out to steal it. But those people are still not quite as out there as those who claim the moon landing was a fake or the CIA blew up the Twin Towers, since the oil buried beneath and around the Persian Gulf is central to the conflict, it is just not as simple as someone trying to get his hands on someone else’s oil.
Even if it started out that way in 1990, the year we have to start in order to understand the US-Iraq conflict. Back then Saddam wanted to build himself an Arabian empire starting with his invasion of tiny oil rich Kuwait. Weak, nearly undefended and sitting on immense oil resources Saudi Arabia along with its Gulf neighbors feared they would be next. So they invited in American troops to defend them in what is known as operation Desert Shield. This huge sacrilege of infidels on holy Muslim ground was what would kick off Bin Laden’s anti-western crusade, but that’s another story. Dessert Shield soon turned in to Dessert Storm as America went on to liberate Kuwait. This solved the most imminent problem of how to respond to Saddam’s invasion but not the bigger problem of the threat a powerful Iraq run by a seemingly mad dictator posed to the oil resources on which the free world’s economies depended. Here the Bush senior and junior differed in their opinions. The father wanted to leave Saddam in power with restrictions on what kind of weapons he could possess while the son thought it better to march on Bagdad. Since the father was the president that was obviously the course taken but the views of the son are equally important given later developments.
These weapon restrictions mainly involved so called WMD such as chemical and nuclear weapons, the former Saddam had used in his genocidal campaign against the Kurds and the second he was known to be developing (at least until the Israelis bombed the reactor ten years earlier). But restrictions were also placed on the Scud missiles Saddam had indiscriminately rained down on Israeli cities in an attempt to gain Muslim support for his war. These restrictions proved to be inefficient as Saddam toyed with the weapons inspectors leading President Clinton to repeatedly bomb Iraq in order to make them comply.
Then came the September 11 attacks which made America feel vulnerable like never before. While an enemy like Saddam was barely tolerated before that was now seen as unacceptable. So even if saying the second Gulf War was a war for oil is wrong, oil plays a central role in understanding why America and Iraq were enemies in the first place. America’s like all other industrial economies is dependent on oil imports, America with its dominant military force has taken on the old British role of making sure the world economy’s oil supply is safe. Looking at the war as something that started in 2003 it is easy to understand how some might believe it was fought to gain control over Iraq’s oil, especially when told so by various America haters. But with a longer perspective one should be able to understand how this is foolish while still appreciating the role oil plays in America’s relationship with the Middle East.
Even if it started out that way in 1990, the year we have to start in order to understand the US-Iraq conflict. Back then Saddam wanted to build himself an Arabian empire starting with his invasion of tiny oil rich Kuwait. Weak, nearly undefended and sitting on immense oil resources Saudi Arabia along with its Gulf neighbors feared they would be next. So they invited in American troops to defend them in what is known as operation Desert Shield. This huge sacrilege of infidels on holy Muslim ground was what would kick off Bin Laden’s anti-western crusade, but that’s another story. Dessert Shield soon turned in to Dessert Storm as America went on to liberate Kuwait. This solved the most imminent problem of how to respond to Saddam’s invasion but not the bigger problem of the threat a powerful Iraq run by a seemingly mad dictator posed to the oil resources on which the free world’s economies depended. Here the Bush senior and junior differed in their opinions. The father wanted to leave Saddam in power with restrictions on what kind of weapons he could possess while the son thought it better to march on Bagdad. Since the father was the president that was obviously the course taken but the views of the son are equally important given later developments.
These weapon restrictions mainly involved so called WMD such as chemical and nuclear weapons, the former Saddam had used in his genocidal campaign against the Kurds and the second he was known to be developing (at least until the Israelis bombed the reactor ten years earlier). But restrictions were also placed on the Scud missiles Saddam had indiscriminately rained down on Israeli cities in an attempt to gain Muslim support for his war. These restrictions proved to be inefficient as Saddam toyed with the weapons inspectors leading President Clinton to repeatedly bomb Iraq in order to make them comply.
Then came the September 11 attacks which made America feel vulnerable like never before. While an enemy like Saddam was barely tolerated before that was now seen as unacceptable. So even if saying the second Gulf War was a war for oil is wrong, oil plays a central role in understanding why America and Iraq were enemies in the first place. America’s like all other industrial economies is dependent on oil imports, America with its dominant military force has taken on the old British role of making sure the world economy’s oil supply is safe. Looking at the war as something that started in 2003 it is easy to understand how some might believe it was fought to gain control over Iraq’s oil, especially when told so by various America haters. But with a longer perspective one should be able to understand how this is foolish while still appreciating the role oil plays in America’s relationship with the Middle East.
Thursday, June 9, 2011
Bush's dream come true
After the 9/11 attacks the then American president George Bush adopted the view that the only long term solution to terrorism was a democratic middle east. The argument went that authoritarian states by their very nature generated political violence since that was the only way to achieve political change. In a free society an individual dissatisfied with the current state of society can take advantage of the democratic process to try to change things, in a repressive society void of political freedom that is not an option, instead armed resistance and terrorism fills this function.
While simply tracking down and killing terrorist was necessary, it would not stop terrorism, only altering the conditions which generated it would. So if the west ever hoped to be free from the threat of terror the Middle East needed to change.
A democratic Iraq with its dominant role in the Arab world was supposed to be the example others could emulate. This coupled with the pressure placed on traditional American allies in the region to gradually democratize and massive aid channeled through the CIA to pro-democracy groups in the region was hoped to transform it.
The political instability and violence that accompanied democracy in Iraq, hardly suitable to serve as a 'shining city upon a hill'. When Mr Bush pushed for democratic elections in the Palestinian territory of Gaza after the Israeli pull out of 2005, the Palestinians choose the Islamist terrorists organization Hamas to lead them.
More successful was his attempt to push for the first ever elections in Saudi Arabian history even if they were only regional elections. In the 2005 Egyptian election opposition candidates were allowed to play a larger role then ever under pressure from Washington. But as Mr Bush's much less idealistic successor became president in 2009 that pressure was removed. Saudi elections became a one off oddity with the next elections cancelled and Egypt's elections reverted to being completely rigged.
But then in 2011 the so called Arab Spring began and the dictatorships of Tunisia and Egypt disintegrated. With the support of NATO forces Libya seems to be heading in the same direction and Syria as well as Yemen is fighting large scale insurrection. This must truly be a dream come true for the neo-conservative followers of George Bush, this is just the Middle Eastern transformation they were trying to spark. To be fair Mr Bush probably also does deserve some credit, Wikileaks shun light on the around $200 million dollars Egyptian pro democracy activists were handed by the CIA in 2008-09, that couldn't have hurt. Even if many of his other schemes can't be said to have worked.
If democracy really will help alleviate the plague of terrorism remains to be seen. Those very authoritarian systems that are blamed for terrorism are also the same systems that keeps it in check.
While simply tracking down and killing terrorist was necessary, it would not stop terrorism, only altering the conditions which generated it would. So if the west ever hoped to be free from the threat of terror the Middle East needed to change.
A democratic Iraq with its dominant role in the Arab world was supposed to be the example others could emulate. This coupled with the pressure placed on traditional American allies in the region to gradually democratize and massive aid channeled through the CIA to pro-democracy groups in the region was hoped to transform it.
The political instability and violence that accompanied democracy in Iraq, hardly suitable to serve as a 'shining city upon a hill'. When Mr Bush pushed for democratic elections in the Palestinian territory of Gaza after the Israeli pull out of 2005, the Palestinians choose the Islamist terrorists organization Hamas to lead them.
More successful was his attempt to push for the first ever elections in Saudi Arabian history even if they were only regional elections. In the 2005 Egyptian election opposition candidates were allowed to play a larger role then ever under pressure from Washington. But as Mr Bush's much less idealistic successor became president in 2009 that pressure was removed. Saudi elections became a one off oddity with the next elections cancelled and Egypt's elections reverted to being completely rigged.
But then in 2011 the so called Arab Spring began and the dictatorships of Tunisia and Egypt disintegrated. With the support of NATO forces Libya seems to be heading in the same direction and Syria as well as Yemen is fighting large scale insurrection. This must truly be a dream come true for the neo-conservative followers of George Bush, this is just the Middle Eastern transformation they were trying to spark. To be fair Mr Bush probably also does deserve some credit, Wikileaks shun light on the around $200 million dollars Egyptian pro democracy activists were handed by the CIA in 2008-09, that couldn't have hurt. Even if many of his other schemes can't be said to have worked.
If democracy really will help alleviate the plague of terrorism remains to be seen. Those very authoritarian systems that are blamed for terrorism are also the same systems that keeps it in check.
The Greek debt crisis made simple
The Greek debt crisis has dominated the news for a while now, yet surprisingly few people seem to actually understand what all the fuss is about. I thought a great topic to start of this new blog with would be a very simple explanation of the Greek debt crisis, so that even those with zero understanding of macro economic policy can wrap their head around it.
Basically Greece has built up a large and generous welfare state which it can not afford, and has instead paid for it with borrowed money. This practice works well for a while but as the debt grows so does the probability that Greece will fail to pay back it's loans. As this prospect of default becomes more and more likely, the interest Greece has to pay on its debt rises since investors want to be compensated for the risk they take when lending to Greece. The rising interest rates in turn makes it near impossible for Greece to afford its massive debt.
Here is where the EU and the IMF comes in with their rescue packages. This "rescue" basically means letting Greece borrow large amounts amounts of money at an affordable interest rate. In return for these loans Greece is expected to deeply cut spending and raise taxes in order to stop the growth of the debt, liberalize its economy in order to increase productivity with the hope of generating economic growth which would make future debt repayments easier and selling off state owned companies and land to free up money for debt repayment, a process also hoped to increase efficiency leading to economic growth.
If Greece does as it is told, this is supposed to increase the likelihood of Greece being able to repay its debt, bringing down interest rates making Greece's debt affordable once more, in effect solving the Greek debt crisis.
The problem is that this is not working. The Greeks are either unwilling or unable to go far enough to fix their economy so investors continue to see Greek debt as risky and demand a high interest rate that reflects this. The European response has been to simply let the Greeks borrow more cheap money from them, but most economists seem to believe that a restructuring is inevitable. Pretty much Greece acknowledging that its debt is simply too large and it will only pay back parts of it.
The risk with this and why Europe is so keen on helping Greece is that if Greece defaults on its loans, this will make the prospect of other debt ridden countries also defaulting on their loans seem more real, forcing up the cost of their loans worsening the European debt crisis.
Basically Greece has built up a large and generous welfare state which it can not afford, and has instead paid for it with borrowed money. This practice works well for a while but as the debt grows so does the probability that Greece will fail to pay back it's loans. As this prospect of default becomes more and more likely, the interest Greece has to pay on its debt rises since investors want to be compensated for the risk they take when lending to Greece. The rising interest rates in turn makes it near impossible for Greece to afford its massive debt.
Here is where the EU and the IMF comes in with their rescue packages. This "rescue" basically means letting Greece borrow large amounts amounts of money at an affordable interest rate. In return for these loans Greece is expected to deeply cut spending and raise taxes in order to stop the growth of the debt, liberalize its economy in order to increase productivity with the hope of generating economic growth which would make future debt repayments easier and selling off state owned companies and land to free up money for debt repayment, a process also hoped to increase efficiency leading to economic growth.
If Greece does as it is told, this is supposed to increase the likelihood of Greece being able to repay its debt, bringing down interest rates making Greece's debt affordable once more, in effect solving the Greek debt crisis.
The problem is that this is not working. The Greeks are either unwilling or unable to go far enough to fix their economy so investors continue to see Greek debt as risky and demand a high interest rate that reflects this. The European response has been to simply let the Greeks borrow more cheap money from them, but most economists seem to believe that a restructuring is inevitable. Pretty much Greece acknowledging that its debt is simply too large and it will only pay back parts of it.
The risk with this and why Europe is so keen on helping Greece is that if Greece defaults on its loans, this will make the prospect of other debt ridden countries also defaulting on their loans seem more real, forcing up the cost of their loans worsening the European debt crisis.
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