The Present Global Liquidity Trap

I’ve spent a few days trying to figure out how to make this an understandable posting, yet still have the needed content in it.

I’m not sure I’ve done that… but I’ve decided to go ahead and “throw stuff at the posting wall” and see what sticks, and what slides down the drain.

Why? Well, first off, the problem. It’s a very technical ‘edge case’ of economics. Just trying to explain it and how it comes to be is a royal pain. Doing that to a non-economist audience is worse. So I’m going to gloss over a lot, in the hopes that it won’t matter too much and will still make some kind of sense.

There is also the widespread misunderstanding that the problem actually exists – for example our deficit spending added about $2.30 of debt for every $1 of GDP growth generated. Since “Government” is considered part of GDP, where did the other $1.30 of borrowing evaporate to? But we are told we have growth and that borrowing has created it…

Then there’s the solution. I don’t have one… Nor, I think, does anyone else. So pressing on…

What IS a “liquidity trap”?

There are a bunch of definitions, and the Wiki isn’t bad, but benefits from having had an Econ education… I like this one better:

http://www.investopedia.com/terms/l/liquiditytrap.asp

What is the ‘Liquidity Trap’

The liquidity trap is the situation in which prevailing interest rates are low and savings rates are high, making monetary policy ineffective. In a liquidity trap, consumers choose to avoid bonds and keep their funds in savings because of the prevailing belief that interest rates will soon rise. Because bonds have an inverse relationship to interest rates, many consumers do not want to hold an asset with a price that is expected to decline.

The even shorter form is that when The Fed (or any Central Bank) has put rates at or near zero, folks have little to no reason to put money into bonds. You get no return (or now negative return in Germany and a few other places) so why bother? Just hold the cash… At that point, flooding out more cash doesn’t cause more loans (via bonds) to companies and thus causes no growth of physical investment in plant, equipment, workers, etc. etc. Especially in the end case where a rate rise might be “coming soon to a bank near you” and any bond with near zero or negative interest payable would drop in value a lot.

So once rates are near zero, it’s hard to “increase liquidity” by shoving money out the door as it just piles up. The “velocity of money” stays low (near zero for those piles) and so no inflationary or stimulative effect happens. In other words, The Fed is firing blanks with money policy easing.

I’d add that in the present case, there were massive regulatory changes made to punish banks for NOT sitting on piles of “reserves” (nominally cash, gold, and bonds); so easing rates to borrow from The Fed doesn’t do much to loan origination. Also, in a rebound from the Liar Loans (brought to you via the Clinton signed CRA Community Redevelopment Act and anti-redlining laws), banks have returned to ‘high standards’ for loan origination. The net effect is even MORE pressure to keep the V Velocity of Money low, and cash sitting in bank vaults, not spent on things like new home or factory creation.

Add in a boat load of manufacturing and other businesses sent off to China, so there isn’t much NEED for any “build a factory” loans anyway, and season lightly with “Old folks lost a bundle so just want to save a bit more for retirement now” so any money we get isn’t spent, it’s piled up, and then sprinkle lightly with “massive student debt” so folks with the first job out of college are NOT buying new homes, cars, clothes, etc. etc. but instead sending money to those same bank vaults… I think you are getting the picture.

Shove more money from The Fed into The Banking System, and it just sits in a pile. Trickle a little of it to old folks or young folks, and it ends up back in a bank account, just sitting. As the stock market (and commodities) stumble in that downturn, folks pull money out of them and… put it in a pile in the bank. Add layers and layers of regulation on industry, they don’t invest more in production but instead just take their profits and … put them in the bank. Add laws making it hard to get money back to the home country without 1/3 to 1/2 of it going to taxes and… it sits in a bank overseas.

That’s a practical description of a Liquidity Trap. The Fed can push more money, but nothing happens. That’s what I mean when I have said “Bad Fiscal and Regulatory Policy can not be overcome with Monetary Policy”. Once you have entered the Liquidity Trap, between the regulations stifling things, and the Fiscal (tax and spend) policies sucking away desire to work / produce, you reach a point where more money in Bank Reserves doesn’t do much, or anything at all. Even the Bank doesn’t gain anything by putting it into Bonds. Why bother? Especially at 0% or negative rates. You take on risk for no reward.

Here’s a much more economic detailed description for those wanting a more fleshed out presentation:

http://econ.economicshelp.org/2009/10/liquidity-trap-explained.html

What happens in a Global one?

The short answer is “Nobody knows”. These folks try to answer that question for a 2 country model. But what happens when it is a 3 continent case? North America, Europe, Asia?

http://www.imes.boj.or.jp/research/papers/english/10-E-11.pdf

Note that this is from the Bank Of Japan and dated 2010. Yes, it’s been developing that slowly. It’s fairly math dense once it gets into the weeds, but the basic points are pretty clear in the intro and conclusions. One of the major points? “It depends”…

A new feature of monetary policy in global liquidity trap is whether or not a country’s nominal interest rate is hitting the zero bound affects the target inflation rate of the other country. The direction of the effect depends on whether goods produced in the two countries are Edgeworth complements or substitutes. We also compare several classes of simple interest-rate rules. Our finding is that targeting the price level yields higher welfare than targeting the inflation rate, and that it is desirable to let the policy rate of each country respond not only to its own price level and output gap, but also to those in the other country.

So in a two country model, it depends on if the relative goods are complementary or competitive and each country result depends on what the other country does. Now generalize that to a few dozen countries on 3 continents with all sorts of goods. Yeah, nobody is going to have a clue how to untangle that mess.

Are we in one?

Well, a web search turns up a lot of folks who think we are. Me? I look at the ZIRP (Zero Interest Rate Policies) around the world, and the recent toying with negative interest rates, and the doldrums in the world economies, and I think it’s pretty clear that we’re in one.

China is in some ways the last major to tumble, and it is slowing rapidly right now. We’ve also got folks there dumping stocks (and China proper is dumping bonds in favor of real property and company buys) and that, too, argues for a Liquidity Trap environment forming.

https://duckduckgo.com/?q=Global+Liquidity+Trap

Global Liquidity Trap – NBER
Global Liquidity Trap Ippei Fujiwara, Tomoyuki Nakajima, Nao Sudo, Yuki Teranishi. NBER Working Paper No. 16867 Issued in March 2011 NBER Program(s): EFG

Search domain http://www.nber.orgnber.org/papers/w16867

Global liquidity trap (eBook, 2011) [WorldCat.org]
Get this from a library! Global liquidity trap. [Ippei Fujiwara; National Bureau of Economic Research.;] — In this paper we consider a two-country New Open Economy …

Search domain http://www.worldcat.orgworldcat.org/title/global-liquidity-trap/oclc/707076615

Liquidity trap means world could become Japan – MarketWatch
Major global economies find themselves caught in a worldwide liquidity trap. A liquidity trap occurs when a central bank feeds cash into the private banking system …

Search domain https://secure.marketwatch.com/story/global-liquidity-trap-means-volatility-is-here-to-stay-2014-06-11

Global Liquidity Trap (PDF Download Available)
Official Full-Text Publication: Global Liquidity Trap on ResearchGate, the professional network for scientists.

Search domain http://www.researchgate.netresearchgate.net/publication/46449925_Global_Liquidity_Trap

The Fund Library :: Columns :: The global liquidity trap
There is mounting evidence that the global economy is falling into a “liquidity trap.” This is a condition where efforts by central banks to inject cash into the …

Search domain http://www.fundlibrary.comfundlibrary.com/features/columns/page.asp?id=14203

Global Liquidity Trap Ippei Fujiwaray, Tomoyuki Nakajima z, Nao Sudo x, and Yuki Teranishi {August 16, 2013 Abstract How should monetary policy respond to a \global …

Search domain http://www.nakajima.kier.kyoto-u.ac.jpnakajima.kier.kyoto-u.ac.jp/research/glt-dp-20130816.pdf

PDF Global Liquidity Trap – ier.hit-u.ac.jp
Liquidity trap is no longer an exceptional experience of Japan, but has become an international concern that can be solved by international monetary cooperation.

Search domain http://www.ier.hit-u.ac.jpier.hit-u.ac.jp/ifd/doc/MP-20090809-1.pdf

PDF The Fiscal Multiplier and Spillover in a Global Liquidity …
1 Introduction The liquidity trap has become an issue of global concern. The economic downturn following the fnancial turmoil that frst began to emerge in 2007 …

Search domain dallasfed.orgdallasfed.org/assets/documents/institute/wpapers/2010/0…

The fiscal multiplier and spillover in a global liquidity trap
1. Introduction. The liquidity trap has become an issue of global concern. As shown in Fig. 1, the economic downturn following the financial turmoil that first began …

Search domain http://www.sciencedirect.comsciencedirect.com/science/article/pii/S0165188913000377
2

PDF The global liquidity trap – R.N. Croft Financial Group inc.
The global liquidity trap … A liquidity trap is typically caused by people hoarding cash. And you can make a case for this as US consumers in particular are …

Search domain http://www.croftgroup.comcroftgroup.com/articles/2012/Market_Update_7-3-12.pdf

Deflationary Global Liquidity Trap -Chris Whalen – GoldSilver.com
Banks are the real disappointment of the fourth quarter earnings season. Insight to the struggles for financial names, with Nick Raich, The Earnings Scout CEO, and …

and on and on…

So you can see that folks have been seeing this slow crash coming from a long ways away.

How To Fix It?

Like I said, nobody knows.

Now I have an opinion. But that and $4 will buy you a cup of coffee at Starbucks (inflation has moved coffee from a nickle since that phrase was first coined…)

IMHO, the root causes of monetary policy failure are regulatory zeal and fiscal imprudence.

To “fix it” you need to reduce (massively) regulatory barriers to entry into business and professions. (We’ve added so many layers of ‘crap’ onto professions now that even highly qualified folks can no longer keep their ‘certifications’ to work in their field of expertise. That REALLY hurts once they have been out of work for a little while.) We need to let folks start business and go to work without high barriers in front of them.

We need to massively reduce the “tax take” from the economy, so that the average person HAS some extra money to spend to create demand for goods and services (and the job creation and investment that brings). Just having another $Billion given to Friends Of Government to have them stack it up in their bank account (or in a real estate buy in another country) does zero good.

Government needs to put their fiscal house in order and only spend what they take in. Note that issue of borrowing $2+ to ‘gain’ $1 of GDP? That’s the moral equivalent of losing a little on every sale but making it up in volume… i.e. it shows that we’re being crushed by waste in government growth. Borrowing yet more to lose 1/2 of it in the process of getting back less than 1/2 is NOT the way to get an economy moving…

The simple facts are that The Fed can’t fix it via monetary policy (that’s what a Liquidity Trap is, sort of by definition). The Government can’t fix it by borrowing to “invest” (that’s what the GDP Growth vs Debt Growth ratio means); so deficit spending is out the window. We’re basically left with “stop doing the stupid things” that got us into this mess in the first place.

Some folks think that more of the debt and binge will work after all:

http://web.mit.edu/krugman/www/trioshrt.html

THINKING ABOUT THE LIQUIDITY TRAP

Paul Krugman

December 1999
[…]

5. Fiscal policy

“Pump-priming” fiscal policy is the conventional answer to a liquidity trap. The classic case is, of course, the way that World War II apparently bootstrapped the United States out of the Great Depression. And in either the IS-LM model or a more sophisticated intertemporal model fiscal expansion will indeed offer short-run relief from a liquidity trap. So why not consider the problem solved? The answer hinges on the government’s own budget constraint.

You might suspect that we are about to talk about Ricardian equivalence here. But that is not the crucial issue. True, if consumers have long time horizons, access to capital markets, and rational expectations tax cuts will not stimulate spending. However, real purchases of goods and services will still create employment, albeit perhaps with a low multiplier. (In a fully Ricardian setup the multiplier on government consumption will be exactly 1: the income generated by the purchases will not lead to higher consumption, because it will be matched by the present value of future tax liabilities). The problem instead is that deficit spending does lead to a large government debt, which will if large enough start to raise questions about solvency.

One might ask why government debt matters if the interest rate is zero in any case. But the liquidity trap, at least in the version I take seriously, is not a permanent state of affairs. Eventually the natural rate of interest will turn positive, and at that point the inherited debt will indeed be a problem.

So is fiscal policy a temporary expedient that cannot serve as a solution to a liquidity trap? Not necessarily: there are two circumstances in which it can work.

First, if the liquidity trap is short-lived in any case, fiscal policy can serve as a bridge.
That is, if there are good reasons to believe that after a few years of large deficits monetary policy will again be able to shoulder the load, fiscal stimulus can do its job without posing problems for solvency. This might be the case if there were clear-cut external factors that one could expect to improve – say if the domestic economy was currently depressed because of a severe but probably short-lived financial crisis in trading partners. Or – a possibility argued by some defenders of the current Japanese problem – temporary fiscal support might provide the breathing space during which firms get their balance sheets in order.

If you listen to the rhetoric of fiscal policy, however – all the talk about pump-priming, jump-starting, etc. – it becomes clear that many people implicitly believe that only a temporary fiscal stimulus is necessary because it will jolt the economy into a higher equilibrium. Thus in Figure 5 a policy that shifts the spending curve up sufficiently will eliminate the low-level equilibrium; if the policy is sustained long enough, when it is removed the economy will settle into the high-level equilibrium instead.

If this is the underlying model of how fiscal policy is supposed to succeed, however, one must realize that the criterion for success is quite strong. It is not enough for fiscal expansion to produce growth – that will happen even if the liquidity trap is deeply structural in nature. Rather, it must lead to large increases in private demand, so large that the economy begins a self-sustaining process of recovery that can continue without further stimulus.

It is in this light that one should read economic reports about Japan today, and perhaps about other troubled economies in the future. For what it is worth, at the time of writing there is nothing in the data that would suggest that anything like the supposed shift to a higher equilibrium is in progress. Indeed, private demand is actually falling, with more than all the growth coming from government demand.

None of this should be read as a reason to abandon fiscal stimulus – in fact, one shudders to think what would happen if Japan were not to provide further packages as the current one expires. But fiscal stimulus is a solution, rather than a way of buying time, only under some particular assumptions that are at the very least rather speculative.

In other words, maybe spending to excess by the Government might do some good, as long as it doesn’t take too long to kick in and nobody notices… but just in case it does something bad to stop, don’t stop. After all, it might resolve all on its own someday anyway. I find that an uncompelling argument…

6. Varieties of monetary policy

If fiscal policy is not a definitive answer, we turn to monetary policy. As I have tried to argue, the most basic models of a liquidity trap already imply that a credible commitment to future monetary expansion is the “correct” answer to a liquidity trap, in the sense that – like monetary expansion in the face of a conventional recession – it is a way of replicating the results the economy would achieve if it had perfectly flexible prices. But this notion of monetary policy has become confused with two other monetary proposals, “quantitative easing” and unconventional open-market operations; it is important to be aware that these are not the same thing, and rest on different assumptions about what is needed.

Quantitative easing: There has been extensive discussion of “quantitative easing” , which usually means urging the central bank simply to impose high rates of increase in the monetary base. Some variants argue that the central bank should also set targets for broader aggregates such as M2. The Bank of Japan has repeatedly argued against such easing, arguing that it will be ineffective – that the excess liquidity will simply be held by banks or possibly individuals, with no effect on spending – and has often seemed to convey the impression that this is an argument against any kind of monetary solution.

It is, or should be, immediately obvious from our analysis that in a direct sense the BOJ argument is quite correct. No matter how much the monetary base increases, as long as expectations are not affected it will simply be a swap of one zero-interest asset for another, with no real effects.
A side implication of this analysis (see Krugman 1998) is that the central bank may literally be unable to affect broader monetary aggregates: since the volume of credit is a real variable, and like everything else will be unaffected by a swap that does not change expectations, aggregates that consist mainly of inside money that is the counterpart of credit may be as immune to monetary expansion as everything else.

But this argument against the effectiveness of quantitative easing is simply irrelevant to arguments that focus on the expectational effects of monetary policy. And quantitative easing could play an important role in changing expectations; a central bank that tries to promise future inflation will be more credible if it puts its (freshly printed) money where its mouth is.

Unconventional open-market operations: A second argument on monetary policy is that while conventional open-market operations are ineffective, the central bank can still gain traction by engaging in unconventional operations – with the most obvious ones being either currency-market interventions or purchases of longer-term securities. The argument of proponents of such moves, for example Alan Meltzer, is that in reality foreign bonds and long-term domestic bonds are not perfect substitutes for short-term assets, and hence open-market operations in these assets can expand the economy by driving the currency and the long-term interest rate down.

In other words, a firm commitment to someday printing more money is the right fix, and just doing other things (like lowering interest rates to even lower than low levels, or looser money in other ways) are unlikely to work as well. Also you can just buy a lot of stuff in the financial markets to “fix” it…

So how has TARP, ZIRP, and a couple of $Trillion Fed Balance Sheet worked out? Hmmm? I smell an existence proof sneaking up on us…

Also, as the Liquidity Trap goes global, just what IS the difference between a ZIRP EuroBond and a ZIRP Treasury Bond and a ZIRP BOJ Bond? (In economic impact terms).

In Conclusion

I don’t have any answers for this, really. If I did, I’d be a very rich consultant to Central Banks globally. To me it just looks like an End Game of too much debt and money printing chasing too poorly drafted regulations and too heavy taxation as a Dead Hand on the global economy.

Like a drug addict who has not bothered with proper nutrition; eventually ever higher doses of speed will NOT make the body go faster, or even run at a regular rate. It’s just too worn out, too damaged by exploitation, too under fed (under invested in REAL productive physical capital), and eventually even too restrained by laws and rules (pee in the cup means no job for you…) So you take that next shot of speed, nothing happens, and you idle down to a metabolic halt. A promise of even better speed in the future doesn’t do much then.

Maybe my metaphor doesn’t really apply to economics. While it sure looks right to me, well, economics isn’t quite exactly the same and it does have odd cases in it.

But when I look at our Liquidity Trapped Globe, I see a whole lot of cash sitting in the bank accounts of the Incredibly Rich (individuals and companies and banks) who are not going to be spending it. I see massive over regulation and government overreach causing everyone (rich and poor) to hoard what they have and avoid risking it or exposing it to government confiscation (taxation). I see such a PITA to start a business or get a job (or create a job) that the job market is closing down. And I see little reason to expect any Central Bank action to cause me to want to: Start a business, get a job, offer a job, take out a loan, buy anything I don’t absolutely need, or even use it to buy stocks or bonds. Bonds have no yield and in a slowing profit world, stocks don’t rise.

So maybe, just maybe, Central Banks and Governments just need to get the hell out of the way, stop sucking the economy dry with excess taxation, stop smothering it with excess regulation, screwing up the value of money, and let us all get back to living our lives and building a new economy. After all, you can always suck the blood out of it later…

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About E.M.Smith

A technical managerial sort interested in things from Stonehenge to computer science. My present "hot buttons' are the mythology of Climate Change and ancient metrology; but things change...
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36 Responses to The Present Global Liquidity Trap

  1. Another Ian says:

    E.M

    Spread to economist friends

  2. Richard Hill says:

    EM A good analysis. You mentioned demographics in the beginning, but note that the authorities you quoted tend to ignore it. Surely the BOJ should recognise the demographic imbalance in their own country!. There is a great shortage of young entrepreneurs in the developed world. Your prescriptions are good but will never be enacted. Regulatory bureaucracies live forever and grow like cancers. We have to get the birth rate up “of the right people”, a problem since Roman times. The only communities with high birth rates are religious fundamentalists, good and bad. Feminism and “the pill” are real issues. Is an Apocalypse coming?

  3. philjourdan says:

    Your analysis is good. And you did touch on the when, what, why and where. But not the how.

    How did we get into it? I have my own “opinions”. But as you said, that and $5 (it is more expensive around here) will get you a cup of coffee at Starbucks.

    One other comment. I would not use Krugman for any type of economic discussion. He is no economist. He is a political hack who contradicts himself depending upon who is in power. And his “fix” is so stupid as to defy credulity. I am sorry, but the definition of idiot starts with Krugman.

  4. E.M.Smith says:

    @PhilJourdan:

    Note that I didn’t use him as a valid authority, but as example of someone saying to do more of the same old same old, when I saw the solution as something else. Basically a foil for my disagreement. I’m not keen on him either, but think he is a good bad example…

    As to how, I think it is due to excessive application of Kenesian stimulus without the requisite surplusses in good times as the excessive regulation and taxation build up. Now practiced nearly globally as Modern Monetary Theory.

    https://en.m.wikipedia.org/wiki/Modern_Monetary_Theory

    @Richad Hill:

    Economist and politicians tend to think of demographics as a given, since they take a lifetime to change. So people note it, but ‘move on’.

    @Another Ian:

    Let us know what they think…

  5. philjourdan says:

    E.M. Smith

    As to how, I think it is due to excessive application of Kenesian stimulus without the requisite surplusses in good times as the excessive regulation and taxation build up. Now practiced nearly globally as Modern Economic Theory.

    I agree that is a huge part of it. The “trigger” is when the central banks decided they could fake growth with no interest rates. It became a catch 22 and no longer works,.

    And your clarification of Krugman is appreciated and also strongly agreed with,.

  6. E.M.Smith says:

    The wiki link above has these criticisms in it (note Krugman is called a “New Keynsian”… not sure what makes one of those other than maybe ignoring the unpleasant parts…)

    BEGIN QUOTE:

    MMT has garnered wide criticism from a wide range of schools of economic thought, both for its analytical content and its policy recommendations.

    Fellow post-Keynesian economist, Thomas Palley argues that MMT is largely a restatement of elementary Keynesian economics, but prone to “over-simplistic analysis” and understating the risks of its policy recommendations.[25] Palley criticizes MMT for essentially assuming away the problem of fiscal – monetary conflict and denies the MMT claim that old Keynesian analysis doesn’t fully capture the accounting identities and financial restrains on government that can issue its own money; Palley shows that these insights are well captured by standard Keynesian stock-flow consistent IS-LM models, and have been well understood by Keynesian economists for decades. He argues that the policies proposed by MMT proponents would cause serious financial instability in an open economy with flexible exchange rates, while using fixed exchange rates would restore hard financial constraints on the government and “undermines MMT’s main claim about sovereign money freeing governments from standard market disciplines and financial constraints”. He also accuses MMT of lacking a plausible theory of inflation, particularly in the context of full employment in the ‘Employer of Last Resort’ policy first written about by Minsky and advocated by Bill Mitchell (economist) and other MMT theorists; of a lack of appreciation of the financial instability that could be caused by permanently zero interest rates; and of overstating the importance of government created money. Finally, Palley concludes that MMT provides no new insights about monetary theory, while making unsubstantiated claims about macroeconomic policy, and argues that MMT has only received attention recently due to it being a “policy polemic for depressed times”.[26]

    Marc Lavoie argues that whilst the neochartalist argument is “essentially correct”, many of its counter-intuitive claims depend on a “confusing” and “fictitious” consolidation of government and central banking operations.[27]

    New Keynesian economist and Nobel laureate Paul Krugman argues that MMT goes too far in its support for government budget deficits and ignores the inflationary implications of maintaining budget deficits when the economy is growing.[28]

    Austrian School economist Robert P. Murphy states that “the MMT worldview doesn’t live up to its promises” and that it seems to be “dead wrong”. He observes that the MMT claim that cutting government deficits erodes private saving is true only for the portion of private saving that is not invested, and argues that the national accounting identities used to explain this aspect of MMT could equally be used to support arguments that government deficits “crowd out” private sector investment.[29] Daniel Kuehn has voiced his agreement with Murphy, stating “it’s bad economics to confuse accounting identities with behavioral laws […] economics is not accounting.”[30]

    Murphy also criticises MMT on the basis that savings in the form of government bonds are not net assets for the private sector as a whole, since the bond will only be redeemed after the government “raises the necessary funds from the same group of taxpayers in the future”.[29]

    The chartalist view of money itself, and the MMT emphasis on the importance of taxes in driving money is also a source of criticism.[27] Economist Eladio Febrero argues that modern money draws its value from its ability to cancel (private) bank debt, particularly as legal tender, rather than to pay government taxes.[31]

  7. Modern Economic Theory -> Cargo Cult Economics -> All form, words, charts, and equations but no substance.

    For substance, how about?
    1. You can change its name, but the thing stays the same.
    2. You can’t eat your cake and have it to.
    3. If horses were wishes, beggars could go riding.
    4. Before you can consume, that which you want to consume must be produced.
    5. Money means a store of produced value that can be traded for other produced value.

    In other words, reality is real, is what it is, and we had better think, choose, and act accordingly or we will fail.

    The fatal flaw at the base of our current crises is a subjective metaphysics and a collective epistemology. For a short time this can appear to work but the price is destruction of real wealth and human sacrifice. The charade stops when the accumulated wealth is consumed and you run out of cooperative sacrificial victims.

  8. Larry Ledwick says:

    The issue I think is as much psychological as it is physical economics. As you recall they way Volker “fixed” the economic problems of the time was to strangle the economy until people gave up on the “expectation” of inflation. At that time every purchase decision was constrained by that expectation that tomorrow the same product would cost more so buy it today, that initiated a runaway inflation cycle as people spent their money as fast as they could and even went into debt to buy (since the debt would be easy to pay off in cheaper future money).

    So in my view the liquidity trap is simply the inverse of the runaway inflation cycle. The only way to break the cycle would be to do something which will give everyone (and it has to be pretty much everyone) strong motivation to spend, produce and consume.

    There are a few things that do that, unfortunately in almost all cases they are destructive.
    Have a major Cat 5 Hurricane come ashore in a major metropolitan area, and destroy a few billion dollars worth of stuff, you suddenly have motivation to spend and consume. Residents spend money to fix homes, insurance companies rush specialists to the area to evaluate losses, all manner of producers try to find a piece of the reconstruction pie that they can claim. Once claims start getting processed the insurance companies sell a bunch of assets to get the liquid funds to pay claims. People make money tearing down condemned homes and hauling off the rubble. Railroad shipments of all manner of building supplies stream in from all over the country to feed the sudden demand. Con artists descend on the disaster area and rip off the struggling home owners, Donations pour into relief agencies and they spend it hand over fist on all sorts of good and questionable projects. Lots of people pack up and move to new cites to start over.

    Like a jump start on a stalled car, the shock of the disaster shakes money out of the trees and gives thousands upon thousands of jobs to formerly unemployed or under employed folks. People who just weeks ago could not get a job twirling a sign on a street corner now have 12 hour a day jobs cleaning up rubble, and putting emergency tarps on roofs, and hauling off downed trees. etc. etc.

    The obvious other highly motivational demand is warfare. Like in the book 1984, one way to keep an economy at full production is to destroy its output almost as fast as you can produce it. (see WWII and the great depression) and post war recovery in the 1950’s and early 1960’s.

    I suspect that that old “relief valve” of warfare may be the ultimate end case in a world wide lockup of all the major economies. I quite frankly do not see any other non-destructive solution to the situation. People can only buy so many wide screen TV’s, after the family owns 3 cars why buy another one? Empty nesters no longer need to buy kids bikes and cloths etc. The regulatory strangulation you mention is so endemic now, it will not go away without some overwhelming justification to scrap it. That simply does not happen outside of major emergencies or massive social upheaval that changes the social contract of the community (like a huge and crippling recession) not going to stop EPA from crippling manufactures until thousands of unemployed people in the streets demand it with pitchforks and torches in hand.

    Like an advancing army, exponential growth always runs into logistic limits and grinds to a halt. The same applies to growth economies, once you fill stores with silly consumer crap that every one already has 3 of, your consumption economy shudders to a halt. Planned obsolescence and cheap throw away products held off the inevitable end to consumption for a while but even that runs out when the economy gets saturated. During the build out phase of a new technology you have a huge demand pool to satisfy, but once everyone who wants one has not only one but several computers, where do you sell new computers?

    Can anyone else see a “constructive” emergency that would drive the same sort of push to break the chains of regulation and induce production on a wide spread basis?

  9. philjourdan says:

    Just to clarify my statement about the central banks. Their actions over the past 8 years is analogous to using a scalpel to carve Mount Rushmore. Monetary policy is not meant (or designed or capable) to move economies. It is meant to inject a stabilizing effect into them. However that is not what they used it for. And when their actions did not have the desired effect, they kept at it until there was no blade left on the scalpel. A dull scalpel is not a tool.

  10. p.g.sharrow says:

    How to solve the problem? First the cause must be identified. From my point of view from the street level, the heavy hand of ALL government is crushing the life out of economic activities that originate at my level.
    The Educated Elite believe that only they can manage the affairs of the lives of the people. Because of their enlightened vision of the future, the efforts and direction of the peoples efforts must be directed for the “Good of the people”.
    “I am from the Government, I am here to Help you.”
    You, ALL of YOU, MUST do as I say. then nirvana will follow. For my wisdom I must be well compensated for my ability to “see the big picture”and if things fail, It is not my fault!! You must not have followed my directions well enough.
    Civilizations grow until they become well regulated. Then they stagnate and die. If they fall under strong control, revolution and destruction will follow when the people refuse to cooperate further.

    These parasites live off of us, We don’t need them.

    In my experience, the more you pay Bureaucrats, the less they work for you. The more latitude you give to them, the more they demand, in their unending thirst to RULE us all. It is their nature to covet others wealth and labor to aggrandize their own existence. They believe it is their right to rule others, For the peoples own good of course.

    This hard push toward Elite control of the world after WWI lead to the collapse of the economy in “29” followed by even more control during the 1930s that resulted in ” The Great Depression” stagnation and world wide warfare of WWII as the Axis powers attempted the solution by conquest.

    The lifting of Regulation after WWII is the cause of the economic boom of the 1950s and 60s. Economic Freedom FROM Regulation is the cure for the present malaise. A simple solution that has always worked is Economic Chaos. No matter how well educated the Elites become, they can not match the ability of the people to match, effort with needs. The real need for regulation is to prevent GEBs attempts to manipulate the rules to benefit themselves at the expense of everyone else…pg

  11. E.M.Smith says:

    Ah, a New Keynesian is an Old Keynesian who has decided more government intervention is better…

    https://en.wikipedia.org/wiki/New_Keynesian_economics

    New Keynesian economics is a school of contemporary macroeconomics that strives to provide microeconomic foundations for Keynesian economics. It developed partly as a response to criticisms of Keynesian macroeconomics by adherents of New Classical macroeconomics.
    Two main assumptions define the New Keynesian approach to macroeconomics. Like the New Classical approach, New Keynesian macroeconomic analysis usually assumes that households and firms have rational expectations. But the two schools differ in that New Keynesian analysis usually assumes a variety of market failures. In particular, New Keynesians assume that there is imperfect competition in price and wage setting to help explain why prices and wages can become “sticky”, which means they do not adjust instantaneously to changes in economic conditions.
    Wage and price stickiness, and the other market failures present in New Keynesian models, imply that the economy may fail to attain full employment. Therefore, New Keynesians argue that macroeconomic stabilization by the government (using fiscal policy) or by the central bank (using monetary policy) can lead to a more efficient macroeconomic outcome than a laissez faire policy would.

    That explains a lot about Krugman…

    @Lionell:

    I like to remind folks that there is a REAL economy of physical things and a MONEY economy of nominal / fiat “assets” and the two are different. I try to always ground my understandings in what the physical economy will do, while most of Economics looks at the money / fiat side…

    @Larry:

    I’ll work on it ….

    /smallsarc;

    I’d like to think we can find something other than wars and wanton destruction to “kick start” a stalled economy. I’m fairly sure the cure is worse than the disease. Much of technological advance is “disruptive” in the same way; so Apple makes an iPhone revolution and all those desk phones and a lot of desk computers need replacing with an iPhone. So I’d assert that more VC funding of disruptive tech can do it. I’d also assert that’s a large part of why California has continued doing OK despite an incredible dose of Official Government Stupid…

    @PhilJourdan:

    I like the drug metaphor myself…

    The Doctors have been giving ever larger doses of heroin to the patient as their gangrene spread, instead of cutting out the gangrene… Now the patient is habituated and the rot is nearing the vital organs… A bit more heroin doesn’t do much then. Never apply a symptomatic treatment to a progressive problem with a systemic cure. Apply the physical cure, painful as it might be.

    So we’ve been “shooting up” on Keynesian Monetary Stimulus while ignoring the Fiscal (tax and spend) rot and the Regulatory gangrene… Now another shot of monetary stimulus just barely dulls the pain a bit; but we still can’t get up and take care of ourselves… and the rot accelerates.

  12. philjourdan says:

    The drug analogy does work better. I guess I was just thinking the fine tuning of a surgeon’s scalpel versus the granite chopping of a jack hammer.

  13. p.g.sharrow says:

    It would appear to me that the coming election will be a choice between a Democratic “Regulator in Chief” and a GEB (Greedy Evil Bastard) for the Republicans. Not a choice that I would prefer but, Trump might be a good foil for the reduction of regulator overreach. “The Beast” is part of the transition to the new age. The era of reduced economic activity is not at an end yet. This time we must establish the meme that heavy Regulation is the cause of stagnation and not the solution to it. Reduce the foot print of Bureaucratic control and you reduce the overhead of government and it’s taxation needs while you increase wealth creation for everyone…pg

  14. ” It [Monetary policy] is meant to inject a stabilizing effect into them.”

    In a dynamic system, stability is produced by providing suitable negative feedback. In a free market, prices provide that feedback. Interest in borrowed money is one such price and is a major negative feed back on the borrowing of money and spending it. In effect, by attempting to override that feedback signal, the feedback mechanism is converted to feed forward. So unless the people running the “Monetary policy” have perfect knowledge about every economic transaction and faithfully follow that knowledge, the ultimate consequences will be that the system goes “out of control.”

    Yet, they don’t and can’t have perfect knowledge if only due to the delay enforced by the time it takes to accumulate the data and process it into actionable knowledge. Hence, even the most well intended and honest people in charge of “Monetary policy” cannot achieve their stated goals. Whenever an economic dislocation occurs, their response will always be too late and in the wrong direction. Thus, causing the system to “go out of control”. Corruption and malevolent purpose only speeds the final ending.

    Even if the controllers were willing and able to enforce a totally static economy in which all prices are fixed and each economic actor does exactly as he did in the past, the system will also “go out of control”. The reason? If there is any economic activity, resources will be consumed necessitating new resources being used,. The new resources will be different from those previously used. Thereby requiring a change in the nature and content of economic activity. Thus the only static economy is a dead economy which is the ultimate end of being out of control.

    The fatal flaw here is the refusal to understand that the economy, the government, and the individual are just as constrained by the natural law of automatic control as they are of the law of gravity or the three laws of thermodynamics. Ultimately, ANY intervention by the government in the workings of a truly free market produces a circumstance that is worse than the circumstance that was used to justify the intervention. Which, almost always, will be used as an excuse to do more of the same. Thereby making things still worse. The end of it all is universal stasis (aka death) or the return of limited government who’s only function is to protect the individual from violations of his individual rights.

  15. Larry Ledwick says:

    One response is to eliminate the belief that depressions are bad, they are not near as bad as the problem they are trying to fix.

    Depressions and recessions are not the problem they are the cure for the problem!

    Best way to flush non-productive allocation of resources is for it to go bankrupt and get swept off the table. Painful in the short term but it like lancing a boil relives the underlying problem not just covers it over and makes it feel better.

  16. Larry Ledwick says:

    i just thought of three possibly four examples of a constructive urgent drive to accomplish an important societal goal.

    The panama canal, the interstate highway system and the space race. Both involved enormous funding and resulted in beneficial expenditure of resources that paid back their initial investment many times over. The same could be said of the transcontinental rail road in the 1860’s and the aviation boom post WWII I suppose as well as the telegraph and telephone industries.

    The construction of the interstate highway system was a key part of my growing up, as it opened up access to the west and the Rocky Mountains. Our modern tourist / ski economy in western Colorado is entirely dependent on the interstate.

    Maybe the key new game changing technologies of this era would be affordable insertion to orbit and access to space and affordable hyper sonic intercontinental transport or affordable modular low risk nuclear power.

  17. John Robertson says:

    P.G Sparrow comes closest.
    What if all these groups are one?
    Parasites prosper when the host is oblivious.
    Everything dies when all of the host is drained dry.
    Government by thieves for the benefit of those thieves, always uses the big lie technique.
    “We are from the government, we are here to help you”
    Into slavery to us, being the unsaid “rest of the story”.
    Our fiscal quagmire seems to be the confusion of the unit of trade,with the trade itself.
    The fiat dollar is a lie.
    The Kleptocracy has to lie.
    Truth, that these parasites are, well mostly useless parasites, causes their host and hostesses to show them the door.
    Every business that falls under government “regulation” becomes corrupt.
    To prosper in a nest of thieves, one must go along to get along.
    AKA Good Enough for Government.
    There are two economies, one in which people have to eat and get along with their neighbours, another where imaginary tokens change hands in a casino of illusions.

    Bottom line government is theft, once the theft exceeds a citizens tolerance, they stop contributing.
    The official economy shrinks.
    Local undocumented trade grows.
    Trade requires trust.
    Government has destroyed that trust.
    We are awash in government world wide.

    Canada is a classic example of Parasitic Success.
    Government cost has exceeded 50% for those who work, yet any who point out the failure of government are deemed antisocial.
    Total parasitic overload, complete breach of promise, collapsing economy.
    The normal response to querying the high cost of govt here, is “Free Healthcare”.
    Which absorbs nearly 50% of govt revenues and is always just a few weeks away.
    I do wonder if a service infinitely postponed is any different from a service denied.
    We are proof that big government does not work.
    The big lie has been exposed for all to see.
    The voters response?
    Vote for more borrowing and more government.
    Who says “public education” doesn’t work.

  18. philjourdan says:

    Lionel – Agreed. But an action verb does not denote a conclusion. The central bank interest rates were designed to mitigate wild swings in the economy. But they are not immediate, nor are they meant to be control knobs. Yet that is what they became. And that is why they failed.

  19. The bottom line is “meant to be” and “being” are two very different things. The Feds broke one of the most important feedback signals in the economy. That is why it failed to achieve their stated goal. It cannot do anything but fail. That is if their purpose was to create a regulated but growing economy in which real living humans can thrive but not too much. If their real purpose was to stifle the economy and prevent real living humans from thriving, it was/is/will be a stupendous success.

    Iin reality, the means do not justify the end nor does the end justify the means. Means and ends are tightly joined in a causal loop that does not take into account what is needed, wanted, wished for, expected, nor commanded. The means imply the achievable end which implies the eventual consequence. If you choose to use a particular means, you have already chosen the end and all the consequences of that end. If you wish to choose the end, you have to implement the means that can specifically achieve it. It is a simple exercise in objective metaphysical logic.

  20. Larry Ledwick says:

    This item on Zerohedge seems to indicate one of the biggest energy companies is caught in a liquidity trap of its own, sort of an AIG moment in energy. I wonder what shock waves this will stir up if this scenario plays out?
    http://www.zerohedge.com/news/2016-02-26/chesapeakes-aig-moment-energy-giant-faces-1-billion-collateral-calls

  21. Larry Ledwick says:

    Let’s just put the countries students on the hook for over 1/3 of the federal assets.
    Is that how you spell serfdom?
    http://www.wnd.com/2016/02/student-loans-comprise-37-of-u-s-assets/

  22. Larry Ledwick says:

    Item showing the current economy is not only not doing well but is and has been for years a very mediocre average economy, never getting over 3% GDP year over year growth rate.

    http://cnsnews.com/news/article/terence-p-jeffrey/us-has-record-10th-straight-year-without-3-growth-gdp

  23. E.M.Smith says:

    http://fabiusmaximus.com/2016/02/16/paul-krugman-lessons-economics-for-other-sciences-94130/

    Has an interesting bit of tid on Krugman. It paints him as changing his POV in an enlightened way; but it can also look like taking whatever POV is trendy at the moment…

    Yet his conclusion, whenever that event happened, show him doubting the effectiveness of monetary intervention… so maybe there is hope…

    What is the post-2008 experience trying to tell us?

    Liquidity-trap economics passes with flying color.
    Fiscal policy effectiveness confirmed.
    Monetary iffy at best.
    Neo-paleo-Keynesian aggregate supply in short run.
    Long run seems to reinforce, not diminish, that case.

    So he gets it that monetary policy is iffy at best, that fiscal policy matters, and that effect is stronger in the longer run. At least that week…

  24. gallopingcamel says:

    Acemoglu and Robinson wrote “Why Nations Fail”. Sadly the USA has turned from the approach that made it the greatest nation on earth and will soon become a “Failed Nation” in the eyes of economists like A&R.

    Acemoglu and Robinson looked at the Roman Empire, the Mayan city-states, medieval Venice, the Soviet Union, Latin America, England, Europe, and Africa. What went wrong? How could so many amazingly successful organizations fail? A&R have a plausible explanation.
    http://whynationsfail.com/summary/

    It boils down to whether a nation or city state has “Inclusive” or “Exploitive” institutions. Inclusive institutions distribute power to the hands of many individuals which allows ordinary people to benefit from the innovations they create. In contrast, there is no incentive to innovate or work hard when institutions are “Exploitive” as benefits accrue to the ruling elite rather than the creative individual.

    For the last 30 years power has been relentlessly usurped by the federal government which means that power is being concentrated into fewer and fewer hands. Thus our institutions are changing from the “Inclusive” ones that created the “American Dream” to the “Exploitive” ones that impoverish everyone other than the ruling elite.

  25. John Robertson says:

    What is the effective difference between government spending like crazy and an exuberant Potlatch?
    Possibly ritually burning your treasured items every year would be more satisfying than having parasites steal your real in come and then piss it away on your behalf.
    Given government achievement of the last 50 years, do we really need this kind of help to destroy our production?
    Seriously, modern economic theories are more prayer and incantation than coherent theory and action.
    The flawed idea that government can “create” wealth is the foundation of fiscal corruption.
    Parasites can only divert.
    Sufficient diversion destroys the host.

    If I wanted to wind up poor and unable to feed myself, I can find no more effective help than that of our institutions.
    Without this help I could have squandered more wealth, more creatively and actually have had more fun.
    There it is; Government impedes my Pursuit of Happiness

  26. Another Ian says:

    E.M.

    Only feedback so far

    “Thus Australia should start “making things’ and stop importing so much
    And reduce welfare so there is a bit of incentive to work?”

  27. p.g.sharrow says:

    It would appear that Central Bankers have found a way to have heavy government debt financed-printing press spending with no inflation. Gather and trap the money into bank vaults at no interest or even minus interest. The people out on the street have little to spend so demand is reduced and there is little pressure to inflate the price of non-essentials. The problem is, How do you extract your self without disaster? Hyper-inflation or revolution…..or both?…pg

  28. Larry Ledwick says:

    The same way you let go of an angry tigers tail — veeeery carefully!

  29. p.g.sharrow says:

    There was a smiling young lady of Niger,
    Who rode to market on the back of a Tiger!
    One day they arrived, the lady inside,
    and the smile was on the face of the Tiger.

    Don’t remember who wrote this’
    but love the ending :-)…pg

  30. Larry Ledwick says:

    Interesting to note the comment in this item that “unexpectedly consumers are not spending savings from lower energy prices but rather paying down debt”

    http://www.telegraph.co.uk/business/2016/03/14/risk-of-fresh-global-recession-rises-to-30pc-this-year-warn-morg/

  31. Larry Ledwick says:

    Item on Puerto Rico and how its financial crunch might get resolved (I use that term with qualifications)
    http://www.realclearworld.com/articles/2016/03/14/obamas_disastrous_plan_for_puerto_rico.html

  32. E.M.Smith says:

    Yeah, that looks like an Obama Plan. Make sure the Public Employees Union gets money at all costs (got to protect those votes) and throw bond holders out the window (as with GM) since anyone who owns bonds just MUST be rich…and a capitalist…

    It will, if done, simply assure that State, perhaps Federal, and P.R. bonds ALL get dumped fast and any new issues will require a much much higher interest rate (and likely shorter term) to sell.

    I know I’d never buy a muni again under those conditions. It puts them in the “High Yield” tranche with other things that might just evaporate from under you in bankruptcy…

    It would also likely cause all sorts of interesting lawsuits as folks sue for false advertising and maybe even some securities fraud charges for false claims.

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