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Lars Tvede på Facebook d.11. april 2015.
"GRAB SOME YIELD WHILE YOU CAN
After many decades with increasing credit, we now live in a credit-crunch world, where many nations and households struggle with debt overload. Such processes typically lead to low growth, recession or depression. This can easily create what the economist Irwin Fisher almost 100 years ago described as "debt-deflation": a combination of deflation and recession which makes it impossible to reduce overall debt as fraction of GDP. In reality, what we see now is that as households reduce their debt burdens, government debt just goes up with a roughly similar amount. This is like compressing one side of a balloon only to see the other side inflate.
HOW TO TACKLE DEBT DEFLATION
Here are the six strategies against debt deflation:
Beggar-my-neighbour strategies
1) Default: this moves the problem to the creditors, but it creates a long term confidence/image problem and may lead to domino effects with cascading bankruptcies.
2) Devaluation: this moves the problem to foreign nations but can create inflation and will make it much harder to pay back foreign debt. And, of course, all nations cannot devalue at the same time.
3) Protectionism: this is also a way to transfer the problem to foreign nations, but it will inevitably lead to trade wars and thus backfire.
Fiscal strategies
4) Fiscal stimulus: this can create growth, but it increases government debt, which is problematic if the debt is already critically high.
Monetary strategies
5) Quantitative easing: central banks buy government bonds (and other assets) and may keep then until expiry. Since central banks are owned by the government, it indirectly reduces government debt load while it also stimulates growth. However, it may create inflation.
6) Low interest rates: stimulates economic growth, but can also create inflation.
The monetary strategies make most sense to me in the current situation: a short period of quantitative easing plus a very long period (possibly decades) with very low interest rates.
Why? Well, because we can.
We can, because there is virtually no inflationary pressure in the system. And this is so, because "velocity of money" has been low and declining because of fear, debt problems and aging.
In the Euro area, CPI swaps now price in negative inflation-corrected interest rates for the next 50 years, and the same goes for Index Linked Gilts in UK, whereas US markets predict approx. 0.2% real interest rates the next 50 years.
THE CONSEQUENCES OF LOW INTEREST RATES
The Swedish economist Knut Wicksell pointed out in 1898, that if borrowing costs are lower than the expected return from commercial investments, people will invest - and the bigger this gap is, the more they will invest. This growth model was actually a big part of what drove the long expansion in some East Asian markets over the last decades: very low interest rates for risk-free savings, which pushed money into active investments instead. So while it is very difficult and painful to reduce overall debt levels in our societies, what we can do is to increase growth so that the debt becomes smaller compared to GDP.
Here are some of the consequences of what is going on:
1) Asset prices go up because it pays to borrow money to invest in them, and because the discount factor used to value their expected cash flow goes down (in fact, if interest rates are zero, standard discounted cash flow models may suggest that the value of any asset with a return is ... infinite).
2) As borrowing costs fall or stay very low, the number of commercial projects that appear viable rise. This also stimulates growth.
3) As share prices rise, companies become less inclined to buy their own shares (since they get more expensive) and more inclined to invest in their commercial businesses instead. This is another growth driver.
So this is what the market is beginning to expect, and this drives a grab for yield: it makes sense to borrow money and invest in anything with decent yields. That's why people are now all over Russia, Hang Seng, Western Europa and other markets with good or decent yield expectations: the monetary strategy brings us out of the crises and makes it attractive to borrow money and create or purchase yield. This can continue for years".
http://www.Britannica.com/EBchecked/topic/178486/Economic-Stabilizer/57947/The-Natural-rate-of-Interest-and-effective-demand
https://www.facebook.com/permalink.php?story_fbid=887778954578208&id=836679613021476
"GRAB SOME YIELD WHILE YOU CAN
After many decades with increasing credit, we now live in a credit-crunch world, where many nations and households struggle with debt overload. Such processes typically lead to low growth, recession or depression. This can easily create what the economist Irwin Fisher almost 100 years ago described as "debt-deflation": a combination of deflation and recession which makes it impossible to reduce overall debt as fraction of GDP. In reality, what we see now is that as households reduce their debt burdens, government debt just goes up with a roughly similar amount. This is like compressing one side of a balloon only to see the other side inflate.
HOW TO TACKLE DEBT DEFLATION
Here are the six strategies against debt deflation:
Beggar-my-neighbour strategies
1) Default: this moves the problem to the creditors, but it creates a long term confidence/image problem and may lead to domino effects with cascading bankruptcies.
2) Devaluation: this moves the problem to foreign nations but can create inflation and will make it much harder to pay back foreign debt. And, of course, all nations cannot devalue at the same time.
3) Protectionism: this is also a way to transfer the problem to foreign nations, but it will inevitably lead to trade wars and thus backfire.
Fiscal strategies
4) Fiscal stimulus: this can create growth, but it increases government debt, which is problematic if the debt is already critically high.
Monetary strategies
5) Quantitative easing: central banks buy government bonds (and other assets) and may keep then until expiry. Since central banks are owned by the government, it indirectly reduces government debt load while it also stimulates growth. However, it may create inflation.
6) Low interest rates: stimulates economic growth, but can also create inflation.
The monetary strategies make most sense to me in the current situation: a short period of quantitative easing plus a very long period (possibly decades) with very low interest rates.
Why? Well, because we can.
We can, because there is virtually no inflationary pressure in the system. And this is so, because "velocity of money" has been low and declining because of fear, debt problems and aging.
In the Euro area, CPI swaps now price in negative inflation-corrected interest rates for the next 50 years, and the same goes for Index Linked Gilts in UK, whereas US markets predict approx. 0.2% real interest rates the next 50 years.
THE CONSEQUENCES OF LOW INTEREST RATES
The Swedish economist Knut Wicksell pointed out in 1898, that if borrowing costs are lower than the expected return from commercial investments, people will invest - and the bigger this gap is, the more they will invest. This growth model was actually a big part of what drove the long expansion in some East Asian markets over the last decades: very low interest rates for risk-free savings, which pushed money into active investments instead. So while it is very difficult and painful to reduce overall debt levels in our societies, what we can do is to increase growth so that the debt becomes smaller compared to GDP.
Here are some of the consequences of what is going on:
1) Asset prices go up because it pays to borrow money to invest in them, and because the discount factor used to value their expected cash flow goes down (in fact, if interest rates are zero, standard discounted cash flow models may suggest that the value of any asset with a return is ... infinite).
2) As borrowing costs fall or stay very low, the number of commercial projects that appear viable rise. This also stimulates growth.
3) As share prices rise, companies become less inclined to buy their own shares (since they get more expensive) and more inclined to invest in their commercial businesses instead. This is another growth driver.
So this is what the market is beginning to expect, and this drives a grab for yield: it makes sense to borrow money and invest in anything with decent yields. That's why people are now all over Russia, Hang Seng, Western Europa and other markets with good or decent yield expectations: the monetary strategy brings us out of the crises and makes it attractive to borrow money and create or purchase yield. This can continue for years".
http://www.Britannica.com/EBchecked/topic/178486/Economic-Stabilizer/57947/The-Natural-rate-of-Interest-and-effective-demand
https://www.facebook.com/permalink.php?story_fbid=887778954578208&id=836679613021476
