Business & Economics: May 2009 Archives
David Leonhardt has written an insightful piece about how America and China are intertwined, mostly interesting as a statement of the rather significant problem.
Over the past decade, China and the United States have developed a deeply symbiotic, and dangerous, relationship. China discovered that an economy built on cheap exports would allow it to grow faster than it ever had and to create enough jobs to mollify its impoverished population. American consumers snapped up these cheap exports — shoes, toys, electronics and the like — and China soon found itself owning a huge pile of American dollars. Governments don’t like to hold too much cash, because it pays no return, so the Chinese bought many, many Treasury bonds with their dollars. This additional demand for Treasuries was one big reason (though not the only reason) that interest rates fell so low in recent years. Thanks to those low interest rates, Americans were able to go on a shopping spree and buy some things, like houses, they couldn’t really afford. China kept lending and exporting, and we kept borrowing and consuming. It all worked very nicely, until it didn’t.The most obviously worrisome part of the situation today is that the Chinese could decide that they no longer want to buy Treasury bonds. The U.S. government’s recent spending for bank bailouts and stimulus may be necessary to get the economy moving again, but it also raises the specter of eventual inflation, which would damage the value of Treasuries. If the Chinese are unnerved by this, they could instead use their cash to buy the bonds of other countries, which would cause interest rates here to jump, prolonging the recession. Wen Jiabao, China’s premier, seemed to raise this possibility in March, in remarks to reporters at the end of the annual session of China’s Parliament. “We have lent a huge amount of money to the U.S.,” Wen said. “Of course we are concerned about the safety of our assets. To be honest, I am definitely a little worried.” In all likelihood, this was mostly posturing. Were China to cut back sharply on its purchase of Treasury bonds, it would send the value of the bonds plummeting, hurting the Chinese, who already own hundreds of billions of dollars’ worth. Yet Wen’s comments, which made headlines around the world, did highlight an underlying truth. The relationship between the United States and China can’t continue on its current path.
That China would be hurt by American hyperinflation is one of the greatest reassurances I can think of that we'll find some way to avoid it.
I recall this idea being originally raised to my consciousness in a question by some student at a town hall meeting, but I can't find a reference to this incident. In any event, I find Greg Mankiw's concept of an explicitly negative interest rate to be fascinating. I've got no idea if it would be good policy for the Fed to do such a thing, but the idea is interesting to think about.
Let’s start with the basics: What is the best way for an economy to escape a recession?Until recently, most economists relied on monetary policy. Recessions result from an insufficient demand for goods and services — and so, the thinking goes, our central bank can remedy this deficiency by cutting interest rates. Lower interest rates encourage households and businesses to borrow and spend. More spending means more demand for goods and services, which leads to greater employment for workers to meet that demand.
The problem today, it seems, is that the Federal Reserve has done just about as much interest rate cutting as it can. Its target for the federal funds rate is about zero, so it has turned to other tools, such as buying longer-term debt securities, to get the economy going again. But the efficacy of those tools is uncertain, and there are risks associated with them.
In many ways today, the Fed is in uncharted waters.
So why shouldn’t the Fed just keep cutting interest rates? Why not lower the target interest rate to, say, negative 3 percent?
How to encourage people to pay money for the privilege of lending: The Fed could promise future inflation.
As he explains in a follow-up blog post, we've already got negative interest rates, but since we can't set them explicitly we get to the same destination via circuitous routes.
If we want to prop up aggregate demand to promote full employment, what is the alternative to monetary policy aimed at producing negative real interest rates? Fiscal policy. Essentially, the private sector is saying it wants to save. Fiscal policy can say, "No you don't. If you try to save, we will dissave on your behalf via budget deficits." That fiscal dissaving would push equilibrium interest rates upward. But is that policy really welfare-improving compared to allowing interest rates to fall into the negative region? If people are feeling poorer and want to save for the future, why should we stop them? Unless we think their additional saving is irrational, it seems best to try to funnel that saving into investment with the appropriate interest rate. And given the available investment opportunities, that interest rate might well be negative.
It's hard to come up with the right animal-based analogy, but what springs to mind is as-if the hyenas from "The Lion King" suddenly successfully usurped the lions and were left with the uncomfortable need to transition from parasites to providers. United Auto Workers to take majority share of Chrysler.
Under the White House plan to save Chrysler, a major UAW concession has the union accepting company stock instead of cash to fund those retirees' health care benefits. That translates into a 55 percent share of the new Chrysler — once it emerges from bankruptcy.That's a majority share, but the union cautions that that it does not in any way, give the UAW control of the company.
"The board seat we've been given, it has no votes," says UAW President Ron Gettelfinger. "We do not have control of that board." ...
Gettelfinger said the goal will be for the union to sell off the stock as soon as possible. He added there is no plan for the union to be a long-term holder of big blocks of Chrysler stock.
"I'd take cash today," Gettelfinger said. "Let us have the money. Let somebody else take the stock and give us the money." ...
"Chrysler is going to be a very different type of company," said Chaison. "We don't know what it's going to look like. What it will produce. Whether it will be successful. This is the UAW's biggest nightmare: What if this all fails?"
Despite their early useful history, the unions have spent the past several decades latched to the neck of the American auto industry, attempting to suck as much blood as possible without actually killing the host. Fail.
The UAW can clearly see that they'd rather be the parasite than the provider, but the the host has become so sickly that the union is forced into a corner. Their only hope for wriggling out of this mess is government intervention on their behalf, but perhaps the rule of law is still strong enough to prevent such favoritism.
