Tag Archives: reform

The Third Arrow

Shinzo AbeThe second of Prime Minister Abe’s “arrows” was a monetary stimulus that demolished the yen. This earned him, and BOJ Governor Kuroda, some scorn from the sound money people. A more optimistic read is here, from Professor Koichi Hamada. Both sides agree that Japan’s ultimate salvation will be the third arrow, structural reform.

The first task should be to eliminate or, at least, reduce the thicket of government regulations that is stifling economic dynamism – Koichi Hamada

This parallels the debate we have had in the West. The plan was to use fiscal and monetary stimulus to buy time and ease the pain of structural reform. Here in America, with the privilege of issuing the world’s reserve currency, we seem to have dodged the bullet. Quantitative easing alone was sufficient to paper over our structural problems until growth resumed.

Europe will not be so lucky. There, reform is a must. Mario Draghi has been dragging his feet on quantitative easing, citing the moral hazard specifically. Politicians will not tackle reform when times are good, and they expect to be bailed out when times are bad.

We refer here to Japan’s structural trap, instead of the more fashionable “secular stagnation,” because it’s more precise and also because of Robert Dugger’s seminal paper on the topic. The other term, due to Larry Summers, admits no policy action – as if stagnation were inevitable. Specifically, reforms that have been proposed for Japan include:

  • Reduce government regulation
  • Open protected industries (farming) to free trade
  • Reduce the corporate tax rate
  • Overhaul labor protections
  • Encourage more women to work
  • Reform the electricity market

This may read like Ayn Rand’s wish list, but it really is Abe’s third arrow. See interview here, for example. Jeremiah has no doubt it will succeed – if it ever flies. The pundits will then forgive Abe’s preparatory measures. He would become the first politician ever to escape a structural trap (the second, if you count Gerhard Schröder). No one will care how many arrows he used.

See also: Governor Kuroda – Genius or Madman?


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François_Hollande_(March_2010)_5Here is some upbeat news for President Obama.  His approval rating now languishes at the level of Richard Nixon, but French President Hollande is the lowest ever in history.  It turns out that business bashing policies and high taxes, while fun to campaign on, are actually bad for the economy.  Unemployment is at a sixteen year high.

The French public has noticed that they are falling behind Europe’s recovery.  So has the bond market, with investors moving to Italy and Spain. This week Hollande pledged to reduce social charges that discourage hiring.  Here is how he explained the about face:

The time has come to resolve the main problem of France: its production. We must produce more and better. It’s on the supply side we must act. Supply itself creates demand. We must continue to reduce the cost of labor.

Whew!  His socialist supporters must have whiplash.  Jeremiah warned President Obama not to follow France into this hole.  Perhaps the president will now follow France back out.

See also:  A Cautionary Tale

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Government Is Not the Solution

Last week, we reported on the epiphany of Larry Summers.  In his speech to the IMF, Mr. Summers reluctantly admits our economy has structural problems that stimulus can’t fix.  This was a watershed moment in economic policy.  If you didn’t know from the content, you would certainly know it from the reaction.

Understandably, people want to pillory Summers because much of this failed policy was his idea.  You have to give the guy credit, though, for recognizing a mistake and admitting it publicly.  Less flexible thinkers have been caught off guard.  Paul Krugman is here, rearranging his position so that he continues – retroactively – to have been right all along.

Apparently our structural problems, demographic challenge, and persistent trade deficit are news to Dr. Krugman.  He is still not changing his policy, though.  It just means we’ll need fiscal and monetary stimulus for much longer than expected.

Jeffrey Sachs was more satisfying.  He repeats his call for a new framework to stimulate private investment in new industries – not “the old standard-bearers of housing, cars, and consumer goods.”  This sounds a lot like the restructuring Robert Dugger recommended for Japan.  Coincidentally, the Economist has an update on that.  Japan’s economy is stifled by red tape and bureaucracy.  We are truly following their footsteps, just as Dugger predicted.

There is an investment shortfall because the financial, regulatory, and policy barriers to high-return investments have not been addressed.

Sachs has the most practical solution we have heard, although we are a little wary of public-private investment schemes.  Jeremiah would like to try private-private solutions first.  Japan’s MITI worked well until it didn’t, and central planning in America – except for DARPA ­–has a pretty poor record.

Summers may have been the first to say it out loud, but we find this (emphasis added) in the FOMC minutes from October:

Participants also considered scenarios under which it might, at some stage, be appropriate to begin to wind down the program before an unambiguous improvement in the outlook …

So, the establishment is preparing for an early end to the stimulus – no digging ditches and filling them up, no alien invasion.  We will have to knock down those policy barriers or, as the entrepreneurs say, “get government off my back.”

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America’s Structural Trap

GMJeremiah has been raving that all monetary easing since QE1 has been overkill.  Outside of the establishment economists in Washington, this is the majority view.  Everyone from fund managers to Occupy says the Fed is not helping – the former, even as they rake in profits.  Now, we have unearthed a paper that gives a name to the problem.

But first, here is Larry Summers speaking at the IMF economic forum.  If you can’t open the FT link, watch the speech on YouTube.  Summers has the nerve to say out loud what the others now claim to have been thinking all along.

Four years ago, the financial panic had been arrested … but, in those four years, the share of adults who are working has not increased at all.  GDP has fallen further behind [its] potential …

This may be why Summers was dropped from the short list for Fed Chairman.  He says there should have been a rebound after the crisis.  Summers goes on to suggest that our equilibrium interest rate may be negative, and he draws a parallel with secular stagnation in Japan.  The implication is that we only have full employment during a bubble, and – we may have been in this structural trap since the 1990s.

About ten years ago, Robert Dugger studied the situation in Japan.  Recently, people have taken new interest in his work.  We found this on Minyanville, and the original paper is here.  The charm of Dugger’s paper is that, reasoning from Japan’s experience, he was able to predict exactly how such a situation would unfold in America.  The details are uncanny.  You would think he had just written it last week.

In a structural trap. extremely loose monetary policy perpetuates deflation and low GDP growth, because unproductive but politically important firms are allowed to survive and capital reallocation is prevented.

A structural trap looks like a liquidity trap, except that the Fed can’t generate a credible expectation of inflation – because everybody knows the real economy is flat on its back.  What it takes to revive the economy is that you have to let old line companies go bust, so that workers – mostly young workers – can get new jobs in new industries.

TrapThat’s a lot of pain, but it would be over by now.  The alternative is that we languish in this weak recovery, possibly forever.  Larry Summers actually said forever.  Japan is going on twenty years.

Dugger recognized that no politician has the nerve for this, and that’s where an independent central bank comes in.  Remember Chairman Volcker tightening the screws in the 1980s?

Now that he is not facing another election, President Obama can afford to be bold.  He should appoint a monetary hawk as Chairman, and pursue a policy of structural reform.  That may be a stretch for the man who bailed out GM, but we can hope.

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The Road from Serfdom

The communiqué from the third plenum is here.  You may find it hard to read.  In case you are not familiar with the party’s writing style, Bloomberg has a summary.  Remember that formulations like “reform and opening up” are shorthand for specific, far reaching, policies.  Also, remember that these are not just proposals.  The Central Committee has absolute power.

We must embrace the decisive function that the market has in allocating resources.

Some analysts have downplayed the plenum, because it does not mark a decisive policy shift.  The move from “reform and opening up” to “comprehensively deepening reform” is not a qualitative change, but a quantitative one.  Secretary Xi must push reform through to its logical conclusion, and there is some urgency.

Many of the policy goals echo Western advice – property rights, human rights, and market reform.  The bits about market reform may surprise Western observers.

  • decisive function of the market in allocating resources
  • perfection of market economy systems
  • non-publicly owned economy, and mixed ownership
  • vitality in management and capital compete and burst forth
  • people mastering their own affairs
  • free consumer choice

Liberalizing the economy will release its pent up wealth to ordinary Chinese, accelerating the rise in their standard of living.  Stimulating imports is a stated goal, with reference to free trade pacts.  In this respect, what is good for China is also good for America.  It means a stronger Yuan, a reduced labor cost advantage, and a more favorable climate for our exports.

On the other hand, we may be uncomfortable with a strong Yuan policy, especially if it means an end to the dollar’s status as a reserve currency.  It is ironic that China is moving away from a command economy, even as America is moving toward one.  The bits about “rule of law” and constraints on government power are also interesting.  Jeremiah imagines the party has secret copies of Hayek in translation.

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The Andean Solution

Below is a recent letter to The Economist.  Jeremiah has often said that Social Security is a Ponzi scheme.  What’s interesting is that we – even The Economist – blindly assume other countries have the same problems.

It is incorrect to say that Chile’s workers are “increasingly unable to afford their parents’ pensions”. The pension system is based on defined contributions. Parents’ pensions are funded by the contributions they have put in over their working lives, not by younger workers.

Pensions funded!  Compound interest!  We were so shocked that we dug up this old article from Jose Pinera, the inventor of this amazing system.

The whole working population of Chile has a vested interest in sound economic policies and a pro-market, pro-private-enterprise environment.

It just goes to show you that sometimes we can learn from other countries.  American leaders could simply copy the Chilean system.  It is so obviously superior, you have to wonder why we never hear about it.  Maybe it’s that “free market” stuff.

See also:  Herman Cain’s Social Security Model

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Last Frontier for Investors

NgoziThe Economist has a guest editorial from Nigeria’s Ngozi Okonjo-Iweala.  Unfortunately, it is only in the print edition.  You can read an earlier article about Dr. Okonjo-Iweala here.  They describe her as an orthodox economist, which means the old school of balancing budgets and cleaning up corruption.

In the editorial, she writes of sub-Saharan Africa emerging from “frontier” status, hitherto marked by weak institutions and weak governance.  Jeremiah recalls a continent dominated by Big Men like Robert Mugabe.  Aid money from Western dilettantes often fed the corruption, doing more harm than good.

Africa will emerge as a respected member of the global community – less a recipient of aid than a recipient of private investment.

The editorial is largely a marketing pitch for foreign direct investment, something Dr. Okonjo-Iweala feels is the proper job of an activist finance minister.  She cites strong growth in Nigeria, Ethiopia, and Angola, as well as the usual inducements.

It is probably just as well Dr. Okonjo-Iweala was passed over for President of the World Bank, because her talents are needed in Africa.  On the other hand, America could use a reformer – and we have that vacancy at Treasury.

See also:  World Bank presidential candidates profiled

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