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Edward Chancellor

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January 13, 2008 – Comments (7)

I am reviewing some of the work of Edward Chancellor.

You can view a powerpoint of his presentation to a 2005 forum titled "The Destabilizing Stability of the Greenspan Era."

This powerpoint is good.  He rightly calls the economy a "Goldilocks" economy in that Greenspan kept launching bigger and bigger bubbles rather then let the market naturally correct.

Problems that he was stating in 2005 were:

  • The rising level of private sector debt to GDP
  • Leveraged speculation and compression of risk spreads
  • The Housing Bubble
  • Increasing macro-economic imbalances
  • The bond market 'conundrum"

He goes into agruments against the Fed policy.

The Hayek argument goes that to keep prices stable interest rates are held below their natural level.  So investment and savings are not held in balance.  Why do people head over to the stock market when rates go down?  They are more motivated to look for a better rate.  It creates over investment and mal investment.  It pushes stock prices up above where they should be priced.  Personally, I am constantly in shock at the valuation levels of stocks and these have been justified because of the lower interest rates on savings.  There is definitely a decline in the "risk spread" in that the stock market hardly has risk priced into it at all anymore.

Real wage growth is suppressed and corporate profits are boosted.  I know living in Vancouver the buying power of minimum wage is about 40-50% of what it was when I first started supporting myself.  News and research out there suggests that real wages in the US have been declining for about 10 years now, and I am sure it has been happening for 20-25 years in Vancouver now.  Stories like what Jahbu put on his blog about 20 people in line for every low paying job being offer at a Wal-Mart is what I feel like I've seen my entire adult life, way, way, way too many workers looking for far too few jobs.  I was once one of 24 given a opportunity to write a 3 hour exam to determine which 7 would get an interview for the job.

The stock market booms, although I am not sure that I agree the reasons given are why.  I think the low interest rates sends far more seeking investment then otherwise would.  You have people that borrow to invest because they figure they can beat the rate they borrow at and you have people trying to get a better return. 

We seem to be seeing the price inputs rising and margins being squeezed on corporate profits now, and even though the Fed is lowering rates, the risk spread is increasing.  There is a deflation threat if interest rates rise faster than expected.  Credit expansion is inflationary, we've seen it in home prices.

These are the notes in the power point. 

 

"Austrian argument: Price stability: ‘a vast effort to destabilise the value of money in  terms of human effort… which no human ingenuity could have managed to direct indefinitely on sound and balanced lines.’ (Dennis Robertson, 1931) Fed bulletin of 1937 recognises that ‘Unstable conditions may develop, as they did in the 1920s, while the price level remains stable’ and declares that a falling price level would have made a greater contribution ‘toward the maintenance of [overall] stability.’ Japan’s Verdict: The lag between rapid growth and the eventual rise in inflation happened to be longer than usual but didn’t disappear’ (Deputy Governor Yamaguchi, Jackson Hole 1999) False perception of permanently low interest rates ‘Price stability… is not stability at any particular point in time but rather sustainable stability than can support economic growth over the medium to long term.’ (BoJ paper, 2001) ‘In the case of Japan [in the 1980s] stable prices in fact amplified the economic cycle by distracting attention from the growth of money and credit… A singular focus, if not fixation on price inflation arguably blinded the Bank of Japan to what was going on in credit markets and the potential for financial disruption should the bubble collapse.’ (BIS paper, 2001) Monetarist counterfactual: ‘The true story [of the Great Depression] is that monetary policy tried overzealously to stop the rise in stock prices.’ Bernanke, 2002. Bernanke tells Milton Friedman at his 90th birthday party that thanks to Friedman and Schwartz’s work the Fed won’t repeat the errors of the early 1930s"

 It seems that the US Fed has made the same error as Japan in that it looked to stable prices and ignored the growth of money and credit.

The Minsky argument is about a Ponzi financial system, which is what the US has had with Real Estate, a system dependent on rising asset prices and further borrowing, vunerable to small rises in interest rates.  The "Greenspan put" encouraged greater risk-taking each time there was a financial crisis, 1987, 1990s, 2002.  Of particular not debt-service levels are at record highs despite low interest rates. 

My comment here, this is because debt at low interest rates is a different animal than debt at high rates.  At high rates a little extra payment enables borrowers to reduce the level of debt dramatically.  At low rates increasing payments only marginally helps to reduced debt repayment.  People make payments on debt but the ratio of principal to interest of each new the payment only changes marginally, whereas with high rates it changes quickly.

Mises: 

  Mises: ‘there is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of the voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency involved.’

Signs of a credit boom, high returns for lenders, collaspe of personal savings rates, housing boom.  Larger amounts of credit are required for the same increment of GDP growth (apparently in the 60s the GDP growth from increased credit was 6 times what it is today).  The reflation has created the investment boom in China, (speaking of which, Bejing saw Real Estate prices decline 20% last month).

Edward Chancellor makes a lot of sense to me. 

7 Comments – Post Your Own

#1) On January 13, 2008 at 2:42 PM, abitare (38.89) wrote:

dwot,

Great, great post! I am so glad I found you. I was begining to think I was alone in my skeptism of the market. I own SKF and SRS. They have both gone up significantly. Have you done or do you have an opinion of any of the Ultra Shorts?

Dr Paul schooling FED. I hope you don't mind the post:

 

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#2) On January 13, 2008 at 3:09 PM, GS751 (27.50) wrote:

I've seen that video many times and love it.  At least he tells it like it is.

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#3) On January 13, 2008 at 5:32 PM, abitare (38.89) wrote:

dwot,

Also a couple of newbies have attacked my CROX underperform.  

If you are bored you can jump in, it is looking like another JSDA throw down.

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#4) On January 13, 2008 at 8:56 PM, dwot (40.93) wrote:

Abit,

I am Canadian and the devaluation of currency issue kept me out of the US market.  I was in it until the fall of 2006, but currency hit concerns just made the US market look too risky.

Depending on how badly Canada gets hit with this subprime stuff, I would expect the Canadian dollar to continue to strengthen against the US dollar.  If we end up taking a $30 billion dollar hit, well, Canada is smaller than the US, that would hurt.  There is one other concern.  We supposedly have about an $11 billion surplus budget.  If it is $11 billion with the equity gains from the money vested by our Canada pension, Canada isroyally screwed. 

Instead of applying the surplus to debt and leaving something for hard times, they've got tax cuts planned.  Dumb, dumb, dumb, dumb.  If you can't be paying back your debt in good times, you are toast when things get hard.

Crox is in much better shape than JSDA.  They have little debt and are expanding into other product lines.  But they will take an earnings hit.  They did much better over the past year then the shape they looked to be in when I first thumbs downed them. 

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#5) On January 13, 2008 at 9:04 PM, abitare (38.89) wrote:

I think I would rather own Canadian dollars then US stocks right now. Can Americans open accounts in Canada?

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#6) On January 14, 2008 at 12:39 AM, dwot (40.93) wrote:

I think so...  It seems to me we have people from all over the world with bank accounts here.

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