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from Anatole Kaletsky:

Euro zone’s big problems require big fixes

ECB President Draghi addresses a news conference in BrusselsAt last, the European Central Bank seems ready to inject some adrenalin into the moribund euro zone economy. After last week’s news conference, when European Central Bank President Mario Draghi strongly hinted that action would take place after the June 5 council meeting, there have been a host of interviews and leaks specifically describing the new ideas the bank has in mind.

The biggest measure, now almost a foregone conclusion, will be a cut in the interest rate the ECB pays on bank deposits from zero to negative 0.1 or 0.2 percent. Bank officials have also hinted at several additional stimulus measures: extension of loans to commercial banks at low fixed rates for three years or even five years; ECB purchases of bank loans to small and medium enterprises, packaged into asset-backed securities; and concessional lending to European banks on condition they pass on these funds to small and medium businesses.

The leaks generated a great deal of enthusiasm this week. The euro weakened from almost $1.40 to $1.37; bond yields in Italy and Spain fell to record lows; and European stock markets jumped 1 percent to 2 percent.  Wednesday, the market reaction crossed the Atlantic, with interest rates on U.S. Treasury bonds falling to their lowest levels in six months.

People enter a government-run employment office in MadridSadly, however, investors may be overexcited. Even assuming that all the reports about ECB plans turn out to be true, the bank failed to follow through on similar rumors several times recently. It is also far from clear that these policies would address the big economic problems facing the euro zone: feeble economic growth and widespread unemployment; a continuing credit crunch for small and medium enterprises in Southern Europe; vast imbalances in competitiveness between Germany and the rest of the euro zone, and deflationary pressures that create debt traps and balance-sheet recessions in the peripheral economies.

from Lawrence Summers:

What to do about secular stagnation?

Last month in this space I argued that we may be in a period of secular stagnation in which sluggish growth, output and employment at levels well below potential, and problematically low real interest rates might coincide for quite some time to come. Since the beginning of this century U.S. GDP growth has averaged less than 1.8 percent per year. Right now the economy is operating at nearly 10 percent -- or more than $1.6 trillion -- below what was judged to be its potential path as recently as 2007. And all this is in the face of negative real interest rates out for more than 5 years and extraordinarily easy monetary policies.

It is true that even some forecasters who have had the wisdom to remain pessimistic about growth prospects for the last few years are coming around to more optimistic views about growth in 2014, at least in the U.S. This is encouraging, but optimism should be qualified by the recognition that even optimistic forecasts show output and employment remaining well below previous trends for many years. More troubling even with the current high degree of slack in the economy and wage and price inflation slowing, there are increasing signs of eroding credit standards and inflated asset values. If we were to enjoy several years of healthy growth with anything like current credit conditions, there is every reason to expect a return to the kind of problems we saw in 2005-2007 long before output and employment returned to trend or inflation accelerated.

from Lawrence Summers:

On secular stagnation

Some time ago speaking at the IMF, I joined others who have invoked the old idea of secular stagnation and raised the possibility that the American and global economies could not rely on normal market mechanisms to assure full employment and strong growth without sustained unconventional policy support. My concern rested on a number of considerations. First, even though financial repair had largely taken place four years ago, recovery since that time has only kept up with population growth and normal productivity growth in the United States, and has been worse elsewhere in the industrial world. Second, manifestly unsustainable bubbles and loosening of credit standards during the middle of the last decade, along with very easy money, were sufficient to drive only moderate economic growth. Third, short-term interest rates are severely constrained by zero lower bound and there is very little scope for further reductions in either term premia or credit spreads, and so real interest rates may not be able to fall far enough to spur enough investment to lead to full employment. Fourth, in such a situation falling wages and prices or inflation at slower-than-expected rates is likely to worsen economic performance by encouraging consumers and investors to delay spending, and to redistribute income and wealth from higher spending debtors to lower spending creditors.

The implication of these considerations is that the presumption that runs through most policy discussion -- that normal economic and policy conditions will return at some point -- cannot be maintained. The point is demonstrated by the Japanese experience, where gross domestic product today is less than two-thirds of what most observers predicted a generation ago, even as interest rates have been at zero for many years. It bears emphasis that Japanese GDP disappointed less in the five years after the bubbles burst at the end of the 1980s than the United States has since 2008. GDP today in the United States is more than 10 percent below what was predicted before the financial crisis.

from Anatole Kaletsky:

The radical force of ‘Abenomics’

Japan's Prime Minister Shinzo Abe in the cockpit of T-4 training jet at the Japan Air Self-Defense Force base in Higashimatsushima, Miyagi prefecture, May 12, 2013. REUTERS/Kyodo

'The 3.5 percent gross domestic product growth announced by Tokyo Wednesday suggests that Japan may be the fastest-growing economy in the G7. Since the Tokyo stock market hit bottom exactly six months ago, the Nikkei share index has soared almost 80 percent. Meanwhile, the yen has experienced its biggest six-month move against the dollar. All these events appear linked to the election of Shinzo Abe and the regime he has installed at the Bank of Japan.

from MacroScope:

The Great Stagnation

Federal Reserve Chairman Ben Bernanke’s verdict on the U.S. economy is sobering. Boiled down, this was the message delivered at his news conference today:

    Brace for roughly three more years of sluggish growth – or longer Some of the unemployed will not find work in the foreseeable future America’s economic power has downshifted Global financial markets could upend recovery yet again

It is a bleak outlook. Bernanke has left little doubt that he sees the United States in the midst of very long and painful period of sub-par growth, dousing some of the optimism stirred by recent reports that showed unemployment falling, the housing market hitting bottom and businesses starting to spend again.

from Jeremy Gaunt:

When things stagnate

Goldman Sachs researchers have been hitting the history books again, trying to divine what happens to currencies when economies stagnate. Answer:  Not as much as you might think

Looking at exchange rates for years before and during "stagnation", Goldman found that year-to-year FX volatility in such periods is lower than in normal periods. But a lot of it depends on the type of stagnation.

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