Alphaville post on the Venezuelan Petro

ICYMI:  guest post on the Petro and the Assignat.

MPC not as split over £ as they made themselves out to be

Wednesday’s Treasury Committee hearing with the Bank of England’s Monetary Policy Committee featured an apparent squabble over whether exchange rate depreciations ‘worked’ or not.  It reads like something we could set students.  ‘OK who is wrong here, if anyone, and why?’

Andrew Haldane said, uncontroversially:  “A combination of the weaker pound, and a stronger global economy, has worked its magic…..  Depreciations work.  And that’s how they work.”

Prompted by MP Alistair Jack, Sylvana Tenreyro commented:   “[in Argentina [Jack’s words]] depreciations make people poorer.”

Mark Carney seemed to take Tenreyro’s side:   “Depreciations don’t work. They have an economic effect, but they’re not a good economic strategy.  They may be an outcome of various things… but it’s how you make yourself poorer.”

Students of open economy macro would probably find this fight confusing.  Everyone is right.  We might reasonably suppose – just as the Bank itself has – that the fall in Sterling after the EU Referendum result in June 2016 was prompted by i) a rise in the risk premium, on account of increased uncertainty about the near and long-term outlook, ii) a revision down to expected long term income per head in the UK [thus the real exchange rate] and expectations of looser monetary policy.

The combination of underlying causes that led to the depreciation [Brexit, basically] will make us poorer;  and the depreciation won’t alter that.  But the monetary policy response which in part prompted the depreciation will mean higher income per head along the transition.  So to that end Andy Haldane was right – they do work, which is why the MPC consciously engineered one. They don’t leave us better off than in the counter-factual situation in which the UK had voted Remain.  But they leave us better of than if MPC had attempted to fight to maintain the old level of Sterling.  In that case, we would be poorer along the necessary, unavoidable transition;  if they continued to try to do this, we might be very much poorer, and we would quite likely see a large recession and associated undershoot of the inflation target.

I doubt that Haldane, Carney and Tenreyro disagree about this at all.  But in the heat of the moment, Carney in particular seemed to turn the exchange into a fight.

All this has to be taken with a pinch of salt, of course, since DSGE macro has had questions asked of it of late;  and open economy macro was anyway more famous than most sub-fields for its long list of ‘puzzles’.  But this is how the BoE thinks about it, and is what is buried in the workings of the BoE’s forecasting platform COMPASS.

If I was still a staffer, I’d be urging one of the senior MPC members to rehearse a clear up of this mess, and refresh the commentariat’s understanding of how they think the exchange rate bears on monetary policy under inflation targeting.  It’s quite an important part of the framework, and it is necessary on occasion to deflect opposition to it from those with long enough memories to wish we still did target Sterling, and others with a tendency to view Sterling’s level as a matter of national pride, and anything that undermines it – eg nasty Remoaner monetary policy makers – as part of the problem.

New Statesman blogs on 2nd Referendum and the inevitable bad politics of Brexit

In case you missed these posts on New Statesman’s The Staggers blog:

On the chances of Remain winning a 2nd Brexit referendum.

And on why the ‘could have done better’ theory of Theresa May’s government, a theory beloved of those like David Allen Green, misses the inevitability of the impasse embedded in the Leave vote.

 

Changing unconditional BoE forecasts don’t mean we should take Brexit impact studies with a pinch of salt

This tweet from Laura Kuenssberg, the BBC’s Political Editor, was the latest example of how misunderstandings about the nature of forecasting have clouded the debate about the costs and benefits of Brexit.

Today [Feb8] the BoE released its latest inflation forecast.   Unsurprisingly, there has been economic news, and the forecast has changed a bit.  Doesn’t that mean that this forecasting business, including estimating the impact of Brexit, is a bit fishy?  Can’t we therefore just set aside that economics as undecided, and focus on the cultural and political implications of Brexit?  This was the clear implication of Laura’s tweet.

No.

The BoE’s forecast update is best thought of as a comparison between two unconditional forecasts.  Each one is conditioned on the path for market interest rates.  But that is also changing from quarter to quarter, as liquidity, the price of risk, and expectations of future rates evolve.

The Brexit impact studies are a comparison of two conditional forecasts.  In one case the forecast is conditioned on ‘stay the same’.  In the other the conditioning assumption is ‘erect trade barriers to implement Brexit’.  ‘Conditioning’ means ‘calculating what can happen under the particular assumption that one thing does actually happen.

The classic example of the difference between conditional and unconditional forecasting, whose recent ancestry is traced back to Chris Giles, is as follows.  You will find it difficult to forecast my weight in 10 years, based on information I give you about my lifestyle.  In particular because you will have trouble forecasting how my lifestyle evolves – how much craft beer and quality crisps I eat, for example.  However, you can with much greater confidence forecast how much my weight will differ, holding other things equal, comparing the cases when my beer and crisp consumption stays as it is, with the assumption [totally implausible if you knew me] that I were to give up both.

We can now update this old analogy to discuss why Laura Kuenssberg’s reference to the updated BoE inflation forecast was misplaced.

Over time, as information about my lifestyle and its evolution evolved, you would update your 10 year forecast of my weight.  And this might move around a lot.  How could you have anticipated that a craft beer shop would open on my doorstep?  Or that there would be an explosion of artisanal crisps?

But that update would not invalidate the activity of doing the forecast of the weight-reducing benefits of giving up crisps and beer, a calculation that would not change by much at all.

This seems unfathomably difficult for people to grasp.  Andrew Neil had difficulty with it in this interview with me on his Daily Politics show.  How on earth can that be an answer to my point?  He seemed to be thinking.  Iain Martin was also at it today:

This issue has come to be one that seems to divide Remainers from Leavers;  but this is really an issue of Leaver non-economists impugning the vast majority of economists who stand behind the impact assessments of Brexit [that deduce that it would be costly].

The very small coterie of economists who actually think Brexit would be beneficial are also articulating their beliefs [as logically they must] in the form of conditional forecasts.  It’s just that those conditional forecast comparisons are different.

For them the conditioning alternative of ‘Leave’ will involve a consequential liberation of trade with non-EU countries, and deregulation of UK business that will generate more prosperity.  For the overwhelming majority of fellow conditional forecasters, these notions are absurd.  But they are members of the same family of forecast objects that anti-Brexit economists are themselves producing.

Monetary policy insurance from the Trump tax cut / Corbyn splurge

Jason Furman, former Chair of the Council of Economic Advisors under Obama, lately lamented the lack of a macroeconomic justification for the Trump tax cut.  This tax cut, as he and others have observed, has many flaws.

Notable are:  the manifest intent to redistribute to the wealthy who need it least;  the accompaniment of this with amateurish appeals to Laffer-curve notions that it would somehow provide for a new era of much enhanced growth;  and the mendacity of the publicity around the tax cut which hides its redistributive intent away from lower-income households.

A macro justification can be salvaged, though not one that would clearly warrant what has actually passed.  As the stimulus takes effect, and assuming that the new Fed Chair Powell adopts a seamless interpretation of the Fed’s mandate, it will lead to higher interest rates, as the Fed seeks to counter the unwanted short run effects on inflation.  This would provide for more room for a future interest rate cut in the event that were a recessionary shock over the next few years.

Of course, this is insurance whose beneficial effects will not last, and will at some point in the future have to be reversed, but there is nonetheless some benefit.  One might very well wonder why the fiscal stimulus isn’t saved for the rainy day, rather than spent on a day when the weather is improving [when the US is either at or heading to full capacity].  In a situation where there was a well-functioning and rational Congress, implementing evidence-based policy, there would be no great defence to this argument.  But in current circumstances, when there is no guarantee that the argument for counter-cyclical policy would hold sway, that argument has less force.  Though this argument also applies to the expected efficacy of the compensating fiscal tightening later on.

This side of the Atlantic in the UK, the Labour Party, currently in opposition, has as its stated policy a large program of public investment.  As I remarked at a TUC roundtable on the motivations for such a program today, the argument for a fiscal stimulus on grounds of business cycle policy are, in my view, very weak.

The economy is approaching or at full capacity, and the effects of any stimulus would largely be offset by tighter instrument settings by the Bank of England’s Monetary Policy Committee.  Even if you did not buy my own take on the business cycle, you would have to concede that this is the BoE’s take too.  However, just as with the Trump tax cut, there would be the temporary benefit of having, for a few years, a different mix of monetary and fiscal policy that allowed monetary policy to respond more forcefully to the next recession.  This might be argued to be even more beneficial for the UK as we might yet face the prospect of difficulties extricating ourselves from the European Union.

The case is less clear when we recall that central banks have allowed themselves the option of doing quantitative easing when they run out of room to cut interest rates;  and there are those like Miles Kimball and Martin Sandbu who think there are no significant obstacles to stimulating the economy with negative central bank rates.  However, most central banks have eschewed negative rates;  and none support very negative rates of the sort that would have done during the 2009 crisis when desired interest rates were perhaps as low as -8%.  And there are also plausibly diminishing economic benefits and also political constraints on significant further QE.

The UK stimulus proposal differs from the US program in a major way in that it stands on its own merits.  At current very low [perhaps even negative] real interest rates, there must surely be a very long list of public investment projects that would yield positive commercial, let alone social returns.  Transport;  green energy;  broadband for all;  social housing;  even R&D into friction-reducing, Brexit-facilitating border administration technology!

A fiscal stimulus might be more compelling now if the proposal to raise the inflation target had gained proper traction.  Senior Fed officials have talked openly about it in the US, though not here, where the division of labour is such that it would be more of a faux pas for BoE officials to contemplate the idea openly.  Arguments against this idea are that it might set the central bank up for failure or extend the period of low interest rates to a point that would be politically intolerable.  A fiscal stimulus at the start of such a venture would surely help guarantee success, and limit the extent and duration of very low rates.

 

Greenspan Putlessness

In the 1990s, there was the idea that equities were made safe because activist monetary policy would always be able to respond to a plunge, saving the real economy, and thus expectations of a sharp recession were thereby stabilised in the first place, making crashes less likely.

The recent days’ trading takes place in a different world.

First, the tools to back up the threat implicit in the put are not there to the extent that they once were.  Monetary policy in the West is still at practically maximal stimulus.  Fiscal policy is not to be depended on.   In the US, Japan, the Euro Area and the UK, there are idiosyncratic reasons why we would have to be really optimistic to expect the local politics to rustle up an adequate fiscal stimulus to take the place of monetary policy.   In the US, Congress is at war with itself.  In the UK, the government is divided, paralysed by Brexit and the wisdom of a large further stimulus is controversial [the Tory brand rules it out].  In Japan, fiscal policy has done as much as it can.  In the Euro Area, the North is temperamentally opposed to counter-cyclical fiscal policy, and many other countries cannot afford it.

Further, the Great Financial Crisis rather unravelled, such as it was, public perceptions about the capability, even when the tools are available, of policymakers to keep the business cycle under control.  It would be much harder to publish a paper nowadays entitled  ‘The Science of Monetary Policy’.

It’s arguable whether the Greenspan put was ever more than an idea.  But both because the tools are lacking, and a reasonable person’s estimation of the authorities’ ability to wield them to good effect has fallen, it makes even less sense now.  For this reason, we might expect equities to be more jittery now than they were pre-2008.

Would a 2nd referendum be more likely to be won by Remain

Danny Finkelstein enumerates some reasons why not in his Times column today, and they are pretty convincing.  But I think he misses some factors out, so I list them here, repeating Tweets sent earlier.

1.  Leave were able to unite – sort of – around the ‘Leave’ box on the Referendum ballot paper because the ambiguity about the end state cast a wide net over their very different views of what that end state should be.   In a second referendum, the ambiguity disappears, and not only does this potentially send voters who were in favour of Leave towards Remain [and perhaps vice versa] but it also pits the elements of the campaigning establishment against one another, which could make the campaign itself run very un-smoothly.
2. One might predict that Labour would opportunistically choose Remain over whatever deal is voted on in order to turn the referendum into one on the government and Toryism [‘Tory Brexit’], in order to destabilise it.  This would recruit some of the ‘kick the incumbent’ Referendum votes to the side of Remain, when they were trying to kick Cameron, and by association Remain, before.
3.  Polls seem to have shifted in favour of Remain, albeit by not much.
4.  Unless the deal offered was a very soft Brexit, and assuming that a fair amount of the shift in favour of Labour at GE17 was a tactical switch towards Remain, and with Corbyn this time onside in the 2nd Referendum [a lot of ifs there], one might predict a repeat of the ‘youthquake’, or perhaps better named ‘notthatyoungquake’ swelling turnout in favour of Remain.
5. The grisly march of time will have replaced old eligible voters with new young ones, tilting towards Remain.
6. Against all these factors, there is now no large English party in favour of Remain as there were before.  Even if Labour were to campaign against a proposed Brexit deal and therefore in favour of Remain, Labour have said a lot of things about the costs of Remaining [eg concerning freedom of movement, industrial policy] that could be used against them.
7. Danny notes how the relative certainty of the end state for Remain in the first Referendum would not play so effectively the second time around.  One could add to this a forecast that 1) even the Cameron modifications negotiated last time would not be on the table 2) noises made in favour of deeper fiscal integration in the Euro area, and on EU defence, both of which will be off-putting for many of those who voted Leave last time.
8. Turkey is clearly not joining the EU now, so some of those old posters can be shown to have been false.
9. Imagine if all journalism were re-written in numbered note form.  It would not be a great read, would it?

Brexit and the analysis of its economic consequences: iteration 2

Alberto Nardelli at Buzzfeed broke the story that government economists have undertaken a new analysis of the consequences of different variants of Brexit.  And come up with the unsurprising conclusion that they would all be costly.

In one sense, this should not be news.  Nothing has changed.  A few economists have studied the same question and got the same answer as before.  Apart from a few on the fringes, everyone who has looked at this accepts the basic logic.  For a brief recap, the story goes thus:

Except from Brexit In Name Only [in which we stay members of the single market and the EU’s customs union] leaving will raise non-tariff barriers and perhaps tariff barriers too with the EU.  Unless something happens to overturn the iron logic of trade ‘gravity’ – the tendency for us to trade much less with countries far away from us, of a given size – striking new Free Trade Agreements will not replace lost trade with the EU.  Add to that the observation that the deal with the EU is very deep – it created a market with very few frictions indeed – and deals with other 3rd parties are likely to be much shallower and thus even less likely to replenish lost EU trade.

Indeed, because of the Brexiters’ distaste for submitting to mutually agreed and neutrally enforced regulations – it’s the loss of ‘sovereignty’ that our doing just this with our nearest trade partners in the EU that bugs them –  it’s inevitable that such deals will be shallower.  Shallower deals leave us with more ‘freedom’ in the Brexit lexicon.

So less trade, and, invoking another empirical regularity, therefore lower income per head.

However, the leak does seem to be being treated as news.   Why?

No doubt one reason is that the studies are embarrassing.

The old Treasury analysis from before the referendum could be dismissed as cooked by arch Remainer Osborne [albeit meaning that we have to make the silly accusation that Charlie Bean would have signed up to such cooking].  Outside expert analysis could be dismissed as just that;  also part of the Remainer establishment.

This new analysis has been done under the piloting of a government committed to a Brexit that means Brexit [now partially translated as Brexit means less £] and ‘making a success of it’.  So it’s harder to set aside.

Doing so would involve creating new distance between the policy makers with the power, and those sponsoring the sceptical analysis:  cleaving from the unrepentant Remainer ministers who stand by it and perhaps from the senior economists who produced it.  Just as this government was not embarrassed by the analysis of the old Treasury, a new one could renew and purify itself to avoid  blushes [‘all our options are worse than the status quo!’] caused by the thinking of the economists in the former, contaminated government.

Given that answering the same question with the same evidence and logical tools is bound to lead to getting the same answer, one has to ask why anyone bothered?

Perhaps the idea was that some part of the May government thought the old studies [and all the outsider work] was cooked, so to make sure they needed to have another look.

Or was it a calculated move by the moderate government members:  new analysis can’t be so easily dismissed, and will help tilt the agreement sought to Brexit In Name Only, or dare the Ultras to break with us and try to form their own leadership.  That tactic only works if the analysis is leaked, of course, or there is a credible threat of leaking it.

Another possibility is that new information has come along, either about the economics, or what the Government might want, or what the EU might put on offer.  But this seems unlikely.  There’s no new economics I am aware of.  And the other matters are at the level of detail that would not affect the higher level debate that has still not concluded [hard or soft?].

As a result of the leak, social media has filled up again with the confusion about conditional and unconditional forecasts that sullied the pre-referendum debate.  [I suppose one could have seen that coming].

This from Iain Martin, editor of ReactionLife, and Times columnist:

If you can’t think why this might be a misguided thing to say:  it’s as though you are sceptical of all the past evidence linking pizza and beer over-consumption and lack of exercise to weight which moved your doctor to advise you to go teetotal, cut back on the pizza, and take up jogging, and all because all kinds of other things could happen to you along the way.

Christian May was also at it:

One of the ironies of all this is that Brexiters seem to reject the idea that you should do policy analysis based on conditional forecast thought experiments.

Yet this is precisely what they are doing all the time.   Contemplating that Brexit might be beneficial involves all kinds of such thought experiments:  That new FTA’s with far away countries will more than make up for lost trade;  that breaking out of the EU will reshape the EU itself around a more minimalist FTA, loosening the elements of political union and redistribution.

And often, shaky unconditional forecasting creeps in, for example predicting that technology will revolutionise trade and national border bureaucracy, eliminating the need for people in uniforms stopping lorries and searching them, or making the distance between economies that used to depress trade irrelevant [which it has not so far, incidentally].

 

The death of the Bitcoin coder

One of the few ideas in literary theory that made its way across the chasm that separates me from it is the notion of the ‘death of the author’.  By analogy with the original idea, with no more than a cursory link to the Wikipedia entry and disregarding Barthes and subsequent scholarship as irrelevant, I will take this to refer to the observation that whatever the intentions of the author in writing a text, the effective meaning and substance of it is in how it presents itself to the mass of readers.

We could say the same about Bitcoin and other cryptocurrencies.  ‘What Bitcoin is for’ is a frequent topic of discussion.  This is a difficult question to address conclusively.

We could ask ourselves what Satoshi Nakamoto thought Bitcoin was for, and consult as evidence his white paper on Bitcoin.  But once Bitcoin code was written and operationalised, and the protocols evolved, what he thought it was for is less relevant.  Nakamoto cannot control what Bitcoin is for now, any more than the workers at Los Alamos could dictate what nuclear weapons were ‘for’ once the recipe was known more widely.

From the perspective of miners and many holders, it may be nothing more than an opportunity to make money out of those willing to part with something of real worth.

For some users it is no doubt an instrument to facilitate crime.  For others participants Bitcoin maybe a political or intellectual hobby taking a kind of material form.  The subject in my experience tends to draw to it futurologists, techno-optimists and anti-state libertarians like moths to a lamp.  What Bitcoin is for is in that sense subjective, will differ from person to person, and over time.

By the same token, [excuse the pun], the fact that Bitcoin has not fulfilled many of purposes projected onto it by its original enthusiasts does not negate the fact that those intentions were sincerely held, and that they remain latent possibilities.

Bitcoin may yet turn into a currency, or tame the characteristics of existing currencies;  its distributed ledger technology may yet disintermediate some of the thing its fans hope it will.  The tens of millions being spent by existing large financial intermediaries – an irony probably not foreseen by Nakamoto or the originalists – may yet unearth something that Bitcoin indeed will be for.

Bitcoin and the underpinning of illicit fundamentals

One approach to pricing Bitcoin [and similar] has to been try to ask oneself what the fundamental value might be in terms of its enduring use and appeal to the community wishing to store value or make payments outside the reach of regulatory and tax authorities.

John Cochrane’s recent post has an element of this, attempting to distinguish between “speculative” and “fundamental” values for Bitcoin.

Bitcoin’s current high cost of individual payments make it unappealing for small and legal payments.  For small payments, the payment fee is a large fraction or multiple of the actual payment, and so highly inefficient.  For legal payments, there are cheaper alternatives and no obvious benefit, yet to using Bitcoin.  However, for those seeking to keep their wealth hidden, and move it around without the knowledge of the authorities, or being taxed, Bitcoin may still be useful.

However, there are no laws enforcing the use of crypto-currency in the illicit communities imagined here.  No law of legal tender.  The value of a medium of exchange in that community depends just as much on trust as it does for conventional monies in the overground communities.  That is, whether I accept Bitcoin for the drugs or guns that I sell illegally is going to depend on what I think others will think about taking Bitcoin from me when I try to turn the proceeds of my arms and drugs dealing into something I need myself.  [Readers will note that I am talking hypothetically at all points here].  And that, as always, will involve me thinking about what a putative future holder of Bitcoin will imagine that the next holder might think of it.  And so on.

This point – that there is no real fundamental value for the currency – is all the more important because the illicit and legal communities are intertwined.  For many of the illicit activities, of course, the whole point is to extract resources from the legal community and they are entirely parasitical in that respect.  For others, we can think of illicits trading contraband for legal goods.  And of course for that to happen, the reverse goes on:  those working in the legal economy trade the legally gotten gains of their labour for something under the counter.  Therefore, amongst the potential future holders’ beliefs that illicit agents have to factor in when they are assessing what the future value of Bitcoin might be are those of the legal agents [agents who earn legally].

Just as the quantity equation for conventional money does not provide useful guidance about its price when real central bank money demand is fluctuating a lot, so here the size of the illicit economy is not sufficient to say much about the floor to Bitcoin.  The complex judgements about how others think others think others think….  the exchangeability of Bitcoin will proceed have to be made by Bitcoin users, and changes in these judgements will cause girations in the value of Bitcoin.  There may be a fundamental demand for illicit goods, but that need not generate much restraint on the price of Bitcoin either way.

Misbehaviour by governments and central banks has in the past resulted in rapid coordination by private agents in economies on the rejection of the local currency in favour of the dollar, or commodities.  Although Bitcoin itself can’t be over-issued in the same way, it is easy to think of other events, like further forks, sudden regulatory interventions, exchange fraud, that could lead the illicit community to coordinate on rejecting Bitcoin [and similar] too.

A related phenomenon is the history of technological standards that emerged that were not necessarily optimal.  The econ 101 example of this was the Sony Betamax video recording format, which was dropped in favour of VHS despite being technologically superior.  The relevance is that the ‘fundamental’ characteristics of the thing were less important than whether others used the thing and were expected to use it in the future.

I think it’s a mistake to think of Bitcoin’s value, therefore, as underpinned by a reliable long term demand from badly behaved or private people;  that community may be as fickle in coordinating on a currency as our own, and as responsive to what they think we will do as we are to them.