Niall Ferguson: Fiscal Crises and Imperial Collapses: Historical Perspectives

[Ad Orientem]

(Title abbreviated) This is a damned scary lectureby noted Harvard historian Niall Ferguson on the history of sovereign debt crisis.  If you want to understand what is going on in Europe, and what may happen here in the not too distant future, watch this video.  I recommend starting at around the 8 minute mark to skip the introductions.

[AdamA]

Great lecture.  Very interesting.  I think it really gets good around 36:30. 

He's a great speaker, and does a great job of presenting his data.  In the end, though, I'm not really sure that the data he presents support his conclusion, which seems to be that empires decline rapidly, not gradually, and that China and India will be the imperial forces of the future based on projected GDP numbers (he just kind of throws that chart up there at the end).

Enjoyed it though.

[Ad Orientem]

Great lecture.  Very interesting.  I think it really gets good around 36:30. 

He's a great speaker, and does a great job of presenting his data.  In the end, though, I'm not really sure that the data he presents support his conclusion, which seems to be that empires decline rapidly, not gradually, and that China and India will be the imperial forces of the future based on projected GDP numbers (he just kind of throws that chart up there at the end).

Enjoyed it though.

I think his point was more to the effect that great nation states that are over indebted can and often do suffer ruinous financial collapses with little apparent warning.  That does not necessarily bring down the state itself, though in some extreme cases major fiscal-monetary crisis have destabilized governments.

[stone]

This guy deserves to be short US or Japanese bonds. He seems wilfully ignorant of the most elemental aspect of  government bonds.- If the government is "borrowing" the currency that it itself issues, then there is no default risk and that fact is priced into the bonds. If the USA in future spends 20% of GDP on interest payment to the Fed (who hold the QEed bonds) and the Fed gives that to the treasury who pay it to the Fed....... lets face it -it isn't "borrowing" or debt in any normal sense of the word.
Personally I do think an asset tax that kept things balanced would give a better economy but this guy seems to be spouting nonsense.

[Ad Orientem]

This guy deserves to be short US or Japanese bonds. He seems wilfully ignorant of the most elemental aspect of  government bonds.- If the government is "borrowing" the currency that it itself issues, then there is no default risk and that fact is priced into the bonds. If the USA in future spends 20% of GDP on interest payment to the Fed (who hold the QEed bonds) and the Fed gives that to the treasury who pay it to the Fed....... lets face it -it isn't "borrowing" or debt in any normal sense of the word.
Personally I do think an asset tax that kept things balanced would give a better economy but this guy seems to be spouting nonsense.

Wow.  I am surprised someone on this board would make that kind of statement.  Of course there is a default risk.  There is more than one way to default on debt.  Historically the most common is simply to print money and either "monetize" the debt directly or reduce the value of the debt through financial repression including currency debasement.  All of which tends to lead to inflation and a major collapse in confidence that one will be repaid what one lent in real terms of purchasing power. It is patently ridiculous to suggest that just because you get your paper money back twenty years after you lent it to the government that the government did not in fact default if your money possesses a fraction of the purchasing power it did when you lent it out.

[melveyr]

Ad Orientem,

Your analysis would fail to explain Japan. The government has been creating lots of money, with incredibly low interest rates, and low inflation.

Money creation does not always result in inflation. If you have bucket with a hole in it, you can keep adding water without the water line rising. Japan has a big hole, and the US has a big hole right now too. When the private sector has a net desire to save, strange things happen. If the government does not create enough money to satiate this desire, while imposing a tax in the currency being saved, you can easily spiral into a depression.

[MediumTex]

I don't like Niall Ferguson.

After watching many of his interviews over the last few years, I find him to be a pompous alarmist who tries to frighten people in order to sell more of his books.

If you look closely, his economic analysis is actually pretty shallow, which is what you would expect from a historian/political scientist who wants to explain economic and monetary phenomena.

That's just my take, of course, and I hear that from a style perspective he is a pretty good writer and storyteller.  Like many of our pundits, though, I think he is a better storyteller than fortune teller.

[AdamA]

There is more than one way to default on debt.  Historically the most common is simply to print money and either "monetize" the debt directly or reduce the value of the debt through financial repression including currency debasement.

Not really.  Inflation is not default.  It may lead to default, if borrowers lose confidence in the issuer, but it also might not. 

Ferguson addresses this is his lecture.  Inflation is essentially how we paid off our post WW II debt, according to him. 

[stone]

Ad Orientum, as Melveyr says, even if debt is monetarized then as in Japan what can happen is a build up of bonds with ever lower interest rates. The US actually spends a lower proportion of GDP on bond interest now then it did in the 1980s. The florid description Naill Fergason gave was of bond yields zooming up as default became inevitable. His scenario does not work if you simply have "debasement" with the nominal return of the bonds adheared to. Goverment debt expansion can even coincide with low inflation so that investors do actually retain the value of their savings. That has been the case in Japan. You get inflation when people have plenty of money they want to spend in relation to the availability of goods and services. What we are facing now is quite different. There is massive excess productive capacity and inventory waiting unwanted. That would have to be taken up before that kind of inflation hit. The money from deficit spending is just finding its way to those who already are saving. The excess just piles up as extra savings with them.

Niall Ferguson claims that investors will take fright at some point and abandon the bonds. Anyone abandoning bonds would have to go to something else. Gold is one alternative and I hold gold and expect a steady trickle into gold as the years go by. That is very different from saying that all treasuries will be dumped and QE will not mop them up. By all means short LTT if you believe Niall Ferguson and if he isn't an idiot you'll soon be very rich. Personally I think he is a sad case of a usefull idiot plumped up by cynical lobyists who don't believe a word of what he says but have a political agenda.

[Wonk]

My crystal ball is unfortunately broken so I have no way of knowing if the U.S. will experience a hard default or currency crisis in the future.  What I do believe to be definitive is that dollar holders have been experiencing soft default for 10+ years in the form of currency debasement through persistent negative real interest rates.

The inflation rate means virtually nothing by itself.  Rather, real interest rates are the true barometer of honesty in a currency.  When investors are receiving -4% on cash as they are today, it's a default plain and simple.  Doesn't matter if price inflation is low.  You get 96 cents on the dollar.  Compare this to April 1980 when inflation ran at 14+% and the FFR was 17+%.  Back then a saver got paid a real yield.  Today, not so much.

We could muddle through the next 5 years with inflation at a tame 4% and still have 20-25% less purchasing power.  I think there are a lot of people so concerned with the future of inflation/deflation that they miss the answer staring them in the face right now.

[stone]

Wonk, that is very true but I think it is vital not to confuse the reality of savers getting a bum deal due to negative interest rates with the (IMO bogus) prediction that the government will shortly not be able to fund itself due to some suposedly inevitable spike in bond yields. One does not lead to the other. Infact one happens instead of the other. 

[moda0306]

Wonk,

Could negative real interest rates (as measured by CPI) simply be a result of both domestic deleveraging, emerging market growth, and greater scarcity of natural resources all happening at the same time?

Take the fed QE actions out completely, and I'd still imagine that interest rates might lag CPI-inflation due to commodity price pressures brought on by ever-greater scarcity.

I agree with your observation, though, that inflation is almost irrelevant without context such as interest rates, as well as things like wage increases and WHAT is truly driving inflation. 10% CPI inflation, 11% housing inflation, 12% wage increases and 15% interest rates sound pretty good compared to what we have right now... at least in very simple terms.

[Wonk]

@Stone:

Sure, I don't see any reason why the government can't simply continue printing--even in the face of higher interest rates.  That's exactly what happened in the 70s.  However, increasing sums of debt amplify the pain that must be brought on after the monetizing reduces the burden of the debt in real terms.  That's assuming inflation doesn't spiral out of control and confidence can be restored via higher fed funds rates.  History is littered with countries trying this route but finding no exit strategy.

@Moda:

Appears to me the recipe for price inflation is pretty simple: a net increase in money and credit priced in a currency chasing the same goods and services.  The recipe for negative real rates is even simpler: pay savers less than the rate of inflation on short term money.  US domestic household deleveraging is a powerful deflationary force, but this sector only represents 25% of the entire credit market. (http://www.federalreserve.gov/releases/ ... /z1r-4.pdf)

It matters not that the US household sector contracts if the total credit market expands on net.  Additionally, the US can export monetary inflation through trade deficits and currency pegs so as to debase the currency worldwide relative to real assets.  Resource scarcity is a factor, but nothing compared to currency debasement over the last ten years.  We all know about gold but pull up a long term CRB Index chart and you'll see what I mean.

[stone]

Wonk, when you say "printing in the face of higher interest rates" you make it sound as though a free market is being allowed to set what the interest rates are. From what I can see, government/central bank dictat sets the interest rates at whatever they choose them to be (a very big contrast to pegged currencies such as Greece or the Bretton Woods system etc). Warren Mosler has said that under our current monetary arrangement the "natural rate of interest" is zero (that is zero nominal not zero real). Every thing above that is  a discretionary government payment to savers / method to increase the currency exchange rate / dampen speculation.

The 1970s actually saw more money in the hands of people who wanted to spend it than productive capacity could accomodate (especially oil production). That is totally different from excess money from money printing going to savers whilst productive capacity stands idle. I guess what we have now creates commodity price volatility, malinvestment in bubbles and reduced real wages. That seems to me a quite different scenario than what Naill Ferguson was on about and also not a scenario that "austerity" for wage earners does much to help.

[Wonk]

Wonk, when you say "printing in the face of higher interest rates" you make it sound as though a free market is being allowed to set what the interest rates are.

For the most part, that's true--in the bond market.  The market prices bonds based on inflation expectations and default risk. 

From what I can see, government/central bank dictat sets the interest rates at whatever they choose them to be (a very big contrast to pegged currencies such as Greece or the Bretton Woods system etc).

Yes, the CB sets the rate available to commercial banks, but typically only in response to current data and future expectations.  CB bond purchases can influence yields to some extent, but only at the margin.  The bond market is much bigger than a single central bank.

Warren Mosler has said that under our current monetary arrangement the "natural rate of interest" is zero (that is zero nominal not zero real).

That's probably close to the truth.  Suspension of mark to market alleviates the insolvency of the banking system--which would naturally destroy credit if allowed to play out.  Additionally, CB swapping of junk assets helps monetize debt that would otherwise be vaporized.

The 1970s actually saw more money in the hands of people who wanted to spend it than productive capacity could accomodate (especially oil production). That is totally different from excess money from money printing going to savers whilst productive capacity stands idle. I guess what we have now creates commodity price volatility, malinvestment in bubbles and reduced real wages. That seems to me a quite different scenario than what Naill Ferguson was on about and also not a scenario that "austerity" for wage earners does much to help.

To central bankers, it doesn't matter if inflation runs at 20% or 4%.  The only thing that matters is creating an environment for negative real interest rates to devalue the currency so that the asset prices stay high in nominal terms and the value of government debt gets cut in real terms.  Positive real interest rates during secular bear markets is an instant recipe for an asset price crash, banking insolvency and lost elections.

[stone]

Wonk, "The market prices bonds based on inflation expectations and default risk."

The thing is that if there is ample monetary base (as is currently the case) then somebody has to hold that.  In Japan no interest is paid on monetary base. In the US 0.5% or something like that is paid for bank reserves. Whatever the inflation expectations, that mountain of monetary base acts to compete down the expected returns on all assets that can be bought. With the central bank standing by as a buyer of last resort, the markets know that the bonds have zero (nominal/formal) default risk and so any yield above what monetary base yields is better than nothing however high inflation expectations may be.