As I See It...

As I see it, Keynes is suggesting that when an economy goes into recession, government spending can offset the loss in private consumption. To show this Keynesians use multipliers that turn one dollar of government spending into more than one dollar of consumption and subsequent production. While at the same time, those that oppose the Keynesian theory have their own multipliers, showing that a deleveraging cycle that usually accompanies a recession, will negate some of the intended effects of the spending, which then filters through to consumption and subsequent production. And, furthermore adds the burden of government spending which can lead to higher taxes to fund the spending or the risk of inflation if the government borrows externally or is financed by the central bank. The effects of which are made worse when the government starts off with a budget deficit.

The monetarists suggest an alternative view of how a stalling economy can be revived. They look at production as a function of the monetary base, the rate at which money is spent or its velocity, and inflation. Their view suggests that through central bank action, changes in the monetary base can offset the slowing of the velocity of money that usually accompanies a recession. With special consideration being paid to inflation and inflation expectations of course. This approach starts to face headwinds however, when the transmission mechanism experiences disconnects between central bank intentions and real world supply-demand dynamics of money and credit. Banks have little financial incentives to lend in the way interest rates and inflation expectations, while most would-be borrowers don’t meet stricter credit standards anyway.

Seems like the one thing that might actually be working, is time. Score one for classical liaises-faire economics.

Currency Trends to End the Year With

Can the GBP/USD be in an uptrend?

Will the AUD/USD continue to push lower?

Is it time for the EUR/USD to head back to the 1.21 level?

Could USD/JPY, and USD/CAD be trending up?

Why is the USD/CHF in a downtrend?

2:1 I should be looking at long signals for the Dollar Index based on a basket of currencies I follow, but I’m not. Most of my indicators and some longer framed trend-lines are pointing to at least a short period of a US Dollar selling environment.

On the other hand, I am seeing signs of US Dollar strength against the Australian Dollar [less industrial inputs sent to China], the Euro [with exceptionally high negative correlations to the Index], the Canadian Dollar [which has to mean something to do with Oil and other commodity exports], and of course the Yen [using fiscal and monetary tools to try and solve social and demographic problems.]

Supporting the unfolding trend in the Dollar Index, both the Great British Pound [inflation after austerity, and quantitative easing], and the Swiss Franc [closely mimicking the Dollar Index], are showing signs of strength against the US Dollar.

International monetary economic theory would suggest that the expected strengthening of the US Dollar against several of its counterparts could coincide with market expectations of a scenario  playing out where the cost of US Dollar (interest rates) rises. 

So at this point the pound seems to be singling itself out from the pack. As previously suggested, the Swiss Franc closely mimics the Dollar Index, so it merely affirms any directional bias of the Index at most given points in time.

My indicators on the Pound Sterling are suggesting a buying environment for the currency. Whether you make an argument for or against fiscal austerity policies in the face of loose monetary policies, the British economy is showing signs of possibly tracking back to some sense of normalcy, which bodes well for the currency over time.

Fed Mandate and the 2014 US Economy

The economic recovery is soggy, as some would put it. Growth is idling along, unemployment is above long-term averages but on a downward trajectory, and inflation is looking to remain tepid for the foreseeable future. Equities appear over-bought by some metrics, and so do bonds because of a manipulated yield curve.

With this economic environment, what can we expect of a Yellen Fed?

As the labor markets continue to digest the longer-term effects of the 2008 recession, the unemployment rate continues to meander lower. From the standpoint of the Fed, half of their mandate (the unemployment part) is sorting itself out, the other half (the inflation part) never really got off the bench. Basically, we’re getting to the point where there is nothing for the Fed to do, and if there’s nothing for them to do, I think they will just keep doing what they’ve been doing, which is monetary easing.

If growth doesn’t pick up in any significant way, in spite of unemployment converging with the natural rate, and the specter of inflation being nowhere to be found, I think a monetarist Fed would have no problem with maintaining an accommodative policy.

When unemployment hits the explicit targets set by the Fed, which should be a signal to start unwinding the current monetary policy, they are more likely to lower their unemployment benchmark to continue supporting growth, instead of taking steps towards limiting access to liquidity in the financial markets.

Without a jump in inflation (and soon) the US could be facing dare I say, a deflationary cycle and the prospect of a liquidity trap.