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A Sovereign Wealth Fund is Not the Same as Fiscal Responsibility

Treasury Secretary Martin Parkinson addressed the issue of a sovereign wealth fund in a speech to the Australia-Israel Chamber of Commerce. Parkinson said that ‘Treasury is often characterised as being opposed to an SWF – yet our comments are neither supportive nor critical.’ In fact, Treasury and the RBA are just as often characterised as supportive of a SWF when they have been studiously equivocal. Whether Australia chooses to make greater use of a SWF is ultimately a decision for politicians. It is appropriate for Treasury and the RBA to discuss the implications of this policy choice, but we should not expect them to come down explicitly in favour of one side of the argument.

Parkinson’s speech makes clear that greater use of a SWF is not the same thing as more responsible fiscal policy:

the creation of an SWF per se does nothing to address either Australia’s net debt position or, more broadly, the level of government or national savings over time.

If the Australian Government had financial liabilities of $10 billion and runs a $1 billion surplus, it can reduce gross liabilities to $9 billion, or it can maintain them at $10 billion and buy $1 billion of financial assets to be held in an SWF – in both cases, net financial liabilities are $9 billion.

The only way the creation of a Sovereign Wealth Fund delivers a faster improvement in net debt is if it is used to justify a tightening of fiscal policy that would not otherwise be achieved.

As such, if we are to have a sensible discussion about the merits of an SWF, the proponents of such Funds, whether at the national or sub-national level, need to be clearer about precisely what they have in mind. Absent tough fiscal decisions, an SWF does not constitute a contribution to future fiscal sustainability.

Robert Carling and I make this point in our CIS Policy Monograph, Future Funds or Future Eaters?  If contributions to a SWF, like the budget surplus itself, are no more than a residual after the government is done spending and taxing, then there is no reason to believe that a SWF changes government behaviour. A SWF, like a budget surplus, is a consequence not a cause of fiscal policy decisions. The IMF found there was little impact on government spending in its study of countries making use of SWFs.

Unless a SWF is embedded in a broader framework of binding and enforceable fiscal policy rules, there is no reason to believe a SWF will induce greater fiscal responsibility. If a politician supports a SWF but does not support fiscal policy rules, you know they cannot be trusted with a SWF.

posted on 07 March 2012 by skirchner in Economics, Financial Markets, Fiscal Policy

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FIRB Transparency and the Colmer Doctrine Revisited

Nomura’s head of mergers and acquisitions, Grant Chamberlain, has called for greater transparency in the regulation of foreign direct investment, as reported in The Australian:

There were generally clear guidelines when it came to FIRB policy, but “but when it comes to SOEs, the picture changes”.

He said the only public information recently had been the “Colmer doctrine”, comments made by then FIRB executive director Patrick Colmer at a conference on Australia-China investment in September 2009.

Mr Colmer said the Australian government preferred that foreign investment by state-owned enterprises was kept to less than 50 per cent for greenfields projects and less than 15 per cent for major producers.

Mr Chamberlain said that it was impossible to actually get a copy of Colmer’s comments and that there was confusion about what would be considered as a “major producer”.

In fact, it is possible to get a copy of the speech here, but only due to a Freedom of Information request I made of the FIRB. The saga behind the speech and my efforts to obtain a copy are detailed in this op-ed in The Australian. Chamberlain’s speech proves the point I made in my original FOI application that releasing the speech was in the public interest.

posted on 28 February 2012 by skirchner in Economics, Financial Markets, Foreign Investment

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Mortgage Interest Rate Margins in Australia and the US

A story in the WSJ about mortgage interest rate spreads in the United States perfectly parallels the debate in Australia. The story notes that:

Analysts stress it is difficult to disentangle how much of the spread is due to pricing power from banks with more control of the market, and how much might represent structurally higher costs of doing business in the U.S. mortgage market reshaped by the crisis.

However, the fact that the US and Australia are experiencing essentially the same phenomenon argues against country-specific factors as the explanation. Capital markets are global and Australia is necessarily a price-taker in these global markets, a point forever lost on our parochial media and politicians.

posted on 22 February 2012 by skirchner in Economics, Financial Markets

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EMU and International Conflict

Martin Feldstein writing in Foreign Affairs in 1997, demonstrating that the euro crisis was entirely foreseeable:

If EMU does come into existence, as now seems increasingly likely, it will change the political character of Europe in ways that could lead to conflicts in Europe and confrontations with the United States.

The immediate effects of EMU would be to replace the individual national currencies of the participating countries in 2002 with a single currency, the euro, and to shift responsibility for monetary policy from the national central banks to a new European Central Bank (ECB). But the more fundamental long-term effect of adopting a single currency would be the creation of a political union, a European federal state with responsibility for a Europe-wide foreign and security policy as well as for what are now domestic economic and social policies. While the individual governments and key political figures differ in their reasons for wanting a political union, there is no doubt that the real rationale for EMU is political and not economic. Indeed, the adverse economic effects of a single currency on unemployment and inflation would outweigh any gains from facilitating trade and capital flows among the EMU members.

posted on 13 December 2011 by skirchner in Economics, Financial Markets, Monetary Policy

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The Irrefutable Logic of Quantitative Easing

A useful thought experiment from Robert Hetzel:

The institutional fact that makes a liquidity trap an irrelevant academic construct is the unlimited ability of the central bank to create money. One can make this point in an irrefutable manner by noting that the logical conclusion to unlimited open-market purchases is that the central bank would end up with all the assets in the economy including interest-bearing government debt, and the public would hold nothing but non-interest-bearing money. Because that situation is untenable, individuals would work backward from that endpoint and begin to run down their money balances and stimulate expenditure in the current period.

posted on 13 December 2011 by skirchner in Economics, Financial Markets, Monetary Policy

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Zero Bubble: A Theory of Asset Price Booms and Busts

The Philly Fed’s Business Review has a good article by Satyajit Chatterjee on why asset price booms and busts are a rational response to the uncertain return to innovation.

posted on 01 November 2011 by skirchner in Economics, Financial Markets

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Roubini Global Economics ‘Not Yet Profitable’, May Be for Sale

Nouriel Roubini’s RGE is ‘not yet profitable’ and may be up for sale according to Institutional Investor. This made me laugh:

For RGE’s senior analysts, getting it right requires gaining a deep understanding of Roubini’s distinctive approach to macroeconomic research.

Good luck with that!

posted on 12 October 2011 by skirchner in Economics, Financial Markets

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Martin Armstrong is Back

Fresh from the longest ever jailing for civil contempt in a federal white-collar case in the US, Martin Armstrong is back. You can read a much longer profile of him and others like him in The New Yorker.

I don’t have much time for cycle theories. When I worked in financial markets I met numerous advocates for various cycle theories among fund managers. Strangely, I always wound-up being the one who paid for lunch. However, his story is an interesting one. I’m always suspicious when someone gets locked-up for an incidental crime that hadn’t taken place before the prosecutors got involved and when everyone in the case seems to have copped a plea bargain. Even if I’m completely wrong in my suspicions, there are plenty of other cases like it pointing to the decline of the rule of law in the US.

posted on 30 September 2011 by skirchner in Economics, Financial Markets, Rule of Law

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A Partial Defence of Alessio Rastani

The Torygraph is all over Alessio Rastani and who can blame them for wanting to stick it to the pretentious Beeb over their seeming lack of quality control. Turns out that Rastani is a ‘talker not a trader’ with somewhat limited credentials on both counts. While his now famous opinions are highly questionable, this doesn’t exactly set Rastani apart from the vastly more credentialed talking heads routinely used by the Beeb and others to fill air time.

The sad fact is that a PhD from Oxbridge or an Ivy League school and a stellar career at the IMF and/or an investment bank more often than not yields a set of opinions and insights only slightly less dubious than those of Rastani.

posted on 28 September 2011 by skirchner in Economics, Financial Markets, Media

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Financial Repression: Coming Soon to a Market Near You

It’s not inflation you have to worry about:

It is conjectured here that the pressing needs of governments to reduce debt rollover risks and curb rising interest expenditures in light of the substantial debt overhang (combined with the widespread “official aversion” to explicit restructuring) are leading to a revival of financial repression—including more directed lending to government by captive domestic audiences (such as pension funds), explicit or implicit caps on interest rates, and tighter regulation on cross-border capital movements.

posted on 09 September 2011 by skirchner in Economics, Financial Markets

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Sovereign Wealth Funds as ‘Social Control of Public Wealth’

The Greens are big supporters of making greater use of sovereign wealth funds. This op-ed in The Age helps explain the appeal of sovereign wealth funds to the left:

contemporary Left thinkers have increasingly argued that the ‘‘financialisation’’ of society - the replacement of government-funded retirement with individually-funded savings invested in financial markets, the privatisation of core services, the increasing ownership of society by hedge funds and the explosive use of credit - needs some tempering through social control of public wealth.  That could come through government ownership of vehicles such as sovereign wealth funds.

In other words, the role of SWFs is to disintermediate the private sector from saving and investment decisions. This is perfectly understandable coming from a left-wing perspective. However, it begs the question as to why so many Coalition MPs, such as Malcolm Turnbull and Josh Frydenburg, are also such enthusiastic supporters of SWFs.

The private sector already saves and invests for the future through private capital markets. It is governments that routinely squander future wealth thorough increased public spending and borrowing. Increased public saving via a SWF sounds virtuous, until you recognise that public saving is just deferred government spending. Unless you think future governments are going to make better spending decisions than the governments we have actually had, the argument for increased public saving via a SWF is decidedly weak.

In this op-ed, I argue that some of the objectives behind a sovereign wealth fund could be better achieved through binding fiscal responsibility legislation. If a politician supports a SWF, but opposes fiscal responsibility legislation, then you know they can’t be trusted with a SWF.

posted on 07 September 2011 by skirchner in Economics, Financial Markets, Fiscal Policy

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How to Fix a Conflicted RBA Board

I have an op-ed in today’s AFR arguing for monetary policy decision-making to separated from the Reserve Bank Board. Full text below the fold (may differ slightly from edited AFR text).

continue reading

posted on 06 September 2011 by skirchner in Economics, Financial Markets, Monetary Policy

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Selling the Gold Stock as Bailout of Last Resort

Michael Lewis quotes a senior Bundesbank official on selling the gold stock to meet an ECB insolvency:

The E.C.B. itself might face insolvency, which would mean turning for funds to its solvent member governments, led by Germany. (The senior official at the Bundesbank told me they already have thought about how to deal with the request. “We have 3,400 tons of gold,” he said. “We are the only country that has not sold its original allotment from the [late 1940s]. So we are covered to some extent.”)

The IMF bailed itself out by selling its gold stock. Why not the members of the ECB?

posted on 20 August 2011 by skirchner in Economics, Financial Markets, Gold

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Why Raising the US Debt Ceiling Was a Mistake

I have an article at The Conversation arguing that failure to raise the US debt ceiling need not have led to sovereign debt default:

It was the failure of US politicians to acknowledge the policy implications of long-run budget sustainability that decided the recent ratings action by Standard & Poor’s. Failing to raise the debt ceiling would not have led to debt default if US politicians had taken the necessary decisions to put the budget on a sustainable footing. Raising the debt ceiling kicks the problem down the road and creates the risk of a far more serious fiscal crisis in future.

A fiscally responsible US president would have joined with responsible members of Congress in refusing to sign a further increase in the debt ceiling. The Obama administration could have used the unthinkable prospect of debt default to force spendthrift members of Congress to reduce government spending and stabilise expectations for the future path of net debt that are currently weighing on economic growth.

Congress and the Administration know that if they lead the US to default on its obligations, the American people will sweep them from office. For politicians, incentives don’t come much stronger than that.

My CIS colleague Adam Creighton has been making similar points in Crikey, although I’m far better disposed towards quantitative easing than he is.

See also Jonah Goldberg, Wake Up and Smell the Tea.

posted on 10 August 2011 by skirchner in Economics, Financial Markets, Fiscal Policy, Monetary Policy

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Monetising the US Gold Stock

Monetising the US gold stock is a tried and true method of keeping the bond bailiffs at bay:

the nation owns about a quarter billion ounces of gold, valued at the quaint old figure of $42 2/9 per ounce. This stock serves as collateral for about $11 billion of gold certificates on the books of the Federal Reserve. The Treasury and the Fed could swap the old certificates for new ones based on a value closer to the current market price of $1,650 per ounce. To balance its books, the Fed would credit the Treasury’s account an additional $400 billion or so. This should be enough for even our improvident government to run for a few more months. Such an accounting transaction has the attraction of being done before in identical circumstances, as pointed out by my colleague Alex Pollock. In 1953, the Fed similarly “monetized” the gold after the Congress failed to pass an increase in the debt ceiling. This by the way, highlights the bipartisan nature of debt-ceiling dramatics. At the time, Republicans held the presidency and majorities in both chambers of the Congress.

Plenty of irony there for gold bugs.

posted on 30 July 2011 by skirchner in Economics, Financial Markets, Gold

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