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Post"The Triumph of English": *The Economist* (Richard Hancock, USA, 12/27/13 4:10 am)
The Economist has an interesting article in its December 25th issue, "The Triumph of English, A World Empire by Other Means." It states that 380 million people speak English as their first language and perhaps 2/3 of that number have it as a second language. A billion more people are studying English and by 2050, it is predicted that half the world will be more or less proficient in it. "It is the language of globalization--of international business, politics and diplomacy. It is the language of computers and the Internet... French business schools teach in it. It is the medium of cabinet meetings in Bolivia. Truly, the tongue spoken back in the 1300s only by the 'low people' of England, as Robert of Gloucester put it at the time, has come a long way. It is now the global language.
"As a language of many origins--Romance, Germanic, Norse, Celtic and so on--English was bound to be a mess. But its elasticity makes it messier, as well as stronger. When it comes to new words, English puts few barriers to entry.
"In the eastern half of the Roman empire, Greek remained the language of commerce, and of Christians such as St. Paul and the Jews of the diaspora, long after Greek political supremacy had come to an end. Latin continued to be the language of the church and therefore a West European of learning studied it long after Rome had declined and fallen...Greek and Latin were fixed languages with rigid rules that failed to adapt naturally. By 1940, Joachim von Ribbentrop and Yosuka Matsuoka negotiated the German-Japanese alliance in English. The real reason for the triumph of English is the triumph of the English-speaking United States as a world power. Therein lies a huge source of friction.
"French, once the world's leading language, has been put on the defensive since it now ranks only ninth in the world's languages. It has established La Francophonie, modeled on the British Commonwealth. France spends about $1 billion a year on various programs to promote the French language. French was once the language of the European Union, which now has English as its language. The Quebeckers have a population of 6 million in the 300 million English-speakers of North America. They are making what amounts to a losing battle to conserve their French language.
"The problem with English internationally is that it may not be spoken well. The widespread us of Singlish worries the authorities in Singapore. They worry that this poor level of English will lose them their big commercial advantage over rivals. Many other countries have this problem as anyone who has put in a phone call to a company and is answered by a native of India or the Philippines can testify.
"There is great concern that the broadening use of English will hasten the loss of other languages. Some say that by the end of the century, 50% of other languages will be gone. When a language dies, a bit of the world's culture and history dies with it. But multilingualism will grow. It has become commonplace among the least-educated people of Africa. It is now the norm among Dutch, Scandinavians and many other nations.
"Native English speakers, however, are becoming less competent at other languages: only nine students graduated in Arabic from universities in the US last year, and the British are the most monoglot of all the peoples of the EU. This lack of foreign language ability serves to isolate people from the literature, history and ideas of other peoples."
I am sure that most WAISers are well aware of the problems discussed in this post. I have had many experiences of this nature. I have never visited France except on occasions passing through on the train. In 1990, I went from Ireland to Spain by train and ferry. I was delayed in Le Havre for 5 hours waiting for the train. I decided to check my bag and walk around. I cannot speak French so I went to the bag check-in station and tried to check my bag. The attendant refused to serve me saying, "I cannot speak your language." The next year, Nancy and I went from Spain to Milan, Italy. Passing through France, the ticket-taker would not speak English but did speak to us in Spanish. This to me, indicated the Frenchmen's attempt to demonstrate that English could not replace French as the world's lingua franca.
I worked as the Fulbright advisor at the University of Oklahoma from 1981-86. The French would not accept students that were not fluent in French. The Germans, on the other hand, were willing to accept students who spoke no German. This reminds me of a professor from Peru who spent a Fulbright year at OU. He had previously spent a year in France. When I asked him about this experience, he replied, "The French are millionaires of the past."
I spent almost a month in Ireland and found that upper-class Irish spoke great English but that the English spoken by the man on the street was difficult to understand. During my time in Ireland, I was running an art workshop. We had a bus that took us to painting sites. At one point, some German students hitchhiked a ride with us. One of our group commented, "Those German students speak the best English I have heard in Ireland." Incidentally, the Irish bands do a wonderful job playing and singing American folk music.
Nancy and I spent quite a bit of time in Germany. Every time I called on the phone or spoke to anyone on the street, the chances were that most spoke good English, especially the younger people. I studied some German and had a German roommate at Stanford, but my competence in German was something like those of the actors in old comic strip, "The Katzenjammer Kids." I am not a linguist; I owe my prowess in Spanish due to the fact that I grew up in New Mexico in a totally bilingual environment.
We can't take a triumphant attitude toward English as a world language. There are some downsides; one being that there is less interest among our people to study languages. I have to join the authors of The Economist who end the article by stating that Esperanto is not the answer.
JE comments: Here's the link: http://www.economist.com/node/883997
The 364-kilo gorilla in the English (class)room is its absurdly illogical spelling, but as with pounds and miles, it's an anachronism that's here to stay. The Economist article states that perhaps 50% of the world's languages will be gone by the end of the 21st century. I'm not that pessimistic, precisely due to the local pushback against globalization that we've been discussing recently on WAIS. To cite just one example from my own household, Basque is healthier now than at any time in the last hundred years.
Yes, Esperanto is not the answer--but because of its ease of learning and its political neutrality, it should have been.
"The Triumph of English"
(Tor Guimaraes, USA
12/27/13 3:50 PM)
Ah, I love the English language, even though except for one course on popular literature I never had a class in it. Arriving in the US with a friend who spoke English fluently, I had to slug it out listening to TV (and later radio), and writing any new words in a self-made dictionary of English to Portuguese. I found the American people quite helpful and patient when replying to my incessant "what do you mean?" God bless America.
From the beginning I marveled at the simplicity and elegance of English grammar, so easy to learn. The difficulty was to roll my tongue pronouncing words like girl and world. Even more difficult was to fight the tendency to pronounce words of Latin and Greek origin that I was familiar with from Portuguese; the accentuation was the problem, i.e. independence versus independEncia. However, the real killers for anyone working to be fluent in English are the amusing idiomatic expressions.
Happy New Year!
JE comments: And Tor Guimaraes mastered English like a master! My congratulations to him, and all the best for the New Year.
I learned my English at my parents' knees, so to speak, but it's funny: the last time I studied the language formally was in high school. Somehow I managed to "test out" of English lit and composition as a college freshman, and in graduate school almost all of my coursework was in Spanish.
- "The Triumph of English"; Ostler's *Empires of the Word* (Luciano Dondero, Italy 12/27/13 4:28 PM)
Very interesting article forwarded by Richard Hancock (27 December).
I recommend the book Empires of the Word: A Language History of the World, an encyclopedic study by Nicholas Ostler (2006), surveying a few thousand years of the goings and comings of languages. It is fascinating and sobering.
Amazon writes: "Nicholas Ostler's Empires of the Word is the first history of the world's great tongues, gloriously celebrating the wonder of words that binds communities together and makes possible both the living of a common history and the telling of it. From the uncanny resilience of Chinese through twenty centuries of invasions to the engaging self-regard of Greek and to the struggles that gave birth to the languages of modern Europe, these epic achievements and more are brilliantly explored, as are the fascinating failures of once 'universal' languages. A splendid, authoritative, and remarkable work, it demonstrates how the language history of the world eloquently reveals the real character of our planet's diverse peoples and prepares us for a linguistic future full of surprises."
JE comments: Sounds like a book all WAISers will enjoy. Ostler's title couldn't be more appropriate, as the world's most-spoken languages have one thing in common: imperialism. (Among the top ten, we might exclude Hindi and Bengali from the imperialist category.)
- "The Triumph of English"; English in Latin America (Henry Levin, USA 12/27/13 4:50 PM)
Richard Hancock's piece on English (27 December) is very interesting to me because it combines his personal experiences with some background on the languages he addresses. I hope that JE and Richard will comment more on the extent of Spanish language proficiency and differences in its use and that of English in Latin America.
I have always been amazed at the variation in English proficiency, from zero to fluency, in Latin America, even among business persons and university graduates, and also the differences in pronunciation. I found that many undergraduates in economics in South American universities are required to use English texts that they don't understand in technical courses, compromising their mastery of material that they are capable of mastering, but throwing an obstacle in their way. I have had students from Argentina who were proud to tell me that they had used advanced texts in English for econometrics at their universities, more advanced than those used by typical undergraduates in the US. But, it turned out that they had to be placed in the lowest-level undergraduate courses in econometrics at Stanford because they did not understand much. Apparently, they had memorized material and simply spit it back on examinations without any understanding, an interpretation that they told me later. They also told me that many of the faculty requiring the use of English textbooks have great difficulty explaining the concepts in Spanish or Portuguese, suggesting that the instructors don't understand the English, despite the many cognates.
JE comments: I'll have to agree with Henry Levin, that while educated Latin Americans fare much better with English than we in the US do with Spanish, English proficiency is mixed and rather unimpressive. This is understandable, given the continental scope of Spanish and Portuguese. The reality is that people living in small nations surrounded by other languages tend to excel in language learning. Hence the success of the Scandinavians, the Dutch, and the Hungarians.
Ah, but if every speaker of Spanish learned English, I'd be out of a job!
Spanish Proficiency and Social Class in Latin America
(Richard Hancock, USA
12/29/13 3:42 AM)
In response to Henry Levin (27 December), I would say in general that Spanish in Latin America is affected by class much more in Latin America than English is in the US. For example, I visited a prep school in Bogotá operated by a Mrs. Uhl, a woman from Oklahoma. She told me that she felt that her school was a place where all classes could meet. She singled out a female teacher and a male teacher that we had met at her school. She stated that they would never meet and speak cordially to each other at any place except her school. I was flatly amazed. Both of these young teachers impressed me equally well and I never had any inkling that they came from different classes. Mrs Uhl went on to say that her staff could tell from what section of Bogotá a client came from by their accent.
I once read a Colombian etiquette book in Spanish which astounded me. The relationship between classes is a veritable dance minuet. If you sit next to someone on a train, you should, subsequently, not claim an acquaintanceship with that person unless you had been formally introduced to that person by a third person. If you pass someone on the sidewalk, the upper-class person is the one who can speak a greeting; the lower-class person would not dare to do so other than in response to the other's greeting. (This reminds me of a story told to me by a psychologist at the University of Oklahoma. He and other psychologists at OU were raising chimpanzees as humans in their respective families. He said that female chimps could unfailing determine the highest class in humans. They did this by making a sexual presentation to that upper-class person. He said that, if two profs and their dean visited a female chimp, the female, with great certainty, would make a sexual presentation to the dean!)
The man on the street in Puerto Rico speaks the poorest Spanish spoken in Latin America. I have no idea of why this is so. The Mexican on the street, I think speaks the best Spanish and has the best manners of any lower-class person in Latin America. These Mexicans also have much better manners than do our so-called "red-necks." This may be owed to the Revolution of 1910, which was really the only genuine popular revolution that has ever taken place in Spanish Latin America. Most of these so-called revolutions are really a change of dictators. Uruquay and Costa Rica are probably exceptions to the above statement.
Hispanics in the US can speak Spanish well, but reading and writing Spanish is a different matter. Nancy and I have a translation business and we frequently are asked to edit Spanish translations which are made by some Hispanic that is working for the firm. Most of these people have a pretty minimum of literacy in both Spanish and English. We also translate for firms that have a "twin plant" in Mexico. Many of these documents have English words that have been Hispanicized. One of the most common examples is "troka" for truck.
Incidentally, machine translation is to be avoided for anything other than looking up nouns. Recently, Nancy edited a machine translation for a firm that provides refrigerated body bags for deer hunters. This translation referred to the deer corpse as a "dead cow." Their translation of wild game was "fierce encounter." Machine translation is like getting a translation from a first-year Spanish student who uses the dictionary, giving the number one meaning as the only meaning of a word.
Paraquay is a mestizo nation with almost no tribal Indians, but the language of preference for all classes is Guaraní. Nancy and I went on a recruiting trip to bring Hispanics to Norman, OK to learn English. We were invited to a party of high school students. To our great amazement, we could not understand the conversations between any two students because they were speaking Guaraní to each other. They spoke to us in good Spanish, although we heard parents saying that they sent their children to schools in Argentina so that they would learn good Spanish.
When I was studying at Stanford (1955-59), one of our professors was Mr. Osorio who gave a description of the difference between Hispanic and American scholarship. He said the American Scholar was like the inch-worm in that he covered ground slowly and thoroughly. The Hispanic-American scholar was like the butterfly. Sometimes he enjoys a fortunate landing, other times he does not.
I could recount many similar stories. I hope my response to Henry Levin is satisfactory.
JE comments: A fascinating subject dear to my heart; when Richard Hancock has the chance, I'd love to hear a few more stories.
I would never say that Puerto Rico has the poorest Spanish, although with its near lack of consonants in the spoken form, it is certainly difficult for foreigners to understand. (We could say much the same thing about the other Spanish-speaking nations of the Caribbean.)
And how about those class-conscious chimps? College deans of the world, watch out!
- "The Triumph of English"; from Ric Mauricio (John Eipper, USA 12/29/13 4:12 AM)
Our friend in the Silicon Valley, Ric Mauricio, sends this response to Henry Levin's post of 27 December:
Henry Levin's piece on English made me chuckle, especially when referring to undergraduates in South American universities and their lack of understanding of economics. I find that most Americans don't even understand economics, even those who study it. I recall in the days before OPEC, when my economics professor explained to us that you cannot have a recession and inflation at the same time. Of course, being the naïve student, I raised my hand and asked, "why not?" He asked me to give an example of how it could possibly have a combination of both. Not having a historic premise to rely on, I went on to build a scenario whereby commodity prices were manipulated higher, thus causing the world to go into a recession due to a slowdown in commerce. His answer: "Not possible. First of all, commodity prices cannot be manipulated. It would mean cornering the global market in a particular commodity as to supply and demand. And the global market is too big for anyone to corner it." Three years later, we had OPEC. Hmm, I thought to myself, didn't I ask the question three years earlier?
As to Richard Hancock's piece, I believe that due to a confluence of wealth and global political movements, English became the pervasive language for world business. The British Empire was all business; from Europe to the US to Asia (Hong Kong and the Boxer Rebellion) to Africa, it was all mercantilism. When the British Empire's influence waned, the baton (oh, isn't that French?) was passed on to what would become the wealthiest empire in our history to date, the United States, an English-speaking country. So, along with McDonald's and Exxon, we influenced business speak in other parts of the globe. When I visited the People's Republic of China, I was pleasantly surprised to find that most people who had ambitions to interact with people on a global stage, all clamored to learn to speak English.
As for Tor Guimaraes, I have always admired people who are multilingual. I think that English is a challenging language to learn with its grammatical rules (I swear I cannot recall what a hanging participle is). But since English is my only language, I have always been aware of its idiosyncrasies. What I cringe at is when our own Americans commit grammatical errors. I mean, on TV, even broadcasters and interviewers always answer that they are "good." The correct word is "well" or "doing well." With texting at the forefront of our technological advancement, spelling has become atrocious at best; and whenever I correct people on their spelling, I try to keep it light by saying "Blame it on Reverend Mother." She was a stickler for grammar and spelling, bless her heart. Currently I am trying to learn Mandarin Chinese. With its four tones (as opposed to the 8 tones of Cantonese) and its Chinese characters, I am having a very challenging time of it. Perhaps I should learn Portuguese or Spanish instead.
By the way, is it true that George W. Bush said that the French didn't have a word like "entrepreneurship"? Of course, he was touting America's leadership for innovation, but, really Mr. President, did you say that?
JE comments: The myth- and urban legend-busting website Snopes claims the "French entrepreneur" quote is false:
I'm reminded of a similarly apocryphal anecdote, of the American tourist in Paris who asks how to say "bon appetit" in French.
Great to hear from Ric Mauricio. When he has the chance, I'd love to hear more about his Mandarin studies. Learning Chinese is on my Bucket List, but it will probably have to wait another decade or two.
(My own "Reverend Mother" was Mrs O'Connor, my 7th and 8th-grade English teacher. She learned me that English grammar real good!)
How Do You Say "Bon Appetit" in French?
(John Heelan, -UK
12/30/13 3:44 AM)
JE commented on 29 December: "I'm reminded of a similarly apocryphal anecdote, of the American tourist in Paris who asks how to say 'bon appetit' in French."
You may well jest! Working for multinationals for many years, I frequently entertained or was entertained by my co-workers from other countries. At one such dinner, I was being joshed by my European colleagues when the food arrived and the "bon appetits" rolled around the table. One of my friends said: "The problem with you monoglot Brits is that not only do you have lousy food (or maybe because of it!), you do not have a phrase like 'bon appetit,' 'buon appetito,' 'Guten appetit,' 'Mahlzeit,' '¡Buen provecho!' and so on."
So I taught them to say: "I hope the grub's good," a phrase that was always trotted out on similar occasions from thereon but probably has not yet appeared in foreign phrase books.
JE comments: I like it--as with "sockdolager," we need to revive the venerable Germanic "grub." "Bon appetit" has begun to sound pedantic, so in US restaurants you increasingly hear a simple "enjoy!"--although it was the French who gave us that verb in the first place.
Re: the trope of bad British food. Our Basque son learned English during two summers in the UK, and he has only good memories of the food there. I add this to make John Heelan feel better, but I'm not sure what else to conclude: is the cuisine of Guernica not much better, or (gasp), is there something seriously wrong with the Gringo-cum-Polish grub at WAIS HQ? Aritz is a flesh-and-potatoes aficionado and disdains anything leafy or green, so maybe he's a natural fit for the British palate.
"Bon Appetit" and "Bone-Hole with Fungus"
(Paul Preston, -UK
12/30/13 5:29 AM)
I'm sure we all have large supplies of anecdotes about languages. (See John Heelan, 30 December.) Regarding "bon appetit" (que aproveche in Spanish), I remember being present at a lunch in Madrid when one of the Spaniards asked, "¿cómo se dice ‘que aproveche' en inglés?" An English professional translator present replied, "I hope it chokes you."
At that time, I used to delight (indeed still do) in wonderful mistranslations on menus. From Madrid, I got "Rape a la marinera" translated as "rape, sailor's way," and in Rome "Osso bucco con funghi" translated as "bone-hole with fungus." I have vague memories of a performance of Bizet's Carmen at which the programme notes translated "Vivat le torero" as "All hail to the balls of the fighter."
I also remember with pleasure meeting in London someone from Seville who had passed several unhappy days in the capital. His exasperation with the treatment that he had received from those unable to understand his heavily accented Andalusian was expressed as follows "¡Qué excusa más cojonuda se han buscado los ingleses con lo del 'sorry,'" but rendered as "¡Qué ethcutha mah cohonuda thai han buhcado lo inglethe con lo del thorri."
Perhaps all too trivial for WAIS.
JE comments: Absolutely not! WAISers enjoy a translation screamer more than just about anything. Paul Preston's encounter with Roman fungus reminds me of a gem of a menu I "expropriated" from a fancy restaurant in Veracruz, Mexico. One of its mouth-watering offerings was "fungus's cream." The good folks at Campbell's call it Cream of Mushroom.
"Rape" (monkfish) is one of the most common fish types served in Spain and Portugal. It is not seen very often in the US. Anglophones visiting the Peninsula tend to recoil at the thought of dining on "fried rape."
All the best to Paul for the New Year! Or as my students might say, "Feliz Ano Nuevo" (Happy New Anus!).
on Monkfish (Rape)
(Henry Levin, USA
12/30/13 11:12 AM)
The "foe paz" of language, very funny. (See John Heelan and Paul Preston, both from 30 December.)
However, some advice on rape. Monkfish is one of the most delicious fish and is usually available at Whole Foods markets in filets. In Spain the whole fish is displayed. In the US the fish is so ugly that it would not appear to be palatable, so it is cut into slices for display. In this Spanish home it is cooked delicately, a white fish that does not require much cooking time, and is broiled or sauteed with onions, bell peppers, olive oil, garlic, sherry, and sometimes, grapes or almond slices. Of course, it is not pronounced like rape as in "violar," but "rahpay," so the association never occurred to me in the decades that I have been enjoying it.
I hope that one of our Italian friends explains the origins of spaghetti a la puttanesca, a dish that seems to have a "hoary" tale behind it.
JE comments: Whole Foods is affectionately known as "Whole Wallet" around these parts, but they do have an excellent selection of gourmet vittles. And yes: the monkfish is no looker. As Hank Levin rightly observes, we Americans demand our fish in impersonal, sanitized filets. Here's an image grabbed from the 'Web:
The monkfish (rape): "Eat me if you dare."
(David Gress, Denmark
12/31/13 5:54 AM)
In response to Henry Levin (30 December), the old story goes that the puttanesca sauce (with two t's; we're speaking Italian here, not Spanish) originated in Naples among the puttane (girls of easy virtue or, as the Germans call them, die käuflichen Mädchen) of that port. However, I've read that story in several cookbooks, or, as our British friends like to say, cookery books, so it's probably just another, if very old, urban legend.
The best salsa puttanesca I ever ate, bar my own, was at a long-lost Italian diner on the angle corner of Greenwich and Eighth Avenues in Manhattan, more than 30 years ago.
Clue: plenty of capers, good anchovies, and really good San Marzano tomatoes. A few cuts of good green chili won't hurt either.
JE comments: I've added the extra T to Henry Levin's post. Eugenio Battaglia (next in queue) has also sent a rendition of salsa puttanesca's origins. The general contours of the stories are the same, but Eugenio attributes it to Roman (not Neapolitan) brothels.
Best wishes to David Gress for the New Year!
- Puttanesca Sauce (Eugenio Battaglia, Italy 12/31/13 6:43 AM)
A very important question from Henry Levin (30 December): what are the origins of "spaghetti alla puttanesca"? Several versions exist.
The recipe is from the region around Rome, and besides spaghetti it includes salted anchovies (of course with the salt washed away), parsley, tomatoes, olive oil, capers, and for some people also hot red pepper.
You can find the recipes and the different versions of the sauce's origins on Wikipedia. However the version that I prefer is the following:
In the old days when the brothels were open in Italy, it is said that in one brothel on the outskirts of Rome the customers from the country would bring in their produce. Late in the evening with the girls they would enjoy a nice "spaghettata"--spaghetti alla puttanesca.
At that time there was a good deal of respect for the ladies inside the brothels. Just today I was reading a book Guerra in Camicia Nera (War in Blackshirt), the story of fascist volunteer, Giuseppe Berto, in the war in North Africa, in which he speaks about the young Italian ladies of Benghazi: "The girls are dear friends... Those who remained in Cirenaica during the (first) British occupation have helped the Italian soldiers missing in action, collected and transmitted intelligence, and kept alive the hope of the return of the Italian Armies. It is said that some even received medals of honor."
JE comments: I prefer mine at my G-rated home, but it's hard to beat a good spaghettata. At WAIS HQ we use the redundant, double-plural Spanish rendition: espaguetis.
Comfort food is specific to individual cultures, so it's a very relevant topic for WAIS discussion. But for now I offer the following: nothing defines "comfort" better than a hearty plate of espaguetis.
The waning year 2013 is down to its last eight hours in Western Europe. I send all the best to Eugenio Battaglia. It's been great getting to know you this year, Eugenio, and I look forward to WAISing together in 2014--if everything goes as planned, we may even have the chance, this summer, to meet in person.
- A Cricket Joke (John Heelan, -UK 12/31/13 9:28 AM)
Apropos the stick that we monoglot Brits take from "Johnny Foreigner" for our (allegedly) questionable food, repressed emotions and stiff upper lips, it was reassuring to read the following letter in this week's London Review of Books demonstrating that, perhaps, our unfailing good manners are at last rubbing off (or should I say "orf"?) on said foreigners.
Like Chris Sansom's story about translators, mine too is possibly apocryphal (Letters, 19 December 2013). A friend of a friend was the personal staff officer (PSO) to an air marshal. The great man was told, at short notice, to address a NATO meeting. He said he'd use the speech he'd delivered recently at the RAF Staff College.
The PSO pointed out that it contained a joke about cricket which only the Brits would understand. He was assured that all would be well.
When he got to Brussels, the PSO took a copy of the speech to the instantaneous translators. They agreed that the joke was impossible, but said they knew how to cope.
When the air marshal approached the difficult section, the delegates heard in their headphones: "The air marshal is about to tell a joke. It is about cricket. It cannot be translated. In the interests of NATO solidarity, please laugh when we say--'Laugh.'"
On the way back to London, the air marshal said: "Didn't the joke go well. I told you it would."
JE comments: Could there be any other nation on earth where you'd find a gent named Clive Rainbow? Cricket humour (not humor) epitomizes the untranslatable, although I suppose the joke would also be a hit in India and Pakistan. Here in the US, the only cricket reference I can think of in popular speech is the sticky wicket. According to Wikipedia, Pres. Obama even used the expression in a 2010 state visit to Australia.
- How Do You Say "Bon Appetit" in French? (Norman Tutorow, USA 12/31/13 7:05 AM)
In response to JE's question of 30 December...
how about Bo na petí?
JE comments: Great to hear from one of the very first WAISers I met, historian extraordinaire Norman Tutorow. I wish him and Evie all the best for the New Year.
In my adolescent days I was not immune from sophomoric behavior. We used to say "Bone Ape-Tit" (insert Beavis laughter here). That's not French; that's Missourian.
- How Do You Say "Bon Appetit" in...English? (Robert Gibbs, USA 01/01/14 10:56 AM)
In answer to the WAIS Question of the Week, how about this old British-American: "Rubadubdub--Thanks for the Grub"?
JE comments: Grub time is upon us at WAIS HQ, but not before I wish Bob and Rose Gibbs the very best for the New Year!
- Recession with Inflation: The Argentine Model (Rodolfo Neirotti, USA 12/31/13 4:00 PM)
Ric Mauricio wrote on 29 December, "I recall in the days before OPEC, when my economics professor explained to us that you cannot have a recession and inflation at the same time."
I believe that the gurus running the economy of Argentina are the experts on this issue. They have demonstrated that it can be done.
Happy New Year to all!
JE comments: Yes, Argentina has had many bouts of stagflation, including the present. I had the chance to experience this phenomenon personally in the late 1980s, the years of the ill-fated "austral" currency.
Best 2014 wishes to Rodolfo Neirotti and his family.
New Year's Report on US Economic Health
(Tor Guimaraes, USA
01/01/14 6:46 PM)
If Ric Mauricio on 29 December correctly recalled his economics professor explaining that "you cannot have a recession and inflation at the same time," his professor needed retraining. Inflation is a monetary phenomenon where too much money pursues too few goods, while recession is defined as economic activity below the trend line for a certain period of time.
My August 9, 2009 social political economic forecast explained, "What must be firmly kept in mind is that the consumer economy represents 70 percent of the US economic system, it is driven mostly by middle class consumption so bailing out financial institutions and big businesses has only partial/indirect effect. Further, this economic crisis is not an overnight phenomenon, it is the culmination of at least a decade of unbridled capitalism, political corruption, financial fraud which delivered to the American people a slowly increasingly higher cost but lower-quality standard of living, wider disparity between rich and poor, destruction of the social/economic safety nets, multi-million job losses, etc. Needless to say, this cannot be fixed with a magic wand. Last, our government agencies have run out of tricks which can effectively rescue the economy. Having been playing a shell game by having flooded the world with US dollars (which some preferred companies can borrow for practically nothing) and concurrently declaring their commitment to a strong dollar. If after this largesse all we have are higher deficits, big companies milking the system or doing business mostly internationally, without an economy which re-learned how to create millions of new decent-paying jobs in the next decade, the next round will be stagflation and a situation much too disgusting to contemplate."
Unfortunately, despite the DOW at 16,500+, I have no reason to change my outlook. Recent widely reported information is far from rosy, confirming my gloomy outlook. Bloomberg has surveyed the topic and several respectable sources have made some critical observations:
In the past families found ways to deal with the squeeze on earnings. Housewives joined the workforce. Husbands took second jobs and labored longer hours. Homeowners tapped into the rising value of their properties to borrow money to spend. Those strategies finally may have run their course, as women's participation in the labor force has peaked and the bursting of the house-price bubble has left many Americans underwater on their mortgages. Households stepped up borrowing to help make ends meet, until that avenue was shut off by the collapse of house prices. About 10.8 million homeowners still owed more money on their mortgages than their properties were worth in the third quarter, according to Seattle-based Zillow, Inc.
By almost two to one--64 percent to 33 percent--Americans say the US no longer offers everyone an equal chance to get ahead, according to the latest Bloomberg National Poll. The lack of faith is especially pronounced among those making less than $50,000 a year, with close to three-quarters in the December 6-9 survey saying the economy is unfair. Adding to challenges for lower-income individuals is the loss of unemployment benefits, which were supporting 1.3 million long-term jobless people in the US before their expiration Dec. 28, while Congress failed to pass a renewal before adjourning earlier this month.
The diminished expectations have implications for the economy. Workers are clinging to their jobs as prospects fade for higher-paying employment. Households are socking away more money and charging less on credit cards. And young adults are living with their parents longer rather than venturing out on their own. Without increased demand, companies are not hiring new workers no matter the tax incentives and reduced regulations.
On the other hand, record-high stock prices are enriching wealthier Americans, exacerbating polarization and bringing income inequality to the political forefront. Even independent government agencies like the Securities and Exchange Commission and the Federal Reserve have been dragged into the debate. Income inequality has been rising more or less steadily since the mid-1970s. The Gini coefficient, a broad-based measure of inequality, stood at a record high last year, according to Census Bureau data dating back 46 years.
It's the richest of the rich who are reaping the most benefit as an increasingly interconnected and technologically sophisticated world puts a premium on those perceived to have the highest skills--a phenomenon dubbed "winner take all" by Cornell University Professor Robert Frank. Government policies also play a role. The Treasury Department, for instance, taxes capital gains racked up by the wealthy on the sale of shares, bonds and other assets at about half the rate of ordinary income. The top 1 percent captured 95 percent of the gains in incomes in the first three years of the recovery, based on analysis of tax returns.
"Income inequality and a shrinking middle class are real and important issues that our country needs to address," Michael J. Sacks, chief executive officer of Chicago-based Grosvenor Capital Management, which oversees $23.8 billion in assets, said in a comment letter to the agency. The pay ratio data "can be helpful in allowing investors to more accurately judge the effect of pay structure on company performance, inform investors' votes on executive pay and help regulators." Across companies in the S&P 500, the average multiple of CEO compensation to that of rank-and-file workers is 204, up 20 percent since 2009, according to data compiled by Bloomberg in April.
The Fed also has been caught up in the debate over growing income disparities. Lawmakers from both parties have questioned whether its bond-buying policy, called quantitative easing, has benefited the rich at the expense of those less well-off by boosting prices of stocks and other assets. "Wall Street is roaring and Main Street is struggling," Representative Kevin Brady, a Texas Republican and chairman of the Joint Economic Committee, said in an interview. "Quantitative easing has really exacerbated income inequality." The S&P 500 stock index has risen 29 percent in 2013. The richest third of US households account for 89 percent of all equities ownership, according to the Center for Retirement Research at Boston College.
The growing calls for action to reduce income inequality have translated into a national push for a higher minimum wage. Fast-food workers in 100 cities took to the streets Dec. 5 to demand a $15 hourly salary. Latoya Caldwell, 30, of Kansas City, Missouri, is among those who took part. She's been employed at a Wendy's restaurant for six years and earns the state's minimum wage of $7.35 an hour. Working 25 to 30 hours a week, she has asked for more shifts to help support her four children, with whom she lives in one bedroom of her aunt's house. More older workers--including one over 65 years--as well as college-educated are joining her team, showing that rough economic times have swelled the ranks beyond the typical teenager at the register, Caldwell said. "We're making barely enough to even survive," Caldwell said. "We're not even surviving--we're dependent on state assistance while our CEO makes $5.8 million and he's sitting in an office."
"The middle has really collapsed," said Lawrence Katz, an economics professor at Harvard University in Cambridge, Massachusetts, and a former chief economist at the Labor Department in Washington. Even those with college degrees are having trouble keeping up, he said. While they earn more than those with less schooling, they've seen no real wage growth in recent years. The median income of men 25 years of age and older with a bachelor's degree was $56,656 last year, 10 percent less than in 2007 after taking account of inflation, according to Census data.
JE comments: Not a gleeful economic picture as we embark upon the new year. A question for the Floor: has Quantitative Easing actually made income inequality worse, as Rep. Kevin Brady suggests? I'll have to think about that one a bit more.
New Year's Report on US Economic Health; from William Kyburz
(John Eipper, USA
01/02/14 3:18 AM)
Our reader in Rochester, New York, William Kyburz, sends the following response to Tor Guimaraes's post of 1 January:
Hope all is well with WAISers, and that the New Year brings happiness.
Tor Guimaraes misses a very simple point about the US economy and the American system. When picked at random, over time, any American may find himself/herself at the bottom 25% and at the top 25% over their lifetimes. When you compare this to most economic systems, such as the one in Chile, you do not see this pattern of movement of an individual through various economic states. Once poor always poor, or vice versa, is the rule in most of the world.
I point to a simple statistic that Tor failed to mention: US small business growth, and the overall entrepreneurial spirit of Americans in general. Over two hundred years Americans have had the persistence and determination to improve their lot. A good source, I would suggest in reading, is History of the American Economy by Gary M. Walton and Hugh Rockoff.
Simply put, small business today is hiring. I foresee the unemployment rate declining to about 6.5% in 2014. This extra income, on the parts of individuals, will slowly process itself through our monetary system.
Tor does mention a grave concern of mine. Can the US really maintain the dollar as the premier currency? I think not, in the long run. The implications of the US dollar losing its stature are quite scary.
Hence, I maintain a portfolio of at least 25% in diamonds, gold coins, and real estate. In a world-wide economic collapse, diamonds, real estate (read: ownership of land) and guns, in my opinion, will be the new currency.
I continue to be optimistic for the foreseeable future, but my long term view is pessimistic.
JE comments: Best wishes for the New Year to William Kyburz. Wow, things will have to get very bad before we we conduct our monetary transactions in diamonds, land and guns. In such a Hobbesian milieu, it seems to me that the people with the guns could simply take your land (and your gold and your diamonds). Shades of the post-apocalyptic Mad Max, perhaps, where gasoline was the preferred medium of exchange?
Has Quantitative Easing Exacerbated Income Inequality?
(Jordi Molins, -Spain
01/02/14 8:26 AM)
When commenting Tor Guimaraes's post of 1 January, JE asked: "has Quantitative Easing actually made income inequality worse, as Rep. Kevin Brady [R, Texas] suggests?"
McKinsey has written a report on the effects of QE:
On page 13 of the full report, McKinsey finds both the central government and non-financial corporations are better off after QE, while households are worse off. This conclusion applies the same for America, the eurozone and the UK.
On the other hand, on page 22 McKinsey disaggregates the (overall negative) effects on households, by age: young Americans are better off after QE (few assets, but lots of debts), while older Americans are worse off (many assets, few debts).
The final result is not clear-cut: while households are worse off after QE, suggesting an increase in inequality, within households the overall effect is an increase of "equality" (older Americans are, on average, richer than young Americans).
But, anyway, this is not the important question. The relevant question is how, and if, and when, developed market economies will be able to survive and thrive without QE. There are only three possible options to accomplish debt sustainability: growth, inflation or haircuts. Growth is the "nice" solution, but developed market governments (at least, in Europe) are busy implementing measures that in fact curtail growth.
JE comments: I'll have to reveal my layman's thinking here, but how exactly does QE hurt households, unless it's accompanied by inflation, which so far hasn't been the case? Is it due to the low interest rates for deposit accounts, CDs and the like? Even so, wouldn't this balance out, due to lower rates on home mortgages and consumer debt?
All the best to Jordi Molins for the New Year!
How Does Quantitative Easing Hurt Households?
(Tor Guimaraes, USA
01/04/14 3:27 AM)
In reply to Jordi Molins's 2 January post, JE commented: "I'll have to reveal my layman's thinking here, but how exactly does QE hurt households, unless it's accompanied by inflation, which so far hasn't been the case? Is it due to the low interest rates for deposit accounts, CDs and the like? Even so, wouldn't this balance out, due to lower rates on home mortgages and consumer debt?"
First, for a country with little inflation, prices seem to have gone up a lot in the last decades including now. I have no confidence in our government's measure of inflation. On the other hand, there is no doubt that anyone who is qualified to borrow money would benefit from low interest rates. The key word here is "qualified," so if you lost your job, are at risk financially, or have no collateral all, the cheap money will be available only to others. To find enough qualified borrowers has been a problem since the financial collapse.
Another problem is that Quantitative Easing makes income inequality worse, because most of the benefits went and are going to the few big banks which can borrow money at practically zero percent and lend to everyone they want, or engage in speculation, with only some indirect benefit to the rest of the economy. Furthermore, capital gains from such investments are taxed at half the normal rate. Last, the cheap money from the Fed kept interest rates artificially low (sometimes below inflation for the short term), so savings and any fixed-rate accounts paid practically nothing and bond investors stay worried that the value of their fixed income investments will collapse when the Fed allows the short-term market to work more freely. The economic conditions are so bad that despite the money flood, prices (inflation) are not going up and employment is lackluster at best. People with money to lend or invest are afraid of the uncertainty of this new situation for America.
Last, commenting on my 2 January post, JE asked "As long as there is virtually no inflation, aren't low interest rates only (or at least mostly) a good thing?" Absolutely not. Interest rates and inflation are part of a much larger theater. The present situation tells me there is something very wrong with our economy. People don't seem to know what to do with this much cheap money. There is a glut, not enough demand for goods and services, thus not new jobs, just more cost-cutting and speculation wherever possible. In a more healthy "normal" economy, this artificially low level of interest rates would be impossible, since inflation would be raging and someone like Paul Volcker would be taking over. Furthermore, for the reasons discussed above, this situation is detrimental to the nation as a whole.
JE comments: Tor Guimaraes sees the low interest rates as a symptom of our malaise; if things were going better in the economy, the rates would already have been raised to keep inflation in check. Fair enough, but I was referring to the stimulative effects of the cheap money. Put another way, if the interest rates were higher, consumer demand would be even less than it is now. Picture, for example, what the housing market would look like if interest rates were significantly higher.
More Thoughts on Interest Rates
(Tor Guimaraes, USA
01/05/14 2:01 PM)
In my 4 January post I explained that "interest rates and inflation are part of a much larger theater. The present extremely low interest rates and little inflation tells me there is something very wrong with our economy... In a more healthy ... economy, this artificially low level of interest rates would be impossible, since inflation would be raging and someone like Paul Volcker would be taking over."
To that JE replied: "Tor Guimaraes sees the low interest rates as a symptom of our malaise; if things were going better in the economy, the rates would already have been raised to keep inflation in check. Fair enough, but I was referring to the stimulative effects of the cheap money."
In such terms, what I said was that one indirect symptom of our economic malaise is the combination of extremely low interest and low inflation.
JE also stated, "if the interest rates were higher, consumer demand would be even less than it is now. Picture, for example, what the housing market would look like if interest rates were significantly higher."
That statement is correct but, if free money is so good for the economy, consider for the sake of illustration the extreme case where hypothetically the Fed goes democratic and made interest rates practically zero for all citizens and institutions in the country. What do you suppose the results would be?
JE comments: Good question. For now, I suppose that universal "free money" would take a lot of business away from the banks!
I'd love to hear other WAISers' thoughts on this topic. As our first question: are extremely low interest rates detrimental to an economy?
Are Extremely Low Interest Rates Detrimental to an Economy?
(Jordi Molins, -Spain
01/06/14 3:32 AM)
When commenting Tor Guimaraes's post of 5 January, JE asked: "Are extremely low interest rates detrimental to an economy?"
A first answer to this question is: economists do not know. For example, the Fed's Bill Dudley recently stated:
"We don't understand fully how large-scale asset purchase programs work to ease financial market conditions."
And Arthur Laffer, a famous American economist, recently said, regarding his 2009 forecast that Quantitative Easing would lead to hyperinflation (but it has not, so far):
"Usually when you find the model this far off, you've probably got something wrong with the model, not that the world has changed (...) Inflation does not appear to be monetary base-driven."
I prefer to analyze markets using institutions (and game theory to describe their interactions) and their incentives, not macroeconomics. Let me emphasize Nassim Taleb's anti-fragility theory: institutions should be anti-fragile against future "black swans," i.e., if something big and unexpected happens, institutions should be designed in such a way that they survive, and even thrive, under that scenario.
Reducing interest rates is such an strategy: the "Greenspan put" or "Helicopter Ben" are just names given to the strategy whereby the Fed reduces interest rates when there is an external supply shock affecting negatively the economy.
However, now we are in exceptional times, since interest rates are already at the zero bound on the short end, and at the long end, the Fed is already considering "tapering" (i.e., reducing the scale of monetary accommodation). As a consequence, that institution (the Fed) is moving from being anti-fragile (reduce interest rates when needed) to being directly fragile (maintain, or even increase, interest rates when needed). That is bad, but basically nothing can be done about it, since we are bordering the limits of that powerful tool.
History shows us that big crises do not happen when interest rates go down, but just the opposite, when suddenly, interest rates go up and institutions are unable to reduce them accordingly. The current institutional arrangement among Developed Markets does not seem to be fully aware of that.
JE comments: "Inflation does not appear to be monetary base-driven": here's the Dismal Science at its dismalest! Laffer's prediction is one that also appeared repeatedly on the pages of WAIS--that Quantitative Easing would lead to hyperinflation. I suspect Jordi Molins is on the right track: we need to look at institutions and human behavior, not macroeconomic models, to begin to understand what's going on.
Thoughts on Interest Rates and QE; from Ric Mauricio
(John Eipper, USA
01/06/14 4:00 PM)
WAIS reader and occasional commentator Ric Mauricio sends the following:
On January 1, 2014, Rodolfo Neirotti wrote: "Ric Mauricio wrote, [...] 'I recall in the days before OPEC, when my economics professor explained to us that you cannot have a recession and inflation at the same time.' I believe that the gurus running the economy of Argentina are the experts on this issue. They have demonstrated that it can be done."
My response: This was before the word or scenario called stagflation was ever experienced in the US, so you would have to forgive this professor for having a regurgitation of what he was taught.
Tor Guimaraes wrote: "William Kyburz [observed] that my 1 January post missed 'a very simple point about the US economy and the American system. When picked at random, over time, any American may find himself/herself at the bottom 25% and at the top 25% over their lifetimes.' This is very difficult to argue with, except William is making the same mistake as in Ric Mauricio's statements [of] December 18. These statements are made from an individual perspective, not the economy as a whole. Yes, we have successful entrepreneurs all over the world; also we have massive speculation and lotteries which can make instant multimillionaires. The issue in my posts is quality of life and standard of living for all the members of society."
My response: Perhaps my mistake is in looking at life on the bright side based on my own family's experience of going from the bottom 25% to the top 5%, and perceiving that many of citizens classified in the bottom 25% still continue to have cars, TVs, cell phones, and food. Yes, I admit there are those in the bottom 5% who are in really dire straits; perhaps due to circumstances beyond their control or perhaps not. Recently, I met a person who inherited a good deal of money from the death of his grandmother. What did he do? He bought a houseboat and a Porsche (a regular Porsche, not a collectible). Both are depreciating assets with high maintenance costs. I guarantee that this person will be in the bottom 5% in the near future. I know many millionaires who do not drive expensive cars or own expensive houses (although here in Silicon Valley, our home prices are extremely pricey, but that is due to the demand from highly paid employees).
Perhaps I am a little naïve in thinking that here is this person who is given a large opportunity to improve himself (he has been unemployed for 8 years), and yet he does not take that opportunity.
Tor Guimaraes further wrote: "New business creation is indeed very important but not enough. According to new data from the Kauffman Foundation and the US Census Bureau, startups accounted for three percent of total employment from 1980-2005."
Response: As Mark Twain warned us about statistics, we need to be very careful on how we read them, especially government statistics. While the three percent looks low, it is more than 50% greater than the overall job growth rate (1.8%) in the same time period, according to the BDS. From the same report, the west and southwest areas of the US experienced an average 12% job growth from startups in the same time period. And recall, that this is a measurement of startups. At some point, these startups are no longer classified as startups; they now have become the Apples, Googles, Genentechs, eBays, Facebooks, Twitters and hire even more employees.
But now to address the question at hand as posted by Jordi Molins on 6 January: "Are extremely low Interest rates detrimental to an economy? "I again chuckled at Jordi's reference that economists do not know, quoting the Feds' Bill Dudley. Now let me ask you, if the Fed doesn't "understand fully how large-scale asset purchase programs work to ease financial market conditions," are we not in trouble? Here we have the captain of the ship at the till, and yet they don't understand how to drive the ship? Then, of course, there is economist Laffer's prognosis that has not come true. Something is logically awry. Research has shown that 9 out of 10 economists are often wrong in a given year and the 10th economist who was right becomes one of the nine in subsequent years. So why do we even listen to the economists if they don't even understand what is going on? Perhaps I am being cynical (after 45 years watching the global investment markets) when I believe that the Fed does understand how QE works, but they are loath to tell the world what QE really does.
Here's what QE does: The Federal Reserve purchases bonds, which pushes more money into the banking system. Where are they getting this money? They are printing it. The banks borrow this "free" money and lend it for real estate deals at 3 to 4%. If you do this all day, you will make money. But wait, there's more. You see, businesses are borrowing at slightly higher rates, but in turn, expand their business and employ more people. It gets even better. Credit card companies lend to consumers at rates up to 36%. In my hometown, we have the headquarters of the largest and very profitable credit card company, Visa. You should have seen the holiday bash they threw. Extremely profitable, folks.
But wait, retirees and individuals are only earning 0.6% on their savings. Ha, do you see where this thread is going? You do not want to be a saver (actually, in this case, you are a lender, since you are lending that money to the bank for that amount and they, in turn, lend it out to others at 3% to 36%).
Response to Tor Guimaraes regarding a healthy economy and higher interest rates: Higher interest rates and inflation would not indicate a "healthy" economy. A look at the history of the Weimar Republic's economics would illustrate how devastating that is to most people. Forgive me for pointing out that government statistics are manipulated to show what they want you to see; the Consumer Price Index is kept artificially low in order to keep Social Security recipients' checks from increasing too quickly. Let me ask our audience if the cost of their everyday expenses has only gone up 2%? Has your grocery bill only gone up 2%? Has your health care premium only gone up 2%? The government is now using the "Chained CPI" that moderates the increase to Social Security recipients even more. According to ShadowStats.com, the actual inflation rate is more like 10 to 12%.
Yes, because of the printing of new money, the currency is being devalued. Real inflation is a reflection of this. Do not make the mistake of comparing the dollar to other currencies. The media and currency markets highly publicize the movement of currencies against each other. But the truth is, all fiat currencies are continuously being devalued and manipulated. I laughed when President Obama "accused" the Chinese of manipulating their currency. Of course they are, just like the US and other countries do. It is a way for countries to keep their export markets competitive. If their currency becomes too highly value (a measure of this is called PPP or Purchasing Power Parity), the manufacturers in that country will become penalized in the world markets (their products will become too expensive) or in an example, Switzerland became too expensive for foreign travelers, so they devalued the Swiss franc.
If one holds onto their fiat currency, one will lose against inflation. The Fed understands this, despite their denial (referring to Bill Dudley). By the way, the Federal Reserve is a privately held institution, not a government agency. And the shareholders of the Federal Reserve are not altruistic in their mission. They're in it for the money. Who are shareholders? Wall Street firms and banks.
So what is one to do? Act like the banks, the credit card companies, and businesses who borrow (it's called leverage; this includes real estate). Better yet, own the banks, the credit card companies, and businesses. In summary, QE is good for these institutions, but not so good for regular individuals who don't act like them. By the way, if one thinks that the new Fed chair will be any different from her predecessors, don't be fooled. These Fed guys like their jobs and they will do anything to keep them.
JE comments: A very informative comment on interest rates, inflation, and QE; my thanks to Ric Mauricio. Two questions: Janet Yellen won Senate confirmation this week to head the Fed. Might we expect any policy changes under her leadership? Ric doesn't think so. And what about US inflation? Are we being fed a line of bull with the 2% official claim?
Thoughts on Interest Rates and QE
(Tor Guimaraes, USA
01/07/14 8:13 AM)
Most of Ric Mauricio's statements (7 January) are in line with my opinions, but two points need clarification.
First, the cheerful statement "At some point, these startups are no longer classified as startups; they now have become the Apples, Googles, Genentechs, eBays, Facebooks, Twitters and hire even more employees " needs to be tempered by the fact that unfortunately business startups suffer from a very high mortality rate, estimated between 85 to 90 percent.
Second, Ric's "response to Tor Guimaraes regarding a healthy economy and higher interest rates: Higher interest rates and inflation would not indicate a 'healthy' economy. A look at the history of the Weimar Republic's economics," completely misrepresented my original statement, which was, "In a more healthy 'normal' economy, this artificially low level of interest rates would be impossible, since inflation would be raging and someone like Paul Volcker would be taking over."
JE comments: Fair enough. We should remember that for every Google or Facebook, there were scores of Go.com, Webvan, or Pets.com. The success-to-oblivion ratio for Internet startups is probably worse than for new restaurants, and more or less equals that of Spanish conquistadores: the chances were very slight that you would end up like Cortés or Pizarro.
I'd like to hear WAISer comments: what is your "favorite" failed .com start-up? Perhaps--as painful as this might be--one for which you "took a bath," around 2000?
on Startups; from Ric Mauricio
(John Eipper, USA
01/08/14 5:15 AM)
WAISers have become well acquainted with Ric Mauricio. He sends this reply to Tor Guimaraes's post of 7 January:
Tor, good points.
As for the high mortality rates of startups, it is true, which is why the net rate of job creation is so low for that category. However, the successful startups do go on to become substantial companies. I could not find any statistic in that study regarding successful startups that are no longer classified as startups, but looking at the headcount of the successful companies, I would venture to say that these companies' contributions to the labor force are quite substantial.
On the same subject, one of my responsibilities during the dot-com era was analyzing startups. I can tell you that 90% of them did not have a business model that would ever prove profitable. Many of these companies went IPO despite my reports. Why? Well, a return on capital is a good thing, and what better way to do that then to put out an exciting story and take advantage of the greater fool theory? Fortunately, I was able to separate the wheat from the chaff, so I survived the dot-com meltdown. But as a Controller of an Internet startup, I could tell you that it was the most stressful part of my life. By the way, the startup failed.
I made good money shorting a company that is not technically an internet company: Worlds of Wonder, maker of Teddy Ruxpin. It IPOed at 16. Traded initially at 27. Went to 29. Then started going down and down and down to zero.
As for interest rates and healthy economies, we can say there is a mixed bag. A random look at countries shows that countries with high GDP growth rates may or may not have high interest or inflation rates. For example, Panama has one of the highest GDP growth rates at 10.7%, yet its Central Bank Rate is only .75% and its inflation rate is moderate at 3.8%. China has a GDP growth rate of 7.8%, CBR of 6%, and CPI of 3.02%, so it is relatively "normal." Indonesia is interesting in that its GDP growth rate is 6.2%, CBR is 7.5%, but its CPI is super low at .38%. India has a moderate GDP growth rate of 3.2%, CBR rate of 7.5%, and a CPI rate of 11.47%. Don't give me any rupees, please. The US has a 2.8% GDP growth rate, a CBR of .25%, and CPI rate of 1.24% (if you believe that statistic). Japan is in dire straits despite its successful corporations such as Toyota and Sony. GDP growth is an anemic 1.9%, CBR is only .10%, and inflation is 1.61%. What surprised me was Switzerland. Everything is so expensive there, but their inflation rate is only .08%. Their economy seems to be healthy, but when you look at GDP growth, it is only 1%. And their CBR is as low as ours: .25%. All these statistics are courtesy of global-rates.com and The World Bank.
Looking at the statistics, it appears that we cannot make any blanket statement regarding the health of an economy and its correlation to high or low interest or inflation rates. But you may want to look at investments in Panama and Indonesia.
JE comments: Ric Mauricio must have done some squirming when Worlds of Wonder rose to $29. Glad his bet paid off, although I feel sorry for Teddy Ruxpin. I've never had the stomach to short stocks, and this is undoubtedly a good thing. Remember my smugness when Facebook sank to $29 from its IPO of $38? See this post of 30 May 2012: http://waisworld.org/go.jsp?id=02a&objectType=post&o=70095&objectTypeId=63433&topicId=239
FB is now trading in the upper $50 range. Good thing I sat this one out; otherwise I'd be featured in Mike Bonnie's recent posts on poverty in America.
Six Economic Lessons
(Tor Guimaraes, USA
01/08/14 2:35 PM)
Once again I find Ric Mauricio's statements (8 January) in line with my opinions, except for one: "Looking at the statistics, it appears that we cannot make any blanket statement regarding the health of an economy and its correlation to high or low interest or inflation rates."
There are many lessons about economic growth, interest rates, and inflation, learned by observing the social-economic history of many countries over the years. Here is a subset I have learned:
1. Excessive inflation is a horrible thing to live with for any country, so interest rates must be raised to fight that.
2. Deflation is much more difficult to manage than inflation, because lowering rates without corresponding economic growth becomes counterproductive after a while.
3. A growing economy tends to produce inflation which must be kept under control. In a growing economy extremely low levels of interest rates would be impossible, since inflation would explode.
4. Interest rates and inflation must not be viewed in a vacuum but as part of a much larger theater (the entire social economy).
5. The value of any currency is sooner or later determined by market supply and demand. The US has been extremely lucky that its dollar is a reserve currency; otherwise no one would want to keep it.
6. Extremely low interest rates enabled the US economy to survive the last major financial crisis, but despite little inflation, the market should slowly be allowed to play its role determining the proper level for interest rates lest the slow erosion of the US dollar continue, and also the US social-economic problems I mentioned in my 4 January post.
JE comments: I think I get this, except for Tor Guimaraes's point #2. I still can't wrap my mind around why deflation is such an insurmountable problem. Just print money and distribute a stack to every man, woman, and child! (Perhaps this is why I'm charged with editing WAIS, but not with managing its treasury...)
Well, I also have a quibble about Tor's point #5. No one wants to keep dollars? When times get really tough, as in 2008-'09, the dollar is precisely the currency of last resort. Note that even though the US caused that crisis, the dollar rose in value.
- Shorting Teddy Ruxpin; from Ric Mauricio (John Eipper, USA 01/09/14 10:19 AM)
Ric Mauricio sends this followup to his post of 8 January:
Yes, John Eipper is correct. Shorting stocks is not for the faint of heart. It requires an iron stomach. Why? Because if you are long (Wall Street's jargon for buying a stock), your loss is limited to your investment. In shorting, your loss theoretically is unlimited, since a stock can keep going up and up with no limit. Investment discipline requires that one places a stop loss on the position. You decide how much loss you can stomach and buy back the stock at that point; this is called covering your short. Note: use a mental stop loss, rather than a physical one, because the market maker or specialist on the NYSE will hit your stop loss just because.
The Teddy Ruxpin story is an interesting one. I was in Toys R Us and they had an endcap display of Teddy Ruxpin. So I stood in the aisle and watched the reaction amongst the children and their parents. While there was initial delight in the children, only one out of ten parents bought it. Hmm. Not a good sign. So when the stock IPO'ed, I warned my fellow stockbrokers to place an order at a certain price and not a market order. Why? Imagine you are a market maker (a market maker is a Nasdaq specialist who works for a brokerage firm, who gets a huge inventory of the stock at its IPO price). Your price is $16. You see all these market orders come in on the first day. Wow, can't pass up this opportunity to mark up my $16 to $27 and take advantage of these fools, which of course, they did.
Now the squirming part. I did not buy at this point. I waited and watched. And when the stock hit $29, then started selling off on heavy volume, I shorted. Of course, knowing the risks of shorting, I watched the stock zig and zag every day, with my finger on the trigger should I need to cover. But I revisited Toys R Us after Christmas, and lo and behold, watched a customer return a Teddy Ruxpin that did not work. The manager switched out batteries. Nope, still didn't work. OK, get another Teddy (gee, they really shouldn't had that much inventory after Christmas; I was feeling better already). After trying ten, yes ten, Teddys, they finally got one to work. Woowee, now I'm really feeling good. And so I rode the stock down and covered at one dollar; a $25 dollar return for every share that I never even owned. By the way, their second product, a laser tag outfit, made the shelves after Christmas the next year. Game over, WOWI (the Nasdaq symbol for Worlds of Wonder).
JE comments: WOWI indeed! Ric Mauricio certainly profited from market research at its most basic: do people really want Company X's product? To be sure, it's not clear what a lot of companies' products actually are.
Who else in WAISworld has taken such an investment approach? This summer I picked up some shares of Cedar Fair, LP, owners of the Cedar Point amusement park in Sandusky, Ohio--the Roller Coaster Capital of the World. We visited as a family in August and had a blast. And the ticker symbol, FUN, couldn't be funner.
So how has FUN done? Up about 10% since purchase. Not enough to leave my day job yet, but I have no complaints.
Short Selling Stocks
(Tor Guimaraes, USA
01/10/14 3:22 PM)
Just in case some innocent person decides to try their hand at selling stocks short (see Ric Mauricio, 9 January), I share some of my past lessons learned:
1. There are professional analysts who look for companies "in trouble" with their share prices still inflated. Some of these people are very good at what they do and raise your chances of success.
2. As mentioned by Ric Mauricio, your risk is theoretically infinite, as the share price goes up and the market can be really crazy sometimes. As Lord Keynes stated: the market can remain irrational much longer that you can remain solvent.
3. Besides market makers deliberately crashing through your set stop prices just for a quick buck, there are some more serious difficulties about short selling not mentioned by Ric. First, before you can sell short a stock you must ask your broker to find the number of shares you want to borrow for shorting. This may be difficult or impossible for stocks in high demand for shorting. Second, after you borrowed the shares from or through your broker and sold them short, there is no guarantee that they will not ask for you to return them at an inopportune moment, i.e. the price is higher than you sold at so your hopefully temporary paper loss must be translated into a permanent loss. Ouch!
JE comments: Of course short sellers are performing a "valuable market function," but betting on a company's failure strikes me as mean-spirited. Yet all's fair in love, war, and business...
Brilliant Keynes quote, by the way.
Short Selling Stocks; from William Kyburz
(John Eipper, USA
01/13/14 6:25 AM)
Our friend in Rochester, NY, William Kyburz, sends this response to Tor Guimaraes's post of 10 January:
Tor pretty much hits on the problems of selling short, but I find most not really understanding the concept, such as (apparently) JE.
Allow me to give you a scenario that makes it simple to understand.
Imagine all Volkswagen are identical.
You have a friend that is going to go on vacation for a few months to Europe and leaves his Volkswagen in your care.
You decide to sell it, in the hopes that when your friend comes back from Europe, you will be able to buy another Volkswagen to replace your friend's VW.
Remember, they are all identical, so your friend will not be able to tell the difference.
So, you sell it at blue book value for $3,000 and buy it back for $2,700 prior to him coming back.
You just made $300.
That is the concept of short selling. You believe that it's overvalued at its current price and that sometime in the future it will be appropriately priced.
Unfortunately, you run the risk that when your friend comes back from his vacation, you may have to go and buy his Volkswagen back for 3,300.
Now you just lost $300.
Both gains are infinite percent, since you did not put any of your money into the original sale.
Conclusion: very risky indeed. My success at short-selling is good, but I have had to take a few painful baths. These days, I stay away from it. My nervous system can't handle it well.
JE comments: Ah, but this car nut knows that no two Volkswagens are ever identical! What is your friend going to say when he comes home and doesn't find his special air freshener or the loose change in the seats?
But stock shares, unlike cars, are truly fungible. To complete William Kyburz's analogy, we'd have to assume that your VW friend is charging you rent to use his car--when you sell short, you are borrowing shares, and that ain't free.
Short Selling Stocks; More on Nixon in China
(David Duggan, USA
01/14/14 3:02 PM)
The timing of the recent WAIS posts on short-selling is impeccable, insofar as I have just received my year-end brokerage account statements, and have completed the "day of reckoning" as to whether I'm better off or worse off than I was a year ago (pace Ronald Reagan).
Thanks to prudence, parsimony, and winning the genetic lottery in having chosen my parents, I was able to retire at age 58 without the expectation of ever receiving another nickel in attorney fee income. About one-quarter of my means was invested in a brokerage account with this divided into a "long account," and a "short account" on about a 3-1 basis. The long account was invested in dividend-paying stocks against which I wrote "call options," i.e., the right to "call away" a stock at a certain price by a certain time. These were invariably "out-of-the-money" calls, meaning that the price at which the stock would be called away was higher than the current market price. The duration of the right to call away the stock varied from 3 months to a year, depending on how I viewed the "time premium" versus the "price premium."
Let me explain: Assume that GM is selling for $50. I don't think that the stock is going to hit $55 because the sales of Volts and Cruzes and other deficient vehicles are not going anywhere. Meanwhile, the stock pays a $1 dividend (or 2%). So, I sell the right to call away my $50 stock at $55 between now and, say June (options always expire on the third Friday of a month). If I can get $1.70 for that right, getting one-third the price differential for giving up any appreciation above $55, in my view that's a great deal. I've increased my yield to anywhere between 4 and 4.4%, depending on when the dividends are paid (I'm sure to get one $.25 dividend in this scenario). Sure, I've given up the "upside" above $55, but this is a strategy to generate income (I've got to have something to live on), not capital gains. Using this strategy in 2013, I made a net of about 5% on my long account. Yeah, I had some losses (I'd sold Boeing calls that were too closely hauled to the market price, and ended up buying them back at a loss), but these were more than off-set by the gains.
So, that's the long side. On the short side, I've used the proceeds of a federally insured CD to sell naked puts. Some may say this is folly, giving up guaranteed income for the chance to lose a lot of money, but I look at it as a calculated risk that the world is not going to blow up anytime soon, and if it does, there will be a lot of other people less well off than I am. Let's say that Boeing is selling for $80 (as it was about a year ago). It pays a 2% dividend, and I don't think that it's going below $75 (the dividend will give it some support), so I sell the right to have Boeing jammed down my throat at $75, again for $1.70. So, I get $1 in income for $3 in cushion. Of course I have $75 in downside potential for my $1.70, but with a duopoly in the long-haul airframe market, that ain't gonna happen. In fact, the 3-1 ratio of return v. cushion that I seek on the long side is generally better on the short side because fewer people understand the put market and it is therefore less efficient. For 2013, using this strategy with what amounts to 5% of my net, I generated 6.3% in short-term capital gains, about six times what you can get at your local savings and loan.
There were some fees associated with this strategy which I have not figured in, but in short, I'm better off than using some alternative way to generate income. Some macro economically minded types will say that I'm really long the market both ways, banking on the market being relatively stable and picking off the low-hanging fruit. They may be right from a theoretical standpoint, but I'm not a University of Chicago economist (the joke is that when a PhD candidate presented his research to his committee, they asked: "It works great in practice, but how does it work in theory?"), and at least for the short push, this has worked. And I like to channel Keynes: "In the long run, we're all dead."
As to the "Nixon-in-China" post of several days ago (it was the question to the Final Jeopardy answer on Saturday), I believe that when history is finally written, this will go down as the master-stroke of US diplomacy of the second half of the 20th century. Consider how the world looked in 1971 when Kissinger began his secret mission, flying from Pakistan to China so as not to overfly Indian airspace, given the animus between China and India over Tibet and other border issues. We were mired in a land war in Indochina and we believed that Beijing was supplying Hanoi. Many in the CIA believed that the "Sino-Soviet split" was a charade designed to disinform the West. The Nationalist Chinese on Taiwan still believed they were going to reclaim their governance of the mainland, but as the United States proved in its World War II strategy, no island is impregnable against a determined invading force. Americans could not get visas to go to the People's Republic. But then an American ping-pong team met the Chinese in a world tournament in Nagoya Japan, and because the American players professed their allegiance to the Black Panther party (a Maoist front), they were invited to come to China. We may never know if this was a smoke-screen for other back channel discussions, but to the West, it seemed amazing (I was a dedicated pong-ist in my college days, playing more beer pong than I'd care to admit, and even switching to the oriental pen-holder grip to get more whack on my forehand). The rest, as they say, is history.
I confess that I have a personal stake in this position. My father (a U of C MBA, for whatever it is worth) was one of the first American businessmen to go to China, in either 1976 or 1977, when he was sent to find a new source for tin, a critical component in his company's metallurgical products. He was accompanied by a Chinese national to make introductions and help with the language (back then there were not more students of English in China than there are in any other country, as there are now). For my father's efforts in re-introducing this Chinese national to his homeland, my father received a fur hat, which bears in both the Russian Cyrillic and Chinese ideograms the words and logo "Golden Swallow, Beijing China." Evidently it was made in Beijing for the Russian export market (maybe the Sino-Soviet split was a charade).
I have found this hat invaluable this winter as we in Chicago have suffered through the coldest temperatures in nearly 20 years.
JE comments: I've really enjoyed this two-parter from David Duggan. Call options and naked puts still zoom over this Humanist's head, but I hope David will have the patience to explain them in more detail the next time we meet. In exchange, I'll share a few beer pong anecdotes from my Dartmouth days. Full disclosure: I wasn't a pong master, either. My field of excellence was always foosball (defense--I developed a devastating goalie shot).
Calls and Puts; from Ric Mauricio
(John Eipper, USA
01/16/14 5:03 AM)
Ric Mauricio sends this reply to David Duggan's post of 14 January:
David, excellent explanation of put and call writing. Many years ago, when I was an active investment advisor (I manage my own funds now; I'm semi-retired), I developed a presentation to clients on this very subject, which grew out of a discussion of, guess what, short selling. I meant to bring this up before, but a less risky method for short selling is buying puts. Buying a put is betting that the stock will go down, just like short selling. However, if the stock should go up, one is only at risk for the price of the put, thus the risk is 100%, but not infinite, like actual short selling.
Calls are a bet that the stock will go up, and again, you are at risk for only 100% of your investment. If this sounds a little like gambling, it is. Option buyers (bettors) are gamblers, or as Wall Street would put it, speculators. History shows that option buyers lose 90% of the time. This is because not only is an option buyer betting on the direction of the stock, he/she is also betting that direction within a certain time period. Most of the time, the market will not cooperate, the option buyer runs out of time, and his/her option expires worthless. I could probably see some wheels turning in the heads of our members. If option buyers lose 90% of the time, who are the winners? In Las Vegas and Macao, the winners would be the "House." In this case, the option sellers would be the "House." David Duggan, in this explanation, is acting as the "House."
OK, so to make the explanation as simple as possible, a put seller (called naked put writing) is writing a contract to buy a stock at a lower price. Ah, rule #1, never write a contract on a stock that you wouldn't want to buy anyway. So if 90% of these options expire worthless, that means an investor gets to keep the premium he/she was paid writing the contract and can write another contract and collect the money again. On the other side, a call seller (called covered call writing) is writing a contract to sell a stock that he/she has in his/her portfolio, and collects a premium to do so. Again, since 90% of these contracts expire, you get to keep the stock and the premium 90% of the time and write another contract. Rule #2, don't sell calls on stocks you do not own (call naked calls/too much exposure, ha ha). The losing 10% scenario is really not so risky, because you either bought a stock you wanted to buy anyway, or you sold a stock that you had. But wouldn't you agree that David's method of generating income is something that one should consider in this low-yielding world? Don't you agree that 90% odds of winning are excellent odds? And as David's illustrations show, you collect a very good yield.
JE comments: This is starting to make sense to me. One thing I can wrap my mind around: in any betting scenario, be the House. Still, why not just buy a widows-and-orphans stock, a utility for example, that pays a dividend in the 4-5% range?
My thanks to Ric Mauricio for the explanation. Ric and I are planning to meet in six weeks' time, when I'm in Palo Alto. I look forward to our further discussions.
- Is Short Selling Mean-Spirited? From Ric Mauricio (John Eipper, USA 01/15/14 3:27 AM)
Our reader in the Silicon Valley, Ric Mauricio, responds to William Kyburz's comments of 13 January:
Ah, yes, a very excellent discussion, and yes, John, you are spot on: borrowing shares is not free. It is called margin and the margin rate is applicable to the transaction. Margin is also the safety valve for the brokerage firm. If your short position is going against you, they will at some point (50% of the value) issue a margin call; in other words, you need to put more money into your account. If you don't, this is where Tor Guimaraes's scenario of the broker buying the stock to cover kicks in (brokerage firms don't usually buy indiscriminately). As for Tor's scenario where you cannot borrow the stock to short, this should not be an issue; you just don't short the stock. You move onto another candidate.
Regarding Tor's "innocents" shorting stock, brokerage firms operate under the "Know your customer" rule, and they have stringent requirements to permit a customer to short (like experience in the markets). Sort of like the warning on cigarettes saying that doing this may be detrimental to your health, i.e., financial health. Or "stunts are performed by professionals; do not try this at home." Of course, there are brokerage firms that don't pay attention to the rules, and don't monitor the customers like they should, i.e., Bernie Madoff, and sooner or later, the brokerage firm pays the piper.
Is short selling mean-spirited, as JE suggested? Yes, as with many actions in the world, a good thing can be turned into a bad thing. Some companies really need to be cleansed out of the system, but now we have "professionals" who will short a stock and then put out false analysis on the world wide web to push down the price of the stock. This is mean-spirited and totally unscrupulous. Luckily, these individuals eventually pay the piper.
By the way, one way to discern whether a method of investment works (on a long-term basis) is the inclusion of that method of investment amongst the Forbes Global 400. There are business owners, real estate investors, and stock investors (like Warren Buffett), but gee, no short sellers. Hmm.
JE comments: Another interesting comment from Ric Mauricio. There's something in short selling that goes against the ol' American spirit of fair play and nurturing self-esteem. Let's call it the Kids' Soccer League Effect: we want everyone to be a winner!
- More on QE (Jordi Molins, -Spain 01/07/14 10:44 AM)
Ric Mauricio wrote on 7 January:
"Here's what QE does: The Federal Reserve purchases bonds, which pushes more money into the banking system. Where are they getting this money? They are printing it. The banks borrow this 'free' money and lend it for real estate deals at 3 to 4%. If you do this all day, you will make money."
1. Money printing remains as bank reserves (monetary base). It is not obvious at all that bank reserves flow into the real economy (money supply), as Ric suggests. I believe nobody in the world really understands the dynamic process that kick starts banks to start "lending" their reserves into the economy. In particular, Laffer supposed the translation of reserves into the money supply would be automatic. On the other hand, the Weimar Republic and Zimbabwe are prototypical examples of hyperinflation, so this translation happened with a vengeance. I do not know anybody who can explain the reasons for those different behaviors (please let me know if somebody does).
2. There is another way to comprehend QE: cancellation of public debt. Currently, the Fed owns more than a third of the outstanding US Treasuries (technically, 10y equivalents). Since by law, the Fed's profits accrue to the Treasury, coupons and principal flow first from the Treasury to the Fed, and then back from the Fed to the Treasury. In practice, that debt does not exist anymore (i.e. nobody has to pay for it). If tapering is not too fast, it is conceivable the Fed ends up cancelling about half of all US Treasuries outstanding, through QE. With that point of view, it is not clear QE has the stimulative effect Ric suggests (which is the right one under typical, non-QE monetary policy actions). In fact, QE is much more like fiscal policy: if the budget is austere, there is less spending than tax receipts, so the Treasury can retire debt. QE is like austerity, but without the deleterious effects of austerity (at least, so far). In summary, in my opinion QE remains a mysterious tool, and we do not have, yet, a full understanding of all its future economic and social implications.
JE comments: I'll agree with that. Despite the much-appreciated efforts of our colleagues versed in the Dismal Science, the more I study QE, the less I understand it. In my blissful days of ignorance, I thought it was printing money, pure and simple.
More on QE: The Hospital Analogy
(Bienvenido Macario, USA
01/08/14 6:29 AM)
Quantitative Easing, to my understanding, is an extraordinary measure taken by the Fed to stimulate an economy at stall speed through job creation, by providing cash and credit to business with their the near-zero Fed fund rates.
The best analogy is with a hospital emergency room. The ambulance with sirens and flashing lights carrying a patient is allowed to bypass traffic lights and laws to rush its precious cargo to the ER. In the ER, the patient is quickly put on a life support system and rushed to the OR. If the operation is successful, the patient is moved to the recuperating wing of the hospital and eventually sent home.
But, Heaven forbid, the patient may not survive the operation or doesn't make it to the OR at all, he or she is solemnly moved to the morgue. It is a fast, decisive process, where time is of the utmost essence.
However because of DC politics, the QE program as with any other federal program, it is now bordering on immortality. Not the patient; the procedure. QE is here to stay! Do WAISers have any idea how expensive it is?
Allow me give you an idea. In October 8, 2008 the national debt was at $10.2 trillion, equal to Jon Kofas's statistics (5 October) on losses in the stock market world-wide of about 20% ($10.2 trillion).
Now the US National Debt is at $17 trillion. Americans born today are born into a financial bondage they never agreed to or were even consulted about. They are no longer born free.
Yet during Reagan's time interest rates went up as high as 20% (June 1981). During Eisenhower's time tax rates were as high as 90%!
What's the big difference between the Eisenhower and Reagan eras? Globalization.
I agree with Greenspan's recommendation exactly seven months ago--Taper now, even if economy not ready:
JE comments: I'm not that old, but it doesn't seem so long ago (1981) that the US debt hit $1 trillion. At the time there were predictions of fiscal Armageddon. Now a lone trillion is chump change. The following link provides the numbers in all their glory. They should have used red font:
Quantitative Easing in Plain English
(Randy Black, USA
01/09/14 4:17 AM)
Among WAIS, a very few among us tend to use high-level, educational jargon to describe Quantitative Easing or other theoretical concepts per the economy. As someone who makes or made a living, by putting such gobbledegook into the language of the great, unwashed masses for readers without a PhD, I struggle for a valid interpretation.
Big surprise, right?
"He's only on a journalist with a BA," you might be thinking. I think of myself occasionally as the Howard Wolowitz of WAIS. Only, I'm a bit taller and a lot younger than Howard [and better looking, too!--JE].
Look it up at http://en.wikipedia.org/wiki/Howard_Wolowitz .
As I searched for a simple answer to what the heck quantitative easing means, I ran across a plain English explanation of what Tor, Bienvenido, Jordi and others mean when they theorize about QE.
From Pragmatic Capitalism (pragcap.com) and the NY Times:
Many myths are still floating around regarding the actual operational aspects and impacts of quantitative easing, also known as permanent open market operations. This primer will offer a series of articles that give the reader better insights as to the actual impacts of the program and how it works. Pragcap also offers a couple of real-world examples as you will read below.
QE is Just Open Market Operations.
"Quantitative Easing" (QE) is a form of open market operations that helps the Federal Reserve achieve its policy targets. For odd reasons, this program has garnered a specific mythical prominence in the media and in the investment universe. The truth, however, is that QE involves open market operations no different from the way the Federal Reserve always achieves its policy targets. When you hear that the Federal Reserve is changing their target interest rate, this will generally involve open market operations that alter reserves in the banking system in order to achieve this rate. QE involves permanent open market operations, which deviate from standard policy in that they tend to purchase varying assets from the private sector. The NY Fed elaborates:
Understanding a QE Transaction.
To better understand this it's easiest to condense the accounting into the two basic ways in which QE transactions occur. The first scenario is when a bank sells t-bonds to the Fed. The second scenario is when a non-bank sells the t-bond and the bank merely acts as an intermediary. In both cases the private sector has the same net financial assets before and after QE occurs. So it's best to think of QE as an asset swap that alters the composition of the private sector's financial assets, but does not add net financial assets.
Scenario 1 - Bank sells $100 in t-bonds to Fed
Federal Reserve balance sheet:
Change in Assets = +$100
Change in Liabilities = +$100
Change in Net Worth = $0
Bank's balance sheet:
Change in Assets = $0 (t-bond is swapped for reserves)
Change in Liabilities = $0
Change in Net Worth = $0
Scenario 2 - Non-bank sells $100 in t-bonds to Fed where bank acts as intermediary
Federal Reserve balance sheet:
Change in Assets = +$100
Change in Liabilities = +$100
Change in Net Worth = $0
Banks balance sheet:
Change in Assets = +$100 (reserve assets increase)
Change in Liabilities = +$100 (deposit liabilities increase)
Change in Net Worth = $0
Non-bank public balance sheet:
Change in Assets = $0 (non-bank sells t-bond and obtains deposit)
Change in Liabilities = $0
Change in Net Worth = $0
JE comments: In a nutshell, it's robbing Peter to pay Paul--I think. But to return to the commonly held understanding of QE, doesn't the Fed have to print--well, create--the money to cash out the t-bond?
- Interest Rates, QE, and Inflation (David Duggan, USA 01/07/14 6:14 PM)
I hazard to weigh in on this most dismal of topics on this most dismal of days (-10F, 20+ inches of snow on the ground, having accumulated since New Year's Eve). I am not an economist, simply an observer of economic conditions through five recessions: 1972-77, 1980-82, 1991-94, 2001-02, and 2007-present, more than a third of my adult life. (I know I am not using the government's definition of recession: 2 successive quarters with no growth, but a more practical definition: how is the world doing as a function of what we expect? In this respect, expectations are in no small amount measured by inflation: if we expect that prices are going to be higher later, we'll spend more now. If we expect that interest rates are going to be higher later, we'll lend less money now.)
As I have read the data and indicators, for roughly the last seven years, we've had little inflation (and in fact deflation in key segments of the economy, such as housing) and low interest rates. What has this meant? People waiting for prices to lower and being unwilling to lend for long periods of time (the so-called "risk premium"). The main beneficiary of this has been the stock market, with 25+% gains for 2013 and a more than doubling of the Dow Jones Industrial Average since March 2009, when it hit its low point: great for those whose wealth is tied up in stocks (I shouldn't complain), but not so great for John Doe who can't sell his underwater house, can't find a job because his middle-management job has disappeared, and can't refinance his higher-interest rate mortgage because he has no income.
How does Quantitative Easing fit into this picture? As I understand it, the Federal Reserve, which has the twin goals of diminishing inflation and maintaining employment, has been buying its own paper, i.e., it would be as if GM issued bonds, then bought them on the open market, and paid itself interest for the risk that GM would go out of business (again). Of course, this makes no economic sense: a person, even a corporate person, cannot be indebted to himself. What makes the Fed different from anyone else is that it has the power of the printing press, and can largely do two things to control liquidity, i.e., the ability to buy and sell assets using a means of exchange, in this case, the dollar. The first is to print a lot of money, and when there's a lot of money chasing after finite assets, inflation results. The second is to reduce interest rates to zero (inflation adjusted) so that at best lenders have a claim for a return of their principal when their interest-denominated assets mature. Of course, this is better than booking a loss, but at some point, one has to ask if the results on the ground are worth the security of knowing that my piggy bank is going to have as many pennies when I break it open as it had when I put them in.
It is at this point that two competing economic principles come to blows. Milton Friedman, who with Anna Schwartz wrote a monetary history of the United States, argued that the Fed should keep an eye on the money supply with hands off the interest rates. If the supply of money (once defined as currency plus demand deposits, but who knows how defined now, with home equity lines of credit, credit card balances, and bitcoins performing the role of money-in-the-bank-or-in-your-pocket) increases moderately year over year, roughly keeping up with population growth, then interest rates will reflect the expectation of risk in the vehicle in which you park your money. You expect a higher rate to lend to for instance Illinois, than to the Federal government. On the other side of this is Ben Bernanke, whose academic field was the history of the Depression. He believed that the Depression was caused by an absence of liquidity, that the then 20-year old Fed didn't know what to do with Midwestern banks foreclosing on farms that had turned to dust in the Dust Bowl. As if more funds in those banks would have prevented the wholesale migration of farmers from Kansas, Oklahoma and Missouri. Hence, Bernanke thought that, with trillion dollar annual deficits being run up as "stimulus" to the economy, rather than ask China to continue lending us the money, let's just buy it ourselves. In a way that I can only describe as perverse, this had the effect of keeping interest rates low (normally, if there's another buyer bidding on your property, then the price goes up). But because the rest of the investing public did not want to buy Fed paper bearing little or no interest, they weren't going to bid up the interest rate that the Fed would end up paying.
But these other lenders (i.e., banks and hedge funds), were more than willing to take advantage of the low interest rates on instruments with virtually absolute safety by funding takeovers, mergers, and currency speculation (viz., JP Morgan/Chase's London Whale). Most economists would say that mergers, takeovers and currency speculation add zilch to the economy (other than provide jobs to the traders, lawyers and bankers who grease these skids, and then buy Rolexes and ski chalets in Zermatt with their winnings). What has not happened is a flow of money to start-ups or even established businesses that want to borrow to expand. One of my (former) clients has run a wholesale/retail meat operation on Chicago's northwest side for the better part of 50 years. He made some bad business judgments, particularly as to with whom to do business, and it cost him a fair amount of money. But he had a steady base of customers and a lot of knowledge about moving the product. He can't get a loan to recondition his trucks so that he can start his wholesale operation again. I guess I'll just have to write off what he owes me.
And the rents that I receive from the two apartments I own in front of my coachhouse have just in the last 6 months equaled what I received 13 years ago before 9/11 and the demise of two of Chicago's principal employers: United Airlines and Arthur Andersen. Fortunately, I have kept body and soul together by trading in options, about which I learned a bit as a practicing lawyer.
But I see no benefit to quantitative easing or any other Fed gimmick that has "kept liquidity." As Milton Friedman wrote: people make spending decisions on what they think their income is going to be in the near term. If they think it's going to be stable to rising, they'll spend. If they think they're going to lose their job, they'll hoard. As I understand it, only in 2013 has retail spending in the US equaled what it was in 2007, though the stock market, as I said, doubled.
I wrote that I have lived through four recessions and am still in the midst of the fifth. Stirring in the bowels of each of the four prior recessions was some event or development that would snap us out of it: the Arab-oil shock of the early '70s was overcome by the introduction of computers to every-day applications (remember Atari's pong game in all the neighborhood bars?); the inflation-generated recession of the early 1980s was defeated by the introduction of desk-top computers which vastly simplified word-processing and data presentation for the professional (no more IBM Selectrics); the military-base closing and commercial real estate recession of the early 1990s was outstripped by the rudimentary development of the Internet in the 1990s (still mostly an academic novelty); and 9/11-dot-bomb recession of the turn of the millennium was eclipsed by the wide-spread use of the Internet in the 2000s (with the introduction of broad-band, which made e-commerce much easier). Of course, I'm oversimplifying as there were multiple developments that coalesced to bring us out of our economic malaise.
Perhaps I'm just getting old, or am a pessimist, but I don't see any such development on our horizon, which is now seven years removed from the sunset.
JE comments: Another excellent economic analysis in this thread. I salute David Duggan for his enlightening essay, and send him a warm greeting from Detroit, where it's "only" 3 degrees below zero. (Our winters are usually a bit milder than Chicago's.)
To run with David's last point: can anyone envision an event (technological or other) that might snap us out of our present economic doldrums?
- More on US Economic Health (Tor Guimaraes, USA 01/02/14 11:22 AM)
John Eipper's 2 January post expressed William Kyburz's observation that my 1 January post missed "a very simple point about the US economy and the American system. When picked at random, over time, any American may find himself/herself at the bottom 25% and at the top 25% over their lifetimes." This is very difficult to argue with, except William is making the same mistake as in Ric Mauricio's statements posted by John Eipper on December 18. These statements are made from an individual perspective, not the economy as a whole.
Yes, we have successful entrepreneurs all over the world; also we have massive speculation and lotteries which can make instant multimillionaires. The issue in my posts is quality of life and standard of living for all the members of society. From this perspective, every society must have a strong democracy, justice for all, free markets and opportunity for advancing socially and financially. New business creation is indeed very important but not enough. According to new data from the Kauffman Foundation and the US Census Bureau, startups accounted for three percent of total employment from 1980-2005.
Last, John Eipper commented on my 1 January post with "a question for the Floor: has Quantitative Easing actually made income inequality worse, as Rep. Kevin Brady suggests?" Brady's is not a lonely opinion. I think he is right. On the other hand, no one can deny that for the first year or two the Fed's easy money program provided vital financial and psychological support for the collapsed economy as a whole. Brady's opinion is true because over time the first problem has been that most of the benefits went to the few big banks which can borrow money at practically zero percent and lend to everyone they want, or engage in speculation, with only some indirect benefit to the rest of the economy. Further, capital gains from such investments are taxed at half the normal rate. Last, the cheap money from the Fed kept interest rates artificially low (sometimes below inflation for the short term), so savings and any fixed rate accounts paid practically nothing and bond investors stay worried that the value of their fixed income investments will collapse when the Fed allows the short-term market to work more freely. How long will this madness continue and what will the final results be? Only God knows, but we all have good reason to be very nervous about this crazy monetary experiment.
JE comments: As long as there is virtually no inflation, aren't low interest rates only (or at least mostly) a good thing?
- Interest Rates, QE, and Inflation (David Duggan, USA 01/07/14 6:14 PM)
- Quantitative Easing in Plain English (Randy Black, USA 01/09/14 4:17 AM)
- Is Short Selling Mean-Spirited? From Ric Mauricio (John Eipper, USA 01/15/14 3:27 AM)
- Calls and Puts; from Ric Mauricio (John Eipper, USA 01/16/14 5:03 AM)
- Short Selling Stocks; More on Nixon in China (David Duggan, USA 01/14/14 3:02 PM)
- Short Selling Stocks; from William Kyburz (John Eipper, USA 01/13/14 6:25 AM)
- Shorting Teddy Ruxpin; from Ric Mauricio (John Eipper, USA 01/09/14 10:19 AM)
- Six Economic Lessons (Tor Guimaraes, USA 01/08/14 2:35 PM)
- on Startups; from Ric Mauricio (John Eipper, USA 01/08/14 5:15 AM)
- Thoughts on Interest Rates and QE (Tor Guimaraes, USA 01/07/14 8:13 AM)
- Thoughts on Interest Rates and QE; from Ric Mauricio (John Eipper, USA 01/06/14 4:00 PM)
- Are Extremely Low Interest Rates Detrimental to an Economy? (Jordi Molins, -Spain 01/06/14 3:32 AM)
- More Thoughts on Interest Rates (Tor Guimaraes, USA 01/05/14 2:01 PM)
- How Does Quantitative Easing Hurt Households? (Tor Guimaraes, USA 01/04/14 3:27 AM)
- Has Quantitative Easing Exacerbated Income Inequality? (Jordi Molins, -Spain 01/02/14 8:26 AM)
- New Year's Report on US Economic Health; from William Kyburz (John Eipper, USA 01/02/14 3:18 AM)
- Puttanesca Sauce (Eugenio Battaglia, Italy 12/31/13 6:43 AM)
- Puttanesca Sauce (David Gress, Denmark 12/31/13 5:54 AM)
- on Monkfish (Rape) (Henry Levin, USA 12/30/13 11:12 AM)
- "Bon Appetit" and "Bone-Hole with Fungus" (Paul Preston, -UK 12/30/13 5:29 AM)
- "The Triumph of English"; from Ric Mauricio (John Eipper, USA 12/29/13 4:12 AM)
- "The Triumph of English"; Ostler's *Empires of the Word* (Luciano Dondero, Italy 12/27/13 4:28 PM)