Modern Monetary Theory Isn’t the Future. It’s Here Now

The infrastructure act signed into law last week marked a defeat for the faction of progressive economists in ascendancy in 2020. For these advocates of modern monetary theory, the insistence by both political parties that all the $550 billion of new spending be matched by offsetting revenue, known as “payfors,” goes against their belief that money is merely a tool for government.

This is a temporary rhetorical setback. The reality is that MMT’s ideas have insinuated themselves deep into government, central banking and even Wall Street—and the infrastructure act is in fact deficit-financed anyway.

MMTers detest payfors as wrongheaded thinking about money. Money only exists because of government spending, and under MMT, the government should just create as much as it needs to finance its projects. In a tight economy—like we have now—MMT might want offsets to new spending. But higher taxes or lower spending elsewhere would be aimed at avoiding inflation, not at balancing the budget.

The government hasn’t embraced MMT. But important elements of it are now accepted by much of the economic and financial establishment, with major implications for how the economy is run.The most important claim of MMT is that a government need never default on debt issued in its own currency. The lesson of 2020 was that MMT is right.

“We got five or six trillion dollars of spending and tax cuts without anyone worrying about payfors, so that was a good thing,” says L. Randall Wray, an economics professor at Bard College in New York and a leading MMT academic. “In January [2020], MMT was a crazy idea, and then in March, it was, OK, we’re going to adopt MMT.”

It isn’t just MMTers who say the world took a turn toward a new way of thinking.

“Governments have lost their fear of debt,” says Karen Ward, chief market strategist for EMEA at JPMorgan Chase’s asset-management arm. “They were terribly worried about bond markets and investors punishing them. What they saw last year was record high levels of debt at record low levels of interest rates.”

Central banks that had struggled for a decade to boost inflation using monetary tools found that fiscal tools were far more powerful. Government spending does far more for inflation than quantitative easing, it turns out, and central-bank calls for more fiscal action to boost the economy are more likely to be accepted next time deflation looms.

Key parts of MMT haven’t been adopted, particularly its call for government to guarantee everyone a job. But the MMT critique of the status quo, where the central bank modulates the number of unemployed people to control inflation, hit a nerve. The Federal Reserve shifted in favor of running the economy hot to reduce inequality. Employment has become more important in its thinking, and its move to a target of average inflation means it is willing to accept higher inflation than previously.

Still, the Fed is (rightly) worried about inflation and is tweaking its tools to try to influence the economy with monetary policy, something MMTers think just doesn’t work. As Mr. Wray points out, it wasn’t when trillions in benefit checks landed in bank accounts last year that inflation went up; prices went up when the recipients went out and spent the money. “Money doesn’t cause inflation,” Mr. Wray argues, a view that infuriates monetarist economists. “Spending causes inflation.”

In the next downturn it is going to be very difficult for governments to resist calls to provide huge support, now that it has been shown that bond markets don’t care. That should mean recessions are shallower, debt is higher, the government is more involved in the economy and, assuming the Fed doesn’t accept that its tools are useless, interest rates are higher on average than in the past. Bond markets aren’t pricing in anything of the sort, though. The 30-year Treasury yield is only 2%, well below the 3.2% average of the 10 years up to 2020.

Under full-blown MMT, payfors would be ditched for a mix of micro-planning of the resources needed for new projects, and an assessment of the overall impact on the economy—and potentially, higher taxes.

MMT is both right and wildly optimistic that higher taxes could slow an overheated economy and bring down inflation. The flip side of last year’s demonstration of the power of fiscal policy is that higher taxes can suck demand out of the economy much more effectively than the Fed’s interest-rate tools.

There was a brief moment when it looked as though Democrats might impose higher taxes on billionaires as part of the payfors for the roughly $2 trillion social-spending bill, although they were dropped on first contact with reality. MMTers mostly aren’t worried about  Biden’s spending plans causing inflation anyway. But MMT prescribes that if tax rises are needed to slow demand, billionaires wouldn’t be the target: The rest of us would.

“It makes more sense to have a broad-based tax that would reduce demand across the broader economy, especially people who have a propensity to spend of 98%, which is the majority of Americans,” Mr. Wray said.

Other MMT ideas have infiltrated their way into the heart of the establishment, but the idea that the government should raise taxes on ordinary Americans, let alone that it should do so to control inflation, is exceptionally unlikely to be accepted.

That is a bad thing, because MMT’s ideas encourage more spending, and if that results in more inflation in the longer run, MMT is right that higher taxes are the simplest way to reduce demand and prevent a surge in prices.

James Mackintosh

By: James Mackintosh / Senior columnist, markets, The Wall Street Journal

Source: Modern Monetary Theory Isn’t the Future. It’s Here Now. – WSJ

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Asian Stocks Mixed as Data Show Delta Sapped China: Markets Wrap

Asian stocks were mixed Tuesday as weaker economic activity in China and the latest escalation in Beijing’s crackdown on private industries overshadowed another record close on Wall Street.

Equities slipped in China, where data signaled that an outbreak of the delta virus variant led to a service-sector contraction for the first time since February last year. Hong Kong slid as Beijing’s stepped-up curbs on video-gaming firms weighed on Chinese technology stocks.

U.S. futures edged up after the S&P 500 hit its 12th all-time high in August and the Nasdaq 100 rose. Treasuries held gains made following Federal Reserve Chair Jerome Powell’s measured comments about a possible reduction in stimulus and any future interest-rate hikes. The dollar dipped.

Oil declined, with traders assessing the prospect of additional OPEC+ production. Aluminum and nickel advanced as Goldman Sachs Group Inc. raise target prices. In cryptocurrencies, Bitcoin fell to about $47,000.

Global stocks overall are set for a seventh monthly advance on strong company profits, expanding vaccinations to underpin economic reopening and supportive Fed policies. At the same time, the decline in Treasury yields from a March peak may partly reflect concerns of a slower recovery ahead on risks such as the impact of the delta strain.

“The bond market is getting a little nervous about the economic outlook,” Priya Misra, head of global interest rate strategy at TD Securities, said on Bloomberg Television. But she added the U.S. economy is “strong” and that “by year end, if the economy holds up, which we forecast it will, that’s when we expect rates — especially in the long end — to start to edge higher.”

In the latest U.S. data, pending home sales fell in July. Traders are awaiting key payrolls figures Friday for further guidance on the economy’s strength.

Here are some key events to watch this week:

OPEC+ meeting on output WednesdayEuro zone manufacturing PMI WednesdayU.S. jobs report Friday

Some of the main moves in markets:

Stocks

S&P 500 futures climbed 0.2% as of 1:42 p.m. in Tokyo. The S&P 500 rose 0.4%Nasdaq 100 futures increased 0.1%. The Nasdaq 100 rose 1.1%Japan’s Topix index rose 0.7%Australia’s S&P/ASX 200 index rose 0.6%South Korea’s Kospi added 0.8%Hong Kong’s Hang Seng index fell 1.4%China’s Shanghai Composite index retreated 0.8%

Currencies

The Bloomberg Dollar Spot Index shed 0.1%The euro was at $1.1818The Japanese yen was at 109.88 per dollarThe offshore yuan was at 6.4660 per dollar

Bonds

The yield on 10-year Treasuries held at 1.28%

Commodities

West Texas Intermediate crude was at $68.90 a barrel, down 0.5%Gold was at $1,815.12 an ounce, up 0.3%

By:

Source: Stock Market Today: Dow, S&P Live Updates for Aug. 31, 2021 – Bloomberg

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Italy’s Supercharged Bond Market Is All About Faith in The ECB

One of Europe’s riskiest bond bets is a sign of how much investors are confident in the central bank’s ability to recover from the pandemic smoothly.

Italian benchmark yields are near a six-month low and the government is so short of liquidity that it canceled last week’s loan auction. With the number of outstanding positions in bond futures since March, the market is beginning to look like a crowded trade.

This is the latest evidence of the bullish momentum that is prevailing across European markets. Italy is one of the region’s most indebted nations, yet has seen unprecedented stimulus from the European Central Bank to dent lending costs that are reducing volatility and driving investors into the highest-yielding corners of the market. .

“The PEPP expansion could be important in that regard,” said Christoph Rieger, head of fixed-rate strategy at Commerzbank AG, referring to the ECB’s pandemic bond-buying program, which is due to end in March, but which many investors Now the bet will go on for a long time.

Against this background, Rieger expects Italy’s 10-year yield premium to fall to 75 basis points from its German counterpart – the security sector paradigm – currently around 100 basis points.

Meanwhile, Italian stocks are on a tear after a blockbuster earnings season in Europe, and the ECB recently changed its forward guidance to signal a longer period of ultra-lax policy, adding fuel to the rally.

Last week, the number of outstanding Italian 10-year bond futures contracts rose nearly 60,000 to more than 360,000. The increase as the underlying securities increased, indicating that investors are adding rather than consolidating their positions.

Giles Gail, still head of European rates strategy at NatWest Markets Plc, is starting to consider what might happen if everyone rushes to exit at the same time.

“It will be perverse, but possible in this market,” he said. For now, he also expects the Italian-German bond to expand by 75 basis points in the coming months.

Meanwhile, Rohan Khanna, a strategist at UBS AG, points to the risk of Snap elections, which he says are “highly likely” in the first quarter of 2022, if Mario Draghi decides to run for president, Although the probability of that is low. But for now, it all seems like a distant possibility.

On Wednesday, Italy paid less than the ECB’s own deposit rate to borrow for the first time in 12 months. This is an anomaly that highlights the scale of distortion in the region’s currency markets as well as the bullish trend of traders.

“An ECB that is in volume-control mode, prolonging its QE program with a clear commitment to financial stability, is clearly supportive of sovereign spreads,” Gayle said.

Chinese Developer Woes Are Weighing on Asia’s Junk Bond Market

https://images.wsj.net/im-189934?width=620&size=1.5

Financial strains among Chinese property developers are hurting the Asian high-yield debt market, where the companies account for a large chunk of bond sales.

That’s widening a gulf with the region’s investment-grade securities, which have been doing well amid continued stimulus support.

Yields for Asia’s speculative-grade dollar bonds rose 41 basis points in the second quarter, according to a Bloomberg Barclays index, versus a 5 basis-point decline for investment-grade debt. They’ve increased for six straight weeks, the longest stretch since 2018, driven by a roughly 150 basis-point increase for Chinese notes.

China’s government has been pursuing a campaign to cut leverage and toughen up its corporate sector. Uncertainty surrounding big Chinese borrowers including China Evergrande Group, the largest issuer of dollar junk bonds in Asia, and investment-grade firm China Huarong Asset Management Co. have also weighed on the broader Asian market for riskier credit.

“Diverging borrowing costs have been mainly driven by waning investor sentiment in the high-yield primary markets, particularly relating to the China real estate sector,” said Conan Tam, head of Asia Pacific debt capital markets at Bank of America. “This is expected to continue until we see a significant sentiment shift here.”

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Such a shift would be unlikely to come without a turnaround in views toward the Chinese property industry, which has been leading a record pace in onshore bond defaults this year.

But there have been some more positive signs recently. Evergrande told Bloomberg News that as of June 30 it met one of the “three red lines” imposed to curb debt growth for many sector heavyweights. “By year-end, the reduction in leverage will help bring down borrowing costs” for the industry, said Francis Woo, head of fixed income syndicate Asia ex-Japan at Credit Agricole CIB.

Spreads have been widening for Asian dollar bonds this year while they’ve been narrowing in the U.S. for both high-yield and investment grade amid that country’s economic rebound, said Anne Zhang, co-head of asset class strategy, FICC in Asia at JPMorgan Private Bank. She expects Asia’s underperformance to persist this quarter, led by Chinese credits as investors remain cautious about policies there.

“However, as the relative yield differential between Asia and the U.S. becomes more pronounced there will be demand for yield that could help narrow the gap,” said Zhang.

Asia

A handful of issuers mandated on Monday for potential dollar bond deals including Hongkong Land Co., China Modern Dairy Holdings Ltd. and India’s REC Ltd., though there were no debt offerings scheduled to price with U.S. markets closed for the July 4 Independence Day holiday.

  • Spreads on Asian investment-grade dollar bonds were little changed to 1 basis point wider, according to credit traders. Yield premiums on the notes widened by almost 2 basis points last week, in their first weekly increase in six, according to a Bloomberg Barclays index
  • Among speculative-grade issuers, dollar bonds of China Evergrande Group lagged a 0.25 cent gain in the broader China high-yield market on Monday. The developer’s 12% note due in October 2023 sank 1.8 cents on the dollar to 74.6 cents, set for its lowest price since April last year

U.S.

The U.S. high-grade corporate bond market turned quiet at the end of last week before the holiday, but with spreads on the notes at their tightest in more than a decade companies have a growing incentive to issue debt over the rest of the summer rather than waiting until later this year.

  • The U.S. investment-grade loan market has surged back from pandemic disruptions, with volumes jumping 75% in the second quarter from a year earlier to $420.8 billion, according to preliminary Bloomberg league table data
  • For deal updates, click here for the New Issue Monitor

Europe

Sales of ethical bonds in Europe have surged past 250 billion euros ($296 billion) this year, smashing previous full-year records. The booming market for environmental, social and governance debt attracted issuers including the European Union, Repsol SA and Kellogg Co. in the first half of 2021.

  • The European Union has sent an RfP to raise further funding via a sale to be executed in the coming weeks, it said in an e-mailed statement
  • German property company Vivion Investments Sarl raised 340 million euros in a privately placed transaction in a bid to boost its real estate portfolio, according to people familiar with the matter

By:

Source: Chinese Developer Woes Are Weighing on Asia’s Junk Bond Market – Bloomberg

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Critics:

The Chinese property bubble was a real estate bubble in residential and/or commercial real estate in China. The phenomenon has seen average housing prices in the country triple from 2005 to 2009, possibly driven by both government policies and Chinese cultural attitudes.

Tianjin High price-to-income and price-to-rent ratios for property and the high number of unoccupied residential and commercial units have been held up as evidence of a bubble. Critics of the bubble theory point to China’s relatively conservative mortgage lending standards and trends of increasing urbanization and rising incomes as proof that property prices can remain supported.

The growth of the housing bubble ended in late 2011 when housing prices began to fall, following policies responding to complaints that members of the middle-class were unable to afford homes in large cities. The deflation of the property bubble is seen as one of the primary causes for China’s declining economic growth in 2012.

2011 estimates by property analysts state that there are some 64 million empty properties and apartments in China and that housing development in China is massively oversupplied and overvalued, and is a bubble waiting to burst with serious consequences in the future. The BBC cites Ordos in Inner Mongolia as the largest ghost town in China, full of empty shopping malls and apartment complexes. A large, and largely uninhabited, urban real estate development has been constructed 25 km from Dongsheng District in the Kangbashi New Area. Intended to house a million people, it remains largely uninhabited.

Intended to have 300,000 residents by 2010, government figures stated it had 28,000. In Beijing residential rent prices rose 32% between 2001 and 2003; the overall inflation rate in China was 16% over the same period (Huang, 2003). To avoid sinking into the economic downturn, in 2008, the Chinese government immediately altered China’s monetary policy from a conservative stance to a progressive attitude by means of suddenly increasing the money supply and largely relaxing credit conditions.

Under such circumstances, the main concern is whether this expansionary monetary policy has acted to simulate the property bubble (Chiang, 2016). Land supply has a significant impact on house price fluctuations while demand factors such as user costs, income and residential mortgage loan have greater influences.

References

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