23/1/16: Financial Globalisation and Tradeoffs Under Common Currency

A paper I recently cited in a research project for the European Parliament that is worth reading: "Trilemmas and Tradeoffs: Living with Financial Globalization" by Maurice Obstfeld. Some of my research on the matter, yet to be published (once the EU Parliament group clears it) is covered here: http://trueeconomics.blogspot.com/2016/01/19116-after-crisis-is-there-light-at.html and see slides 5-8 here: http://trueeconomics.blogspot.com/2015/09/17915-predict-conference-data-analytics.html.

This is one of the core papers one simply must be acquainted with if you are to begin understanding the web of contradictions inherent in the structure of modern financial flows (in the case of Obstfeld's paper, these are linked to the Emerging Markets, but much of it also applies to the euro).


The paper "evaluates the capacity of emerging market economies (EMEs) to moderate the domestic impact of global financial and monetary forces through their own monetary policies. Those EMEs able to exploit a flexible exchange rate are far better positioned than those that devote monetary policy to fixing the rate – a reflection of the classical monetary policy trilemma.” The problem, as Obstfeld correctly notes, is that in modern environment, “exchange rate changes alone do not insulate economies from foreign financial and monetary shocks. While potentially a potent source of economic benefits, financial globalization does have a downside for economic management. It worsens the tradeoffs monetary policy faces in navigating among multiple domestic objectives.”

Per Obstfeld, the knock on effect is that “This drawback of globalization raises the marginal value of additional tools of macroeconomic and financial policy. Unfortunately, the availability of such tools is constrained by a financial policy trilemma, [which] posits the incompatibility of national responsibility for financial policy, international financial integration, and financial stability.”

This, of course, is quite interesting. Value of own (independent) tools beyond flexible exchange rates rises with globalisation, which normally incentivises more (not less) activism and interference from domestic (or regional - in the case of monetary integration) regulators, supervisors and enforcers. In other words, Central Banks and Fin Regs grow in size (swelling to design, fulfil and enforce new ‘functions’). And all of this expensive activity take place amidst the environment where none of can lead to effective and tangible outcomes, because of the presence of the second trilemma: in a globalised world, national regulators are a waste of space (ok, we can put it more politically correctly: they are highly ineffective).

Give this another view from this argument: ‘national’ above is not the same as sovereign. Instead, it is ‘national’ per currency definition. So ECB is ‘national’ in these terms. Now, recall, that in recent years we have been assured that we’ve learned lessons of the recent crisis, and having learned them, we created a new, very big, very expensive and very intrusive tier of supervision and regulation - the tier of ECB and centralised European Banking regulatory framework of European Banking Union (EBU). But, wait, per Obstfeld - that means preciously little, folks, as long as Europe remains integrated into globalised financial markets.

Obstfeld’s paper actually is a middle ground, believe it or not, in the wider debate. As noted by Obstfeld: “My argument that independent monetary policy is feasible for financially open EMEs, but limited in what it can achieve, takes a middle ground between more extreme positions in the debate about monetary independence in open economies. On one side, Woodford (2010, p. 14) concludes: “I find it difficult to construct scenarios under which globalization would interfere in any substantial way with the ability of domestic monetary policy to maintain control over the dynamics of inflation.” His pre-GFC analysis, however, leaves aside financial-market imperfections and views inflation targeting as the only objective of monetary control. On the other side, Rey (2013) argues that the monetary trilemma really is a dilemma, because EMEs can exercise no monetary autonomy from United States policy (or the global financial cycle) unless they impose capital controls.”

Now, set aside again the whole malarky about Emerging Markets there… and think back to ECB… If Rey is correct, ECB can only assure functioning of EBU by either abandoning rate policy independence or by abandoning global integration (imposing de facto or de sure capital controls).

Of course, in a way, bondholders’ bail-ins rules and depositors bail-ins rules and practices - the very sort of things the EBU and ECB’s leadership rest so far - are a form of capital controls. Extreme form. So may be we are on that road to ‘resolving trilemmas’ already?..

Have a nice day... and happy banking...

23/1/16: Non-Cognitive Human Capital

In my 2011 paper on the role of Human Capital in the emerging post-ICT Revolution economy, human capital will simultaneously:

1. Play increasingly more important role in determining returns to technical and processes innovation;
2. Become more diverse in its nature - or more diversified - spanning measurable and unmeasurable skills, traits, knowledge, attitudes to risk and innovation, capabilities etc.; and
3. Form the critical foundation of entrepreneurship and core employment base in the so-called Type 1 Gig-Economy - economy based on contingent workforce compered of highly skilled, highly value-additive professionals.

An interesting paper relating to the matter, especially to the last point, is a recent IZA Working paper (October 2015) titled “Non-Cognitive Skills as Human Capital” by Shelly Lundberg.

Per Lundberg: “In recent years, a large number of studies have shown strong positive associations between so-called “non-cognitive skills” — a broad and ill-defined category of metrics encompassing personality, socio-emotional skills, and behaviors — and economic success and wellbeing. These skills appear to be malleable early in life, raising the possibility of interventions that can decrease inequality and enhance economic productivity.”

Lundberg discusses “the extensive practical and conceptual barriers to using non-cognitive skill measures in studies of economic growth, as well as to developing or evaluating relevant policies. …There is a lack of general agreement on what non-cognitive skills are and how to measure them across developmental stages, and the reliance on behavioral measures of skills ensures that both skill indicators themselves, and their payoffs, will be context-dependent. The empirical examples show that indicators of adolescent skills have strong associations with educational attainment, but not subsequent labor market outcomes, and illustrate some problems in interpreting apparent skill gaps across demographic groups.”

From the Gig-Economy point of view, development of all (cognitive and non-cognitive) skills requires time and resources. In traditional workplace setting - of old variety - some of these resources and time allocations are supported / subsidised by employers (e.g. gym memberships, formal paid time off, formal paid career breaks, formal 'team building' activities, actual employer-paid training and education, employer-supported psychological wellness programmes for employees, and so on). In a Gig-Economy setting, these are not available, generally, to contingent workers.

Aside from having impact on contingent workforce skills and human capital, there are more 'trivial' considerations that should be put to analysis. Take, for example, health and psychological well-being. If a contingent workforce using company fails to assure the latter for its contingent workers, who is liable for any damages caused by over-worked, over-stressed, psychologically unwell contingent worker to the company clients?

Again, setting aside humanitarian, social and personal considerations, this question has implications for businesses using contingent workers:

• Insurance costs and coverage for businesses;
• Legal costs and coverage for business;
• Reputational risks for businesses;
• Counter-party risks for businesses; and so on

In a world where there is no such thing as a free lunch, Gig-Economy based companies should seriously consider how they are going to deal with potential costs of disruption from the Gig-Economy type of employment to life-cycle work practices and financial wellbeing of their contingent workers.


Note: More on the subject of non-cognitive skills and human capital:

• Early childhood: "Non Cognitive Skills and Personality Traits: Labour Market Relevance and their Development in Education & Training Systems" by Giorgio Brunello and Martin Schlotter, IZA DP No. 5743
• Early childhood and education: "Formulating, Identifying and Estimating the Technology of Cognitive and Noncognitive Skill Formation", by Flavio Cunha and James Heckman, University of Michigan Working Paper.
• Adult development: “Do Sporty People Have Access to Higher Job Quality?” by Charlotte Cabane, DIW working paper, 2010. 
• Related to sports and extracurricular activities: “Sports and Child Development” by Christina Felfe, Michael Lechner and Andreas Steinmayr, IZA Working Paper, 2011. And “Unemployment Duration and Sport Participation” by Charlotte Cabane,International Journal of Sport Finance, un-gated version ftp://mse.univ-paris1.fr/pub/mse/CES2011/11049R.pdf from 2011.
• Income effects: “Income Comparisons and Non-cognitive Skills” by Santi Budria and Ada Ferrer-i-Carbonell, DIW Working Paper, 2012.

23/1/16: Poland's Sovereign Risk Troubles

With what appears to be a political-motivated downgrade by the S&P on January, from A to BBB+, with steady outlook, Poland’s sovereign and macro risks have been pushed to the top of news flow. Meanwhile, Moody’s rates Poland A2 (stable) and Fitch A. However, as noted by Euromoney country risk recent assessment, the sovereign risks turmoil that accelerated over the last few weeks has been building up for some time now.

Euromoney Country Risk (ECR) survey shows that by the end of 2015, Poland’s political risk score dropped to 20.06, “the lowest it has been since ECR launched an updated methodology in 2011”. More interestingly, “Poland’s political risk score has been declining – indicating increased risk – since 2011.”

Worse, per ECR: “the drop in Poland’s political score from 20.17 in September to 20.06 in December combined with a fall in its economic risk score from 19.38 to 19.27 over the same period, contributing to a decline in its overall score to 65.62 from 66.93. Poland, which enjoyed a ranking as the 29th safest country in the world in September, dropped four spots in rankings since the yearend survey.

Here is ECR’s summary of scores for Poland, including some recent moves:

It is interesting to see Poland significantly underperforming Slovakia:

Overall, given that both Slovakia and Hungary have, over recent years, adopted a series of reforms that severely undercut effectiveness of institutional checks and balances over the power of the executive, the reaction of ratings agencies and European authorities to Poland following the same route suggests growing concern and nervousness in Europe over all and any national experimentation with populist and/or non-conformist (to EU 'standards') policies.

Not being a fan of the current Polish leadership, I find myself in Poland's corner: in a democratic setting, it is people, not Eurocrats, who should decide on their future institutions.

20/1/16: "Немного фантастики. Где у России остался потенциал роста”

My latest column for Slon.ru covering the topic of how Russia can jumpstart growth through targeted reform of its Special Development Zones and clustering environment: https://slon.ru/posts/62652.

19/1/16: After the crisis: Is there light at the end of the euro tunnel?

Here is my recent column for Cayman Financial Review covering the prospects for growth in the Euro area and the structural problems relating to the Euro institutions: http://www.compasscayman.com/cfr/2015/10/07/After-the-crisis--Is-there-light-at-the-end-of-the-euro-tunnel-/.

18/1/16: Forget Conventional Geopolitics, Demographics is the New Global Conflict Ground Zero

While analysts are worried about geopolitical tensions relating to *hot*, *cold* and *frozen* conflicts of traditional nature, the real Global Conflict is unfolding, slowly-paced, in the realm of demographics.

Here are two key themes underlying it:

Firstly, the ongoing widening of the generational gap, highlighted in my recent talks including here: http://trueeconomics.blogspot.ie/2015/07/29715-retailgoogle-key-trends-on.html. The Generational gap that can be described as the difference between economic power and aspirations of two distinct generations: the post-millenials and baby-boomers.

To see this we can take two examples of views from the baby-boom generation:

• The view of Jeremy Paxman: http://www.dailymail.co.uk/news/article-2055497/JEREMY-PAXMAN-Baby-Boomers-selfish-generation-history.html
• And the view of Edwina Currie: http://www.telegraph.co.uk/finance/personalfinance/pensions/12102364/Hey-youngsters-No-pension-No-home-No-wonder.-Look-at-you.html

The second manifestation is that of the disappearing middle classes, best highlighted by the following series of links covering Pew Research analysis of the U.S. data:

• The shrinking of the U.S. middle class: http://www.pewresearch.org/fact-tank/2015/12/14/americas-middle-class-is-shrinking-so-whos-leaving-it/
• And income impact of the above: http://www.pewsocialtrends.org/2015/12/09/4-middle-class-incomes-fall-further-behind-upper-tier-incomes/
• Including changing nature of demand: http://www.pewresearch.org/fact-tank/2015/12/30/its-no-longer-a-leave-it-to-beaver-world-for-american-families-but-it-wasnt-back-then-either/?utm_content=buffere1c76&utm_medium=social&utm_source=twitter.com&utm_campaign=buffer
• As well as changing social preferences: http://www.zerohedge.com/news/2015-12-24/faltering-faith-losing-hope-rising-charity-15-striking-findings-2015
• Leading to the growing gap between baby-boomers and the millennials:  http://www.bloombergview.com/interactives/2015-millennials/

All of the above concluding with the twin trend of vanishing core generational driver for the global economy: http://www.pewsocialtrends.org/2015/12/09/the-american-middle-class-is-losing-ground/

If you still think conventional weapons and geopolitical power plays are the biggest disruptors of status quo ante, think again.

15/1/16: Household Debt Sustainability in One Chart?

Here is a neat chart plotting household debt against long term interest rates in an attempt to visualise property prices in affordability / sustainability context:

Source: @resi_analyst

Irish progression is poor by debt measure, and is sustained (barely) by low interest rates, even post-deleveraging.

15/1/16: Gold Bullion as Risk Diversifier: 2015 Overview

A note of mine covering 2015 Gold market and the continued role of gold bullion & coins as risk diversifiers in current environment is now available on GoldCore page here: http://www.goldcore.com/us/gold-blog/gold-bullion-retains-key-role-of-a-major-diversifier-dr-gurdgiev/.

15/1/16: Russia in a Downshifters Club

A very interesting speech by German Gref (Sberbank) on Russian economic development amidst global economic transition from hydrocarbons-based economy

In the nutshell: Russian economy is in a state of 'downshifting' and is positioned to be a losing economy in the new post-hydrocarbons era.

I am not sure about Gref's timing (he thinks there is at most a decade left before the global economy fully re-orients toward alternative sources of energy), but he is correct on the urgency of institutional reforms.

14/1/16: Push or Pull: Entrepreneurship Among Older Households

Recently, I highlighted some of the potential problems relating to the less stable nature of the Gig Economy employment, including the longer-term pressures on life-cycle savings and pensions, as well as health care provision (you can see my discussion here: http://trueeconomics.blogspot.ie/2015/12/71215-cx-future-of-work-summit-dublin.html and my slides here: http://trueeconomics.blogspot.ie/2015/11/111115-gig-economy-challenge.html.

Mainstream economics has been lagging behind this trend, with little research on the long-term sustainability of the Gig Economy employment. Thus, it is quite heartening to see some related, albeit tangentially, research coming up.

One example is a very interesting study on entrepreneurship amongst the U.S. older households. Weller, Christian E. and Wenger, Jeffrey B. and Lichtenstein, Benyamin and Arcand, Carolyn, paper titled "Push or Pull: What Explains Growing Entrepreneurship Among Older Households?" (November 30, 2015: http://ssrn.com/abstract=2697091) does what it says: it looks at both push and pull factors for entrepreneurship and self-employment amongst older households.

Per authors (italics are mine): "Older households need to save more money for retirement, possibly by working longer. [Which is a pull factor for self-employment and  entrepreneurship]. But, the same labor market pressures that have made it harder for people to save, such as increasingly unstable labor markets, have also made it more difficult for people to work longer as wage and salary employees. [Which is a push factor toward self-employment and entrepreneurship].

Self-employment hence may have become an increasingly attractive alternative option for older households.

Entrepreneurship among older households has indeed grown faster than wage and salary employment, especially since the late 1990s.

But, this growth, rather than reflecting rising economic pressures, may have been the result of growing financial strengths – fewer financial constraints and more access to income diversification through capital income from rising wealth. Our empirical analysis finds little support for the hypothesis that growing economic pressures have contributed to increasing entrepreneurship. Instead, our results suggest that the growth of older entrepreneurship is coincident with increasing access to income diversification, especially from dividend and interest income. We also find some tentative evidence that access to Social Security and other annuity benefits increasingly correlate with self-employment. Greater access to interest and dividend income follows in part from more wealth and improved access to Social Security may reflect relatively strong labor market experience in the past."

This is an interesting result, because it is based on older households' access to:

1. Income from savings and wealth, including assets wealth; and
2. Income from retirement.

In the Gig Economy, both are likely to be compressed due to higher income volatility (and thus rising precautionary savings), tax incidences that impose liability with a lag (inducing higher income uncertainty), and lower earnings (due to lack of paid vacations, maternity/paternity and sick leave). In some cases, e.g. countries like Ireland, there is also an explicit income tax penalty for the self-employed (via both lower standard deductions and higher tax rates, such as those under the USC). All of which implies reduced access to income from retirement in the future, lower savings and wealth (including through inheritance). 

Subsequently, the current cohort of older entrepreneurs and self-employed may exhibit exactly the opposite drivers for their post-retirement employment choices than today's younger cohorts. And that matters because entrepreneurship and self-employment that start with push factors (e.g. necessity of life and constraints of the labour markets) is less successful than entrepreneurship and self-employment that start with pull factors.

14/1/16: Debt in Sub-Saharan Africa & Country-Specific Risks

The age of QE in the West, as well as the Great Recession and the Global Financial Crisis have both undoubtedly left some serious scars on the Emerging Markets. One example is the rising (once again) debt in the countries that prior to 2007 have benefited from major debt restructuring initiatives. Here is the new World Bank paper assessing the extent of debt accumulation in Sub-Saharan Africa post-2007.

"Sub-Saharan African countries as a group showed a considerable reduction in public and external indebtedness in the early 2000s as a result of debt relief programs, higher economic growth, and improved fiscal management for some countries. More recently, however, vulnerabilities in some countries are on the rise, including a few with very rapid debt accumulation."

Across Sub-Saharan African countries, "borrowing to support fiscal deficits since 2009, including through domestic markets and Eurobond issuance, has driven a net increase in public debt for all countries except oil exporters benefitting from buoyant commodity prices and fragile states receiving post-2008 Highly Indebted Poor Country relief. Current account deficits and foreign direct investment inflows drove the external debt dynamics, with balance of payments problems associated with very rapid external debt accumulation in some cases. Pockets of increasing vulnerabilities of debt financing profiles and sensitivity of debt burden indicators to macro-fiscal shocks require close monitoring."

And looking forward, things are not exactly promising: "Specific risks that policy makers in Sub-Saharan Africa need to pay attention to going forward include the recent fall in commodity prices, especially oil, the slowdown in China and the sluggish recovery in Europe, dependence on non-debt-creating flows, and accounting for contingent liabilities."

Full paper: Battaile, Bill and Hernandez, Fernando Leonardo and Norambuena, Vivian, Debt Sustainability in Sub-Saharan Africa: Unraveling Country-Specific Risks (December 21, 2015). World Bank Policy Research Working Paper No. 7523 is available via SSRN: http://ssrn.com/abstract=2706885

14/1/16: Two Charts to Sum Up Global Growth Environment

SocGen recently produced some interesting charts looking into 2016 trends. Two caught my eye, as both relate to long running themes covered on this blog throughout 2015.

The first one is that of a decline in global trade flows as the driver for growth. Per SocGen: "Global trade growth has been anchored below its historical average since the Great Recession, offering further evidence of tepid world economic recovery. Decreasing global demand, especially due to slowing emerging markets, weighs on the outlook for world trade."

http://uk.businessinsider.com/societe-generales-charts-of-the-global-economy-in-2016-2016-1


Another relates to the second drag on global economic progress - debt overhang. SocGen focuses on Emerging Markets’ debt, saying: "Zero interest policies in the developed world have bolstered debt issuance from EM corporates. Only a fraction of EM countries are immune to the current adverse conditions requiring a cautious approach to these markets."

Both do not offer much optimism when it comes to both cyclical (interest rates forward) and structural (capex and demand capacities) drivers for global growth. And both suggest that 2016 is unlikely to be more robust year for the world’s economy than 2015.