Morning Report – The Great Rotation? 02/04/13

Vital Statistics: 

  Last Change Percent
S&P Futures  1503.0 -3.7 -0.25%
Eurostoxx Index 2679.2 -30.9 -1.14%
Oil (WTI) 96.79 -1.0 -1.00%
LIBOR 0.296 0.000 0.00%
US Dollar Index (DXY) 79.45 0.325 0.41%
10 Year Govt Bond Yield 2.03% 0.01%  
RPX Composite Real Estate Index 193.1 0.0  

Markets are weaker on the back of big declines in the Italian and Spanish bourses. Euro sovereign yields are starting to tick back up. There doesn’t seem to be a story out there driving it. 

As the bond market has backed up, there is a lot of talk about whether this is the big rotation out of bonds and into stocks. Within the bond market, there is a rotation out of Treasuries and into high yield. Overall, the “risk on” trade seems to be gaining steam, which means we have seen the low point for mortgage rates. It also means that the private label market might come back.

Obama wants more revenue, specifically through reducing loopholes and deductions. I don’t know if this is posturing for the sequestration cuts or something else. Liberals are using the negative Q4 GDP report to argue that we can’t cut spending. That is simplistic – Q3 government spending was higher than normal due to the government’s “use it or lose it” budgeting. The government’s fiscal year ends in September, and there is always a push to spend your budget, even if you don’t really need it, to ensure your budget doesn’t get cut. Which means that Q4’s government spending was borrowed in Q3. Obama is being a little disingenuous when he says things like “The big problem was defense spending was cut 22 percent, the biggest drop in 40 years.” which implies we are already cutting to the bone. He is in favor of “smart spending reductions,” whatever that means, to bring down the deficit.  I suspect the only smart spending reductions he favors are the Orwellian-named “tax expenditures” and oil subsidies.  And don’t forget, the definition of what is considered a spending cut depends greatly on what the baseline is when you start counting. Many in Washington prefer to use the baseline from when spending was the highest (late 2010) as the baseline, project spending out 10 years from there, and count any difference between the old projection and the new projection as a “spending cut.”

13 Responses

  1. “He is in favor of “smart spending reductions,” whatever that means, to bring down the deficit.”

    He has a fine opportunity to provide detail here when the administration submits it’s FY2014 budget, which I believe is due this month.


  2. budget will be out in the next week or so.


  3. I posed this for Don Juan at PL. I know where JNC stands on this. I also know where the conservatives stand and I think I know where Mike, Paul, and Brian stand, generally. “Banned” had just decried the looming sequestration as potential BAD THING for the economy. So I asked:


    banned, would you approve of any substantial budget cuts? A COLA change for SS OABs? Limiting terminal patient care to hospice on the public teat? Mandating clean hospitals to cut the infectious disease rate within them?

    Assuming the real Keynes was correct and that budgeting deficit for recession and surplus for boom and near balance in between through countercyclicals is the way to go, then how can you justify all deficit all the time? Like Krugman, you can get to where you think some stimulus is always a good idea, except perhaps in a bubble.

    I am not being contentious gratuitously – just want to know what it would take for you to be against deficits, and when.

    I do understand that you could be for closing deficits on tax increases only, or that you could believe that either growth or inflation or both would work. But I suspect you believe in limits to tax increases, to unbubbled growth, and to the utility of constant inflation.

    So again, what cuts would you offer instead of sequestration?

    Anyone who wants to offer a reply here is welcome.


  4. In a growing economy you can run a perpetual deficit with near impunity. The only cost is carrying charges of the interest. It’s useful in that it provides a certain number of tools. Keynsian countercyclicism doesn’t necessarily require an actual surplus in boom times, just a reduction in the deficit relative to what it was.

    Even Krugman admits there is a limit to the size of the debt by some metric, %of GDP being the most common, but even that isn’t very useful when it blows up as a recession shrinks GDP but requires increased debt. That is why the figures jnc likes to use show us at record spending when by other measures it’s not nearly as catastrophic.

    Joel Achenbach was a deficit scold back when the total debt was a measly trillion or so and all the disasters predicted have yet to happen. Yet.

    I keep awaiting that wave of hyperinflation that will wipe out my fixed rate mortgage. Instead falling real estate prices make it a bigger dangling sword that it was 15 years ago as my equity refuses to budge.

    I would like to see another round of infrastructure stimulus spending but intransigent Republican governors make that harder than it looks as they are very fearful of the upkeep on those horses from the Greeks.

    I think defense could easily take a 10% haircut. Some reform on SS disability is merited but the abuses in that system are really the unintended consequences of ending welfare as we knew it. We now have welfare called something else.

    I just don’t know where the low hanging fruit are on the discretionary side. National parks which are a rounding error compared to the defense budget have had all the blood squeezed out of that turnip.

    So my answer would be halve the defense and domestic and sequestration cuts, make it up with tax reform (carried interest, capital gains (although I think that ship sailed), and charitable contributions in excess of 15% of AGI) and then claw back half again with onetime infrastructure projects.

    Running mild inflation (~5% a year) for a few years would ameliorate housing values without any complicated government programs. But that cure may be worse than the disease.


  5. “yellojkt, on February 4, 2013 at 2:26 pm said:

    In a growing economy you can run a perpetual deficit with near impunity. The only cost is carrying charges of the interest. It’s useful in that it provides a certain number of tools. Keynsian countercyclicism doesn’t necessarily require an actual surplus in boom times, just a reduction in the deficit relative to what it was. “

    That’s not Keynesian. That’s MMT. Deficits never matter. Keynes himself started with the premise of a balanced budget.

    “That is why the figures jnc likes to use show us at record spending when by other measures it’s not nearly as catastrophic.”

    You can use nominative numbers as well and get the same results.

    Federal Outlays

    FY2008: 2,982 billion
    FY2009: 3,517
    FY2010: 3,456
    FY2011: 3,603
    FY2012: 3,500


    • That’s not Keynesian. That’s MMT.

      Concur. MMT is an evolution of Keynesian stimulus. For example. MMTers call for the government to be the employer of last resort. I can’t Imagine any modern Democrat suggesting such a thing. But this isn’t much different than the minimum income considered by Nixon or the current policy of 99 weeks of unemployment benefits for that matter.But it’s not much different from the CCC and other New Deal programs. In World War II conscription pretty much ensured full employment and after the war we abandoned it.

      Spending in real dollars has been flat for four years and is declining as % of GDP. We probably need to regress to the mean a little faster, but a growing economy would be a better help in that regard than austerity measures.


      • 1] MMT is after my time in college.

        2] I don’t understand it.

        3] I don’t understand it to derive anything from JMK, or from Friedman.

        4] From limited reading of newspaper columns and Economist blogs, it sounds as if MMT posits perpetual deficits because the national economy is thought to be a zero sum game. Do I have that right?

        5] Can one of you cite me to a source?


        • Mark:

          Try this or this.

          (broken link fixed)


        • Thanks for the links but the second one doesn’t seem to be working. My Googling led me to this site as well which is run by Stephanie Kelton, the self-described Deficit Owl


        • So far, I am not buying this.

          Thanks to both of you for the links.

          Addendum: This theory seems to pose money as far more than a means of exchange. It builds on the notion with which I agree that fiat money is worth as much as it is trusted, but suggests that the trust level may be counted upon to expand to meet almost any contingency so long as the economy is growing, and then poses that the economy can be kept growing by continual deficits, because growth, not inflation, will be the general result of deficits. Seems like circular wishful thinking to me. What troubles me most is the assertion that surpluses are always bad for the economy because they must be offset by private sector borrowing dollar for dollar. This zero sum idea makes no sense to me in either direction.

          This sort of positing of money as more than a means of exchange does not give proper weight to productivity, human capital, innovation, entrepreneurship, natural resources, arable land, sci/tech advances, peace; the actual prerequisites for growth, I would argue.


        • US to sue S&P over its credit ratings of MBS.


  6. “Seems like circular wishful thinking to me.”

    Which is the precise argument that most of the critics, including Paul Krugman himself, level at it.

    Here’s his back and forth with Galbraith & others over MMT vs New Keynesian economics.

    His bottom line:

    “So what does this say about the United States? At a future date, when we’re out of the liquidity trap, public finances will matter — and not just because of their role in raising or reducing aggregate demand. The composition of public liabilities as between debt and monetary base does matter in normal times — hey, if it didn’t, the Fed would have no influence, ever. So if we try at that point to finance the deficit by money issue rather than bond sales, it will be inflationary.

    And unlike France in the 1920s, such a hypothetical US deficit crisis wouldn’t be self-correcting: the biggest source of our long-run deficit isn’t the overhang of debt, it’s the prospective current cost of paying for retirement, health care, and defense. So such a crisis — again, it’s very much hypothetical — could spiral into something very nasty, with very high inflation and, yes, hyperinflation.”

    The other issue as I see it with MMT is that it’s premised on the idea that the populace at large doesn’t realize that MMT is actually being practiced and also have no alternatives to storing value other than fiat currency. I..e Appearances are kept up that the debt will be paid back at some point. Once expectations change to accurately reflect what the implications of MMT are, behavior will change as well which will diminish the effectiveness of MMT as a policy tool.


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