INARM Message - DO DEFICITS MATTER? ......

[Jetha, Shiraz (OIC)]

………..AT SOME POINT?? IF SO, WHEN???

 

Two views I have seen in the media in the context of US Deficits are:

 

(i)                 Yes, they matter

(ii)               Surprise, Surprise! No they don’t

 

In the US media, the reason mentioned for (ii) is the excess capacity in the economy. In fact in this view, it seems to be crucial to correct the unemployment situation first before worrying about size of deficits.

 

While under (i) there are concerns about inflation, “debt burden to our (grand)children” , etc

 

It seems that the US administration seems to be gravitating towards (i) recently.

 

So are we really (or should we be) worried about our (grand)children, or is this shift mere politicking?

 

Shiraz Jetha

360-725-7057

[Ishmael Sharara]

As with most real-life questions, particulary those pertaining to
economic theory, I think the answer depends on the context or more
importantly the point that you're trying to make (moreso if you're a
politician of course) - there are simply no absolutes. At the end of
the day, it's a question of which assumptions are you willing to
accept, or if you prefer, which assumptions are you willing to
(reluctantly or conveniently) overlook.

Ishmael Sharara

Quoting "Jetha, Shiraz (OIC)" <Shi...@OIC.WA.GOV>:

> ...........AT SOME POINT?? IF SO, WHEN???

[Nick Albicelli]

It's not so much deficits, it's debt.  And it's not just debt, it's the ability to pay back that debt.  You can pay it back with taxes collected, currency obtained from net exports, or FX and gold reserves. 

Nations like Germany and Japan have lots more reserves (and thus are less "leveraged"), have strong governments with taxing ability, and run current account surpluses (and Japan has very strong domestic purchases of debt).  Greece and Spain don't, so merely looking at deficits as a % of GDP is misleading.  By that measure, Japan would have defaulted years ago (their debt pushes 200% of GDP), but every time the bond vigilantes short them, they lose, likely because of these strong fundamentals  - I think that their reserves are over 10% of public debt, and as everyone knows they are a huge exporting nation.  And they don't even bother shorting Germany because until recently they didn't even have a particularly bad debt to GDP ratio, yet strong net exports, decent reserves, and little black market activity (relative to, say, Greece).

By comparison, the US runs current account deficits, probably doesn't have the political will to tax much more than it currently does, and has small reserves  However, the US can monetize it's debt.  Of course, a massive inflation on the USD to forestall a default has it's own problems, so one hopes it never comes to that.  The US gains a great deal from being the world's reserve currency and so prolonged, high debt to GDP %age paired with current account deficits is a bad thing.

---

From: "Madigan, Kevin" <KMad...@pinnacleactuaries.com>
To: Frank Reynolds <fgre...@uwaterloo.ca>; "Jetha, Shiraz (OIC)" <Shi...@OIC.WA.GOV>; in...@list.soa.org
Sent: Fri, February 12, 2010 2:34:18 PM
Subject: RE: INARM Message - DO DEFICITS MATTER? ......

Frank, there is no need to apologize for disagreeing. I am not that kind of actuary.

Just to be clear, regarding the grandchildren argument, I was responding to Shiraz’s original question and was talking about deficits in general, not about social security or Medicare (in case that is where you were coming from).

I do not think you can compare the current situation to what anyone has observed in the last forty or fifty years. The current situation is unlike anything we have seen since the 1930s.

Regarding Greece and Spain - Krugman, Johnson, Kwak, et. al., have written extensively on this. I have seen data that indicates that Spain and Greece were in better shape (deficit vs. GDP) than Germany was prior to this crisis. So how do we explain the lack of a severe crisis in Germany?

 

Regards,

Kevin

 

Kevin M. Madigan, PhD, ACAS, MAAA

( Office: 518-288-0139 | Mobile: 518-526-9390

 

From: Frank Reynolds [mailto:fgre...@uwaterloo.ca]
Sent: Friday, February 12, 2010 2:28 PM
To: Madigan, Kevin; Jetha, Shiraz (OIC); in...@list.soa.org
Subject: RE: INARM Message - DO DEFICITS MATTER? ......

 

Sorry Kevin but I disagree
The deficits in Greece and Spain were the root and not a consequence
The grandchildren argument is based on  a SOA paper. Yes some borrowing can be justified but it should be within a balanced budget Otherwise, long term it cannot be handled
If debt is not brought under control, productivity will fall  and so eventually will the standard of living I have seen it in Canada in my life time
 


At 02:19 PM 12/02/2010, Madigan, Kevin wrote:

Data and commentary that I have recently seen indicate that Greece and Spain are not in the trouble due to deficits. It appears to me that the problem is that their recent “economic growth” was not real - it was highly driven by the international speculative bubble - and they have no ability to do anything about their currency in response AND their labor force cannot just pick up and move to France and Germany the way Floridians or Arizonans can relocate to another US state. Their deficits were not much of a problem at all until the crisis occurred.  Outside of leaving the euro and going back their own currencies there doesn’t seem to be much that they can do about it - unless they want to repeat the mistakes of the pre-Keynesian classical economists. If the EU wants to make the euro work then they some extremely tough political decisions need to be made. But I can’t see Parisians or Frankfurters wanting to give up that much control to Brussels to save PIIGS.
 
I think the “grandchildren” argument is political posturing. Using that argument no one would borrow money to make any capital improvements or capital expenditures in their homes or their family businesses. People borrow money to buy houses, businesses, educations, etc. all the time for obvious reasons. Refusing to increase deficits in this current crisis is akin to refusing to borrow money to rebuild a severely damaged home. “Sorry, Billy and Jane, we have to live in this dilapidated house because it wouldn’t be fair to our non-existent progeny to saddle them with the debt it would take to rebuild”.
 
The debt we are leaving posterity will be insignificant compared to the world they will inherit if we do not run up deficits now.
 
Regards,
Kevin
 
Kevin M. Madigan, PhD, ACAS, MAAA
( Office: 518-288-0139 | Mobile: 518-526-9390
 
From: Frank Reynolds [ mailto:fgre...@uwaterloo.ca]
Sent: Friday, February 12, 2010 1:57 PM
To: Jetha, Shiraz (OIC); in...@list.soa.org
Subject: Re: INARM Message - DO DEFICITS MATTER? ......
 
Deficits do matter. The US has been able to float all the debt it wants for years. I suspect that will come to an end within 10 years like it has for Greece and Spain.
The larger the debt the worse the result will be
Remember the tremendous debt due to Social Security - before the latest Medicare changes, the contribution rate was going to rise to 50% of GDP within 20 (?) years
Too many of today's US economists are still 1930's style Kenysians and do not see the inflation and other problems associated with deficits - they only see the next 6 to 12 months

[Frank Reynolds]

Sorry Kevin but I disagree
The deficits in Greece and Spain were the root and not a consequence
The grandchildren argument is based on  a SOA paper. Yes some borrowing can be justified but it should be within a balanced budget Otherwise, long term it cannot be handled
If debt is not brought under control, productivity will fall  and so eventually will the standard of living I have seen it in Canada in my life time
 


At 02:19 PM 12/02/2010, Madigan, Kevin wrote:

Data and commentary that I have recently seen indicate that Greece and Spain are not in the trouble due to deficits. It appears to me that the problem is that their recent “economic growth” was not real - it was highly driven by the international speculative bubble - and they have no ability to do anything about their currency in response AND their labor force cannot just pick up and move to France and Germany the way Floridians or Arizonans can relocate to another US state. Their deficits were not much of a problem at all until the crisis occurred.  Outside of leaving the euro and going back their own currencies there doesn’t seem to be much that they can do about it - unless they want to repeat the mistakes of the pre-Keynesian classical economists. If the EU wants to make the euro work then they some extremely tough political decisions need to be made. But I can’t see Parisians or Frankfurters wanting to give up that much control to Brussels to save PIIGS.
 
I think the “grandchildren” argument is political posturing. Using that argument no one would borrow money to make any capital improvements or capital expenditures in their homes or their family businesses. People borrow money to buy houses, businesses, educations, etc. all the time for obvious reasons. Refusing to increase deficits in this current crisis is akin to refusing to borrow money to rebuild a severely damaged home. “Sorry, Billy and Jane, we have to live in this dilapidated house because it wouldn’t be fair to our non-existent progeny to saddle them with the debt it would take to rebuild”.
 
The debt we are leaving posterity will be insignificant compared to the world they will inherit if we do not run up deficits now.
 
Regards,
Kevin
 
Kevin M. Madigan, PhD, ACAS, MAAA
( Office: 518-288-0139 | Mobile: 518-526-9390
 
From: Frank Reynolds [ mailto:fgre...@uwaterloo.ca]
Sent: Friday, February 12, 2010 1:57 PM
To: Jetha, Shiraz (OIC); in...@list.soa.org
Subject: Re: INARM Message - DO DEFICITS MATTER? ......
 
Deficits do matter. The US has been able to float all the debt it wants for years. I suspect that will come to an end within 10 years like it has for Greece and Spain.
The larger the debt the worse the result will be
Remember the tremendous debt due to Social Security - before the latest Medicare changes, the contribution rate was going to rise to 50% of GDP within 20 (?) years
Too many of today's US economists are still 1930's style Kenysians and do not see the inflation and other problems associated with deficits - they only see the next 6 to 12 months



At 12:15 PM 11/02/2010, Jetha, Shiraz (OIC) wrote:

[Madigan, Kevin]

Frank, there is no need to apologize for disagreeing. I am not that kind of actuary.

Just to be clear, regarding the grandchildren argument, I was responding to Shiraz’s original question and was talking about deficits in general, not about social security or Medicare (in case that is where you were coming from).

I do not think you can compare the current situation to what anyone has observed in the last forty or fifty years. The current situation is unlike anything we have seen since the 1930s.

Regarding Greece and Spain - Krugman, Johnson, Kwak, et. al., have written extensively on this. I have seen data that indicates that Spain and Greece were in better shape (deficit vs. GDP) than Germany was prior to this crisis. So how do we explain the lack of a severe crisis in Germany?

 

Regards,

Kevin

 

Kevin M. Madigan, PhD, ACAS, MAAA

( Office: 518-288-0139 | Mobile: 518-526-9390

 

From: Frank Reynolds [mailto:fgre...@uwaterloo.ca]

Sent: Friday, February 12, 2010 2:28 PM

[Frank Reynolds]

Deficits do matter. The US has been able to float all the debt it wants for years. I suspect that will come to an end within 10 years like it has for Greece and Spain.
The larger the debt the worse the result will be
Remember the tremendous debt due to Social Security - before the latest Medicare changes, the contribution rate was going to rise to 50% of GDP within 20 (?) years
Too many of today's US economists are still 1930's style Kenysians and do not see the inflation and other problems associated with deficits - they only see the next 6 to 12 months



At 12:15 PM 11/02/2010, Jetha, Shiraz (OIC) wrote:

[Madigan, Kevin]

Data and commentary that I have recently seen indicate that Greece and Spain are not in the trouble due to deficits. It appears to me that the problem is that their recent “economic growth” was not real - it was highly driven by the international speculative bubble - and they have no ability to do anything about their currency in response AND their labor force cannot just pick up and move to France and Germany the way Floridians or Arizonans can relocate to another US state. Their deficits were not much of a problem at all until the crisis occurred.  Outside of leaving the euro and going back their own currencies there doesn’t seem to be much that they can do about it - unless they want to repeat the mistakes of the pre-Keynesian classical economists. If the EU wants to make the euro work then they some extremely tough political decisions need to be made. But I can’t see Parisians or Frankfurters wanting to give up that much control to Brussels to save PIIGS.

 

I think the “grandchildren” argument is political posturing. Using that argument no one would borrow money to make any capital improvements or capital expenditures in their homes or their family businesses. People borrow money to buy houses, businesses, educations, etc. all the time for obvious reasons. Refusing to increase deficits in this current crisis is akin to refusing to borrow money to rebuild a severely damaged home. “Sorry, Billy and Jane, we have to live in this dilapidated house because it wouldn’t be fair to our non-existent progeny to saddle them with the debt it would take to rebuild”.

 

The debt we are leaving posterity will be insignificant compared to the world they will inherit if we do not run up deficits now.

 

Regards,

Kevin

 

Kevin M. Madigan, PhD, ACAS, MAAA

( Office: 518-288-0139 | Mobile: 518-526-9390

 

From: Frank Reynolds [mailto:fgre...@uwaterloo.ca]
Sent: Friday, February 12, 2010 1:57 PM
To: Jetha, Shiraz (OIC); in...@list.soa.org
Subject: Re: INARM Message - DO DEFICITS MATTER? ......

 

Deficits do matter. The US has been able to float all the debt it wants for years. I suspect that will come to an end within 10 years like it has for Greece and Spain.

[Frank Ashe]

Here's a draft of series of papers I'm writing on this matter.  With so much riding on this it is important that actuaries and others in the finance industry have an understanding of money and credit.  Unfortunately the main textbooks get it wrong - they give a gold standard account of money, something that hasn't existed in the major economies for many years.

 

The third paper gives a simple description of when deficits matter - and it's not now!  

 

I'm giving a presentation on this matter at the Financial Services Forum put on by the Australian Actuarial Institute in May.

 

 

 

Frank Ashe
+61 (0) 425 291 833

 

---

From: Nick Albicelli [mailto:njalb...@yahoo.com]
Sent: Saturday, 13 February 2010 7:24 AM
To: Madigan, Kevin; Frank Reynolds; Jetha, Shiraz (OIC); in...@list.soa.org

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This message is intended for the addressee named and may contain
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[Frank Ashe]

Shiraz,

 

Foreign trade doesn't affect the argument, which purely looks at the monetary side.  To cover the complexity I'd have to look at the class at a later stage of their primary education, say when they're about 10 years old.

 

Frank Ashe
+61 (0) 425 291 833

 

---

From: Jetha, Shiraz (OIC) [mailto:Shi...@OIC.WA.GOV]
Sent: Wednesday, 17 February 2010 10:59 AM
To: Frank Ashe; in...@list.soa.org

Subject: RE: INARM Message - DO DEFICITS MATTER? ......

Went through your attachments fairly quickly, Frank. These were helpful. But one quick question.

 

Is one of the underlying assumptions that there is no foreign trade - i.e. is the assumption that there is no importing of some ingredients of production or, alternatively, that all manufacturing, agriculture, etc that the economy needs is from within its borders?

 

Shiraz

[Nick Albicelli]

I like this presentation of how money and credit are created and used.  However, I think that in combining the central bank and fiscal arms of government, you may be oversimplifying the issue about deficits.  If you combine the balance sheets of the central bank and the rest of government, then you simply talk about the government running a deficit whenever (net) money is injected into private hands and a surplus when (net) money is taken out of private hands. But that does not match the common usage of the terms.

In the US, the balance sheets and actions of the fiscal and monetary policy can be very different, and the term "deficit" or "surplus" is used in reference to just the actions of fiscal policy.  If you combine the actions of the Fed and the Treasury, then when the Fed starts selling its oversized mortgage holdings later this year, you would say that US government is running a surplus (well, maybe not, depending on how fast the Fed sells and how bad the traditionally defined fiscal deficit is.  But it would certainly be a significant reduction in the deficit).  In any case, the arguments for or against the (fiscal) deficit would not really be strengthened or weakened despite the dramatic change in the "overall government" deficit.

And while in one sense, if you believe that central banks are not independent (an assertion that you make, but I would dispute, at least for some countries, at some points in time), then there is no difference between the government paying people to dig ditches and the Fed purchasing Treasuries in open market operations since both put money into private hands.  But I think that the differences between those two things are greater than the similarities, so that thinking about them as two different things, and therefore talking about fiscal policy as being different than monetary policy, is a useful construct to have.

Having said that, I understand that you have to make simplifications when you make this kind of exposition based on first principles, I just think that the separate functions of the Fed and the Treasury are different enough to warrant being considered a "first principle" kind of thing.

---

From: Frank Ashe <Frank...@mafc.mq.edu.au>
To: Nick Albicelli <njalb...@yahoo.com>; "Madigan, Kevin" <KMad...@pinnacleactuaries.com>; Frank Reynolds <fgre...@uwaterloo.ca>; "Jetha, Shiraz (OIC)" <Shi...@OIC.WA.GOV>; in...@list.soa.org
Sent: Sun, February 14, 2010 11:34:52 PM

[Frank Ashe]

Nick,

 

I agree, I'm oversimplifying, but not distorting.  Treating Treasury and Fed operations as separate contributes to the confusion in this area.  If we want to find two government areas that work most closely together then you'll find it's Treasury and Fed.  For example, there is an incredible amount of to and fro between these groups as they try to keep the Fed interest rate at its target and to balance the huge cashflow timing mismatches between government income and expenditure.

 

Taking your example below "the government paying people to dig ditches and the Fed purchasing Treasuries in open market operations ".  If the government just spent the money - increased a private banks Fed reserves by $100, which was then transferred to the account of the ditch digger then this is quite different to the Fed buying an already existing Treasury for $100.  The Treasury bond is a line in a register somewhere in the bowels of Washington saying that the govt will pay the Coupon Clipper $100 in 10 years time and $2.50 every six months till then (5% coupon).  When the Fed buys this bond on the open market then there is an electronic transfer from this register to the CC's bank account (first to some bank's Fed reserve account, then via inter-bank transfers), paying some other rate of interest. 

 

In the first case the net financial assets of the private sector increased by $100, in the second case there was no change in the net assets of the private sector ($100 bond is now $100 cash).  This is a big difference!  It is important to keep track of stocks and flows - something that a lot of the political commentary worldwide doesn't do.

Frank Ashe
+61 (0) 425 291 833

 

From: Nick Albicelli [mailto:njalb...@yahoo.com]

Sent: Thursday, 18 February 2010 9:18 AM
To: Frank Ashe; Madigan, Kevin; Frank Reynolds; Jetha, Shiraz (OIC); in...@list.soa.org

[Christian Gaun]

In terms of debt, Germany in 2007 had a debt of 66% of GDP while Spain
had 43% (Greece is a different story) --
https://www.cia.gov/library/publications/the-world-factbook/geos/gm.html.

On Feb 12, 3:23 pm, Nick Albicelli <njalbice...@yahoo.com> wrote:
> It's not so much deficits, it's debt.  And it's not just debt, it's the ability to pay back that debt.  You can pay it back with taxes collected, currency obtained from net exports, or FX and gold reserves.  
>
> Nations like Germany and Japan have lots more reserves (and thus are less "leveraged"), have strong governments with taxing ability, and run current account surpluses (and Japan has very strong domestic purchases of debt).  Greece and Spain don't, so merely looking at deficits as a % of GDP is misleading.  By that measure, Japan would have defaulted years ago (their debt pushes 200% of GDP), but every time the bond vigilantes short them, they lose, likely because of these strong fundamentals  - I think that their reserves are over 10% of public debt, and as everyone knows they are a huge exporting nation.  And they don't even bother shorting Germany because until recently they didn't even have a particularly bad debt to GDP ratio, yet strong net exports, decent reserves, and little black market activity (relative to, say, Greece).
>
> By comparison, the US runs current account deficits, probably doesn't have the political will to tax much more than it currently does, and has small reserves  However, the US can monetize it's debt.  Of course, a massive inflation on the USD to forestall a default has it's own problems, so one hopes it never comes to that.  The US gains a great deal from being the world's reserve currency and so prolonged, high debt to GDP %age paired with current account deficits is a bad thing.
>
> ________________________________

> From: "Madigan, Kevin" <KMadi...@pinnacleactuaries.com>
> To: Frank Reynolds <fgrey...@uwaterloo.ca>; "Jetha, Shiraz (OIC)" <Shir...@OIC.WA.GOV>; in...@list.soa.org

> Sent: Fri, February 12, 2010 2:34:18 PM
> Subject: RE: INARM Message - DO DEFICITS MATTER? ......
>
> Frank, there is no need to apologize for disagreeing. I am not
> that kind of actuary.
> Just to be clear, regarding the grandchildren argument, I was
> responding to Shiraz’s original question and was talking about deficits
> in general, not about social security or Medicare (in case that is where you
> were coming from).
> I do not think you can compare the current situation to what anyone
> has observed in the last forty or fifty years. The current situation is unlike
> anything we have seen since the 1930s.
> Regarding Greece and Spain - Krugman, Johnson, Kwak, et. al.,
> have written extensively on this. I have seen data that indicates that Spain
> and Greece were in better shape (deficit vs. GDP) than Germany was prior to
> this crisis. So how do we explain the lack of a severe crisis in Germany?
>
> Regards,
> Kevin
>
> Kevin M. Madigan, PhD, ACAS, MAAA

> (Office: 518-288-0139 | Mobile: 518-526-9390

[Jetha, Shiraz (OIC)]

Went through your attachments fairly quickly, Frank. These were helpful. But one quick question.

 

Is one of the underlying assumptions that there is no foreign trade - i.e. is the assumption that there is no importing of some ingredients of production or, alternatively, that all manufacturing, agriculture, etc that the economy needs is from within its borders?

 

Shiraz

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]

Sent: Sunday, February 14, 2010 8:35 PM

[Nick Albicelli]

What a good discussion!

I think that what you just wrote is not the right way to look at sovereign debt; it certainly does not explain the Greece situation.  When the Greek government pays someone 100 Euros, then where did the government get that money from? There are two alternatives:  the right way is that they have the money lying around in reserves because they collected 100 EUR in taxes or they issued 100 EUR in bonds, so when they transfer to the bank's account one can view the Treasury function as merely redistributing from one private party to another; the wrong way is that they don't have the money so when they transfer "money" to the bank they are really just giving them scrip (this is similar to what California did a few months ago) - that blip in the bank's account may look like a Euro, but it's not a Euro, because treasuries can't print money. 

Now, instead of being owed 100 EUR because you dug a ditch, imagine if you are owed 100 EUR because you own a Greek govie that is maturing.  For whatever reason (unfortunately for them, a highly correlated reason), they can't issue more to roll over the debt (which would effectively be just redistributing an asset from one private party to another), so they have to give you 100 EUR.  They don't have enough reserves for all of the bonds outstanding, so they default (which could take the form of partial payment, give you new drachmas, etc...). 

So when the treasury is seen as just another economic actor, paying someone for labor or paying back a loan, it is not changing the net financial assets in the system when it pays someone - the treasury has a store of money just like anyone, and when demands are made of the treasury, it has to come from those reserves (although this is not operationally true because of the close interaction between the Fed and Treasury that you refer to, if the Fed were to front the Treasury beyond operating usage, it would really be a decision of the Fed to monetize the debt, not the Treasury).  Adding a non-independent central bank gives the government another option upon not being able to pay for an obligation, namely, to have the Fed "print" $100 and give it to the bondholder in exchange for the maturing bond.  But this kind of monetizing of the debt is not really open to countries in the Euro zone. 

And even if we assume that the US Fed would print dollars to monetize he debt, avoiding technical default by substantially inflating the currency is not a good thing for a lot of people.  So going back to the original question, deficits do matter because they can lead to technical default of sovereign bonds, or inflation.  Of course, the downsides of running deficits need to be balanced against the downsides of not doing the things that create the deficits, so running deficits may still be better than not running them.

---

From: Frank Ashe <Frank...@mafc.mq.edu.au>
To: Nick Albicelli <njalb...@yahoo.com>; "Madigan, Kevin" <KMad...@pinnacleactuaries.com>; Frank Reynolds <fgre...@uwaterloo.ca>; "Jetha, Shiraz (OIC)" <Shi...@OIC.WA.GOV>; in...@list.soa.org

Sent: Wed, February 17, 2010 6:52:52 PM

[Ingram, Dave]

But someone at the ECB could have the ability (subject to whatever their governance constraints are) to add to the supply of Euros and lend them to Greece.  That may be what is needed, but it seems that is not provided for in the agreement creating the Euro.  Instead, that agreement seems to require that no one ever get into such a situation.  An appalling lack of foresight that creates the tremendous uncertainty that exists right now. 

 

It seems to me that the other part of this issue, taking it away from Greece, is to discern when the amount of deficit and/or asset purchases and/or other ways of creating more dollars goes to an unsustainable level. 

 

But to answer this, I would think that someone would need to know what is the real total supply of dollars in the world now and in the past and what level of supply of dollars is needed for the world economy to function properly. 

 

It seems that the large losses of banks and hedge funds and mutual funds and other entities that create money supply (some of which are transparent and some are not) and the balance sheet strengthening and the reductions in leverage must have caused precipitous drops in the supply of dollars.  Things work best if the size of the economy and the money supply are balanced.  Otherwise there are large and possibly distructive swings in prices and activities to bring them into balance.  The jump in unemployment that has been experienced in many places is one such swing.  Inflation would be another such swing. 

 

Now the money supply should not be managed to bring it back to the level right before the crisis.  That is because right before the crisis things were not operating at a sustainable level.  The target should be to get the money supply at a level that will support the highest sustainable level of economic activity that the economy could produce. 

 

So in my mind the question about whether all this extra money will cause inflation requires knowledge of both the actual real level of money in the system as well as the capacity of the ecconomy to use that money. 

 

It seems to me that some of the commentators who are afraid of inflation are reacting only to the amount of money being added to the system without regard to the information necessary to draw any conclusion. 

 

So to look at it that way, things like China's vast dollar reserves are a troublesome feature of the current situation.  If China continues to hold on to those reserves, then those dollars are effectively NOT a part of the world money supply.  But if at some point in time, China acts to put that money back into the system, they can make a significant difference in the money supply which would either cause a big jump in inflation or would require the Fed to pull back the part of the money supply that they control. 

 

So because the Dollar is the reserve currency, I think that the global money supply considerations are much more important than the fiscal deficit considerations, EXCEPT to the extent that the deficit situation puts large amounts of dollars outside the direct control of the Fed and therefore gives folks like the Chinese a massive lever in the world economy.  China seems to be very much aware of this and to realize that they do not have good options for what to do with their vast dollar reserves.  If China were to float their currency, then this aspect of the situation would dissapate. 

 

If the Dollar was no longer the reserve currency, then suddenly, the fiscal effects would come home to roost and the massive amount of debt would become as troublesome to the US as it is to the UK. 

 

Dave Ingram

---

From: Nick Albicelli [mailto:njalb...@yahoo.com]

Sent: Thursday, February 18, 2010 9:13 AM

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[Nick Albicelli]

So in my mind the question about whether all this extra money will cause inflation requires knowledge of both the actual real level of money in the system as well as the capacity of the ecconomy to use that money.

But isn't that precisely the problem - nobody, not us, not the Fed, knows those two values.  So you have the Fed buying mortgages to significantly increase the money supply, and banks shoring up capital, which significantly decreases the money supply, and hoping that the net effect matches the capacity of the economy to use that money.  I believe that they have done an excellent job so far. 

What I think is a valid criticism is that at some point, the deflationary forces will abate, and because no one can have perfect knowledge of that happening, the Fed will have to thread the needle and reduce its inflationary actions almost simultaneously.  If they act too slow, there is a good chance that inflation expectations will take hold requiring a painful tightening later.  And if they act too fast, they risk another recession (depression?).  And for all this, Bernanke gets a salary of $191,300.  I wonder how many times he wishes he was back at Princeton...

---

From: "Ingram, Dave" <Dave....@willis.com>
To: in...@list.soa.org
Sent: Thu, February 18, 2010 9:50:46 AM
Subject: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

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[Ingram, Dave]

You are describing Japan.  So there is evidence that your scenario can happen.  In fact, that is doubtless why there is no inflation from deficits in Japan. 

---

From: Hopewell, David [mailto:dhop...@Aegonusa.com]
Sent: Thursday, February 18, 2010 2:11 PM
To: in...@list.soa.org
Subject: RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

I’ll propose non-inflationary view. Not that I necessarily believe it but it should be taken seriously.

 

If deficits increase as the government assumes private sector debt and the private sector savings goes up at the same time, is it possible for the private sector to accelerate savings and perhaps oversave out of a lack of trust? Wouldn’t that make large deficits deflationary?

 

Monetarist concern about money causing inflation is only true if the money is spent. The developed world may not be young enough to want to take that risk anymore.

 

Any takers on that view?

 

 

David Hopewell, FSA CFA

Chief Financial Officer

Transamerica Capital Management

dhop...@aegonusa.com

319.355.4135

[Frank Ashe]

If inflation, eventuates (we have no way of predicting if it will or won't except in extreme cases) then the government can raise taxes or reduce spending to reduce demand.  This has the effect of removing the savings from the system.  The economy will be bubbling along well at that point so a reduction in demand will be beneficial.

 

Frank Ashe
+61 (0) 425 291 833

 

---

From: bc...@metlife.com [mailto:bc...@metlife.com]
Sent: Friday, 19 February 2010 6:23 AM
To: Dave....@willis.com
Cc: Hopewell, David; in...@list.soa.org

Subject: RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

Eventually, the increase in savings will be spent either by you or by your estate.  

Inflation may be deferred but it will not be eliminated.
 

"Ingram, Dave" <Dave....@willis.com> 02/18/2010 02:16 PM

To "Hopewell, David" <dhop...@Aegonusa.com>, in...@list.soa.org cc

The information contained in this message may be CONFIDENTIAL and is for the intended addressee only.  Any unauthorized use, dissemination of the information, or copying of this message is prohibited.  If you are not the intended addressee, please notify the sender immediately and delete this message.

[Frank Ashe]

Jim,

 

You gave a wrong answer to the last question.  No wonder the student was appalled.

 

Assuming that the bank has been properly run, the Fed will act as a lender of last resort to the bank, providing liquidity via a loan.  The loan will be repaid when the assets of the bank are unwound in an orderly fashion.

 

If the bank has not been properly run then the managers and board will (in theory) be prosecuted, the shareholders will lose their money  and the depositor will be protected by the insurance scheme on bank deposits.

 

Please don't scare the little kiddies.  They have enough to be worried about when they watch their politicians at work.

 

 

Cheers,

 

Frank Ashe
+61 (0) 425 291 833

 

---

From: Jim Bridgeman [mailto:brid...@math.uconn.edu]
Sent: Friday, 19 February 2010 5:03 AM
To: 'Ingram, Dave'; in...@list.soa.org

Subject: RE: INARM Message - DO DEFICITS MATTER? ......

Thirty years ago I was guest speaker to a class of 10 year olds on the subject of finance.  I tried to make it simple:

 

How many of you have a savings account, or parents with a checking account, at the local bank?  A bunch of hands went up.

 

Where is your money now? The majority thought it was back in vault.

 

No, the bank took your money and gave it to Jim so he could expand the local pizza parlor.  He’ll pay the bank back when more customers come in for pizza and then the bank will be able to give you your money back, with interest. 

 

One 10 year old hand goes up:  What if I want my money back before Jim has enough customers to pay it back?

 

No problem, your friend there will probably be depositing some money and your bank will just give his money to you and then later, when Jim has enough customers to repay your bank, your bank will be able to give your friend his money.  I go on to talk about other kind of finance (Jim could have expanded the pizza parlor by taking on partners or by issuing stock).

 

But soon the same 10 year old hand goes up:  What if no one at all is depositing into my bank when I want my money back? 

 

No problem, someone will probably be depositing in the bank across the street.  Your bank will get the money from the bank across the street and when Jim has enough customers to repay your bank, your bank will be able to repay the bank across the street and they’ll be able to repay their depositor.  I go on to talk about other things.

 

A few minutes later the same 10 year old hand goes up:  What if no else is depositing to the bank across the street, either?

 

No problem, someone will surely be depositing to the big bank downtown, etc.

 

Within the next twenty minutes, one interruption every few minutes after he pondered the prior answer, my 10 year old friend had invented the federal reserve system.  My last answer was “No problem, they’ll just print the money.” 

 

He was properly appalled. 

[Frank Ashe]

Greece and the Euro are a separate system to what I was describing in my papers because Greece does not have control over its own currency.  So I'll leave that aside.

 

 

Taking Dave's point in this paragraph

"It seems that the large losses of banks and hedge funds and mutual funds and other entities that create money supply (some of which are transparent and some are not) and the balance sheet strengthening and the reductions in leverage must have caused precipitous drops in the supply of dollars.  Things work best if the size of the economy and the money supply are balanced.  Otherwise there are large and possibly destructive swings in prices and activities to bring them into balance.  The jump in unemployment that has been experienced in many places is one such swing.  Inflation would be another such swing." 

 

The government (Treasury and Reserve bank) does not have control of the money supply.  The banks have control through their lending practices, outlined in the First Lesson.  Unfortunately this means the money supply and economy are very much dependent on our animal spirits.  If bankers feel confident then they'll lend more money and if they lend enough then the economy will start booming.  If bankers don't feel confident, as in the US now, then they won't lend and the money supply (really the credit supply) and economy will start to contract.  This is seriously scary, but tells us a lot about why the economy is fundamentally unstable.  The Fed can raise rates as much as it likes but if the bankers are feeling happy then it won't have much effect.   

 

 

 

We also shouldn't be too worried about the Chinese dollar reserves - they are an entry on a government ledger somewhere in Washington.  The Fed has as much control over this line in the ledger as it does over the lines a few above it where the US domestic banks sit.  The control?  It sets the Fed Funds rate (or whatever).  (When central bankers realised this lack of control they stopped looking seriously at things like M3 as a variable to target.)  If China wishes to start spending those reserves then where will they spend them?  Currently US and Europe have plenty of slack resources that would love the stimulation.  If the spending comes at a later date when there are no spare resources then inflation may occur, which should be met with the usual responses.  In fact at this point the automatic stabilisers will be kicking in increasing tax revenue, and slowing government spending.

 

But note that China could do this spending whether it has the US dollar reserves or not - it can spend in its own currency.  We've seen that China can maintain a US currency peg when there is a large build-up of reserves, it seems plausible they could do the same in a large rundown of reserves.  It would just buy US dollars that it needs to spend.

 

Frank Ashe
+61 (0) 425 291 833

 

From: Ingram, Dave [mailto:Dave....@willis.com]

Sent: Friday, 19 February 2010 1:51 AM
To: in...@list.soa.org

[Jim Bridgeman]

Thirty years ago I was guest speaker to a class of 10 year olds on the subject of finance.  I tried to make it simple:

 

How many of you have a savings account, or parents with a checking account, at the local bank?  A bunch of hands went up.

 

Where is your money now? The majority thought it was back in vault.

 

No, the bank took your money and gave it to Jim so he could expand the local pizza parlor.  He’ll pay the bank back when more customers come in for pizza and then the bank will be able to give you your money back, with interest. 

 

One 10 year old hand goes up:  What if I want my money back before Jim has enough customers to pay it back?

 

No problem, your friend there will probably be depositing some money and your bank will just give his money to you and then later, when Jim has enough customers to repay your bank, your bank will be able to give your friend his money.  I go on to talk about other kind of finance (Jim could have expanded the pizza parlor by taking on partners or by issuing stock).

 

But soon the same 10 year old hand goes up:  What if no one at all is depositing into my bank when I want my money back? 

 

No problem, someone will probably be depositing in the bank across the street.  Your bank will get the money from the bank across the street and when Jim has enough customers to repay your bank, your bank will be able to repay the bank across the street and they’ll be able to repay their depositor.  I go on to talk about other things.

 

A few minutes later the same 10 year old hand goes up:  What if no else is depositing to the bank across the street, either?

 

No problem, someone will surely be depositing to the big bank downtown, etc.

 

Within the next twenty minutes, one interruption every few minutes after he pondered the prior answer, my 10 year old friend had invented the federal reserve system.  My last answer was “No problem, they’ll just print the money.” 

 

He was properly appalled. 

 

 

 

[James Lynch]

James Lynch, FCAS MAAA Upper Montclair, NJ jimlyn...@yahoo.com Thirty years ago, huh? Was the kid named Geithner? --- On Thu, 2/18/10, Jim Bridgeman <brid...@math.uconn.edu> wrote:

[Hopewell, David]

I’ll propose non-inflationary view. Not that I necessarily believe it but it should be taken seriously.

 

If deficits increase as the government assumes private sector debt and the private sector savings goes up at the same time, is it possible for the private sector to accelerate savings and perhaps oversave out of a lack of trust? Wouldn’t that make large deficits deflationary?

 

Monetarist concern about money causing inflation is only true if the money is spent. The developed world may not be young enough to want to take that risk anymore.

 

Any takers on that view?

 

 

David Hopewell, FSA CFA

Chief Financial Officer

Transamerica Capital Management

dhop...@aegonusa.com

319.355.4135

From: Nick Albicelli [mailto:njalb...@yahoo.com]

Sent: Thursday, February 18, 2010 12:35 PM

[bc...@metlife.com]

Eventually, the increase in savings will be spent either by you or by your estate.  

Inflation may be deferred but it will not be eliminated.
 

"Ingram, Dave" <Dave....@willis.com> 02/18/2010 02:16 PM

To

"Hopewell, David" <dhop...@Aegonusa.com>, in...@list.soa.org

cc

The information contained in this message may be CONFIDENTIAL and is for the intended addressee only.  Any unauthorized use, dissemination of the information, or copying of this message is prohibited.  If you are not the intended addressee, please notify the sender immediately and delete this message.

[Frank Ashe]

Nick,

 

Greece is different because it doesn't have control of its currency.  So let's just look at the US.

 

And even if we assume that the US Fed would print dollars to monetize he debt, avoiding technical default by substantially inflating the currency is not a good thing for a lot of people. 

 

"Printing money" by the Fed does not necessarily lead to inflation if there are slack resources, so it is not inflating the currency.  If resources are at near full capacity and inflation is starting to appear then the government should not run as large a deficit, and most probably wouldn't want to.  We have an example in Japan where the government has been able to run deficits for a number of years and not lead to inflation, so why can't this happen in the US?

Frank Ashe
+61 (0) 425 291 833

 

From: Nick Albicelli [mailto:njalb...@yahoo.com]

Sent: Friday, 19 February 2010 1:13 AM

[Jetha, Shiraz (OIC)]

Some “side conversation” on this topic…..

 

Frank, thanks for sharing the blog link. I am intrigued over money and its role in a world of increasing abundance amidst massive poverty and deprivation!

 

Shiraz

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]
Sent: Thursday, February 18, 2010 4:46 PM
To: Jetha, Shiraz (OIC)
Subject: RE: INARM Message - DO DEFICITS MATTER? ......

 

Some people advocate this government spending to sop up the unemployment.  See the blog at

http://bilbo.economicoutlook.net/blog/

 

As you can see if you read this, my ideas aren't my own.

 

Frank Ashe
+61 (0) 425 291 833

 

 

---

From: Jetha, Shiraz (OIC) [mailto:Shi...@oic.wa.gov]
Sent: Friday, 19 February 2010 1:50 AM
To: Frank Ashe
Subject: RE: INARM Message - DO DEFICITS MATTER? ......

Thanks Frank. I appreciate the side conversation. If you think it might be of general interest, feel free to reply to listserv.

 

What you are suggesting seems quite profound to me. In theory, in this line of thought, if the government wanted to give each family $1 M “free”, it could do so and in times such as we have now where the unemployment is high and the world has lost around a  couple of trillion dollars, there is (partial?) capacity to handle this.   

 

Shiraz

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]
Sent: Wednesday, February 17, 2010 3:13 PM
To: Jetha, Shiraz (OIC)
Subject: RE: INARM Message - DO DEFICITS MATTER? ......

 

Shiraz,

 

The complexity just arises because you have a couple of more accounts to keep track of, there is no "complexity" as such, it's more of the same. 

 

If Obama spends more now while there is slack in the economy, then there will be little inflationary pressure.  Money will accumulate in private bank accounts in aggregate.  If a number of bonds are sold now (which are not necessary to do the spending) then money will be electronically shifted out one set of private accounts (called cash accounts) into another set (registered at the Treasury and called bonds).  Given an upward sloping yield curve and the liquidity of government bonds the net effect of this will be to increase private income.  When the bonds need to be repaid the government has a choice:

• simplistically, it could make an electronic transfer of the value from the bond account to the cash account for the holders - there is no effect on the physical economy.
• if people wish to hold government bonds at a rate consistent with monetary policy, then the government can roll over the amounts in the bond account at the prevailing rate of interest - no effect on the physical economy.

If the economy is too hot then the government may wish to increase taxes or reduce its spending to reduce aggregate demand.  This has nothing to do with repaying the bonds.  If the economy is still slack then the government can keep spending.

 

 

The amazing thing about modern money and credit is that it's all on electronic registers and we can see and imagine the movements so easily.

 

Frank Ashe
+61 (0) 425 291 833

 

 

---

From: Jetha, Shiraz (OIC) [mailto:Shi...@oic.wa.gov]
Sent: Thursday, 18 February 2010 1:27 AM
To: Frank Ashe
Subject: RE: INARM Message - DO DEFICITS MATTER? ......

But President Obama wants to know today…..so he can take the appropriate action. Should he “stimulate” and bring back employment or will that increase the pain on our grandchildren. Will oil cost a ton more because the exchange rate will weaken substantially, and the population will have difficult winters?

 

I was also curious Frank. What do you mean by “complexity”?

 

Thanks.

[Nick Albicelli]

First, I again disagree with the assertion that the US Fed is not independent.  Like many things, "independence" is a point on a spectrum, not a Boolean variable.  While there are certainly times where the Fed (say, the 70's and 00's) kept the money supply too easy, arguably due to political pressure, there are also instances where the Fed did not give heed to political pressure (the 30's, early 80's, yesterday's discount window announcement).  So I would say the US Fed is "independent enough,"which means that I think about the federal government's fiscal policy and the Fed's monetary policy as two different things performed by two different entities.

Going back to your point about avoiding inflation if you have slack in the economy - yes, that is true.  But slack in the economy is a "cure" for the inflation caused by monetizing debt in the same way that amputation is a "cure" for gangrene.  So in Japan they have not had inflation because of the slack economy, but their economy for the last 20 years has not been one that we should wish to emulate (although I would further argue that the strength of its sovereign debt is due in large part to large domestic sovereign debt purchases, which is so strong as to be not dissimilar to taxation, not merely monetizing their debt.  Of course, when these domestic debt purchases slow due to their aging demographics, it will be interesting to see what happens). 

I am not saying that deficits are always a bad thing.  I think that there exists a sustainable level of deficits that a growing economy can handle, and during cyclical downturns even larger deficits are OK (so long as someone is willing to buy your debt) so long as you reduce those deficits on the other side.  But deficits that can't be handled by a growing economy will eventually lead to either 1) higher risk of sovereign default, increasing the cost of new debt issuance, or 2) monetizing the debt, which causes inflation.  And in any case, if you don't have enough domestic demand and rely on foreign debt purchases, there is always a risk that (for whatever reason, e.g. weakening currency) foreigners do not help roll over the debt.

---

From: Frank Ashe <Frank...@mafc.mq.edu.au>
To: Nick Albicelli <njalb...@yahoo.com>; "Madigan, Kevin" <KMad...@pinnacleactuaries.com>; Frank Reynolds <fgre...@uwaterloo.ca>; "Jetha, Shiraz (OIC)" <Shi...@OIC.WA.GOV>; in...@list.soa.org

Sent: Thu, February 18, 2010 11:15:34 PM
Subject: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

[Frank Ashe]

It doesn't have to be that extreme - high inflation was curbed in the 1980s without such scaremongering.  Perhaps a slight rise in interest rates will have a similar effect by pricking people's exuberance.

 

Frank Ashe
+61 (0) 425 291 833

 

---

From: Bosco Chan [mailto:bc...@metlife.com]
Sent: Saturday, 20 February 2010 2:28 AM
To: Frank Ashe
Cc: Dave....@willis.com; Hopewell, David; in...@list.soa.org

Subject: RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

If the government proposes a 50% tax increase or a 50% reduction in government service to avoid inflation, will each of us willing to give up our money/rights?

"Frank Ashe" <Frank...@mafc.mq.edu.au> 02/18/2010 07:36 PM

To bc...@metlife.com, Dave....@willis.com cc

"Hopewell, David" <dhop...@Aegonusa.com>, in...@list.soa.org

[Frank Ashe]

Jim,

 

The Fed can create the loan in the same way that a bank creates a loan.  A simultaneous asset (Fed has lent $100) and liability (bank owes $100, intrinsically highly collateralised by its sound but illiquid assets) is created.  A bank doesn't need deposits before it lends a company money - it simultaneously creates the asset (the loan that needs to be repaid)  and a liability (a deposit account that the company can drawdown).

 

This is distinct from the case where the Fed buys an asset via quantitative easing. 

 

Frank Ashe
+61 (0) 425 291 833

 

From: Jim Bridgeman [mailto:brid...@math.uconn.edu]

Sent: Saturday, 20 February 2010 2:08 AM
To: Frank Ashe; 'Ingram, Dave'; in...@list.soa.org

Subject: RE: INARM Message - DO DEFICITS MATTER? ......

Frank,

 

How does the Fed provide the loan in the case that no other banks have deposits at the Fed at that moment?  (Which was the question the kid asked.)  The answer is that the Fed has the power to print money (or the electronic equivalent) out of thin air.  Absent that, it cannot in the worst case be a lender of last resort. 

 

I believe, in fact, that the recent bout of “quantitative easing” was precisely that.  The Fed purchased securities on the open market using money created out of thin air.  (If that’s wrong, exactly where did the money come from? Certainly not from tax dollars and certainly not from government bonding to raise the cash.)

 

Jim

[Frank Ashe]

So?  What other system may work in that case?  All systems need political will.

 

Frank Ashe
+61 (0) 425 291 833

 

From: Jim Bridgeman [mailto:brid...@math.uconn.edu]

Sent: Saturday, 20 February 2010 2:03 AM
To: Frank Ashe; bc...@metlife.com; Dave....@willis.com

Cc: 'Hopewell, David'; in...@list.soa.org
Subject: RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

“Can” if politically feasible.  Last time it required the fortuitous political combination of a Reagan and a Volcker plus a Thatcher on the other side of the Atlantic.  What are the chances of that happening when the need “eventuates?”

[Frank Ashe]

I agree that the Fed is to some degree independent, but if push comes to shove then the government wins, as it must in a democracy.  In a crisis the Fed and the Treasury work hand in hand.  Part of the reason to have a nominally independent Fed is that it gives the politicians plausible deniability to say to the electorate that the necessary pain wasn't their fault, so they can be re-elected.

 

 But deficits that can't be handled by a growing economy will eventually lead to either 1) higher risk of sovereign default, increasing the cost of new debt issuance, or 2) monetizing the debt, which causes inflation.

How can the sovereign default?  (Let's leave the Euro countries out of this as they do not have control of their currency.)   The US can always pay its interest and principal by crediting the bank accounts of the debt holders.  Now if you call this monetizing debt, then why is it inflationary? 

 

Consider what is happening - there is an electronic entry at an account at the Treasury that says US government has sold person X a bond with principal of an amount $1,000,000,000 (1$bn) that matures today.  By a few keystrokes this entry is reduced to zero and an electronic entry is now made in their bank account that they have $1bn.  The assets of the private sector haven't changed.  Where is the inflationary genie coming from?  A few electrons have moved, the person still has assets of $1bn.  Under a gold standard there may have been a difference, but we haven't been on a gold standard for 40 years.  Regardless of what the economic textbooks say, monetizing existing debt, when you examine it in a stock/flow consistent manner (which is as ideologically neutral as double-entry book-keeping ), does not add to any inflationary or deflationary pressures that were not already there.

 

 

I am amazed at the statements coming from a lot of economic and political commentators in the US (and worldwide) that are not consistent with the stock/flow consistent approach that applies in a fiat money system.  For example, "crowding out" may make sense in a gold standard system but it is almost nonsensical in a fiat money economy with the reserve systems run under the policies of the Fed, BoE, RBA etc.  The commentariat must be dragged into the real world.

 

 

 

Frank Ashe
+61 (0) 425 291 833

 

From: Nick Albicelli [mailto:njalb...@yahoo.com]

Sent: Saturday, 20 February 2010 1:42 AM
To: inarm-emer...@googlegroups.com; Madigan, Kevin; Frank Reynolds; Jetha, Shiraz (OIC); in...@list.soa.org
Subject: Re: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

[Jim Bridgeman]

“Can” if politically feasible.  Last time it required the fortuitous political combination of a Reagan and a Volcker plus a Thatcher on the other side of the Atlantic.  What are the chances of that happening when the need “eventuates?”

 

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]

Sent: Thursday, February 18, 2010 7:36 PM

[jsa...@econ.uba.ar]

In Argentina the problem of deficits was always serious.
In 2001 the subject was explosive. I want to send the
following paper the June 2003 report conducted by Joint
Economic Committee United States Congress on Argentina which
has reflected well the subject and where you can find
matches to the subject.
Sorry if my English is very coarse

Jos� Luis Salvia
T.E. 54 9 15 57016180
www.actuarioshome.com.ar

[Jim Bridgeman]

Frank,

 

How does the Fed provide the loan in the case that no other banks have deposits at the Fed at that moment?  (Which was the question the kid asked.)  The answer is that the Fed has the power to print money (or the electronic equivalent) out of thin air.  Absent that, it cannot in the worst case be a lender of last resort. 

 

I believe, in fact, that the recent bout of “quantitative easing” was precisely that.  The Fed purchased securities on the open market using money created out of thin air.  (If that’s wrong, exactly where did the money come from? Certainly not from tax dollars and certainly not from government bonding to raise the cash.)

 

Jim

 

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]

Sent: Thursday, February 18, 2010 7:44 PM

[bc...@metlife.com]

If the government proposes a 50% tax increase or a 50% reduction in government service to avoid inflation, will each of us willing to give up our money/rights?

 

"Frank Ashe" <Frank...@mafc.mq.edu.au> 02/18/2010 07:36 PM

To bc...@metlife.com, Dave....@willis.com cc

"Hopewell, David" <dhop...@Aegonusa.com>, in...@list.soa.org

[Nick Albicelli]

Meant to send out to whole list...

If inflation is merely a measure of the change in the value of a currency relative to "other things" (e.g. goods, units of labor, other currencies, etc.), then changing electronic blips from being 1 billion "other things" to 1 billion in currency is inflationary, almost tautologically.  I think that there are fair arguments about things like how does the mechanism that increases in the notional value of goods and services actually work, or whether asset inflation should be considered different from price inflation, or how this works with FX markets, etc., but you don't need exchangeability to gold to make the change in labeling important.  The thing we are discussing (inflation) is defined by the relationship between the two labels.  While I agree that the overall size of assets in private hands does not change, the size of currency assets relative to the size of other assets does change, and so the value of the one versus the other will change. 

And while a discussion of government is a bit off-thread, I don't agree that the government always wins, because at least in the US, the government is a representative democracy with preservation of rights for the non-majority.  The creation of the Fed is a perfect example, which can be fairly stereotyped as a contest between populist Western farmers who were generally net debtors and wealthy Eastern bankers who were generally net creditors, with the former wanting government control over the currency so as to inflate their debts away under popular pressure, and the latter wanting private control over the money supply so that they could ensure that inflation did not eat away at their wealth.  Even though the bankers generally opposed the Fed act that was ultimately passed, the compromise was much closer to the private central bank proposed by the bankers, with government having a seat at the table, but the Fed is a quasi-public entity, and the transmission of money creation takes place in the leverage of private banks.

---

From: Frank Ashe <Frank...@mafc.mq.edu.au>

To: Nick Albicelli <njalb...@yahoo.com>; inarm-emer...@googlegroups.com; "Madigan, Kevin" <KMad...@pinnacleactuaries.com>; Frank Reynolds <fgre...@uwaterloo.ca>; "Jetha, Shiraz (OIC)" <Shi...@OIC.WA.GOV>; in...@list.soa.org
Sent: Mon, February 22, 2010 3:29:40 AM
Subject: RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

[Frank Ashe]

Loreley,

The main difference between Argentina and the US was, as you explained below, the Argentines tried to maintain a peg to the dollar. For the US, UK, Canada etc, there is no peg. This makes a huge difference. And I think there are many differences between the governance situation in Argentina and the US that will keep the US on a much more even keel.

And nowhere in my discussion of deficits did I advocate that there was no problem with running deficits of huge size ad infinitum - there may well be problems. Default is not one of them.

Frank Ashe
+61 (0) 425 291 833

-----Original Message-----
From: Loreley [mailto:ma...@crazybearnewfs.com]
Sent: Tuesday, 23 February 2010 4:42 AM
To: in...@list.soa.org
Subject: [Spam] RE: INARM Message - DO DEFICITS MATTER? ......LONG & MAYBE BORING!

Do deficits matter????
Indeed they do!!! but the magnitude of impact depends on the relevance of the country in the international scene!

To date, I've lived and worked in 3 different countries with 3 very different economies: Argentina, Canada, US. And, let me tell you, there is a big difference between the theories and living the consequences of ongoing deficits. In fact, what made me emigrate to Canada in the first place was the Argentine crisis of 2001. So based on my "personal" experience, my economic believes (just to put you in perspective or were I'm coming from, libertarian could be the closet), this is what I have to say.

Ongoing deficits are more sustainable in countries such as the US because of their relevance in the world economy. In fact, actuaries use the US treasury rate as measurement of "risk free rate". Obviously, there is an underlying very strong assumption and that is that the probability of default is zero or close enough to zero. In a way, we are assuming that no matter what the size of the US deficit is, there will be enough people out there who still believe that the US dollar is strong enough to allow for almost unlimited printing. How large can the US deficit be and for how long until it begins to impact in a similar manner to that of a smaller economy... well that is yet to be seen....

Ongoing deficits or large one time deficits in underdeveloped economies such as the Argentine economy will and have impacted the local economies in ways no one living and working in a US type economy can imagine. Ongoing deficits or large deficits will somewhere down the road end in some type of default; economy rebalancing and generally speaking, deterioration of the overall economic outlook for the individual. For sure, there will be winners and loser, but to the extent that some areas of the economy cannot operate in extremely volatile environment (eg life insurance), the citizen of that country will ultimately lose.

I believe that the Argentine example is one that all of us should study and remember when making decisions. True, I'm biased! But, it is a smaller, non complex economy and almost everything has happened there!!! In fact, when I started hearing about the "cash for clunkers" program in the US; I couldn't but laughed at the idea of the US copying a program that was implemented in Argentina 20 years ago called "Plan Canje" (Translated swap plan) which was monetary incentives for people to buy new cars in exchange for their older cars. Sounds familiar????

Anyhoo, the point is, deficits can only be sustained as long as there are out there enough individuals who believe that the debtor can pay on time.
Deficit is probably a word mostly used for "governmental type debtor" but, at the end of the day, a debtor is a debtor and its credibility will depend on repayment capacity.

So, maybe, the immediate action is to analyze the repayment capacity of the debtor and the one and only thing that singles out a government is its capacity to control the currency (or not??). Well, to me, governments have a limited capacity to control currency because in the end, the market will decided how much manipulation is going to be tolerated; for sure, stronger economies will be able to manipulate their currency more than weaker economies but that is all.

Now going back to the impact of ongoing deficits, using the Argentine example and having personally tried to manage the financial position of a life insurance company prior to the crisis; this is what happened and how the non PC insurance was destroyed.

In 2000 Argentina was going through yet another period of continuously growing deficits with the addition of a currency pegged to the dollar. This time around, monetary policies were not possible and the only resource to pay for state debt was through debt. As in many other countries the main holders of governmental debt were the insurance and pension companies. As in many countries, insurance and retirement investments are regulated. As the deficits mounted, the government needed to borrow more and more and, for sure, interest rates went up and up and up. For international investors, the rates were not perceived as high as they were locally given the risk premium associated to them. But for local investors, the rates were way too attractive. So bad combo... greedy asset managers (sound familiar?) and a government in need who could manipulate the investment rules for insurance and retirement companies led to an interest rate spiral and an increased % of allocation of policyholders assets into governmental bonds; to the point that insurance co. had pretty much, all their investments in these bonds and could no longer accept debt. So the government had to reach out and the external world did not like what they saw and was not willing to risk their money. So, it was inevitable, the government could no longer pay its debts and defaulted. Main internal consequence, the non PC insurance industry was destroyed. Policyholders (who were quite savvy given that is was a start up
industry) wanted their money back. Their money was invested in defaulted bonds and companies could not give it back, so one after the other, collapsed. Just recently (2008 I believe); something similar happened and the now the target were the pension administrators. Bottom line, the public saving held in those administrators was confiscated by the state who promised to go back to a fairer "pay as you go system".

Now, let's put all these in perspective to the typical US type economy resident. Say you are in your mid 40', you've been working as an actuary for the past 20 years, you've been able to generate some savings. You've got some of your money in insurance type products (say some type of annuity for 200,000 dollars) and lots of money in your 401k (say a modest 500,000 dollars). Now the US defaults and the insurance company cannot give you the 200,000 back and your 401k assets have been confiscated... Well this is what happened to the Argentine public, so it was not just about the banks, insurance companies or the rich retirees; ultimately these saving were lost and the people who could have spent this money in all kinds of services and good, could not do that any longer and other industries began to suffer.

Well, I could go on writing and writing about deficits, economic disasters, etc. I only wish I had the time.

Act. Loreley Pena Banchik ASA, MAAA
ma...@crazybearnewfs.com

-----Original Message-----
From: jsa...@econ.uba.ar [mailto:jsa...@econ.uba.ar]
Sent: Monday, February 22, 2010 7:47 AM
To: in...@list.soa.org
Subject: RE: INARM Message - DO DEFICITS MATTER? ......

In Argentina the problem of deficits was always serious.
In 2001 the subject was explosive. I want to send the following paper the June 2003 report conducted by Joint Economic Committee United States Congress on Argentina which has reflected well the subject and where you can find matches to the subject.
Sorry if my English is very coarse

José Luis Salvia

T.E. 54 9 15 57016180
www.actuarioshome.com.ar

********************************************************************

[Frank Ashe]

Nick,

 

Where is the inflationary pressure?  Far from being almost tautologically inflationary, we have almost the opposite.  A $1bn debt of a government that matures in 1 day is then turned into a $1bn liability at call.  What changes in the manner of inflationary pressure?  The asset owner is just as wealthy, their asset is marginally more liquid.  Why does this minor change lead to inflation?  You seem to be implying that a person with a short-dated Treasury bill worth $1bn will behave significantly differently to a person with $1bn of cash - significantly differently to lead to additional inflation.

 

 

Also, examine the stocks and flows - where did the cash come from that allowed the private sector to buy the bond?  It originally came from the government.  One way of seeing this is to consider the two following equivalent exchanges (very simplified for the case of argument):

• government gives person X a social security payment of $100 and issues a bond of $100 to person Y - net govt cash flow now = 0, net govt liability = $100 bond; OR
• govt gives person X a bond of $100 as a social security payment.  Person X prefers cash and sells bond to person Y for $100.

As a third possibility we can consider the govt just gives X cash of $100.  Net cash flow $100, no net liability.

 

In all three cases all that we have changed is the timing of the government cash flows - the third case has the cash flows occurring now, in the first and second cases the cash flows occur in the future but their present value is the same as the third case.  In particular, person X will do the spending and he gets his money now.  Person Y has made a decision to defer their expenditure from now to the future - if the govt debt wasn't available they most probably would have decided to invest in some other instrument (after all, the government didn't force them to invest).  The net financial asset transferred to the private sector is the same in all cases, so why does (in your economic world) the maturing of the debt cause the inflation?  Why doesn't it occur when I think it does, at the original transfer (and spending thereof) of the net financial asset from the government?  (Notice that I'm not saying it's not potentially inflationary - I'm arguing about the timing of the inflationary pressure.)

 

It's this basic stock-flow misunderstanding (still mistaught in many university programs) which is why monetarism and other ideologies may lead to dangerous economic nostrums. 

 

Frank Ashe
+61 (0) 425 291 833

 

From: Nick Albicelli [mailto:njalb...@yahoo.com]

Sent: Tuesday, 23 February 2010 3:16 AM
To: Frank Ashe

Subject: Re: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

If inflation is merely a measure of the change in the value of a currency relative to "other things" (e.g. goods, units of labor, other currencies, etc.), then changing electronic blips from being 1 billion "other things" to 1 billion in currency is inflationary, almost tautologically.  I think that there are fair arguments about things like how does the mechanism that increases in the notional value of goods and services actually work, or whether asset inflation should be considered different from price inflation, or how this works with FX markets, etc., but you don't need exchangeability to gold to make the change in labeling important.  The thing we are discussing (inflation) is defined by the relationship between the two labels.  While I agree that the overall size of assets in private hands does not change, the size of currency assets relative to the size of other assets does change, and so the value of the one versus the other will change. 

And while a discussion of government is a bit off-thread, I don't agree that the government always wins, because at least in the US, the government is a representative democracy with preservation of rights for the non-majority.  The creation of the Fed is a perfect example, which can be fairly stereotyped as a contest between populist Western farmers who were generally net debtors and wealthy Eastern bankers who were generally net creditors, with the former wanting government control over the currency so as to inflate their debts away under popular pressure, and the latter wanting private control over the money supply so that they could ensure that inflation did not eat away at their wealth.  Even though the bankers generally opposed the Fed act that was ultimately passed, the compromise was much closer to the private central bank proposed by the bankers, with government having a seat at the table, but the Fed is a quasi-public entity, and the transmission of money creation takes place in the leverage of private banks.

---

From: Frank Ashe <Frank...@mafc.mq.edu.au>

To: Nick Albicelli <njalb...@yahoo.com>; inarm-emer...@googlegroups.com; "Madigan, Kevin" <KMad...@pinnacleactuaries.com>; Frank Reynolds <fgre...@uwaterloo.ca>; "Jetha, Shiraz (OIC)" <Shi...@OIC.WA.GOV>; in...@list.soa.org
Sent: Mon, February 22, 2010 3:29:40 AM

Subject: RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

[Frank Ashe]

Gold is the ultimate fiat currency - it only has value because people say it does.

 

And if we don't get the discovery of gold then we find people "nailed to their cross of gold" and significant political movements to remove the gold standard.

 

Frank Ashe
+61 (0) 425 291 833

 

---

From: Jim Bridgeman [mailto:brid...@math.uconn.edu]
Sent: Tuesday, 23 February 2010 3:07 AM
To: Frank Ashe; bc...@metlife.com; Dave....@willis.com

Cc: 'Hopewell, David'; in...@list.soa.org
Subject: RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

Gold.  Which of course has lots of  problems of its own, not least of which is the creation of inflation if someone discovers a new continent full of the stuff.

 

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]
Sent: Friday, February 19, 2010 9:49 PM
To: Jim Bridgeman; bc...@metlife.com; Dave....@willis.com
Cc: Hopewell, David; in...@list.soa.org
Subject: RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

 

So?  What other system may work in that case?  All systems need political will.

 

Frank Ashe

+61 (0) 425 291 833

 

 

---

From: Jim Bridgeman [mailto:brid...@math.uconn.edu]

Sent: Saturday, 20 February 2010 2:03 AM

To: Frank Ashe; bc...@metlife.com; Dave....@willis.com
Cc: 'Hopewell, David'; in...@list.soa.org
Subject: RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

“Can” if politically feasible.  Last time it required the fortuitous political combination of a Reagan and a Volcker plus a Thatcher on the other side of the Atlantic.  What are the chances of that happening when the need “eventuates?”

 

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]

Sent: Thursday, February 18, 2010 7:36 PM

[Frank Ashe]

yep, the bank prints the bank note, issues it and decreases the account by $1.  So the CB is not really printing bank notes willy-nilly.  The alternative to these electronic accounts is for the CB to have all the banknotes printed already that support the economy and keep them in the bank vaults ready.  (At this point my mind calls up the image of Scrooge McDuck diving into his swimming pool filled with bank notes - yes, I had a misspent childhood reading too many comics.)

 

 

In Australia, as in other places I suspect, the central bank has reserves of hard cash on hand to meet spikes in demand.  Those reserves were strained (but held) in the days after Lehman's default.

 

Frank Ashe
+61 (0) 425 291 833

 

From: Jim Bridgeman [mailto:brid...@math.uconn.edu]

Sent: Tuesday, 23 February 2010 3:05 AM

To: Frank Ashe; 'Ingram, Dave'; in...@list.soa.org
Subject: RE: INARM Message - DO DEFICITS MATTER? ......

Frank,

 

OK I’m beating a dead horse here.  I know the accounting.  But if in the end the lonely original depositor demands hard cash and no one in the system has it or is willing to part with it, the only ultimate backstop is the central bank ability to print a banknote and pass it down the line.

 

That simple minded question is where a curious ten-year old winds up, because he wants to know literally what if there are no extra bank notes sloshing around.

[Frank Ashe]

Thank you Mr Salvia,

As the paper indicates, there were many more problems than the deficits. One of which was that the maintenance of the peg against the US dollar did not give Argentina full control of its currency. I would say the Argentinean government deficits were a symptom of a much deeper problem, not the cause of the problem.

Regarding this thread, my argument is not that deficits are not a sign of a problem, but that deficits, as such, are not necessarily a problem. The case must be argued as to why deficits are the main problem in a particular situation. Too much of the present debate in the US and UK (and concerning Japan) is that the deficits by themselves are a significant problem. The arguments currently put forward usually rely on a monetary theory based on the gold standard rather than a proper understanding of what actually happens under a fiat system. I wish a debate based on the current monetary system, not something that disappeared 40 years ago.

Regards,

Frank Ashe
+61 (0) 425 291 833

-----Original Message-----
From: jsa...@econ.uba.ar [mailto:jsa...@econ.uba.ar]

Sent: Tuesday, 23 February 2010 12:47 AM
To: in...@list.soa.org
Subject: RE: INARM Message - DO DEFICITS MATTER? ......

In Argentina the problem of deficits was always serious.
In 2001 the subject was explosive. I want to send the following paper the June 2003 report conducted by Joint Economic Committee United States Congress on Argentina which has reflected well the subject and where you can find matches to the subject.
Sorry if my English is very coarse

José Luis Salvia

T.E. 54 9 15 57016180
www.actuarioshome.com.ar

********************************************************************

[Nick Albicelli]

Where is the inflationary pressure? 

All marginal changes are minor.  In the original example, when the Fed buys a bond, they are buying from the marginal buyer - the one for whom a delta-sized increase in the bid makes a trade.  It's not some random person whose Treasury is replaced by currency (although even in that instance the logic might work, because since that person wants to hold a Treasury at that price, they would turn around and buy it from someone, who would buy from someone, etc, until the cash found a home at the marginal buyer), it is someone for whom the smallest exogenous push gets them to hold currency.  So why do they want to hold currency?  Either they want to spend it (price inflationary), buy another financial asset (asset inflationary), or keep it in the bank.  I hope you agree that the first two are inflationary.  If they keep it in the bank, then unless the bank decides that it wants to hold more reserves (which would be a deflationary exogenous change, and therefore not ceteris paribus), it will reduce credited interest on deposits until the marginal depositor has something better to do with their deposit and withdraws that addition, with the same choices - buy something (price inflationary) or buy a financial asset (asset inflationary) (or maybe put it in another bank, but then that new bank has the same ability to reduce credited interest until at some point the currency ends up with someone who wants to use it). 

You seem to be implying that a person with a short-dated Treasury bill worth $1bn will behave significantly differently to a person with $1bn of cash - significantly differently to lead to additional inflation.

So I am not saying that someone with a short-dated Treasury behaves differently from someone with that amount of cash, I am saying that the person who prefers cash to the short dated Treasury when the Fed bid is just a bit higher is different from the person who still prefers the short dated Treasury despite the marginally higher Fed bid.

The net financial asset transferred to the private sector is the same in all cases, so why does (in your economic world) the maturing of the debt cause the inflation?

Maturing of debt does not lead to inflation, assuming the Fed does not print money to buy it out.  If the Treasury makes a payment for maturing debt, it is different than if the Fed buys a Treasury and monetizes the debt by forgiving the debt.  When the Treasury retires matured debt, the money has to come from somewhere - new borrowing or taxes.  Somebody now has less currency than they did before, a deflationary pressure which mirrors the inflationary pressure with the Treasury acting as a currency pass through from the debt buyer/tax payer to the maturing debt holder. 

Why doesn't it occur when I think it does, at the original transfer (and spending thereof) of the net financial asset from the government?

So in your scenarios 1 and 2, there is no inflationary pressure because currency is coming out of the system as much as it is getting put into it.  Although person X's ability to bid up nominal prices has increased, person Y's ability to bid up nominal prices has decreased.  There is a second order effect that X and Y might want to buy different things, so having X hold all of the money might be inflationary for red cars and Y holding all the money might be inflationary for blue cars, but the overall price level will remain unchanged. 

Your case 3 is more interesting.  If I were a rational expectations kind of person (I'm not, but I'll present the case), I might say that everyone knows that the gov't is going to have to raise taxes to pay for that $100 transfer, so they hold back their demand a bit immediately to save that money for when it is demanded from the government. 

But I don't buy the RE argument, so I would agree with you that case 3 is inflationary.  But this inflation is similar to the inflationary pressure caused by regular operations by the Fed - with the Fed, at some point the Fed is going to sell the bond (if they didn't, then they are monetizing the debt), which is deflationary.  In the same way, to pay for the transfer, the Treasury would have had to have taxed or borrowed and held on to the currency, reducing nominal demand when it did that.  So while the inflationary and deflationary effects are not simultaneous, unlike debt monetization (which works only one way), over time they balance.  In fact the government uses these temporary imbalances, for example when (unlike the example above) the desire of banks to hold reserves changes exogenously and the government wants to offset those effects. 

---

From: Frank Ashe <Frank...@mafc.mq.edu.au>

To: Nick Albicelli <njalb...@yahoo.com>; in...@list.soa.org
Sent: Mon, February 22, 2010 8:31:25 PM
Subject: RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

[Zaker-Shahrak, Ali]

Gold is NOT a fiat money.  Fiat money is a medium of exchange that has no intrinsic value.  An obvious example is the paper currency – bank notes – that we use in our daily transaction.  Gold, like silver or diamond, or many other precious metals has intrinsic value:  It has industrial uses and can be used to make jewelry that will be always in great demand.  To conclude:  GOLD IS NOT A FIAT MONEY.

 

Ali Zaker-Shahrak, Ph.D.(Econ.), FSA, MAAA, CFA

Senior Life Actuary

California Department of Insurance

Actuarial Office

South Tower, 14th Floor

300 South Spring Street

Los Angeles, CA 90013

Tel.: (213) 346.6177

Fax: (213) 897.9761

Email:  zaker-s...@insurance.ca.gov

 

 

---

[Leigh J. Halliwell]

Dear INARM:

 

To the recent posting about deficits and gold I’d like to add an excerpt from Bertrand Russell’s 1943 essay “An Outline of Intellectual Rubbish:”

 

“In the economic sphere there are many widespread superstitions. Why do people value gold and precious stones? Not simply because of their rarity: there are a number of elements called "rare earths" which are much rarer than gold, but no one will give a penny for them except a few men of science. There is a theory, for which there is much to be said, that gold and gems were valued originally on account of their supposed magical properties. The mistakes of governments in modern times seem to show that this belief still exists among the sort of men who are called "practical." At the end of the last war, it was agreed that Germany should pay vast sums to England and France, and they in turn should pay vast sums to the United States. Every one wanted to be paid in money rather than goods; the "practical" men failed to notice that there is not that amount of money in the world. They also failed to notice that money is of no use unless it is used to buy goods. As they would not use it in this way, it did no good to anyone. There was supposed to be some mystic virtue about gold that made it worthwhile to dig it up in the Transvaal and put it underground again in bank vaults in America. In the end, of course, the debtor countries had no more money, and, since they were not allowed to pay in goods, they went bankrupt. The Great Depression was the direct result of the surviving belief in the magical properties of gold. It is to be feared that some similar superstition will cause equally bad results after the end of the present war.”

 

Sincerely,

Leigh

Leigh Joseph Halliwell, FCAS, MAAA

Chief Manager

L. J. Halliwell, LLC

P. O. Box 21385

Chattanooga, TN 37424

423-296-2739
423-605-5789 cell

le...@lhalliwell.com
www.lhalliwell.com

 

This communication is intended solely for the use of the individual to whom or the entity to which it is addressed. It may contain information that is privileged, confidential, and exempt from disclosure under applicable law. If you are neither the intended recipient, nor the employee, nor the agent responsible for delivering the communication to the intended recipient, you are hereby notified that any dissemination, distribution, or copying of this communication is strictly prohibited. If you have received this communication in error, please notify us immediately by telephone or email, delete the communication from any computer or other electronic storage media, and destroy all other copies in your possession.

 

---

From: Madigan, Kevin [mailto:KMad...@pinnacleactuaries.com]

Sent: Tuesday, February 23, 2010 3:20 PM
To: Zaker-Shahrak, Ali; Frank Ashe; Jim Bridgeman; bc...@metlife.com; Dave....@willis.com
Cc: Hopewell, David; in...@list.soa.org

Subject: [Spam] RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

 

I have never understood this argument.

No “money” has any intrinsic value. It’s worth is tied to the thoughts inside people’s skulls. Furthermore, as someone else in this thread alluded to, there was rampant inflation in 16^th century Europe after the discovery of two continents full of gold (North and South America).

 

Regards,

Kevin

 

Kevin M. Madigan, PhD, ACAS, MAAA

( Office: 518-288-0139 | Mobile: 518-526-9390

 

[Loreley]

Do deficits matter????
Indeed they do!!! but the magnitude of impact depends on the relevance of
the country in the international scene!

To date, I’ve lived and worked in 3 different countries with 3 very
different economies: Argentina, Canada, US. And, let me tell you, there is a
big difference between the theories and living the consequences of ongoing
deficits. In fact, what made me emigrate to Canada in the first place was
the Argentine crisis of 2001. So based on my “personal” experience, my
economic believes (just to put you in perspective or were I’m coming from,
libertarian could be the closet), this is what I have to say.

Ongoing deficits are more sustainable in countries such as the US because of
their relevance in the world economy. In fact, actuaries use the US treasury
rate as measurement of “risk free rate”. Obviously, there is an underlying
very strong assumption and that is that the probability of default is zero
or close enough to zero. In a way, we are assuming that no matter what the
size of the US deficit is, there will be enough people out there who still
believe that the US dollar is strong enough to allow for almost unlimited
printing. How large can the US deficit be and for how long until it begins

to impact in a similar manner to that of a smaller economy… well that is yet
to be seen….

attractive. So bad combo… greedy asset managers (sound familiar?) and a

government in need who could manipulate the investment rules for insurance
and retirement companies led to an interest rate spiral and an increased %
of allocation of policyholders assets into governmental bonds; to the point
that insurance co. had pretty much, all their investments in these bonds and
could no longer accept debt. So the government had to reach out and the
external world did not like what they saw and was not willing to risk their
money. So, it was inevitable, the government could no longer pay its debts
and defaulted. Main internal consequence, the non PC insurance industry was
destroyed. Policyholders (who were quite savvy given that is was a start up
industry) wanted their money back. Their money was invested in defaulted
bonds and companies could not give it back, so one after the other,
collapsed. Just recently (2008 I believe); something similar happened and
the now the target were the pension administrators. Bottom line, the public
saving held in those administrators was confiscated by the state who
promised to go back to a fairer “pay as you go system”.

Now, let’s put all these in perspective to the typical US type economy
resident. Say you are in your mid 40’, you’ve been working as an actuary for
the past 20 years, you’ve been able to generate some savings. You’ve got
some of your money in insurance type products (say some type of annuity for
200,000 dollars) and lots of money in your 401k (say a modest 500,000
dollars). Now the US defaults and the insurance company cannot give you the

200,000 back and your 401k assets have been confiscated… Well this is what

happened to the Argentine public, so it was not just about the banks,
insurance companies or the rich retirees; ultimately these saving were lost
and the people who could have spent this money in all kinds of services and
good, could not do that any longer and other industries began to suffer.

Well, I could go on writing and writing about deficits, economic disasters,
etc. I only wish I had the time.

Act. Loreley Pena Banchik ASA, MAAA
ma...@crazybearnewfs.com

-----Original Message-----
From: jsa...@econ.uba.ar [mailto:jsa...@econ.uba.ar]

Sent: Monday, February 22, 2010 7:47 AM
To: in...@list.soa.org

Subject: RE: INARM Message - DO DEFICITS MATTER? ......

In Argentina the problem of deficits was always serious.
In 2001 the subject was explosive. I want to send the following paper the
June 2003 report conducted by Joint Economic Committee United States
Congress on Argentina which has reflected well the subject and where you can
find matches to the subject.
Sorry if my English is very coarse

José Luis Salvia

[Madigan, Kevin]

I have never understood this argument.

No “money” has any intrinsic value. It’s worth is tied to the thoughts inside people’s skulls. Furthermore, as someone else in this thread alluded to, there was rampant inflation in 16^th century Europe after the discovery of two continents full of gold (North and South America).

 

Regards,

Kevin

 

Kevin M. Madigan, PhD, ACAS, MAAA

( Office: 518-288-0139 | Mobile: 518-526-9390

 

From: Zaker-Shahrak, Ali [mailto:Zaker-S...@insurance.ca.gov]

Sent: Tuesday, February 23, 2010 1:29 PM

[Jim Bridgeman]

Gold.  Which of course has lots of  problems of its own, not least of which is the creation of inflation if someone discovers a new continent full of the stuff.

 

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]

Sent: Friday, February 19, 2010 9:49 PM

[Jim Bridgeman]

Frank,

 

OK I’m beating a dead horse here.  I know the accounting.  But if in the end the lonely original depositor demands hard cash and no one in the system has it or is willing to part with it, the only ultimate backstop is the central bank ability to print a banknote and pass it down the line.

 

That simple minded question is where a curious ten-year old winds up, because he wants to know literally what if there are no extra bank notes sloshing around.

 

Jim

[Frank Ashe]

Stephen,

 

"If firms are unwilling to trade with a country because of high deficits, high total debt, etc (country risk)"

The point I'm trying to make is that the argument as to why high deficits and debt is a country risk has to be made with an argument that doesn't invoke a gold standard currency.  Most of the current arguments stating that there is a problem are rooted in a gold-standard monetary theory.  Personally, I think the dangers are overrated, I could be wrong, but I just want to see a proper understanding of the risks from the point of view of the "ARM" part of this blog's name. 

 

If we have an understanding of money based on a gold standard and many major economies are not on a gold standard then from a risk management point of view that is very dangerous.  One of the basic ideas of risk evaluation is to question all your assumptions.  When I realised I didn't understand money well enough to understand the current problems I went right back to basics and looked at the underlying assumptions of different schools on the state of monetary theory.  This led to my current position -  I don't know enough and haven't thought through the consequences enough of fiat money.  But I have learnt enough to recognise when an argument is based on something like a gold standard, or, another bete-noir, a misunderstanding of how central banks manage a bank's reserves.  (Short answer - they don't, so anybody who argues that current large reserves are potentially inflationary should read some of the Fed's latest commentary on this non-problem  http://www.federalreserve.gov/monetarypolicy/bst.htm .)

 

What I'm trying to promote now, through blogs such as this, is a greater analysis of some of the underlying economic assumptions from the perspective of a risk manager.  With most insurance companies having a large proportion of assets in the bond market, if we don't understand how the economics of this market works then we are potentially in big trouble.  Monetary theory is at the root of a huge proportion of what any financial company does, including insurance companies.  I would hazard a guess that most actuaries would have covered monetary theory as a small part of a wide-ranging introduction to economics course - full-stop!  More knowledge would be picked up by osmosis over the years.  Many textbooks, including Mankiw's popular work, still cover monetary theory as if we were under a gold standard.  I don't know about anyone else, but I find this an incredibly dangerous position to be in.

 

Try this test:

Can you, or somebody in your organisation, explain to your Board why large US government deficits may be a problem without relying on an argument that intrinsically assumes the US is on a gold standard (and is consistent with how the Fed manages reserves)?

 

Now:

• If you're the CRO with a large bond exposure, are you comfortable with this risk?
• Where does gold-standard monetary theory extend into other debates such as the risks of population aging on social safety nets?
• anything else?

 

 

Frank Ashe
+61 (0) 425 291 833

 

---

From: Stephen Britt [mailto:Stephe...@iag.com.au]
Sent: Wednesday, 24 February 2010 9:11 AM
To: le...@lhalliwell.com; in...@list.soa.org
Subject: [Spam] RE: INARM Message - [Spam] Intrinsic Value of Gold

Note: This e-mail is subject to the disclaimer contained at the bottom of this message.

---

If we want to get a little zen about this, a glass of fine wine (let’s say a Grange Hermitage) has no intrinsic value.  It only has value if we choose to derive utility from consuming it.  Those ridiculous shoes that models walk down the catwalk in have no ‘intrinsic’ value.  They only have value if some pop tart chooses to derive utility from owning in (despite the increase in exposure to harm that comes from walking 8 inches above the ground, on little pin sized heels).

 

Yes gold has no intrinsic value, just that some people like wearing it.  It does have some endearing qualities, though:

 

·         The amount of it is relatively well known;

·         It’s enduring;

·         It’s hard to counterfeit;

·         The rate of growth in the amount of ‘gold in captivity’ is quite steady;

·         It doesn’t really have any use other than hanging around in storerooms, and around fingers.

 

This sounds like a pretty good candidate for a money standard where growth rates in the production of goods and services are stable, to me. 

 

Oh, and on the deficits question.  The issue isn’t an accounting issue, or a question of stocks and flows.  If firms are unwilling to trade with a country because of high deficits, high total debt, etc (country risk), then they are going to find it hard to import goods and services – they won’t get a lot of LCD TV’s for the amount of movies they export.  Assuming people value LCD TV’s this matters.

 

 

 

–––––––––––––––––––––––––––––––––––––––––––––
STEPHEN BRITT
SENIOR MANAGER

INTERNAL CAPITAL MODELS
INSURANCE AUSTRALIA GROUP (IAG)

T +61 (0)2 9292 2311

F +61 (0)2 9292 3159
M +61 (0)411 014 571
E stephe...@iag.com.au

www.iag.com.au

PLEASE CONSIDER THE ENVIRONMENT
BEFORE PRINTING THIS EMAIL.
–––––––––––––––––––––––––––––––––––––––––––––

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The information transmitted in this message and its attachments (if any) is intended only for the person or entity to which it is addressed.

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[Frank Ashe]

Just for the record:

Paper currency issued by the US government, and the bank accounts based on this money, do have intrinsic value.  It is the only medium of exchange accepted by the US government to redeem your tax obligations or for government fees.  When the government stops taxing people then the currency will be intrinsically worthless.  Until then we'll have people wanting these little bits of paper for their intrinsic benefit of allowing you to fulfil your social obligation to pay tax.

 

Frank Ashe
+61 (0) 425 291 833

 

From: Zaker-Shahrak, Ali [mailto:Zaker-S...@insurance.ca.gov]

Sent: Wednesday, 24 February 2010 5:29 AM
To: Frank Ashe; Jim Bridgeman; bc...@metlife.com; Dave....@willis.com

[Ingram, Dave]

Perhaps there are just two types of soverign debt - that denominated in a currency issued by the soverign and debt that is not.

If the debt is in a currency controlled by the soverign, then the debt and the currency are not really different - they are both simply calls on the soverign and the soverign can exchange one for another with no change to reality. Or to the economy. If the excess debt is inflationary then paying it off by printing currency will not change anything. And also if it is not inflationary.

If the debt is not in a currency controlled by the soverign, then there can be defaults and such. A gold system falls under this category. The Greek debt in Euros does as well. And the Argentine debt in convertable pesos fit that also.

I think that this might be the same thing that Frank is saying. ???

In my mind, the difference between a "neutral" gold system and a managed money supply is that you acquire the likelihood of soverign default and in return you get an assurance that prices will never be stable. Since for prices to be stable, growth of every aspect of the economy needs to be at the rate of the growth of the gold supply.

I just do not see any upside to a fixed Gold based system. A managed system *may* break down from time to time but the Gold system will *never* work right in a robust economy.


Dave
David Ingram, CERA, FRM, PRM
Willis Re
+1 212 915 8039

---

From: Frank Ashe <Frank...@mafc.mq.edu.au>
To: Stephen Britt <Stephe...@iag.com.au>; le...@lhalliwell.com <le...@lhalliwell.com>; in...@list.soa.org <in...@list.soa.org>
Sent: Tue Feb 23 20:21:38 2010
Subject: INARM Message - Do deficits matter - Intrinsic value of gold - and a call for research

Stephen,

 

"If firms are unwilling to trade with a country because of high deficits, high total debt, etc (country risk)"

The point I'm trying to make is that the argument as to why high deficits and debt is a country risk has to be made with an argument that doesn't invoke a gold standard currency.  Most of the current arguments stating that there is a problem are rooted in a gold-standard monetary theory.  Personally, I think the dangers are overrated, I could be wrong, but I just want to see a proper understanding of the risks from the point of view of the "ARM" part of this blog's name. 

 

If we have an understanding of money based on a gold standard and many major economies are not on a gold standard then from a risk management point of view that is very dangerous.  One of the basic ideas of risk evaluation is to question all your assumptions.  When I realised I didn't understand money well enough to understand the current problems I went right back to basics and looked at the underlying assumptions of different schools on the state of monetary theory.  This led to my current position -  I don't know enough and haven't thought through the consequences enough of fiat money.  But I have learnt enough to recognise when an argument is based on something like a gold standard, or, another bete-noir, a misunderstanding of how central banks manage a bank's reserves.  (Short answer - they don't, so anybody who argues that current large reserves are potentially inflationary should read some of the Fed's latest commentary on this non-problem  http://www.federalreserve.gov/monetarypolicy/bst.htm .)

 

What I'm trying to promote now, through blogs such as this, is a greater analysis of some of the underlying economic assumptions from the perspective of a risk manager.  With most insurance companies having a large proportion of assets in the bond market, if we don't understand how the economics of this market works then we are potentially in big trouble.  Monetary theory is at the root of a huge proportion of what any financial company does, including insurance companies.  I would hazard a guess that most actuaries would have covered monetary theory as a small part of a wide-ranging introduction to economics course - full-stop!  More knowledge would be picked up by osmosis over the years.  Many textbooks, including Mankiw's popular work, still cover monetary theory as if we were under a gold standard.  I don't know about anyone else, but I find this an incredibly dangerous position to be in.

 

Try this test:

Can you, or somebody in your organisation, explain to your Board why large US government deficits may be a problem without relying on an argument that intrinsically assumes the US is on a gold standard (and is consistent with how the Fed manages reserves)?

 

Now:

• If you're the CRO with a large bond exposure, are you comfortable with this risk?
• Where does gold-standard monetary theory extend into other debates such as the risks of population aging on social safety nets?
• anything else?

 

 

Frank Ashe

+61 (0) 425 291 833

---

From: Madigan, Kevin [mailto:KMad...@pinnacleactuaries.com]

To: Zaker-Shahrak, Ali; Frank Ashe; Jim Bridgeman; bc...@metlife.com; Dave....@willis.com
Cc: Hopewell, David; in...@list.soa.org

Subject: [Spam] RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

 

I have never understood this argument.

No “money” has any intrinsic value. It’s worth is tied to the thoughts inside people’s skulls. Furthermore, as someone else in this thread alluded to, there was rampant inflation in 16^th century Europe after the discovery of two continents full of gold (North and South America).

 

Regards,

Kevin

 

Kevin M. Madigan, PhD, ACAS, MAAA

( Office: 518-288-0139 | Mobile: 518-526-9390

 

From: Zaker-Shahrak, Ali [mailto:Zaker-S...@insurance.ca.gov]

Sent: Tuesday, February 23, 2010 1:29 PM

The information transmitted in this message and its attachments (if any) is intended only for the person or entity to which it is addressed.

The message may contain confidential and/or privileged material. Any review, retransmission, dissemination or other use of, or taking of any action in reliance upon this information, by persons or entities other than the intended recipient is prohibited.

If you have received this in error, please contact the sender and delete this e-mail and associated material from any computer.

The intended recipient of this e-mail may only use, reproduce, disclose or distribute the information contained in this e-mail and any attached files, with the permission of the sender.

This message has been scanned for viruses.

---

[Nick Albicelli]

I think that what you mean to say is that if the debt is in a currency controlled by the sovereign, then the debt and the currency are the same because *neither* puts an obligation on the sovereign - they can give you a bond or a unit of currency and they are the same because when the bond matures they don't pull the currency out of reserves, or taxes, or roll over the debt to a new bondholder, they will print the money (i.e. monetize the debt).

In the real world, things are more complex than either extreme, and that is the case that I have been trying to present.  Frank implies that we are thinking as though the US is on the gold standard because, as you point out, if the sovereign does not control the currency, we would say that the problems with repayment of debt exist (similar to if it were on the gold standard).  But we know the US is not on a gold standard; to the contrary, we recognize that the nation would likely monetize its debt before it actually defaulted. 

However, that doesn't mean that we treat the US like Zimbabwe - the creation of a US Treasury from nothing (something that the Treasury, not the Fed, can do) *does* put an obligation on the government, while the creation of a US dollar from nothing (something that the Fed, not the Treasury, can do) *does not* put an obligation on the government.

As a Treasury holder, you should be concerned that the currency is not controlled by the sovereign, and so it might default if it doesn't have enough FX reserves.  But anyone holding US dollar denominated assets should be concerned that if the Fed monetizes the debt, your nominal dollar holdings will decline in value due to inflation (of course if you hold Treasuries you hold $-denominated assets but you would rather share the pain of inflation with the entire economy than bear the brunt of credit loss all by yourself).

---

From: "Ingram, Dave" <Dave....@willis.com>

To: Frank...@mafc.mq.edu.au; in...@list.soa.org
Sent: Wed, February 24, 2010 9:13:33 AM
Subject: [INARM Message] Re: INARM Message - Do deficits matter - Intrinsic value of gold - and a call for research

[Ingram, Dave]

Nick,

Yes. That is what I was thinking.

And of course there are consequences of having too much *or* too little currency/debt in the economy in terms of inflation/deflation and in terms of FX exchange rates.

But those are always relative issues not absolute. There are only absolute issues if there are parts of your economy that are not able to adjust easily to the changes in prices needed. For instance, deflation is a problem because wages seem to always resist reset downwards even when the smaller amount has higher purchasing power.

So if everyone is inflating their currency, then the problems of inflation are much less serious to any one country. Most serious for the country inflating the most.

For all the countries in the middle, there will be minor adjustments to exchange rates and prices of inports/exports and interest rates.

So is the US the outlier or in the pack?

Seems that right now, the largest problem is with the fact that China is not doing any of this in a similar manner to any of the other large economies.

So they have a strategy that gives them an advantage and others seem to think that the only solution is to get China to drop that strategy.

There must be another strategy that others can adopt to make things work better given China's strategy. But what is that?

Dave
David Ingram, CERA, FRM, PRM
Willis Re
+1 212 915 8039

---

From: Nick Albicelli <njalb...@yahoo.com>
To: inarm-emer...@googlegroups.com <inarm-emer...@googlegroups.com>; Frank...@mafc.mq.edu.au <Frank...@mafc.mq.edu.au>; in...@list.soa.org <in...@list.soa.org>
Sent: Wed Feb 24 11:36:03 2010
Subject: Re: [INARM Message] Re: INARM Message - Do deficits matter - Intrinsic value of gold - and a call for research

[Nick Albicelli]

Uh oh...

http://www.theonion.com/content/news/u_s_economy_grinds_to_halt_as

---

From: Stephen Britt <Stephe...@iag.com.au>
To: "Zaker-Shahrak, Ali" <Zaker-S...@insurance.ca.gov>; Frank Ashe <Frank...@mafc.mq.edu.au>
Cc: "in...@list.soa.org" <in...@list.soa.org>
Sent: Wed, February 24, 2010 4:23:35 PM

Subject: RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

Note: This e-mail is subject to the disclaimer contained at the bottom of this message.

---

Ali

 

Clearly being an actuary and being an expert in economics are not mutually exclusive (you have the trifecta of Ph.D, actuary and CFA charterholder)!

 

I’m not sure that I have an interest in the intrinsic value of gold, greenbacks or my humble Aussie dollar.  I can exchange the folding stuff for Jamaican coffee, Aussie wine, a German / British Mini or go to San Francisco for sushi – so the system seems to be working fairly well right now. I expect to be able to do so as long as my cousins dig iron, coal and gold out of the ground and sell it to someone – and my employer wants a Senior Manager, Capital Models…

 

Steve.

 

 

 

–––––––––––––––––––––––––––––––––––––––––––––
STEPHEN BRITT
SENIOR MANAGER

INTERNAL CAPITAL MODELS
INSURANCE AUSTRALIA GROUP (IAG)

T +61 (0)2 9292 2311

F +61 (0)2 9292 3159
M +61 (0)411 014 571
E stephe...@iag.com.au

www.iag.com.au

PLEASE CONSIDER THE ENVIRONMENT
BEFORE PRINTING THIS EMAIL.
–––––––––––––––––––––––––––––––––––––––––––––

 

From: Zaker-Shahrak, Ali [mailto:Zaker-S...@insurance.ca.gov]
Sent: Thursday, 25 February 2010 3:16 AM
To: 'Frank Ashe'
Cc: in...@list.soa.org
Subject: [Spam] RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

 

Here is how “Fiat money” is defined in Wikipedia:

 

From Wikipedia, the free encyclopedia

Jump to: navigation, search

The US twenty-dollar bill

The term fiat money is used to mean:

·         any money declared by a government to be legal tender.^[1]

·         state-issued money which is neither legally convertible to any other thing, nor fixed in value in terms of any objective standard.^[2]

The term derives from the Latin fiat, meaning "let it be done". Where fiat money is used as currency, the term fiat currency is used. Today, most national currencies are fiat currencies, including the US dollar, the euro, and all other reserve currencies.

Overview

While specie-backed representative money entails the legal requirement that the bank of issue redeem it in fixed weights of specie, fiat money's value is unrelated to any physical quantity. Even a coin containing valuable metal may be considered fiat currency if its face value is higher than its market value as metal. [Bold added by Ali Zaker.]

A feature of all fiat money is its (typically exclusive) acceptability to the government for payment of taxes and charges.

Fiat money is not essential for large countries, nor is it always used. An economy may function on credit money which is not fiat money, such as United States paper currency during periods prior to 1862, before the first United States Notes were created and declared by the government to be legal tender.

 

Therefore: GOLD IS NOT FIAT MONEY!  No government has declared gold to be legal tender!

[Frank Ashe]

Nick,

 

There is a trace of gold standard thinking in the easy conflation of monetizing debt with inflation.   The call on economic resources of the extra spending by the government occurs at the time of the spending, not at the time that debt may be repaid.  Spending at a time of slack resources is not inflationary.

 

Frank Ashe
+61 (0) 425 291 833

 

From: Nick Albicelli [mailto:njalb...@yahoo.com]

Sent: Thursday, 25 February 2010 4:36 AM
To: inarm-emer...@googlegroups.com; Frank Ashe; in...@list.soa.org
Subject: Re: [INARM Message] Re: INARM Message - Do deficits matter - Intrinsic value of gold - and a call for research

[Frank Ashe]

Jim,

 

Good points.

 

As the deficit hawks keep repeating, the higher the tax burden then the greater the value of the currency.  In the language of the deficit hawks they note that, keeping spending constant, then a low level of taxation will lead to deficits, which they argue will lead to inflation, hence making the currency worth less.  A higher rate of taxation will lead to less inflationary pressure and so to a more valuable currency.   Others make the same point but using different words.

 

Your comment that this sounds like it contradicts everything intuitively think is also good.  As my argument (which I've taken from Modern Monetary Theorists (MMT)) only uses a simple idea of stocks and flows, and no fancy hypotheses on markets or human behaviour, then this approach has a simple way of being demonstrated to be false.  By showing that intuitive ideas from earlier days may no longer be valid,  this argument shows an approach which is common with all broad based ERM programs - assumptions are tested, no matter how strongly believed.  I found the MMT ideas intuitively wrong at first and then set about looking for a gap in their logic or where their assumptions differed from mine.  Not finding any, I had to change my thinking.  Any company adopting an ERM process that doesn't allow the possibility of this sort of dialogue because it offends the intuition of a Board or CEO is likely to be deficient.  Intuition needs to be tested regularly.  I'd be glad to see which of the assumptions or logic you may disagree with - I try to maintain a distrust of my own and others' intuition as an arbiter of correctness.

 

And I doubt the idea will gain a Nobel prize - that money has value because it can be used to meet taxes has been noted by Smith, Keynes, and Friedman, as well as forming one of the bases of the Chartalist school.  So it's very old hat.

 

Regards,

Frank Ashe
+61 (0) 425 291 833

 

From: Jim Bridgeman [mailto:brid...@math.uconn.edu]

Sent: Thursday, 25 February 2010 5:26 AM
To: Frank Ashe; 'Zaker-Shahrak, Ali'
Cc: in...@list.soa.org
Subject: RE: [Spam] RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

Aha!  The higher the tax burden the more valuable (intrinsically) the currency.  If true, it will win a Nobel prize.  Contradicts virtually every intuitive notion (and most experience) of mankind since the stone age.

 

Jim

 

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]

Sent: Tuesday, February 23, 2010 9:31 PM
To: Zaker-Shahrak, Ali
Cc: in...@list.soa.org

[Nick Albicelli]

Going back to my earlier points, I agree that short term deficits are OK if you plan on removing the deficit spending (and therefore inflationary pressure) before it becomes a problem (when the slack in the economy is gone).  Or high spending with concurrent high taxation (a balanced budget) is noninflationary because the demand you create with spending is offset by the demand you reduce by taxation. 

I think we can agree that planning on long term, systemic deficit spending is noninflationary if you get long term slack in the economy.  But I wouldn't say that it's OK to run unsustainable deficits for a decade or two since we might be "lucky" enough to have a weak economy for that long (I thought my gangrene example was vivid enough to make this point clear).  To be complete, the end result of long term unsustainable deficits is either 1) sovereign default, 2) inflation to avoid (technical) sovereign default, or 3) long term economic weakness to avoid inflation.  No matter what you think is the least worst of those bad scenarios, I think that all of those are bad enough to say that long term, systemic deficits are bad. 

I only put forth the assumption that monetizing debt leads to inflation in my arguments here because, to be fair to the opposite opinion (that systemic deficits are OK so long as someone is willing to fund them), I will grant that the worst outcomes (sovereign default or a lost decade or two) might not occur.  But even assuming the best, it's still pretty bad...

---

From: Frank Ashe <Frank...@mafc.mq.edu.au>

To: Nick Albicelli <njalb...@yahoo.com>; inarm-emer...@googlegroups.com; in...@list.soa.org
Sent: Sun, February 28, 2010 6:35:08 AM
Subject: RE: [INARM Message] Re: INARM Message - Do deficits matter - Intrinsic value of gold - and a call for research

[Frank Ashe]

Nick,

 

I think we may have been talking past each other.  I've never advocated unsustainable deficits.  I've been arguing that a lot of the public debate saying that the deficits need to be brought under control at a time of severe underutilisation of resources have been based on a gold standard type of thinking e.g. the government has to get the money from taxation or borrowing.  The idea of "Ricardian equivalence" - which most probably has poor Ricardo turning in his grave - is one such gold standard idea that has achieved some prominence.  If the deficit spending is definitively linked to employing the spare resources then the (possibly) inflationary component of this spending should automatically disappear when the spare resources are no longer there.

 

One point we haven't clarified here are what would be called "unsustainable" deficits.  To my mind a working definition would be those that led to inflationary or other adverse distortionary effects on the economy.

 

Frank Ashe
+61 (0) 425 291 833

 

From: Nick Albicelli [mailto:njalb...@yahoo.com]

Sent: Monday, 1 March 2010 11:53 AM
To: inarm-emer...@googlegroups.com; in...@list.soa.org
Subject: Re: [INARM Message] Re: INARM Message - Do deficits matter - Intrinsic value of gold - and a call for research

[Stephen Britt]

Dear INARM:

[Jim Bridgeman]

Aha!  The higher the tax burden the more valuable (intrinsically) the currency.  If true, it will win a Nobel prize.  Contradicts virtually every intuitive notion (and most experience) of mankind since the stone age.

 

Jim

 

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]

Sent: Tuesday, February 23, 2010 9:31 PM
To: Zaker-Shahrak, Ali
Cc: in...@list.soa.org

[Adler, Avraham]

Forgive my ignorant intrusion, but when gold certificates were in place, they were legal tender (see http://en.wikipedia.org/wiki/File:Series1934_100gold_obverse.jpg), so they were fiat currency by that definition, I believe.

 

--Avi

_____________
Avraham Adler
Avraham Adler, FCAS, MAAA, Vice President, Instrat
Guy Carpenter | 44 Whippany Road, P.O. Box 1926, Morristown, NJ 07962-1926, USA
+1 973 285 7926 | Fax +1 917 934 9726 | Mobile +1 201 323 6574 | Avraha...@guycarp.com
www.guycarp.com | Guy Carpenter & Company, LLC

The data and analysis provided by Guy Carpenter herein or in connection herewith are provided “as is”, without warranty of any kind, whether express or implied. The analysis is based upon data provided by, or obtained from, external sources, the accuracy of which has not been independently verified by Guy Carpenter. Neither Guy Carpenter, its affiliates nor their officers, directors, agents, modelers, or subcontractors (collectively, “Providers”) guarantee or warrant the correctness, completeness, currentness, merchantability, or fitness for a particular purpose of such data and analysis. The data and analysis is intended to be used solely for the purpose of internal evaluation and the recipient shall not disclose the analysis to any third party, except its reinsurers, auditors, rating agencies, and regulators, without Guy Carpenter’s prior written consent. In the event that the recipient discloses the data and analysis, or any portion thereof, to any permissible third party, the recipient shall adopt the data and analysis as its own. In no event will any Provider be liable for loss of profits or any other indirect, special, incidental and/or consequential damage of any kind howsoever incurred or designated, arising from any use of the data and analysis provided herein or in connection herewith. This communication is not intended to be a complete actuarial communication. Upon request, we can prepare one. We are available to respond to questions regarding our analysis. There are many limitations on actuarial analyses, including uncertainty in the estimates and reliance on data. We will provide additional information regarding these limitations upon request.

 

---

From: Zaker-Shahrak, Ali [mailto:Zaker-S...@insurance.ca.gov]

Sent: Wednesday, February 24, 2010 11:16 AM

To: 'Frank Ashe'
Cc: in...@list.soa.org
Subject: [Spam] RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

Here is how “Fiat money” is defined in Wikipedia:

 

From Wikipedia, the free encyclopedia

Jump to: navigation, search

The US twenty-dollar bill

The term fiat money is used to mean:

·         any money declared by a government to be legal tender.^[1]

·         state-issued money which is neither legally convertible to any other thing, nor fixed in value in terms of any objective standard.^[2]

The term derives from the Latin fiat, meaning "let it be done". Where fiat money is used as currency, the term fiat currency is used. Today, most national currencies are fiat currencies, including the US dollar, the euro, and all other reserve currencies.

Overview

While specie-backed representative money entails the legal requirement that the bank of issue redeem it in fixed weights of specie, fiat money's value is unrelated to any physical quantity. Even a coin containing valuable metal may be considered fiat currency if its face value is higher than its market value as metal. [Bold added by Ali Zaker.]

A feature of all fiat money is its (typically exclusive) acceptability to the government for payment of taxes and charges.

Fiat money is not essential for large countries, nor is it always used. An economy may function on credit money which is not fiat money, such as United States paper currency during periods prior to 1862, before the first United States Notes were created and declared by the government to be legal tender.

 

Therefore: GOLD IS NOT FIAT MONEY!  No government has declared gold to be legal tender!

 

Ali Zaker-Shahrak, Ph.D.(Econ.), FSA, MAAA, CFA

Senior Life Actuary

California Department of Insurance

Actuarial Office

South Tower, 14th Floor

300 South Spring Street

Los Angeles, CA 90013

Tel.: (213) 346.6177

Fax: (213) 897.9761

Email:  zaker-s...@insurance.ca.gov

 

 

---

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]

Sent: Tuesday, February 23, 2010 6:31 PM
To: Zaker-Shahrak, Ali

[Stephen Britt]

Note: This e-mail is subject to the disclaimer contained at the bottom of this message.

---

Ali

 

Clearly being an actuary and being an expert in economics are not mutually exclusive (you have the trifecta of Ph.D, actuary and CFA charterholder)!

 

I’m not sure that I have an interest in the intrinsic value of gold, greenbacks or my humble Aussie dollar.  I can exchange the folding stuff for Jamaican coffee, Aussie wine, a German / British Mini or go to San Francisco for sushi – so the system seems to be working fairly well right now. I expect to be able to do so as long as my cousins dig iron, coal and gold out of the ground and sell it to someone – and my employer wants a Senior Manager, Capital Models…

 

Steve.

 

 

 

–––––––––––––––––––––––––––––––––––––––––––––
STEPHEN BRITT
SENIOR MANAGER

INTERNAL CAPITAL MODELS
INSURANCE AUSTRALIA GROUP (IAG)

T +61 (0)2 9292 2311

F +61 (0)2 9292 3159
M +61 (0)411 014 571
E stephe...@iag.com.au

www.iag.com.au

PLEASE CONSIDER THE ENVIRONMENT
BEFORE PRINTING THIS EMAIL.
–––––––––––––––––––––––––––––––––––––––––––––

 

From: Zaker-Shahrak, Ali [mailto:Zaker-S...@insurance.ca.gov]
Sent: Thursday, 25 February 2010 3:16 AM
To: 'Frank Ashe'
Cc: in...@list.soa.org
Subject: [Spam] RE: [INARM Message] RE: INARM Message - DO DEFICITS MATTER? ......

 

Here is how “Fiat money” is defined in Wikipedia:

 

From Wikipedia, the free encyclopedia

Jump to: navigation, search

The US twenty-dollar bill

The term fiat money is used to mean:

·         any money declared by a government to be legal tender.^[1]

·         state-issued money which is neither legally convertible to any other thing, nor fixed in value in terms of any objective standard.^[2]

The term derives from the Latin fiat, meaning "let it be done". Where fiat money is used as currency, the term fiat currency is used. Today, most national currencies are fiat currencies, including the US dollar, the euro, and all other reserve currencies.

Overview

While specie-backed representative money entails the legal requirement that the bank of issue redeem it in fixed weights of specie, fiat money's value is unrelated to any physical quantity. Even a coin containing valuable metal may be considered fiat currency if its face value is higher than its market value as metal. [Bold added by Ali Zaker.]

A feature of all fiat money is its (typically exclusive) acceptability to the government for payment of taxes and charges.

Fiat money is not essential for large countries, nor is it always used. An economy may function on credit money which is not fiat money, such as United States paper currency during periods prior to 1862, before the first United States Notes were created and declared by the government to be legal tender.

 

Therefore: GOLD IS NOT FIAT MONEY!  No government has declared gold to be legal tender!

 

Ali Zaker-Shahrak, Ph.D.(Econ.), FSA, MAAA, CFA

Senior Life Actuary

California Department of Insurance

Actuarial Office

South Tower, 14th Floor

300 South Spring Street

Los Angeles, CA 90013

Tel.: (213) 346.6177

Fax: (213) 897.9761

Email:  zaker-s...@insurance.ca.gov

 

 

---

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]

Sent: Tuesday, February 23, 2010 6:31 PM
To: Zaker-Shahrak, Ali

[Jetha, Shiraz (OIC)]

Frank,

I agree with you that our actuarial training does not have an in-depth content in economics…..at least that was the case when I did my exams. In this age of global connectedness, it seems more depth would have value.

 

And I also agree with you that were I to try and explain whether deficits matter to my Board, I would only be able to do so in the context of its impact on exchange rate and perhaps future inflation given our trade situation in US – of course, other things being equal.

 

Having said that, in the context of GFC, there seem to be other factors at work also as a result of the “G”lobal nature of the crisis. We are sensing that there are more “cracks” now - beyond Iceland – then we thought. Eurozone, for example. So the exchange rate impact is not as clear cut; and there are probably other aspects also.   

 

Shiraz

[Stephen Britt]

Note: This e-mail is subject to the disclaimer contained at the bottom of this message.

---

Here’s the rub. 

 

·         Assuming that the private sector is better able to produce goods and services, this currency backed by high inflation (which is more valuable) will be able to purchase fewer goods and services.

·         I hate being an empiricist, but I think about those countries with high implied tax rates (Russia pre 1990, North Korea) – they don’t seem to have strong currencies, in terms of the goods and services they can purchase.

 

S

 

–––––––––––––––––––––––––––––––––––––––––––––
STEPHEN BRITT
SENIOR MANAGER

INTERNAL CAPITAL MODELS
INSURANCE AUSTRALIA GROUP (IAG)

T +61 (0)2 9292 2311

F +61 (0)2 9292 3159
M +61 (0)411 014 571
E stephe...@iag.com.au

www.iag.com.au

PLEASE CONSIDER THE ENVIRONMENT
BEFORE PRINTING THIS EMAIL.
–––––––––––––––––––––––––––––––––––––––––––––

 

[david_...@hotmail.com]

Deficits matter less when the country has teeth. The might of the US military being currently challenged will/should/may trickle its way into the macro economy.

For example-All attempts to use other currency than the USD partially due to the might of the US Army (when opposed to a basket of currency of some sort).
Thanks
david
Sent from my Verizon Wireless BlackBerry

-----Original Message-----
From: "Loreley" <ma...@crazybearnewfs.com>
Date: Mon, 22 Feb 2010 11:42:09
To: <in...@list.soa.org>

[Zaker-Shahrak, Ali]

Here is how “Fiat money” is defined in Wikipedia:

 

From Wikipedia, the free encyclopedia

Jump to: navigation, search

The US twenty-dollar bill

The term fiat money is used to mean:

·         any money declared by a government to be legal tender.^[1]

·         state-issued money which is neither legally convertible to any other thing, nor fixed in value in terms of any objective standard.^[2]

The term derives from the Latin fiat, meaning "let it be done". Where fiat money is used as currency, the term fiat currency is used. Today, most national currencies are fiat currencies, including the US dollar, the euro, and all other reserve currencies.

Overview

While specie-backed representative money entails the legal requirement that the bank of issue redeem it in fixed weights of specie, fiat money's value is unrelated to any physical quantity. Even a coin containing valuable metal may be considered fiat currency if its face value is higher than its market value as metal. [Bold added by Ali Zaker.]

A feature of all fiat money is its (typically exclusive) acceptability to the government for payment of taxes and charges.

Fiat money is not essential for large countries, nor is it always used. An economy may function on credit money which is not fiat money, such as United States paper currency during periods prior to 1862, before the first United States Notes were created and declared by the government to be legal tender.

 

Therefore: GOLD IS NOT FIAT MONEY!  No government has declared gold to be legal tender!

 

Ali Zaker-Shahrak, Ph.D.(Econ.), FSA, MAAA, CFA

Senior Life Actuary

California Department of Insurance

Actuarial Office

South Tower, 14th Floor

300 South Spring Street

Los Angeles, CA 90013

Tel.: (213) 346.6177

Fax: (213) 897.9761

Email:  zaker-s...@insurance.ca.gov

 

 

---

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]

Sent: Tuesday, February 23, 2010 6:31 PM
To: Zaker-Shahrak, Ali

[Ingram, Dave]

QE One Year On - Speech by Spencer Dale

 

12 March 2010 

 

In a speech today at an academic conference in Cambridge, Spencer Dale – member of the Monetary Policy Committee and Chief Economist – examines the policy of buying assets using the Asset Purchase Facility, known as quantitative easing (QE). He reviews the theoretical foundations for QE, the key channels of transmission, and its impact to date.

Spencer Dale highlights that we have come a long way over the past year. Since the Bank made its first gilt purchases almost exactly one year ago, “...the economy has stabilised, household and business confidence have recovered and financial market conditions have improved.”

He discusses the academic literature on unconventional monetary policy and channels through which monetary policy is likely to be able to influence the economy at the zero interest rate bound. The MPC placed weight on three key channels: first, imperfect substitutability between assets and resultant portfolio rebalancing as investors switch out of gilts into alternative assets, such as corporate bonds and equities; second, improvements to financial market liquidity, aided by purchases of commercial paper and corporate bonds; and, third, expectations as asset purchases demonstrated the MPC’s commitment to act, boosted confidence in the economic environment and so reduced the likelihood of further large falls in asset prices. Given the challenges facing the UK banking system, an increase in bank lending was not expected to be a key part of the transmission process.

On judging the impact of QE to date, he says it is hard to provide a definitive answer to the £200bn question, not least because a policy of this form and scale has never been implemented in the UK but also because we do not know what would have happened in its absence. He believes that while broad money is still weak, it “...would have almost certainly been far weaker” absent the asset purchases. In addition, event studies that consider the impact of QE announcements on movements in the spread of gilt yields to Overnight Indexed Swap rates suggest “...that the portfolio balance effect may have reduced gilt yields by around 100 basis points.” It is also important to consider other asset prices as gilts make up a relatively small proportion of total wealth. In that respect, since the start of QE “equity prices have increased by more than 50%, and corporate bond yields have fallen by over 400 basis points. These movements have been very beneficial for the economy...”, he says. Even though it is difficult to identify the incremental role of QE in driving these improvements, Spencer Dale stresses that he has “...little doubt that our asset purchases contributed substantially to these movements...”.

He goes on to highlight two important considerations underlying the MPC’s recent decisions to maintain Bank Rate at 0.5% and the stock of QE at £200 billion. First, the stock of asset purchases, together with the low level of Bank Rate, should continue to provide a substantial stimulus to the economy for some time to come. Second, the Committee stands ready to make further asset purchases should the outlook warrant them.

Looking further ahead to the MPC’s exit strategy, Spencer Dale confirms that policy decisions will remain guided by the outlook for inflation. The Bank’s two instruments – Bank Rate and asset purchases – “...can be used at any time, in any order”, he says. The most difficult decision will be to decide the timing of the withdrawal, but that difficulty is not specific to QE.

Summing up he says: “One year on, there is a range of evidence – some relatively hard; some more circumstantial – to suggest that quantitative easing is having its desired effect. Asset prices have increased substantially, companies have made record recourse to debt and equity markets, confidence has recovered and inflation expectations remain firmly anchored. But there is still a long way to go. ...The ultimate success of QE will depend on whether the monetary injection and increased asset prices stimulate nominal spending and so help achieve the 2% inflation target in the medium term. Much of the impact of our asset purchases to date is to still to come through and so it is too early to judge their final impact.”

Full Speech

 

http://www.bankofengland.co.uk/publications/speeches/2010/speech428.pdf

---

From: Frank Ashe [mailto:Frank...@mafc.mq.edu.au]

Sent: Monday, March 01, 2010 8:11 PM
To: Nick Albicelli; inarm-emer...@googlegroups.com; in...@list.soa.org