Gut... feel.

Paul Krugman

Same.

sigh.

20 July 2009

Lions of Singapore

Funny Money

Larry Haverkamp

Creating Something from Nothing

DID you know that governments can create money from nothing? It is almost like creating matter from a vacuum and happens all the time.

It works like this: Suppose George finds an old brick, paints it gold and convinces his bank to accept it as a $1,000 deposit.

The bank retains 10 per cent ($100) and loans $900 to Pete who uses it to buy a flat-screen TV from Carolyn Cable.

She deposits the $900 in her bank which again holds back 10 per cent ($90) and lends out the rest ($810).

This continues until the new loans decline to $0. I added them up and it totals $10,000. (Trust me.)

Incredibly, George's gold brick was phoney but it managed to create $10,000 in real money. Economists call it 'printing money' and governments do it too. The only difference is that instead of a phoney gold brick, central banks write a $1,000 cheque backed by money it doesn't have.

Commercial banks are in on the scheme and agree not to cash the central bank's cheque, but to treat it like real money and lend it out immediately. The loans create $10,000 of new money in the process I've described above.

Central banks, especially in the US, have been doing this at a record pace recently.

In recessions - like now - it works well. It's free money, makes people feel richer and helps pull an economy out of its slump.

The only worry is inflation, but that's unlikely. If prices rise too fast, central banks can shrink the money supply by doing this same process in reverse.

Spend more to make more

An equally popular device is for countries to spend their way out of recession.

When you and I spend, we become poorer. But a country can spend, say, $1 billion for a bridge and generate new wealth that exceeds the cost of the bridge.

Does it mean the country gets a free bridge simply by spending the money to buy it? Incredibly, yes.

It is called 'stimulus spending' and is effective in boosting self-contained economies like the US, China and India.

Unfortunately, it doesn't work well for small open economies like ours. Most of our spending - about 60 per cent - flows out of the country to pay for the imports we need to survive.

An easy way to rid debts

LET'S say George visits from America and passes an art gallery in Ang Mo Kio.

He spots a lovely painting of a naked girl and asks the owner, Terrance, 'Is this pornography or art?'

Terrance says it's art so George whips out a $1,000 note as a deposit.

When George leaves the store, Terrance grabs the money and runs over to settle a $1,000 debt he owes to his daughter's tuition teacher, Ms Tay.

Ms Tay has a gambling problem and gives the $1,000 to her brother, Desmond, to repay money she had borrowed to play 4-D.

Desmond says, 'Thanks Sis' and uses the money to pay Calvin at Cool Computers where he had purchased a notebook on credit.

Calvin uses the $1,000 to pay Eric Wong for fixing his car six months ago.

Eric is a full-time mechanic and part-time art lover. He takes the $1,000 to his art dealer, Terrance, where this story began. He pays the final instalment on a picture he bought last year.

The next day, George shows up with his wife and - too bad - she won't have that naked girl in her house. Terrance has no choice but to refund George's $1,000 deposit.

Think about it. George left a $1,000 deposit and took it back the next day.

No income or profit was generated. Somehow, however, it has caused $5,000 of debts of five people to be repaid. All can now look optimistically toward a debt-free future.

Is this a solution to the world's financial crisis? Can we do the same to eliminate a few trillion dollars of worldwide debts?

It's food for thought.

09 June 2009

Now, where's Larry when i was in school ?

By Larry Haverkamp

From: The ElectricNewPaper

Who really knows when the recession will end ?

EVERY now and then, we need to take a step back and look at the big picture.

The world's wealth, for instance, stands at around US$200 trillion (S$300 trillion). That is the value of everything everyone owns.

Two years ago, it was higher - US$250 trillion - but we lost US$50 trillion in the financial crisis.

By the way, 1 trillion is a really BIG number. It is 1,000 billion, which is four times everything we make in a year - four times Singapore's GDP. The question of the day is: 'When will this recession end and GDP grow again?'

The official answer is: 'World economies will see gradual improvement from the middle of next year.'

The unofficial answer is: 'Who knows?' This recession is different from anything we have seen in the past. It is a beast that comes at us in the night.

Times have changed

In the US, it used to be easy to get a '100 per cent no-doc home loan'. The homeowner would put down no money of his own and provide no documentation.

If a bank was impolite enough to ask, 'Do you have a job?', the borrower could say, 'Excuse me. Are you prying into my personal life?'. The bank would then back off.

Nowadays, US home loans require a down payment of at least 20 per cent, up from 0 per cent two years ago.

Company loans are tough to get too, which has brought some businesses - especially in exports - to a near standstill. On the positive side, less debt means lower risks, so we will see fewer defaults in the future.

The problem is if a home or office building can't get financed, it won't be built. The same for a factory. Fewer things get made and GDP grows slowly, if at all.

It means, for the first time in history, our children may end up with lower living standards than their parents. We may have to go back to living 'the simple life'.

That was the name of Paris Hilton's reality TV show. Perhaps she can show us how to do it.

Good v bad risk

US$200 trillion in world wealth is small compared to the new centrepiece of this recession:

Derivatives

They are US$1,232 trillion, which is - get ready - US$1.232 quadrillion. A quadrillion is 1,000 trillion, or 1 followed by 15 zeros.

By the way, did you know that a googol is 1 followed by 100 zeros? That's huge.

Back to derivatives.

In June 1998, the underlying value of privately traded (over the counter) derivatives was US$75 trillion. Ten years later, it had grown to US$684 trillion. The other half of the story is exchange traded derivatives like futures and options. These come to US$548 trillion, bringing the grand total to US$1,232 trillion or US$1.232 quadrillion as of June 2008.

Here's how they work

Derivatives make it possible to bet on the rise or fall of interest rates, currencies, oil, food, metals and more.

Instead of buying gold, for example, you can make a bet with a counterparty that gold prices will go up. It is speculation (gambling) and it creates a new risk that wasn't there previously.

Derivatives can also reduce risk through hedging.

Do they reduce risk through hedging (good) or increase it through speculation (bad)?

We can get a hint by looking at the value of all derivatives. As explained, it stands at US$1,232 trillion, which is six times the US$200 trillion value of the world's wealth. It shows that something besides innocent hedging is going on since there is not that much wealth in the world to hedge. Speculation is likely.

This speculation is crowding out 'good' risk. For example, a bank giving a car loan produces risk, but it is productive since it results in someone owning a car. It boosts GDP. (Good.)

Derivatives speculation also produces risk but it is not productive. It does not add to GDP or the world's wealth. It only shifts it around through counterparty bets that are won and lost. (Bad.)

The move from productive to unproductive risk is a new development. It is a dark force that is unique to this recession.

01 May 2009

Trickle-down Economics

Read At the Polls, Icelanders Punish Conservatives.

...“It is the same poisonous philosophy that we had here, based on a lack of moral awareness and greed, and people who thought nothing of flying Elton John into Iceland for their 50th birthdays and paying him 70 million Icelandic kronur,”

Steingrimur Sigfusson, Iceland interim finance minister.

Photographs of bankers who left Iceland after the financial crisis have a new use in the restroom of a bar in Reykjavik, the capital.

27 April 2009

Statistics

A reader's comment on TOC It does get worse.

" I heard on CNA yesterday that the new HDB development, The Peak @ Toa Payoh is selling at $720k for a 5 room flat…To me, this is a ridiculous price to pay.

I remember that when I first graduated as an Engineer 18 years ago, my starting pay was at $2+k then (common amongst my cohorts) and now after so many years I am hiring fresh graduates also in the same $2+k range.

I struggled then to pay my executive HDB flat as a fresh grad which cost me $200k then.

I wonder how the young graduates can pay for decent living in Singapore with the same salary I had when I first graduated so many years ago.

Life in Singapore has regressed. Sad. "

The Peak @ Toa Payoh

http://theonlinecitizen.com/2009/04/it-does-get-worse/#comments

18 April 2009

Fancy Finance = Economic Progress ?

Paul Krugman on Making Banking Boring.

"... Despite everything that has happened, most people in positions of power still associate fancy finance with economic progress. "


Some readers' comments:

" Funny you should mention "The Gilded Age". Mark Twain co-authored a satirical novel of the same name in 1873 and I quote his view of the world economy at the time.

(A US congressman is giving his view of a woman lobbyist): "She was nothing but a woman, and did not know how much of the business prosperity of the world is only a bubble of credit and speculation, one scheme helping to float another which is no better than it, and the whole liable to come to naught and confusion as soon as the busy brain that conceived them ceases its power to devise, or when some accident produces a sudden panic".

This is 1873 mind you! I guess we will now start the cycle over again. "

— Gerry, Sherborn,MA

http://community.nytimes.com/article/comments/2009/04/10/opinion/10krugman.html

" The insane elevation of finance in our country reminds me of crank mega-vitamin health theories. Of course it turns out that finance really is like vitamins:

we need some. More than enough doesn't really help. Too much can be toxic. "

— Joe, Somerville, Massachusetts

http://community.nytimes.com/article/comments/2009/04/10/opinion/10krugman.html

" If the money supply and the banking industry are modeling what is happening in the real economy, then any extreme growth of profits in the banking industry vastly overwhelming the growth in the real economy must be a sign of serious distortion.

The model takes off on its own, but that doesn't mean real life has gotten better. It only means that the model is out of whack.

Unfortunately the keepers of the model stand to profit short-term from distorting it and the public needs to keep a watchful eye. How come the conservatives can see distortions of the model when it comes to grades and school performance, but why are they so blind when it comes to the modeling role of the financial system relative to the underlying real economy? "

— E. Kuhn-Osius, New York

http://community.nytimes.com/article/comments/2009/04/10/opinion/10krugman.html

" One aspect of banking that also influenced the current financial meltdown is the advent in the 1980s of the 401k.

With so many Americans now having considerable "skin in the game" and with the banking sector contributing significantly to mutual fund gains over the past 20 years, it will be difficult to implement regulations that reduce the influence of this sector.

Other less risky options for retirement planning will need to be developed before strong regulations in the banking sector can be implemented.

Or, another sector, perhaps energy, will need to show promise as a replacement option in IRA portfolios. "

— Dianne, Columbus

http://community.nytimes.com/article/comments/2009/04/10/opinion/10krugman.html

I would like to think that our CPF (Central Provident Fund) is generally safe and also prudent. What with a rate of return of "only" 2.5% and 4% for the Ordinary and Special account respectively. I hope our skin, as a nation, is not too deep into the game.

11 April 2009