Germany should ignore critics of its trade surplus.

At least until those critics produce a coherent solution for the disparities in competitiveness between Germany and the EZ periphery.

Martin Wolf (my favourite economics commentator) occupies a square foot of today’s Financial Times backing America’s criticism of Germany’s trade surplus. Unfortunately Wolf is not up to his usual standards.

Like many critics of Germany he doesn’t tell us exactly what the solution is. Well here’s a solution.

Germany could boost demand within Germany by enough to raise inflation to perhaps 3% or so. If inflation in the periphery remained constant (and unfortunately it would probably rise as a result of extra inflation in Germany) then the burden of dealing with differences in competitiveness would be born a bit more by Germany and a bit less by the periphery.

Though frankly it would take YEARS of that 3% inflation to solve the problem. Anyway, that’s about as much as Germany is morally obliged to do, I think.

So there you are: a solution of a sort by yours truly in under 200 words. But if you want to read Wolf’s failure to provide a solution in over 1,000 words feel free. And there are millions of words of hot air out there which completely fail to identify the core problem, never mind provide a solution. E.g. see the post just below about Scott Sumner. No doubt the careers of the relevant academics, commentators, journalists, etc will be enhanced by that hot air production. There again: feel free.

Should failing banks be closed suddenly or slowly: Laurence Kotlikoff versus Positive Money.

If all the creditors of a bank (or indeed any other entity) are shareholders (or other types of creditors who are shareholders in all but name), then when the business does badly, the value of its assets and the value of its shares will decline.

But that’s not a reason to declare bankruptcy or insolvency: indeed the above “doing badly” scenario simply does not constitute bankruptcy or insolvency as per the definition of the latter two words. Those definitions include something to the effect that the entity owes its creditors a sum of money which the entity cannot pay. 

But if all creditors are shareholders and quasi shareholders, then the entity does not owe any specific sum of money to anyone. George Selgin in his book “The Theory of Free Banking” (available online for free) made the same point when he said “For a balance sheet without debt liabilities, insolvency is ruled out..”.

Under Kotlikoff’s system, all creditors are quasi-shareholders, so insolvency is “ruled out”.

Positive Money.

Positive Money advocates a system under which depositors are promised £X back for every £X they deposit. That applies to PM’s so called “investment accounts” as well as “safe accounts”. But when things go wrong and the bank cannot repay depositors their £X, the bank is declared insolvent. And investment account depositors get 80p in the £ or whatever.

However given the same level of bank incompetence as above, 80p or thereabouts is what the “£1 stakes” of depositors would be worth in a Positive Money scenario.

So what’s the point of declaring a bank insolvent? Not much!!!

Why declare ANY BUSINESS bankrupt?

The above arguments actually raise an interesting question: namely what’s the point of declaring ANY FIRM bankrupt? That is, when a firm does badly, and creditors’ stakes in the business are obviously not worth their paper value, those creditors are always free to sell their stakes. E.g. trade creditors can always sell to those who specialise in “debt factoring” as it’s called. (Most UK banks offer a factoring service.)

There are probably others who can answer the latter question better than I can (the question as to what the point of formal insolvency proceeds is). However, I’ll make just one point against declaring banks insolvent, as follows.

Half (or more) of the damage done from banks going bust is the SUDDENNESS of the process. That is, the relevant bank tries to pretend up to the last minute that everything is OK and depositors’ stakes are worth 100p in the £. But at some point the game is up: everyone realises their stakes are not worth 100p in the £, so they rush to withdraw their stakes while the bank is still paying. Then hours later (rather than days later) the bank closes its doors.

So in the case of banks (as distinct from other businesses) there is a good case for the “slow decline” process as distinct from the SUDDEN close down process that is involved in formal insolvency.

Conclusion:  Kotlikoff’s slow decline process is better than Positive Money’s “sudden” closure process . . .er . . . I think.

Scott Sumner tries to enlighten us on the Eurozone depression.

Scott Sumner expends 1,000 words trying to enlighten us on the Eurozone depression.

Unfortunately his fixation with central banks and NGDP etc causes him to completely miss the basic cause of the Eurozone’s problems: the disparity in competitiveness between core and periphery, plus the fact that the way the EZ has chosen to deal with that disparity is to impose severe deflation on the periphery.

Sumner is also not too clued up when it comes to attacking MMT. See here.

Financial Times Watch No.2: Nigel Lawson and Islamic Finance.

Nigel Lawson, the UK’s former finance minister has an article which starts by praising the present government’s “fiscal consolidation”.  For an explanation as to why fiscal consolidation is a nonsensical idea, see here.

He then argues that the recovery would have been helped by splitting RBS into a good bank and bad bank. Well obviously private banks, RBS, in particular would have lent more if the state had taken over their dodgy loans. But that’s a subsidy, isn't it? And what’s Nigel Lawson, staunch free marketer, doing advocating a subsidy?

Moreover, there are (apparently unbeknown to Nigel Lawson) quite a few banks in the UK other than RBS. Having RBS lend more wouldn’t have made a HUGE difference to the pace of recovery: if there a viable lending opportunities out there, other banks would be jumping at the opportunity to lend, wouldn’t they?

And finally, since banks are demonstrably incompetent, if not actually criminal, why implement stimulus via banks at all? I.e. why not just increase public spending or feed money into consumers’ pockets (depending on your political preferences). The latter two sources of spending will place orders, and there’s nothing bank managers like to see more than full order books: that induces them to lend (where lending is an appropriate way of helping meet orders, which it isn't necessarily).

Islamic finance.

There is a letter from  Andreas Jobst, Chief Economist of the Bermuda Monetary Authority pointing out that Islamic Finance reduces leverage and would have helped during the crisis. That is, under Islamic finance, lenders have to take an equity stake in the entity they lend to. In effect, lenders become shareholders or quasi-shareholders.

While not going along with every aspect of Islamic finance, others have come to the conclusion that the above arrangement greatly improves bank stability and are arguing for making banks abide by that sort of arrangement: e.g. Laurance Kotlikoff , Richard Werner and Positive Money.

The decline in public investment.

Matias Vernengo has drawn attention to this chart, which shows the decline in public investment in the US since WWII. Well done Matias.

I’m not in favour of big INCREASES in public investment in a recession for reasons spelled out here. But to REDUCE such spending is plain bonkers. The red line is gross public investment in the US and the blue is the net figure.

Matias says the average post WWII spend on gross public investment has been 5% of GDP, but is now down to 3.6%.