Elderly savers; cast adrift like Captain Bligh

WHEN you reach retirement age, what should you do with your money? It is a simple question but one that is fiendishly difficult to answer, given all the variables involved. For those dependent on the state, it is a question of having enough to afford three meals a day and keep the house warm. For those still lucky enough to have a final-salary pension, fewer decisions need to be made. The real problems arise for those who reach retirement with a pot of money, accumulated through the various defined contribution schemes (401k in America).

Those retirees have a lot of imponderables to consider; how long will they (and their partners) live? What investment return can they expect? What will be the impact of inflation? What will their spending patterns be (will they face big bills for nursing care in their final years)? How will the tax regime change? In financial jargon, they face both investment risk and longevity risk. 

No one can know the answer to these issues. You can get advice, certainly, but that can only help in the most general sense. The current tax rules are always worth knowing. Longevity may not be well...Continue reading

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The crazy world of credit

THERE was much talk at Davos, the global elite’s annual get-together in Switzerland, of wealth inequality: the gap between the haves and the have-nots. The corporate-bond market is currently displaying a similar divide—between the have-yields and the yield-nots.

According to Bank of America Merrill Lynch (BAML), around €65 billion ($71 billion) of European corporate bonds are trading on negative yields; in other words, investors lose money by holding them. Yet the rates paid by issuers of low-quality or junk bonds have been soaring.

The spread (the interest premium over government borrowing rates) paid by junk-bond issuers has risen by nearly three-and-a-half percentage points since March last year (see chart). The gap is now nearly as great as it was during the euro crisis of 2011, although it is less than half as wide as it was after Lehman Brothers collapsed in 2008.

Odd though it may seem, these market movements are part of the same trend. As January’s stockmarket wobbles have shown, investors are very nervous and are looking for safety. Certain corporate-bond issuers, such as Nestlé, a Swiss foods group,...Continue reading

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Step on it

THE Singapore Sling is a cocktail with such a variety of ingredients that few ever taste exactly alike. So it may seem an odd name to apply to a contract to help standardise the global trade in gas. That has not deterred the Singapore Exchange, a market for stocks, bonds and derivatives. Last year, as part of the city-state’s push to become a global trading hub for liquefied natural gas (LNG), it developed the slightly laboured SLInG, a spot-price index for Asian LNG. On January 25th it complemented this with a derivatives contract. There is a long way to go though. As yet the spot market accounts for only about 5% of volumes traded in Asia, executives say.

Instead, the international gas market is dominated by long-term contracts linked to the price of oil, both for gas delivered via pipeline and as LNG. This is an anomaly that dates back to the 1960s, when European suppliers developing their first gasfields had no price on which to base long-term contracts, so used oil instead. Since then, supply and demand for these commodities have diverged; oil indexation increasingly fails to reflect the disparities.

Analysts believe that, as a result,...Continue reading

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A digital dust-up

FEW subjects are as bloodless as the ins and outs of corporate tax—until they provide an opportunity to accuse a politician of coddling big business. George Osborne, the chancellor of the exchequer (Britain’s finance minister), got his critics’ blood up this week by hailing as a “major success” a deal in which Google agreed to cough up £130m ($185m) in back payments for 2005-15, in addition to the roughly £120m it had already paid. Almost everyone else, including bigwigs from his own Conservative Party, was scathing.

Tax authorities, particularly in Europe, have been stepping up efforts to claw back lost tax amid growing public anger over companies’ energetic tax avoidance. The main targets are technology giants, which have become masters at cutting their tax bills by shuffling intellectual property and profits to tax havens. In addition, governments around the world are implementing a raft of anti-avoidance measures proposed last year by the OECD. But as the Google kerfuffle shows, trying to look tough can backfire.

A ten-year bill of £250m looks light for a company whose revenue from British advertisers was...Continue reading

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The wages of sin

WHETHER the miscreants are African policemen, European politicians or American university basketball players, the same remedy for corrupt behaviour is offered: pay people more money. It sounds intuitive. But does legitimate lucre really drive out the filthy kind? New research involving a natural experiment in West Africa suggests that it does not—and that conventional economic theories of corruption are wrong.

In 2010 Ghana began to move public officials to a new salary structure. The earliest and biggest beneficiaries were police officers, whose pay abruptly doubled. It was hoped that they would start behaving better as a result—and especially that they would stop extorting money from drivers at roadblocks. There was certainly much room for improvement: surveys around that time by Transparency International, a watchdog, found that 91% of Ghanaians believed their police were corrupt, an even higher proportion than thought the same of politicians.

As it happened, a large survey was already under way of lorry drivers plying the roads of Ghana and its neighbour, Burkina Faso. Drivers with their papers in order were asked to record how many times they were stopped and how much money they paid to police and customs officials along the route.

Two American economists, Jeremy Foltz and Kweku Opoku-Agyemang, have examined the data on 2,100 long-haul...Continue reading

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Against the odds

The perfect customer

INVESTORS have poured billions of dollars into “fintech” startups, creating hundreds of new firms determined to shake up lending, payments, broking and data, among other financial niches. Insurance, however, has not yet been subject to the same melee. That may be changing.

Insurance is tricky to break into, for two reasons. The most important is regulation. Health insurance—or its American version, at least—may be the most heavily regulated industry in the world. Before a company can even offer a policy, it must have multiple approvals from state and often city agencies and then negotiate agreements with local hospitals.

Running the gauntlet of these regulations is a costly and time-consuming process. A company that set up shop today could not issue any policies before 2018 at the very earliest, says Mario Schlosser, chief executive of Oscar, a company founded in 2012 to provide health insurance to individuals online. It has attracted attention not least because it has managed to secure all the necessary paperwork.

The second obstacle is capital. Fintech firms typically receive...Continue reading

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Chop chop

BOSSES at big banks would once have cringed at releasing the kind of results they have been serving up to investors in recent days. This week, for instance, Deutsche Bank posted a loss of €6.8 billion ($7.4 billion) for 2015. In the third quarter of last year the average return on equity at the biggest banks, those with more than $1 trillion in assets, was a wan 7.9%—far below the returns of 15-20% they were earning before the financial crisis. Exclude Chinese banks from the list, and the figure drops to a miserable 5.7%. Returns have been languishing at that level for several years.

In response, the banks’ top brass are following a similar template: retreats from certain countries or business lines, along with a stiff dose of job cuts. Barclays, which earlier this month said it would eliminate 1,000 jobs at its investment bank and shut up shop altogether in Asia, is typical. More radical measures, such as breaking up their firms into smaller, more focused and less heavily regulated units, do not seem to be on the cards.

In fact, in spite of investors’ frustration at dismal returns and regulators’ insistence that banks that are...Continue reading

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Machine earning

BILL BURR, an American entertainer, was dismayed when he first came across an automated checkout. “I thought I was a comedian; evidently I also work in a grocery store,” he complained. “I can’t believe I forgot my apron.” Those whose jobs are at risk of being displaced by machines are no less grumpy. A study published in 2013 by Carl Benedikt Frey and Michael Osborne of Oxford University stoked anxieties when it found that 47% of jobs in America were vulnerable to automation. Machines are mastering ever more intricate tasks, such as translating texts or diagnosing illnesses. Robots are also becoming capable of manual labour that hitherto could be carried out only by dexterous humans.

They’re everywhere

Yet America is the high ground when it comes to automation, according to a new report* from the same pair along with other authors. The proportion of threatened jobs is much greater in poorer countries: 69% in India, 77% in China and as high as 85% in Ethiopia. There are two reasons. First, jobs in such places are generally less skilled. Second, there is less capital tied up in old ways of doing things. Driverless...Continue reading

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The Italian job

TO LOSE Greece or Portugal may be regarded as a misfortune; to lose Italy looks like carelessness. It is hard to imagine the single currency surviving a showdown with Italy, the currency club’s third-biggest economy (and the world’s eighth-biggest, just ahead of Brazil). Perhaps that explains the recent pugnacity of Matteo Renzi, Italy’s prime minister, regarding European fiscal rules. In an article published in the Guardian newspaper in mid-January, he sounded positively Greek, complaining that the European Union’s “fixation on austerity is actually destroying growth”. His finance minister, Pier Carlo Padoan, has been tangling with the European Commission over how to deal with the €350 billion ($382 billion) of bad loans clogging up the Italian banking system. Mr Renzi is demanding the Eurocrats’ forbearance as he tries to restart Italy’s long-stalled economy.

Italy’s experience within the euro zone has been miserable. It has been in recession for five of the past eight years. Real (ie, adjusted for inflation) GDP per person is lower than in 1999. Sovereign debt has risen above 130% of GDP. Worse,...Continue reading

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The Fed makes the best of the bad situation it created

SUPPOSE for a moment that you are sitting on the Federal Open Market Committee and therefore share the FOMC's view of what's going on in America's economy, and therefore think that it was sensible to raise the fed funds target in December. This means that you look at the data from the second half of 2015 and see an economy experiencing a robust, broad-based recovery, apart from energy-related businesses and some manufacturers. You see employers adding workers at a sustained, rapid clip, despite the fact that the unemployment rate has fallen to 5%. And you say, look, oil can't fall that much farther, and payroll growth at this pace and unemployment rate has to eventually lead to much faster wage growth and higher inflation. There's a risk that high inflation would be hard to bring down, and we don't want to create a new recession by hiking rates a lot in a short period of time. So best to get started with the hikes now, so that we can shepherd the economy toward sustained growth at 2% inflation. 

So you raise rates. And then, let's suppose, all hell breaks loose. Stock markets suddenly lose their minds and start to swing violently, generally in the downward direction. Bond yields tumble, too (except on the government bonds of big emerging markets in vulnerable financial situations). Commodity prices fall off a cliff, led by oil....Continue reading

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Sterling's plunge; markets wake up to Brexit

STERLING has had a very choppy history, marked by crises such as 1967, 1976 and 1992. And it is having another rocky period. John Warith of UBS writes that

Of the many violent recent moves in global markets, the collapse of sterling is one of the most remarkable. In trade weighted terms, the currency has dropped more than 7% in just two months, a fall of a magnitude only surpassed once since the MPC assumed responsibility for setting UK monetary policy in 1997.

Part of the weakness is down to a change in tone by Mark Carney, the governor of the Bank of England, who indicated recently that British interest rates were unlikely to rise in the near future. But that can't really explain the whole move; after all, the European central Bank has hinted it will ease policy further, but the pound has still fallen against the euro.

 And though the interest rate...Continue reading

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What happened to the capex boom?

ONE reason why interest rates were cut to zero rates in the aftermath of the financial crisis was to encourage business to invest, and thus boost the real economy. Companies have a "hurdle rate" for new investment; a project must offer a higher return than the hurdle rate. Other things being equal (a critical assumption), a lower financing cost should result in a lower hurdle rate and thus that more projects get approved.

But as the graph from Citigroup shows, if one excludes energy and materials, global capex has been flat since the crisis. And the boom in energy and materals investment owes much to the lingering effect of the commodities boom, which ended in 2011, and the development of shale oil and gas. Now that the oil price has plunged, many energy investment projects have been cancelled.

So why hasn't other capex gone up? An obvious problem is the slow nature of the global recovery. If companies do not expect rapid growth, then they will lower the return forecast for any project they consider. Even though, the financing cost has gone down, the number of potentially profitable projects may not have...Continue reading

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The tax man cometh

The contributory myth: what you pay in isn't what you get out

EVERY time pensions or other old age benefits are reformed, the debate is dogged by a familar refrain. It is unfair to cut benefits because people are only getting back what they paid in.

To be fair, that misunderstanding of the system has been built into it from the start. In Britain, Lloyd George introduced the idea of contributory benefits and William Beveridge, the father of the Welfare State, said in 1942 that

Benefit in return for contributions, rather than free allowances from the State, is what the people of Britain desire

In America, when Franklin Roosevelt launched Social Security, he told Congress that

First, the system adopted, except for the money necessary to initiate it, should be self-sustaining in the sense that funds for the payment of insurance benefits should not come from the proceeds of general taxation.

Workers (and their employers) make national insurance contributions (in Britain) and pay payroll taxes (in America) and these payments generate the entitlement to future benefits (with an important exception, which we'll come to later)....Continue reading

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Are results in top journals to be trusted?

PUBLICATION bias in academic journals is nothing new. A finding of no correlation between sporting events and either violent crime or property crime may be analytically top class, but you couldn’t be blamed, frankly, for not giving a damn. But if journal editors are more interested in surprising or dramatic results, there is a danger that the final selection of published papers offer a distorted vision of reality. 

This should skew the distribution of published results, towards more 'significant' findings. But a paper just published in the American Economic Journal finds evidence of a different sort of bias, closer to the source. Called "Star Wars, the empirics strike back", it analyses 50,000 papers published between 2005 and 2011 in three top American journals. It finds that the distribution of results (as measured by z-score, a measure of how far away a result is from the expected mean) has a funny double-humped shape (see chart)....Continue reading

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Do falling markets mean recession is on the horizon?

MARKETS have begun the year in extremely wobbly fashion. Plunging equities have generated most of the headlines; major indexes in Asia and Europe are now in bear market territory, meaning that they have fallen more than 20%. But fear is visible in other places as well. Commodity prices are sinking. Safe-haven currencies and bond prices are soaring, while shakier ones are getting smoked.

Crashing markets certainly seem like cause for concern, and the dreaded r-word is popping up with increasing frequency in tweets and blog posts and news stories. But is it really possible that recession lurks ahead? Manufacturing activity looks weak in many countries, but the high-frequency data in most of the rich world, and certainly in America and Europe, does not at all suggest that a slowdown is underway. Many of the world's prominent economists have declared that the market swoon looks out of step with fundamentals. On January 19th Maurice Obstfeld, the chief economist at the IMF, said that markets appeared to be overreacting to "small bits of evidence". And indeed, updated IMF forecasts released this week predict growth in 2016 across all the big rich economies.

Of course, the IMF's track record in this regard is...Continue reading

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Taking flight

ONE of the supposed virtues of peer-to-peer lenders—websites that connect borrowers to people with money to lend—is transparency. They often publish a range of information about those seeking loans (credit history, employment status, income), so that the investors stumping up the money know what they are getting into. So it is fitting that Imperial Investment, a Chinese P2P firm, is impressively transparent about its own circumstances. Earlier this month it published four separate notices from police, employees and family pleading for its runaway founder to return. “Our faces are bathed in tears,” the employees wrote.

Chinese media were far more phlegmatic about the woes of Imperial Investment, which has facilitated 935m yuan ($142m) in loans since its launch in 2013. “Runaway P2P bosses are no longer newsworthy,” declared the Jinling Evening News. At the end of 2015, nearly a third of all Chinese P2P lenders (1,263 out of 3,858) had run into difficulties, according to Online Lending House, an industry website. It classifies them according to the nature of their troubles: halted operations, disputes, frozen withdrawals or, as in the case of Imperial, bosses who have absconded. Running away may sound rather extreme but it turns out to be popular: 266 P2P bosses have fled over the past six months, by Online Lending House’s count....Continue reading

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For good or ill

Good for pensions

THE welcome accorded the 1.1m refugees arriving in Germany in 2015 is cooling fast. On January 19th 44 members of parliament in the governing coalition sent a cross letter to their boss, Angela Merkel, who is the refugees’ chief advocate. “Our country is about to be overwhelmed,” they complained. Yet more migrants may be on their way: there are 8m displaced people within Syria, and 4m more in neighbouring countries.

Humanity dictates that the rich world admit refugees, irrespective of the economic impact. But the economics of the influx still matters, not least because it colours perceptions of the new arrivals. One fear is that immigrants will compete for work and drag down wages. Another is that they will pinch the public purse.

When it comes to their pay packets, Germans need not fret. Evidence suggests that immigration has only a small impact on employment or wages. Unskilled workers and existing migrants are most vulnerable, as they are the closest substitutes for the new arrivals. But the effects are still measly. For example, a recent paper by Stephen Nickell of Oxford University and...Continue reading

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Not yet out of the woods

FOR a spell last year American banks seemed poised to reattain the sort of double-digit returns that have largely eluded them since the financial crisis. A robust market for takeovers and public offerings was producing a flurry of fees. Credit quality, which had collapsed in the crisis, was “pristine”, according to Jamie Dimon, the boss of JPMorgan Chase, America’s biggest bank by assets—something that was allowing banks to reduce the provisions they had made to cover soured loans. The rash of swingeing fines that had been disfiguring profits had largely dissipated (although Goldman Sachs recently agreed to pay $5 billion to settle charges that it knowingly peddled dodgy mortgage-backed securities). And then there was the Federal Reserve’s decision to raise interest rates in December for the first time in nearly a decade, which held out the prospect of a growing margin between the rates banks pay depositors and those they charge borrowers.

Glimmers of that sunnier outlook can still be seen in the big American banks’ annual results. JPMorgan Chase reported a record annual profit on January 14th of $24 billion. Bank of America...Continue reading

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The cockroaches of finance

WHEN Thomas Guerriero came knocking, pulses quickened at Oxford City, a club in the sixth tier of English football. The snappily dressed American appeared to be building a thriving conglomerate that included sports teams and private universities. He bought a 50% stake and talked of propelling the club into the big time.

The tie-up appears to have been an own-goal. Mr Guerriero’s stake has been frozen as he awaits trial in America on ten charges, including fraud and witness-tampering. (He denies wrongdoing.) Oxford City has lost face, but little money: its assets are safely parked with the charity that owns the other 50%. Others have fared worse: prosecutors allege that Mr Guerriero ran a “boiler room”—a brokerage that uses high-pressure tactics to sell shares and other investments of little or no value to unwary individuals over the phone—which bilked 150 American investors out of $6.5m.

Boiler rooms trade on coercion and intimidation, and this one was no exception, say prosecutors. Victims were told that their conversations had been recorded and were legally binding agreements to buy, and that if they reneged they would face late fees and property liens. It is alleged that one even liquidated an annuity to hand over $250,000.

The heyday for boiler rooms was the dotcom boom of the 1990s, when Jordan Belfort, the “Wolf of Wall Street”,...Continue reading

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Watch what they pay

DIVIDENDS provide the vast bulk of long-term returns from equities. Work by Elroy Dimson, Paul Marsh and Mike Staunton of the London Business School shows that the real annual total return from American shares since 1900 has been 6.4%. Capital gains supplied just a third of that figure; reinvested dividends accounted for the rest.

So the outlook for dividends ought to be crucial for equity investors. They should be concerned that, in some markets, dividend income is concentrated in a small number of stocks (see chart). In Australia, Britain, France, Germany and Switzerland, more than 70% of the dividends come from just 20 companies.

That leaves investors’ income dependent on the fortunes of just a few industries. Banks were big dividend-payers until the financial crisis of 2008; energy and mining companies have been good sources of income since then. But falling commodity prices are leading energy companies to reduce their payouts. Last year 504 American companies cut their dividends, according to Standard & Poor’s, a credit-rating agency, compared with 291 in 2014. Energy companies made up nearly half of the...Continue reading

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Award: Philip Coggan

Award: Philip Coggan, our Buttonwood columnist, was named “Journalist of the Year” by the CFA Society of the UK for his article “What’s Wrong with Finance”.

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All at sea

DISMAL may not be the most desirable of modifiers, but economists love it when people call their discipline a science. They consider themselves the most rigorous of social scientists. Yet whereas their peers in the natural sciences can edit genes and spot new planets, economists cannot reliably predict, let alone prevent, recessions or other economic events. Indeed, some claim that economics is based not so much on empirical observation and rational analysis as on ideology.

In October Russell Roberts, a research fellow at Stanford University’s Hoover Institution, tweeted that if told an economist’s view on one issue, he could confidently predict his or her position on any number of other questions. Prominent bloggers on economics have since furiously defended the profession, citing cases when economists changed their minds in response to new facts, rather than hewing stubbornly to dogma. Adam Ozimek, an economist at Moody’s Analytics, pointed to...Continue reading

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Phase two

DMITRY MALIKOV, a wavy-haired crooner, normally sings schmaltzy love tunes. But his latest clip, which he calls “A New Year’s Appeal to the Rouble”, captures the zeitgeist in Russia. “Sure, it’s a bit tough, but happiness is ahead,” he belts. “Just wait, just wait, don’t fall.” Despite his plea, the rouble is falling: on January 21st it dropped to more than 85 to the dollar, a record low. References to the economic “crisis” pepper daily conversation; news broadcasts lead with breathless coverage of the oil markets, and even the patriarch of the Russian Orthodox church was asked his thoughts on the exchange rate during his annual Christmas interview. 

Russia’s economy had a torrid 2015. As the oil price tumbled from its mid-2014 peak of over $100 a barrel, Russia’s exports and government revenues, heavily dependent on oil and gas, collapsed. GDP shrank by nearly 4%; inflation ran close to 13%. Having lost half its value against the dollar in the second half of 2014, the rouble dipped a further 20% in 2015. But in the autumn the contraction slowed. Vladimir Putin, Russia’s president, triumphantly declared that “the peak of...Continue reading

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The bear necessities

BEAR markets are triggered, by convention, when share prices fall by more than 20%. So the widespread stockmarket declines on January 20th took Tokyo’s Nikkei 225, London’s FTSE 100 and France’s CAC-40 into bear-market territory (see chart), since all had declined at least that much since their highs of last year. Mind you, another old saw is that bear markets do not end until prices pass their previous peak; on that measure, the Nikkei 225, which is less than half its 1989 high, is still caught in a 26-year-long bear run.

The rich world is not alone in its ursine infestation. China’s CSI 300 index is more than 40% below last year’s high. The FTSE All-World Index, having breached the 20% mark, ended down 19% on January 20th. Indeed New York, although hit hard that day (the Dow Jones Industrial Average fell more than 500 points at one stage, before rebounding a bit), is one of the few big markets not to have entered...Continue reading

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The dead hand of debt

MARK Carney, governor of the Bank of England, grabbed the headlines this week with a speech that suggested British interest rates were unlikely to rise any time soon. (A bit of a victory for Andy Haldane, the Bank's chief economist, who has even suggested the next move in rates might be down.) But it is also worth reading a very thoughtful speech from a newish monetary policy committee member, Gertjan Vlieghe (formerly at the Brevan Howard hedge fund group). 

Mr Vlieghe examines the case that real interest rates may remain low for a considerable period (readers may recall that Larry Summers has made a similar argument under the "secular stagnation" hypothesis). The BofE man cites three factors; debt, demography and the distribution of income. It is hard for this writer not to cheer when he reads that

Debt matters. That was a controversial statement a decade ago. It is far less controversial now. Post-crisis, we now have ample evidence that households and firms with higher debt levels reduce spending more...Continue reading

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The drawback of cheap oil

OUR energy and economics editors explain why the plummeting oil price may not be as good as usual for the world economy and our Buttonwood columnist discusses his award-winning article on the deep-rooted problems of the financial sector

Economists versus the markets

TWO groups seem to be staring at each other in mutual incomprehension at the moment; investors and economists. Judging by the behaviour of stockmarkets so far this year, the former are very worried about the global outlook. But the latter think investors are panicking for no good reason.

Market movements (and much commentary) suggest that the big concerns are the Chinese economy (and its effect on global output), and the possibility that the Federal Reserve might have tightened monetary policy too soon, given the recent weakish figures on the American economy. But economists believe that China, whole slowing, is hardly collapsing and that falling oil prices are generally a positive, rather than a negative, sign.

Take Olivier Blanchard, the former IMF chief economist who just published his first blog for the Peterson Institute. Having examined the Chinese and US economic outlooks, he thinks it is hard to justify the market movements. So what explains the market movements?  (http://ift.tt/1OXVVXx) He...Continue reading

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China's government faces extremely unappetising policy options

CHINA’S wild stock markets command attention, but it’s the foreign-exchange moves that really bear watching, for those worried about the Chinese economy and its effect on the world. The backdrop against which this drama is unfolding is one in which total debt in China is close to 300% of GDP and continues to rise rapidly as the government seeks to promote steady growth.

My column this week explains the short-run exchange-rate trade-offs confronting the leadership. Markets are pushing for depreciation against the yuan; that is why it tends to fall against the dollar when allowed to by the People’s Bank of China and why China’s reserves sink when it isn’t. Depreciation makes economic sense. True, China still runs a whopping great trade surplus. But its surplus is entirely concentrated in processing trade, in which China is just one link in a long supply chain, and in which exchange-rate valuations across the chain are what matter. More important is slowing growth and weak demand in China, and the declining return on investment in Chinese projects. At the same time, those Chinese with savings are desperate for the opportunity to diversify them out of yuan-denominated assets.

But depreciation is potentially...Continue reading

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It is too early to say whether the Fed made a mistake by raising rates in December

WITH stock markets in turmoil and market-implied inflation expectations tumbling, is it time to conclude that the Federal Reserve's interest rate rise in December was premature? My colleague R.A thinks so. The Fed, according to doves, moved too soon to raise rates because it feared, wrongly, that a wage-price spiral might take off. Here is R.A:

Why might the Fed need to tighten abruptly? The only reason to do so would be for fear that tightening gradually in the face of rising inflation would not prevent the emergence of an inflationary spiral between wages and prices, pushed ahead by rising inflation expectations. Most of the members of the Fed's monetary-policy committee began their professional careers in the 1970s or early 1980s, a period characterised by high inflation—and, eventually, by Fed-induced recessions intended to wring inflationary pressures out of the economy. 

This is harsh on the Fed. It is true that Janet Yellen, the Fed's chair, emphasises the labour market in her assessment of future inflationary pressure. But she does not refer to wage-price spirals. Instead, she makes a simpler­­­­—and harder to dispute­­­­—claim: that the amount of slack in the economy is a leading indicator of...Continue reading

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$20 is the new $40

SINCE the new year, the price of oil has surprised even the most bearish punters, plunging by 18%. On January 12th West Texas Intermediate (WTI), America’s benchmark, briefly dipped below $30 a barrel, its lowest level since 2003. The next day an incipient rally was undone by the news that American stocks of crude oil and petroleum products had reached 1.3 billion barrels, a new record. Firms are hunkering down. BP this week announced hefty job cuts; Petrobras, Brazil’s state-controlled oil firm, slashed planned investment.

Some blame factors other than supply and demand for turning increasingly bearish. For instance, Standard Chartered, a bank, said oil might need to fall as low as $10 a barrel before speculators concede that “matters had gone too far”. But it’s mostly guesswork. Such is the level of uncertainty that American derivatives contracts tied to deliveries in April imply an oil price of anything from $25 to $56 a barrel, according to official number-crunchers.

Neil Atkinson of the International Energy Agency (IEA), a forecasting outfit, finds lots in the physical oil market to be bearish...Continue reading

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Picnic for the bears

GLOOM seems to have descended at the start of 2016. Equity markets have had the worst start to the year in at least two decades. The great and the good have queued up to warn of the dangers ahead.

George Soros, a fund manager, said the Chinese financial environment reminded him of 2008, when the financial crisis was at its height. Larry Summers, a former American treasury secretary, declared in the Financial Times: “The global risk to domestic economic performance in the US, Europe and many emerging markets is as great as any time I can remember.” George Osborne, Britain’s chancellor, spoke of a “cocktail of threats” facing the global economy.

The chart shows a number of indicators of concern, from rising credit spreads (the interest-rate premium paid by risky borrowers) to slumping stockmarkets in the emerging world. Investors have many worries. The first is that the Chinese economy is weaker than the GDP statistics suggest. Falling commodity prices, the collapse in the Baltic Dry index (which tracks the cost of shipping bulk goods) and the sluggish growth of global trade can all be seen as...Continue reading

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Fight or flight

THE past six months have been hard on the reputations of China’s economic managers. Their attempts to bring troublesome stockmarkets to heel border on slapstick. The uncertain handling of the country’s exchange rate, on the other hand, is no laughing matter. Unexpected wobbles in the value of China’s currency roil global markets. Yet no exchange-rate policy offers a sure and safe route forward.

Some see a resemblance in China’s predicament to the Asian financial crisis of the late 1990s. Then, fast-growing countries like Indonesia, South Korea and Thailand faced outflows of capital as investor sentiment flipped from bullish to bearish. Governments were forced to abandon currency pegs as their foreign-exchange reserves dwindled. Massive depreciations led to financial havoc, as asset prices tumbled and these countries’ enormous debts ballooned in dollar terms. Painful recessions ensued.

The lessons of the Asian crisis were not lost on China’s leaders, however. During its great boom, in the 2000s, China maintained tight capital controls, permitting foreign direct investment while eschewing “hot money”. The...Continue reading

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Anti-choice

FOR centuries liberals have argued that people should be trusted to make their own decisions. Regulators increasingly want to protect them from themselves. In the wake of the financial crisis, the administration of Barack Obama established a new agency, the Consumer Financial Protection Bureau. The CFPB has so far focused on regulating mortgages, for example by making their terms more digestible. But it is now weighing stricter curbs in other markets: new rules on payday loans are expected in the first quarter.

Other new rules are on the horizon, too. The Department of Labor is proposing a “fiduciary rule” for financial advisers who help Americans to invest their pension pots. Currently, many advisers earn juicy commissions by recommending costly products. A study by the White House suggested such “conflicted” investment advice costs consumers roughly one percentage point in returns a year, and that clients are largely unaware of the costs. The new regulations would require that advisers always act in the best interest of clients. Republicans tried, and failed, to kill the proposal in budget negotiations late last year, and the...Continue reading

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From Russia with love

DEBT crises, capital flight and corruption are all familiar problems for poor countries trying to finance their development. A bulwark, say some, is remittances: money sent home by migrants, worth $580 billion in 2014. Unlike portfolio flows, which tend to flee at the first sign of trouble, remittances usually increase in tough times. And unlike aid, they go directly into the pockets of ordinary people, bypassing corrupt officials. All this is true, and important. But even remittances, alas, cannot always be relied upon. The experience in 2015 of Central Asia and the Caucasus, regions exceptionally dependent on remittances from Russia, shows why.

Some countries there export oil or gas. Others export people. In Tajikistan four in ten working-age adults have sought jobs abroad; in 2014 they sent home remittances equivalent to 42% of GDP, proportionally more than any other country in the world received. Armenia, Georgia and Kyrgyzstan also received remittances worth at least 10% of GDP—more than the Philippines, a country famous for its migrant workers.

Most migrants go north, to Russia, finding work on building sites or in...Continue reading

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So far, so good

WHEN a financial firm boasts of offering the biggest loans at the lowest rates with the slimmest collateral, it has either devised the underwriting equivalent of a better mousetrap or is setting itself up for an almighty fall. At first glance SoFi, a startup based in San Francisco, looks like it is up to the sort of tricks that would make even a pre-2008 banker blush: lending youthful customers $975,000 to buy a $1m house, say. Yet few “fintech” firms seem quite as threatening to America’s incumbent banks.

Social Finance, as it once was, started life in 2011 as a way to match students who needed money to pay for a degree at Stanford with alumni with lots of dough. Engineering graduates from one of America’s grandest universities, the firm’s founders reasoned, were unlikely to welch on their debts, especially with Silicon Valley booming. That allowed SoFi to price student loans below even the notionally discounted rates available under government schemes, attracting lots of customers. Well-to-do alumni, meanwhile, were happy to lend via SoFi’s platform, understanding what a safe bet the borrowers were. The firm also raised money to invest in its...Continue reading

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High stakes

THE billboards advertising Powerball, an American lottery, were not big enough to display the size of the jackpot in the draw that took place on the evening of January 13th: $1.6 billion. That prize will be split among the three winners, who bought their tickets in California, Florida and Tennessee. For several days beforehand, Lotto fever gripped the nation: long queues formed outside shops selling tickets and on the day of the draw sales were ringing up at a rate of $787,000 per minute. Powerball’s website had some advice for its frantic customers: “Swinging a live chicken above your head while wishing for the future numbers does NOT work.”

A more useful bit of counsel would have been that buying a lottery ticket is fun but financially foolish. A punter buying a Powerball ticket has a 1 in 292m chance of winning the jackpot. Buyers are around four times more likely to be killed by an asteroid impact this year. Lotteries are designed to be a bad deal, hoovering up participants’ money in order to plug state budgets and fund good causes.

What’s more, the designers are getting better at their jobs. Victor Matheson, professor...Continue reading

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Shocks and absorbers

THE crane that looms over Sainty Marine’s shipyard on the lower reaches of the Yangzi river had been motionless for weeks when a worker climbed it late last year. The struggling company had stopped getting orders and, rather than deal with the headache of laying off its employees, it simply stopped paying them. The man on the crane threatened to jump to get the attention of local officials, coming down only when they promised to help him. Other workers took a somewhat safer, though (in a country where strikes are illegal) no less provocative measure to demand their missing wages: they marched out and blockaded a nearby highway.

That Sainty Marine workers have resorted to such actions is perhaps not surprising. The global shipping industry is depressed, plagued by oversupply at a time when slowing trade means demand for new ships is shrinking. Chinese firms that rushed to expand are now gasping. Sainty Marine, which overextended itself by buying another shipbuilder, is veering towards bankruptcy. Withholding wages is a common tactic for Chinese companies in trouble; in Yizheng, the gritty town that is home to Sainty Marine’s shipyard, the local...Continue reading

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There is more than one way to avoid negative interest rates

Economists often think that cash is to blame for the zero lower bound. Official interest rates can't fall far below zero because, the argument goes, people would hoard cash rather than pay to keep money in their deposit accounts. That has led some policymakers to suggest abolishing cash. In fact, hoarding banknotes isn't the only way for depositors to get around negative interest rates, as a story in yesterday's Financial Times shows. People can instead start paying bills early.

Businesses usually like early payment, and sometimes offer discounts to encourage it. Many tax authorities, too, offer discounts to those who pay in advance and charge interest to those who pay late. Not so in Zug, Switzerland, where the logic of negative interest rates has turned payment behaviour upside-down. The canton once offered a small discount to people who paid their tax bills early. Now, early payment is unwelcome, as it means the canton must pay a charge for holding...Continue reading

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Stocks for the long run?

ARE equities always the best investment for the long run? It is the message that is usually sold to individual investors. The message is based on theory; equities are riskier than government bonds so should offer a higher return (the equity risk premium, in the jargon) to compensate investors. And the message seems to be borne out in practice, most of the time.

But there is an important caveat. Much of the data quoted by investment advisers is based on America, which is something of an outlier; it turned out to be the most successful economy of the 20^th century but that was not guaranteed in advance. An investor in 1900 might have picked Germany as a rising power, only to see their assets wiped out in the 1920s hyperinflation and the Second World War; they might have picked Argentina, which was a perpetual disappointment. In other countries, there have been very long periods in which equities have not been a great investment.

Elroy Dimson, Paul Marsh and Mike Staunton of the London Business School are the acknowledged experts on global investment returns, having compiled data covering 22 countries over more than a century. As of...Continue reading

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A cocktail of risks

Nevsky's prospects: China, fat tails and opaque markets

NORMALLY, when hedge funds shut up shop, it is because the results have been poor. But that is not the case with Martin Taylor of Nevsky Capital who is retiring with an average annual return of 18.4%, some 16 percentage points ahead of the hedge fund average. In his final report (courtesy of Zero Hedge), he says the game is not worth playing; like a batsman who has scored a century, he has tucked his bat under his arm and has headed back to the pavilion, to let someone else has a go.

The report is a fascinating read, not just for what he says about markets but for his views on the global economy. The main points are as follows.

1. Investors need good data if they are to make decisions but the rise of China and India has diluted the quality of that data.

Currently stated Chinese real GDP growth is 7.1% and India’s is 7.4%. Both are substantially over stated. This obfuscation and distortion of data, whether deliberate or inadvertent, makes it increasingly difficult to forecast macro and hence micro as well, for an ever growing share of our investment universe.

Companies are also disclosing less information and this increases the specific risk of investing in individual stocks and bonds.

2....Continue reading

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The questionable logic behind the Fed's premature rate rise

THERE was always a risk that the Fed's first rate would touch off global financial instability, that it would squeeze China and push up the dollar, that commodity prices would fall and that the expected rise in American inflation would fail to materialise on the schedule the Fed anticipated. The Fed was aware of all these risks as it debated whether to hike in December. Minutes from that meeting state that:

Participants generally agreed that the drag on U.S. economic activity from the appreciation of the dollar since the summer of 2014 and the slowdown in foreign economic growth, particularly in emerging market economies, was likely to continue to depress U.S. net exports for some time. Many expressed the view that the risks to the global economy that emerged late this summer had receded and anticipated moderate improvement in economic growth abroad in the coming year as currency and commodity markets stabilized. However, participants cited a number of lingering concerns, including the possibility that further dollar appreciation and persistent weakness in commodity prices could increase the stress on emerging market economies and that China could find it difficult to navigate the cyclical and structural changes under way in its economy.

With...Continue reading

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After the dips

MIGHT “Made in Russia” labels become common? If currency depreciation alone could boost exports, then yes. According to our latest Big Mac index, the Russian rouble is one of the cheapest currencies around, 69% undervalued against the dollar. The index compares the cost of the famous burger at McDonalds outlets in different countries by converting local prices into dollars using market exchange rates (as of January 6th, see chart 1). It is based on the idea that in the long-run, exchange rates ought to adjust so that one dollar buys the same amount everywhere. If a burger looks like a bargain in one currency, that currency could be undervalued.

Track global exchange rates over time with The Economist's Big Mac currency index

Americans hunting for cut-price burgers abroad are spoilt for choice: the index shows most currencies to be cheap relative to the greenback. This is partly owing to the Federal Reserve’s decision to raise interest rates when the...Continue reading

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Buffett’s revenge

FOR those exhausted by the festive season, now is the time to book a holiday. Hotels in New York’s Times Square cost four times more on New Year’s Eve than they do just a week into 2016; a room at the cheapest four-star property in Cancún in Mexico on December 31st was half as dear by January 7th.

The economics behind this price crash are simple: hotels are expensive to build and staff, and demand for them is seasonal. Only by ramping up prices at peak times can they be run profitably. But seasonality inflicts wider economic costs than eye-watering bills. Tourists find other destinations because rooms are full on their desired dates and, despite lower prices, inventory goes unused during the off-season. One-off events like sports tournaments, concerts and conferences can exacerbate the problem of mismatched supply and demand, by flooding cities with visitors for just a few days.

The advent of the “sharing economy” should offer a solution. Just as Uber’s surge pricing draws part-time taxi drivers onto roads at rush hour, room-rental services like Airbnb, HomeAway and Onefinestay should allow a city’s supply of...Continue reading

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Blunt elbows

HERE’S a puzzle: in bustling Manhattan, where bank branches abound, people pay much more for the privilege of stashing their cash than in sleepy Kansas. Greater competition should reduce charges and fees. Yet there is no sign of such a relationship. That is because much of the competition is phoney, according to a new working paper*.

Antitrust authorities typically gauge competition by looking at how many different banks operate in a given area. But the authors argue that this ignores the fact that a handful of big asset-management firms have large holdings in many of these “competing” banks (see chart). An investor who owns shares in two rival banks would naturally be reluctant for them to compete away profits. To please their shareholders, the banks might keep charges and fees high.

The authors calculate the extra degree of market concentration implied by American banks’ common ownership. In 2013 this additional concentration was so great that it would typically be associated with an increase of 11% in fees on current accounts, and a rise of 20% in the minimum balance at which banks stop levying fees. Where common...Continue reading

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A mean feat

“THE only function of economic forecasting is to make astrology look respectable,” John Kenneth Galbraith, an irreverent economist, once said. Since economic output represents the aggregated activity of billions of people, influenced by forces seen and unseen, it is a wonder forecasters ever get it right. Yet economists cannot resist trying. As predictions for 2016 are unveiled, it is worth assessing the soothsayers’ records.

Forecasters usually rely on two different predictive approaches. One is theory-based, shaped by how economists believe economies behave. The other is data-based, shaped by how economies have behaved in the past. The simplest of the theoretical bunch is the Solow growth model, named for Robert Solow, a Nobel-prize winning economist. It posits that poorer countries should generally invest more and grow faster than rich ones. Central banks and other big economic institutions use far more complicated formulas, often grouped under the bewildering label of “dynamic stochastic general equilibrium” (DSGE) models. These try to anticipate the ups and downs of big economies by modelling the behaviour of individual...Continue reading

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Far-sighted

Bankers will also ask to see an ID

MOST banks wouldn’t lend to Roberta. She arrived in New York from Mexico with papers but no credit history. But Neighborhood Trust Federal Credit Union, which specialises in lending to immigrants, gave her advice and a $2,000 loan. She started out selling Mexican food from a cart. She now runs a food truck, employs five people and has plans to expand.

Many immigrants, like Roberta, want to save or start a business. But they struggle to get finance. In America 23% of households headed by a non-citizen, and 35% of households where only Spanish is spoken, have no bank accounts—compared with 8% for the population as a whole. There are multiple barriers: not just low incomes, which make it hard to meet minimum-balance requirements, but also trouble with language, identification and trust.

Neighborhood Trust is trying to change that. More than half its members are Latino, largely from the Dominican Republic, and many are undocumented. Most of the staff are themselves immigrants, and know their members well: they visit borrowers’ businesses often and offer workshops on financial...Continue reading

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The right match

THE American Economic Association’s annual conference, held each January, is ostensibly a gigantic teach-in, with lots of seminars featuring famous economists. But the three-day event, held this year in San Francisco with 13,000 attending, is also a big jobs fair. More than 500 employers—both universities and companies—were tied up in hotel rooms holding marathon interview sessions with freshly minted PhDs. The ballroom of the Marriott was set aside for a hundred more.

It is a gruelling three days for candidates: one exhausted PhD likened it to speed-dating. It is also arduous for recruiters. Towards the end of the first day Alan Green and Christopher de Bodisco of Stetson University, a small private college in Florida, review the candidates they have seen so far. They are looking for someone with an interest in health and development. They plan to grill a dozen candidates each day before inviting the most promising ones to visit its campus and meet the rest of the faculty.

The grandest universities use suites for comfort but also as a display of prestige. Plausible candidates are given a code to exchange for the hotel-room number in order to deter gatecrashers. The leading institutions speak to the best candidates; the rest to anyone they think they can get. “There’s no point in talking to someone who’s going to end up at Harvard,” says a...Continue reading

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Crude measure

FORTY years ago America, still reeling from the 1973 oil crisis, banned most exports of crude oil. That prohibition was lifted by Congress in mid-December. The first shipment under the new rules set sail on December 31st from the Texan port of Corpus Christi. The renewed flow of crude is already changing how oil is priced.

Not all barrels of oil are alike. Crudes can be viscous like tar or so “light” they float on water. Their sulphur content ranges from the negligible (“sweet”) to the highly acidic (“sour”). Though hundreds of grades are bought and sold, traders use a handful of benchmarks to make sense of the market. Brent, from the North Sea, is the current international standard. Americans prefer to use a similar grade known as West Texas Intermediate (WTI).

WTI was once the main global benchmark. It has a number of advantages over Brent. For one thing, it arrives at the delivery point—Cushing, Oklahoma—by pipeline, and so can be sold in batches of variable size. Brent, in contrast, can only be sold by the tankerload. As Brent sees fewer, bigger transactions, generating continuous prices is tricky. The ever-shifting price...Continue reading

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Loathe thy neighbour

POLITICS is local but most problems are international. That is the fundamental problem for national governments caught between the twin forces of globalisation and voters’ anger.

The European refugee crisis, for example, seems to cry out for a continent-wide solution. But the tide of migrants has been so vast that national governments have been tempted to put up barriers first, and answer questions later. The latest example saw Sweden introduce checks on those travelling from Denmark, leading the latter country, in turn, to impose temporary controls on its southern border with Germany. Anti-immigration parties have been gaining in the polls; with the exception of Angela Merkel, mainstream politicians want to head off the threat.

The current system combines unchecked movement within the Schengen area (which does not include all members of the European Union) with external borders patrolled by national governments. There is no Schengen border force, but once inside, refugees can go anywhere within the Schengen countries.

In a way, this looks like the same mismatch that has plagued the euro: a single currency without a unitary fiscal and...Continue reading

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Is this really 2008 all over again?

GEORGE Soros's record is sufficiently impressive, particularly on macro-economic calls, that it is worth taking notice when he sounds the alarm. His latest suggestion is that the current environment reminds him of 2008, the prelude to one of the worst bear markets in history. The reputation of George Osborne, Britain's finance minister, is nothing like as elevated but he is also set to warn today that the current year may be the toughest for the global economy since the financial crisis. 

Stockmarkets certainly seem to be acting as if Mr Soros might be right. China has suspended its share trading for the second day this week (as our correspondent argues, this looks like a counter-productive tactic). The sell-off has rippled through Asia and Europe, with London's FTSE 100 back below 6000 (it closed the last century at 6930; so much for the argument that stocks...Continue reading

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China crashes its stockmarket with circuit-breakers meant to save it

BIG swings in the Chinese stockmarket are par for the course. But even by its wild standards, the alacrity of its latest crash was stunning. Just 13 minutes into trading on Thursday, the CSI 300 index of blue-chip stocks fell 5%, triggering the first circuit-breaker: a 15-minute pause for traders to supposedly regain their cool. When the action resumed, it lasted all of one minute before the second and final circuit-breaker was hit: the CSI 300 fell 7%, which necessitated a closure of the market for the rest of day. Trading, in other words, lasted all of 14 minutes before being halted.

The obvious conclusion to draw from the market sell-off is that China’s economy is in big trouble. Why else would investors be in such a rush to dump their shares? Growth is certainly slowing, but the problem with this view is that the Chinese stockmarket has only ever had a tenuous relationship with reality. It is often derided as a casino. Wu Jinglian, a veteran economist, has quipped...Continue reading

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China crashes its stockmarket with circuit-breakers meant to save it

BIG swings in the Chinese stockmarket are par for the course. But even by its wild standards, the alacrity of its latest crash was stunning. Just 13 minutes into trading on Thursday, the CSI 300 index of blue-chip stocks fell 5%, triggering the first circuit-breaker: a 15-minute pause for traders to supposedly regain their cool. When the action resumed, it lasted all of one minute before the second and final circuit-breaker was hit: the CSI 300 fell 7%, which necessitated a closure of the market for the rest of day. Trading, in other words, lasted all of 14 minutes before being halted.

The obvious conclusion to draw from the market sell-off is that China’s economy is in big trouble. Why else would investors be in such a rush to dump their shares? Growth is certainly slowing, but the problem with this view is that the Chinese stockmarket has only ever had a tenuous relationship with reality. It is often derided as a casino. Wu Jinglian, a veteran economist, has quipped...Continue reading

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Unhappy New Year for markets

CHINESE worries, geopolitical tensions, falling oil numbers, weak trade figures. 2016 seems to have begun as a continuation of 2015. If the old saying "as January goes, so goes the year" holds true, then investors ought to be worried.

The trading year began with a near-7% fall (and trading suspension) on the Chinese stock market, triggered by some weak economic data and by some investors trying to get out of the market before the expiry of a selling ban (imposed as part of the summer crisis). Then on January 5, the Chinese authorities injected money into the financial system and hinted that the selling ban might be extended. But today attention has shifted to the yuan, which was allowed to weaken; some commentators fear the Chinese might devalue their currency more substantially in response to economic weakness. This would send another deflationary shiver round the globe. (There has been much talk that China's economy is shifting from manufacturing to services but the purchasing managers' index for the services sector dropped to a 17-month low.)

North Korea's claim to have tested a hydrogen bomb may be prompting scepticism...Continue reading

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Unhappy New Year for markets

CHINESE worries, geopolitical tensions, falling oil numbers, weak trade figures. 2016 seems to have begun as a continuation of 2015. If the old saying "as January goes, so goes the year" holds true, then investors ought to be worried.

The trading year began with a near-7% fall (and trading suspension) on the Chinese stock market, triggered by some weak economic data and by some investors trying to get out of the market before the expiry of a selling ban (imposed as part of the summer crisis). Then on January 5, the Chinese authorities injected money into the financial system and hinted that the selling ban might be extended. But today attention has shifted to the yuan, which was allowed to weaken; some commentators fear the Chinese might devalue their currency more substantially in response to economic weakness. This would send another deflationary shiver round the globe. (There has been much talk that China's economy is shifting from manufacturing to services but the purchasing managers' index for the services sector dropped to a 17-month low.)

North Korea's claim to have tested a hydrogen bomb may be prompting scepticism...Continue reading

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The Big Mac Index

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An example of poor economics journalism

OWEN JONES, who mainly works for The Guardian, is an excellent and influential writer, but we feel duty-bound to comment on an article he wrote just before Christmas. Plenty of people are saying at the moment that Britain's household debt is getting out of control. The Bank of England released new figures yesterday, showing that mortgage and credit-card lending is growing rapidly. Mr Jones weighed in to argue that the "latest figures confirm Britain’s supposed economic recovery rests on a personal debt timebomb. When it runs out is unclear, but run out it will." 

It proved to be a popular article, but it's necessary to point out some serious misunderstandings. 

When George Osborne became chancellor, Britons were spending £67bn less than they were earning; according to the Office of Budget Responsibility, they’re now running up a £40bn deficit.

The implication here is that Mr Osborne has caused this reversal; that his poor management of the economy has forced people into debt. However, this kind of reversal is...Continue reading

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