#MMT versus Reality 1. The main #MMT talking point these days is that high inflation doesn't discredit #MMT, because #MMT never said inflation wouldn't go up. That shows how detached the #MMT crew is from reality, as this year's death of #MMT has little to do with inflation...
2. One example is Japan, which still has no inflation to speak of. The Yen went into a devaluation spiral mid-2022 anyway, because high debt forced the BoJ to keep interest rates low, sending the Yen weaker as global yields rose. High debt is a problem even with low inflation...
3. The UK bond market blow-up in September is another example. UK inflation wasn't materially higher than in other advanced economies. What caused the Gilt market blow-up was a poorly articulated fiscal expansion that was debt financed. Again, it wasn't about inflation...
4. Where the #MMT crew gets dangerous is that it dismisses data points unfavorable to its US story. It does this by saying: "The US is special." We are NOT special. The US had a massive bond market tantrum in early 2020 that required huge Fed emergency QE to calm things down...
5. #MMT died in 2022. That's not about inflation. Instead, it's about markets sending many reminders that fiscal space is finite and that - if you do reckless debt run-ups - things can spiral out of control. Every EM economist knows this. The G10 #MMT crew now gets to relearn it.
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The ECB in 2022 1. The problem with Draghi's "whatever it takes" phrase in 2012 is that it was UNCONDITIONAL. That's come back to haunt the ECB. After all, why put up with OMT and its tedious conditionality if - at the end of the day - the ECB will do "whatever it takes" anyway?
2. All this came to a head in 2022. Rate hikes meant countries with large debt overhangs could become unsustainable. Due to Draghi's unconditional pledge, OMT and its reform focus were "unacceptable" on the Euro periphery, so a new facility was needed to enable rate hikes...
3. One interim solution was to steer maturing gov't bonds bought under ECB COVID QE towards Italy and Spain, while bonds for Germany and the Netherlands were allowed to run off. This helped cap periphery yields mid-2022 when the global bond market sell-off was at its worst...
Lessons from Russia Sanctions 1. Financial sanctions do little to hurt a current account surplus country. We sanctioned some banks, so accumulation of hard currency from the surplus shifted from sanctioned (red) to non-sanctioned (blue) banks. All that happened is a re-jiggering.
2. The way to prevent this re-jiggering is to sanction ALL banks, but that's equal to a full trade embargo, since Putin won't export oil if he can't get paid. So confronting a c/a surplus country inevitably comes down to hurting it with a trade embargo, not financial sanctions...
3. The G7 oil price cap recognizes this, because it aims to reduce Russia's c/a surplus. Unfortunately, the cap has come quite late, which means that Russia was able to use its windfall from high energy prices to keep its economy going and rebuild imports. A missed opportunity...
Ever since Feb. 24, we've been reluctant to hit Russia where it hurts. That's why we carved out energy and is why we now set the G7 price cap at $60. This is the path of least resistance in the short term, but we are giving Putin the means to fight a "forever war" in Ukraine...
A cap of $30, which Poland pushed for, would serve 2 purposes: (i) it would cause immediate devaluation of the Ruble, as massive oil revenues would have halved; (ii) it would signal the G7 & EU are willing to hit back hard using economic means. A cap of $60 sadly does neither...
Deeper issue: how do we confront hostile current account surplus countries? Our financial sanctions failed, as financial conditions - thanks to carveouts - eased back to pre-invasion levels. We must be willing to hit export revenues, even if that comes at some cost to ourselves.
Falling oil prices are of great strategic importance for the G7 price cap. Weak global demand means OPEC+ production cuts failed to buoy prices. So this is the ideal time for the G7 to set an aggressively LOW price cap to exact maximum pain from Putin. A cap of $30 does this...
Putin may retaliate with production cuts. Let's say he cuts production by 2 mn bpd like in May 2020. Prices will spike, but they'll fall back again the very next day as markets trade even more acute global recession. It'll be super hard for Putin to push prices up sustainably...
Commodity analysts and journalists say the G7 price cap will cause Putin to retaliate, pushing prices up, which makes the price cap self-defeating. They never mention weak demand and the fact that oil prices have fallen CONTINUOUSLY since the G7 first mentioned the cap in June...
Debate on the ECB transmission protection instrument (TPI) matters lots for northern creditor countries in the Euro zone. Key issue is whether Italy suffers temporary bond market dislocations or needs permanent fiscal support. If it's the latter, the right tool isn't TPI but OMT.
Italy's net new debt issuance has been financed almost entirely by the ECB for 6 out of the 7 years between 2015 and 2021. So it's fair to say that Italy's dependence on the ECB is closer to "permanent" and not about managing temporary dislocations in Italy's bond market...
Another way of looking at the "permanence" of ECB involvement is to examine the correlation of net ECB bond purchases (black) with net issuance (blue). The correlation is 60% for Italy (lhs), far higher than Spain (rhs), where it's only 10%. Italy is a permanent "flow" problem...
Northern creditor countries in the Euro zone need a plan. Recent years saw bad shocks hit. The South lacks fiscal space, so it calls for explicit (via joint issuance) or implicit (via the ECB) debt mutualization. The North resists, gets called anti-European and finally caves...
Beneath the surface, the Euro zone is a negotiation over financial support. Mutualization is fine, if it is (i) voted on and approved by northern voters; or (ii) if it comes with conditionality that ensures financial aid doesn't have to be open-ended. This isn't now the case...
In this negotation, the North dropped the ball. That's understandable, since it routinely gets accused of austerity or not showing solidarity. This name calling sent the North into a defensive crouch, from which it's high time to get up. What should the North ask for?