Money and Expectations...

Investors shall learn that the Fed would just stop inducing the investors and any reversal of the QE is highly unlikely, it would just stop accommodating and not reverse the QE... The money is likely to remain in the system which should help stabilise growth and prices, in case rate hike is still years far... The Fed has also said that it would warn before any change in action... The danger is not quite imminent and is still far away by years...

Technically, the central banks would first stop and not reverse the easing abruptly, higher unemployment would make them tolerate higher inflation... 4-5 % inflation is not that high... With supply side correction inflation would remain contained... Covid has hit growth which could take time to normalise, a third wave would be only mild with 50 crore vaccines so far and lose economic policy... Nonetheless, from an economic policy view inflation expectations are more responsible for spending decisions and higher money supply is very vital, only then people could spend... Raghuram Rajan’s group with Banerjee is quite awkward coz the latter demanded unemployment transfer to poor... means more moneysupply and demand and prices... The Fed has said that any reversal in the accommodative stance is still 2 yrs away... So the current stance is to stabilise the situation...

The RBI has adopted a flexible inflation targeting and it has relaxed it during covid and low demand and low supply and higher prices... Higher prices also mean that supply and demand would revert back...

From the spending perspective inflation expectations are important... Higher inflation expectation means people would not delay spending and supply could go down which could further reinforce higher prices and vice versa... Though, lower prices also increase demand and lower supply and would increase price expectations and vice versa... As above, higher price and expectations could become self-sustaining...

Nonetheless, stable inflation and expectations at full employment could also help stabilising spending and growth...

Generally, lower inflation expectations could derail the recovery because people could delay spending and increase supply which would further reinforce lower prices and could be self propelling... Though, lower inflation or prices could increase real wages if employment remains stable... Nonetheless, lower inflation and expectations could also increase the value of money overtime which would increase demand... People would feel richer and would save less for future and could spend more... Otherthings remaining constant, given full employment lower prices would mean increase in real wages and real profits... If productivity increases and it lowers prices without affecting employment that is welcome because it would also increase demand, other than higher price expectations... It would also increase labour savings which could further be used for production; higher productivity means lower prices and higher demand and 

Maintaining status quo means that the RBI wants to stabilise expectations when gradual opening and more supply would help price correction in the broader economy... Lower prices mean that demand and prices would go up coz all would try to purchase at the sametime if got money... Higher price expectations from a low base increase demand and spending...price expectations...

Among INDIA's most pressing problems are the irrigation facilities at one place and floods at other, every year that change the inflation dynamics and uncertainty for the borrowing cost... Building irrigation and dams and reservoirs are in the priority list... Only 50% of land has irrigation facilities... The other problem is fuel... A strong rupee would lower import prices and would help, real exchange rate would increase... INDIA should try to settle imports in the rupee and also for foreign borrowing... which could increase its credibility by reducing the risk for creditors... A strong rupee would also increase foreign exchange inflows…

The vast pool of the underemployed and low productive jobs due to lack of skills and lower wages could be used to gain a competitive edge while increasing productivity...

The RBI may sell dollars to avoid any oil price induced inflation and expectations... A strong rupee could increase foreign exchange inflows, higher bond prices and equity valuation expectations could increase inflows... The RBI could recoup dollars at lower exchange rate...

Consistency and Credibility...

Stability in interest rate and employment and inflation, and not, too much higher interest rate and employment and inflation are feasible and consistent with a good economic policy and could bolster the credibility of the central banks... They need a flexible inflation targeting with in a band in which r* or the natural or neutral interest rate could remain stable... and expectations, too... Normally, higher interest rate expectations lower demand and increase supply and lower price expectations and vice versa and could be self-fulfilling, therefore stability in expectations are vital for managing inflation and unemployment... Managing expectations are important for the adaptive expectations and the rational expectations, both... Adaptive Expectations are based on current and past experiences, if people experience inflation they expect inflation, and vice versa, and Rational Expectations use the latest data and information and is evidence based...

INDIA needs value for rupee for domestic as well as foreign consumers, means we need a strong rupee for domestic and foreign exchange... It means that productivity would increase and prices relative to money would go down or with constant money supply which also increases the value of money and demand... The interest rate is a flexible price; interest rate could be changed depending upon employment and inflation or price level... Depreciation is an artificial tool to increase demand for exports, it increases nominal exchange rate relative to G&S, it makes money cheaper by increasing money inflation and reducing domestic demand... A strong rupee and higher domestic and foreign exchange rate and also higher imports due to increase in productivity and lower prices...

Prior to covid INDIA was one of the fast growing economies, though the economists say that it has a higher potential and the economy was still recovering from the last slow down... INDIA's fundamentals are sound; inflation was low and stable... If we say that INDIA could be the next china, with low wages and plenty of labour supply, though it requires skilling, it would not be wrong... INDIA has improved a lot on the ease of doing business... More over it has borrowed less in other currency and low interest rate in the developed countries could be used to finance the infra needs...

There would be recovery and that's sure... Employment has been hit hardest which is crucial for increasing both demand and supply... The inflation target has been set by the govt, but it is equally important to set the unemployment rate at the natural rate... The RBI too barely discusses the unemployment rate... Providing forward guidance about interest rate expectations and stimulating the economy activity requires clear unemployment and inflation targets... That would help consistency in the monetary policy...

If the RBI keeps buying dollar for reserves, it would make the strong dollar self-fulfilling... as the dollar becomes strong, the country would need more dollars to pay imports which could further increase dollar demand and price expectations...

INDIA is one of the big exporters of refined oil (fuel)... The govt could repeat the mistake of exporting the refined oil when domestic prices are skyrocketing, like the UPA continued exporting the cereals when domestic prices over-shooting at 20%... We are a democratic set up, taxes could be only be imposed by the public consent... Afterall, it is the public's money... When the govt increases taxes and prices its own cost increase, too... which could also be self- fulfilling...

Rising fuel and transport prices reduce spending, but increase government spending that involves a trade-off, at one place spending is going down, of people, and at other it is going up... Money is being taken from people and given to government which then again changes hand... It would make almost no difference to the multiplier and growth... Fuel is a necessity and important for managing inflation, higher taxes on oil reduces real incomes of the poor in the economy and higher oil prices also increase the cost for business and transport... It could not categorised as productive because it increases the price level and reduces demand... It lowers productivity...

Till farmers sell their crops individually they would be the price takers, though if they bargain collectively they could command prices and could release or cease supply to get a respectable income, like the OPEC... Moreover, if they deal with a large number of buyers, buyers would bid the prices upwards... More buyers/demand means more prices...

If everybody follow some rules of thumb, like sell only on the high price range and buy on the low price range everybody could gain... Moreover, if there is consensus, about buying and selling price, risk could be lowered, investors must avoid irrational exuberance, not expecting too high or too low...

Share quantity is also important... If all investors invest in staggered amounts/quantity, stock prices would increase in the shortrun... Returns would be multiplied...

Stock prices depend upon the growth rate, if the actual growth rate is higher than the warranted growth rate, the stock markets could be rational to continue increasing investment and demand and prices, with periodic or cyclical corrections and buying more to lower the average cost...

INDIA shall not produce goods in which it has a comparative disadvantage means what it produces at higher oppourtunity cost and/or higher prices or in which it cannot produce much or have lower productivity...

The marginal propensity to consume (MPC) of the poor’s is higher than the comparatively rich groups and inflation expectations are also important for the spending decisions and savings, too, poor people's marginal propensity to save (MPS) is also high and again also depend upon the inflation expectations, if the cost of living would increase people would also save more for the future, out of an increase in income... If people expect lower prices they delay demand and increase supply which actually lowers prices and vice versa... Though, it is also true that in the shortrun there is alimit for income and demand...

We need to look forward...

When we use the word dynamics it means that things are expected and subject to change, any commentary is expected to change in the longrun, the economy would be at a steady state growth, so longrun investors would always gain... 

In the shortrun investors would gain by investing more at lower prices and book profits... 

In the stocks and bonds investors try to buy low and sell high and when they are based on expectations it could also be self fulfilling...

If they expect that stock price would fall as a result of lower earnings expectations or contraction in the economy, they try to sell that actually lowers the stock prices and if they expect that earnings would improve and the economic prospects are bright, they buy which further increase demand and prices... 

If everybody expects that the economy would improve and stay invested or invest more at corrections it could help stabilise or increase the stock prices...

The main problem is lower demand and price expectations and the selling due to higher interest rate expectations...

That people would start selling and it would lower profits/return on bonds and equities, people do not want to lose, only because people would book profits... 

It would take a little time for the interest rate to reach the threshold where it starts mattering... 

Lower price expectations would delay demand and increase supply and could help stabilise or rationalise the prices, in capital assets too... 

Though the problem arises when the pendulum swings to far or lower price expectations persist too long and result in a prolonged slowdown in demand...

Higher interest rate expectations and lower demand and high supply expectations and lower price expectations result in correction, then the central bank embark on stimulating demand and price expectations... 

Unknowingly the central banks are creating cycles, though if it commits low and stable interest rate and inflation it could help control too much volatility and cycles... 

Higher interest rate expectations would result in lower demand and price expectations and higher supply and lower interest rate expectations could result in higher demand and higher price expectations and lower supply...

The market real rates are still high, they are not negative... Lower real interest rate could increase spending given lower base effect and higher demand and price expectations...

If the price and growth expectations are bright it means more consumption and investment and demand and supply and growth...

Inflation and inflation expectations would help spending, people would not delay spending in expectation of lower prices or lower price expectations... 

Higher interest rate could further reinforce higher prices, because of higher borrowing cost... though, unanchored expectations could be a problem... 

The central banks must notify that that it would raise or hike interest rate if inflation touches 8% or so because after that that would negatively affect demand if real wages/incomes/profits do not increase...

INDIA’s a demand side story, inflation and inflation expectations tell us so and lower supply and investment, foreign and domestic, are problems, too, a strong/high domestic exchange rate or lower inflation/prices help increase demand and spending... 

INDIA has a current account deficit due to high imports and lower exports, lower inflation increase competitiveness and exports and lower inflation also increase real wages and domestic demand, interest rate and savings and investment... 

In case of taper in the US and foreign outflows the RBI may sell dollars which increases foreign exchange rate, that could help contain the outflows and increase inflows... 

High real wages, real interest rate and exchange rate and expectations could help increase demand, supply and spending and growth... 

Higher exchange rate expectations, domestic and foreign, could be self fulfilling... If people expect a strong rupee, foreign exchange inflows would increase which would further increase the foreign exchange rate... 

Same with real wage and interest rate expectations... Rational expectations could be self perpetuating...

Lower domestic inflation and a strong exchange rate mean competitive domestic economy and exports... It would increase both domestic demand and demand for exports.... through internal devaluation...

Food and employment guarantee are emergency measures which could be phased out as growth advances and could be again put in place during emergency...

If INDIA settles its imports and borrows in the Rupee its credit rating had been a lot better... Investments would be safe (-heaven), even china admits the advantages of a strong currency...

Third wave could not so depressing as the first and second, because of acceleration in vaccination...

The govt is proven insensitive on oil prices and the tax on it; it is high time the govt brings it in the purview of gst... 

The higher oil prices are directly attributed to the production cuts by the opec... Higher oil prices could also be self fulfilling through the exchange rate route... 

Higher oil prices could increase inflation and depreciation further lowering domestic and external exchange rate, and vice versa... 

In order to balance Saudi domestic fiscal deficit it is destabilising the importers... INDIA shall raise objection...

Low Base Last Year is Behind High Inflation and Growth...

High growth and inflation in the US and in INDIA are due to low inflation and growth base last year... According to the chain based index method... low inflation base would show high inflation relatively when it normalises or bounces back, same with the growth rate... it's because prices and growth fell last year compared to two years back when growth rate was high and this year's growth rate has a low base last year...

By the next year inflation would be lower given the high base this year, every year the base year changes according to the chain based method, low base last year shows higher inflation this year and high base last year shows low inflation this year... Time consistency of economic policies is a problem while framing polices... 

The Fed is (un)knowingly creating volatility in the markets by managing the money supply and interest rate and price or inflation expectations, though interest rate is also a price which is variable and not sticky, while price of borrowing determines all other prices... 

Otherthings remaining constant, if prices or inflation increase it cuts the value of money or debt and lower real interest rate which discourages savings and encourages spending, both investment and consumption... 

But, if the Fed increases interest rate, the above adjustment would not happen, because it would keep the real interest rate high or constant, if we assume the nominal interest rate would increase equal to inflation... 

Nonetheless, if the Fed commits a low and stable interest rate inflation or prices could help the above adjustment and reduce volatility... The Fed's policy should be consistent to increase its credibility...

Inflation reduces the real value of debt and increases spending... It cuts all the three real interest rate, real wages and real exchange rate which means more demand and spending... 

Under this scenario higher borrowing cost could disrupt supply side mechanism and employment and demand, too, further increasing prices, higher borrowing cost reinforces higher prices... 

If the central bank could commit stable interest rate, both consumption and investment spending may increase...To stabilise the current situation stability in policy is important...

The Fed shall first try to stabilise the money supply and interest rate and inflation for stable interest rate and inflation expectations which are important for spending decisions and achieve full employment...

The specter of tapering is quite a past, it has not happened and still uncertain given high unemployment in the US... Markets could rejoice...

It was a very good monetary policy as far as its effect on investors is concerned... 

It said that the timing of the tapering is still uncertain and it expects two rate hikes at the end of 2023 which should be taken with a big grain of salt... 

The US' growth outlook has been impressive and the monetary policy would remain accommodative unless success is made on the unemployment front... 

The communication was clear that for quite some time more it would continue with its accommodative stance...

It shall commit a stable monetary policy in order to stabilise expectations at the current level... Higher borrowing cost could reinforce lower supply and higher prices and expectations...

USD is the most bullish currency of the world; it is also considered a safe haven investment along with the US treasuries... The US stocks, too...

Subbarao (former RBI Guv) has said that the RBI prints money to conduct different operations... Unemployment and demand has gone down in the country, higher unemployment also means that production and supply have also gone down...

INDIA lacks a proper unemployment benefits or insurance system... This is a high time the govt reform the labour code by introducing a contingency programme for the unemployment due to lockdown... 

Like it has introduced crop insurance to handle uncertainty it may implement unemployment insurance... To fill the gap the govt may print money and provide capital for the unemployment insurance, because poor and unemployed need money for survival and subsistence... there is no doubt... as the unlock happens and supply improves...

Unemployment benefits or insurance in times of slowdown and crises would help survival and demand... and would also help flexible labour laws...

INDIA's health care infra is weak, the govt must buckle up for any probability of any third wave...The govt shall provide some compensation or unemployment benefit for subsistence, this long pending, even the flexible labour laws need, unemployment insurance...

Longer time horizon means more time for uncertainty... Analysts could make better prediction in the short run based on evidences... They must highlight the rational expectations that could prove to be self-fulfilling...

Expectations, Money and Spending...

 Expectations model has its root as old as Adam Smith when they were meant to discuss the gains from outcome of the human behavior. Human Psychology and actions explain why the subjects would be expected to behave under different situation in life and market under certain conditions and even under uncertain conditions. 

There are a number of variables used to predict human behavior and the outcome in the economic life. People speculate on human actions and outcomes if they are given money, they can increase/decrease/hold demand/supply. 

Holding demand/supply back based on expectations increase volatility in the prices which is an ideal situation to make money in the market and also to increase consumption, but you must have money to benefit from volatility. 

If people expect that prices may fall, they may speculate and hold demand which would reinforce the lower prices through lower demand and higher supply and if they expect that prices may increase they may hold supply which may reinforce higher prices through lower supply and higher demand…

Very few people understand statistics and percent... Economists must quote the nominal figures... During the last wave people took a contraction of -24% as the negative growth when the base year was 2019, -24% meant that growth in the base year was 7%... so the mathematics is 24% of 7% which is 1.6% lower or 7 minus 1.6 equals 5.4%... we had 5.4% growth in 2020...

Real rates are in the neg- zone, inflation adjusted rates, but demand is low which is dragging the supply lower even though there is unemployment and excess capacity... Any rate cut had been saved since demand is low... The banks are sitting on their own recovery, higher market rates has not led to credit growth, though the expected growth has increased, even after the revised expected growth...

The RBI takes notice of CPI which has a high weightage of food and fuel which are also most sensitive for inflation, better supply side management has contained food prices during the current regime... Nonetheless, policy mismanagement in case of fuel and its prices, higher tax and fuel exports to other countries even when oil prices rise have become Achilles heel for the Economy...

Unemployment rate is critical for deciding the output gap which is missing from the RBI model,,,

RBI claiming that there is bubble in the stocks as if it is not backed by the central bank liquidity and inflation and higher prices... Corporate profits and earnings back the upside... Lower bond yields and higher bond prices have kept lid on the broader stock market recovery... The stock market cap to GDP ratio is still not that stretched as back in recovery from 2008 crash...

Retail investors shall pick 8-10 index funds stocks and invest on significant dips (5-7%) on market corrections and sell on profits and do it repeatedly with the same stocks having decent cashflows... This is a short-term strategy and may work...

The market cap to GDP ratio is 100 which is still lower than over 150 observed in 2008 recovery...

While tackling covid, finance for keeping the people healthy shall not be a problem... We may easily monetise the debt and deficit... We also have a heavy foreign exchange reserves... Unprecedented problems need unprecedented solutions...

Health care spending has also gone up, demand for Medicines and Medical Service would kick on the multiplier...

Inflation and Rate Hike and Expectations in the US and Asset Prices...

It is really a big question, that what course do investors take in case of higher interest rate and inflation expectations which is good for margins and earnings, business have an excuse to raise prices? The Fed has said that inflation and expectations are only transitory which is supported by the evidence, lower prices have always followed inflation and higher prices due to the debase effect, when price increase too much, also because the central bank would try to stabilise the prices though supply would also increase due to lower price expectations... Long-term Investors should remain invested as it would pass soon with correction in the short-run, short run investors could buy at significant dips, as it could increase compounding... Any correction would be short lived and would be followed by a better the long-run story... Higher inflation and interest rate expectations could increase selling and supply thereby lowering the price expectations and more buying by the investors later... Any correction is an oppourtunity to lower average cost...

Lower money supply and higher interest rate expectations could lower demand and price expectations which could also increase supply and lower the price-level or inflation... At lower valuations the assets could again become attractive to buy again at lower prices...Unconsciously investors actions and expectations affect the valuations... If they think that prices would fall and hold demand and increases supply price would fall and vice versa... Any intervention by the central bank would increase volatility and reinforces the prices through the borrowing cost... Lower borrowing cost would further reinforce lower price and vice versa... Both, lower prices and higher price expectations increase demand and lower supply... Lower prices increase demand and higher price expectations also increase demand and lower supply... While higher prices and lower price expectations increase supply and lower demand... The Fed has to choose that it wants to increase demand by lowering prices or it wants to increase demand by increasing price expectations by adjusting interest rate and expectations... Higher interest rate would lower demand and price and expectations, supply or selling would increase... Lower interest rate would increase demand and prices and expectations, supply would go down... The objective is to stabilise the interest rate and prices at full employment...

Investors should understand that higher inflation has been due to the base effect, our base case had been too low, last year inflation struck too low due to low demand, that inflation is relatively high compared to the last year because last year it was too low... But in nominal terms the difference might not be that large if inflation two years back was the base when there was no covid... The Fed is repeatedly reiterating that unemployment is still high and and there is excess capacity which would increase labor productivity and supply which would stabilise the price-level, upto full employment more supply would help contain inflation... Clearly this is not the time to sell assets because the Fed is still accommodative in the Monetary Policy commentary and it would take time, at least for the next quarter... In the near term there is no danger of any significant prices correction and loss... 

Otherthings remaining constant, current stock price is a function of the buy and sell orders... If buy orders increase current price would increase and if they fall current price would fall and if sell orders increase price would fall and if they fall the stock price would increase... People should buy at current market price and sell at current market price... people's expectations about stock prices increase volatility... if the majority expect lower stock price and set a lower limit price to buy, the stock price would fall and if they expect that price would increase they increase demand and hold supply that increases the stock price... To gain and let everybody gain demand should increase and supply should go down... People may actively manage demand and supply in order to gain; higher stock price would also help promoters...

Long-run is riskier than the short-run, therefore we get higher premium, because the space increases, more time means more uncertainty... The agents may increase supply due to higher interest rate expectations and lower demand and price expectations which could help contain the value... The higher PE ratio means that the stock price is backed by the companies’ earnings and there is no bluff in demand and supply or irrational exuberance... The agents would gain if they buy low and sell high... They could make more money and save more if they buy a product or stock or inventory if its price is low and sell when the prices are high...

The central bank must alert the economy in advance on rate hikes and cuts before the actuals... Higher interest rate expectations could lower demand and price expectations and increase supply and contain the price level and lower interest rate expectations could increase demand and price expectations and lower supply and contain the price level... which would help stabilise interest rate and expectations...

In the last wave we observed that the inflation increased during the lockdown which saw a rationalisation after the unlock... Higher prices/inflation too increased supply and lowered demand which contained the prices... Higher prices increase margin and the excuse to increase prices which increase earnings and the stock prices... We also observed that the stock prices of the large market cap recovered faster than the broader economy that is largely unorganised... Underneath the lockdown the trade continued at higher margins...

Interest Rate and Price Expectations and Spending...

Our models have an underlying flaw that they fail to measure uncertainty and stochastic and exogenous shocks which have resulted in the forecasting errors... 

Rational expectations modeling is also erroneous since we can’t expect everybody to understand the price and demand and supply dynamics in the market... 

The assumption that individuals are rational and have full knowledge is not right and above that the uncertainty and stochastic errors make the modeling redundant and require forward and clear guidance to help manage investments... 

It is the duty of the central bank to educate investors on its actions loud and clear with certainty which would help lower loss... 

The forward guidance may save rate cuts and hikes since people would themselves control investment and spending if inflation crosses 2.5-3% or so... 

Moreover they would increase demand and spending when prices are low and increase supply when prices are high which would help stabilise the price level, too... 

If everybody would follow the central bank we could expect individual be rational and the expectations would be self full-filling...

The inflation and expectations affect the interest rate and expectations and the interest rate and expectations also affect the inflation and expectations or in short both reinforce each other which increase volatility. 

The central bank manages the inflation and expectations by manipulating the interest rate when it shall adjust interest rate expectations in order to carve inflation expectations and stimulate spending and growth. 

The central banks use interest rate to affect price level or inflation/disinflation/deflation expectations to increase spending, nonetheless they increase volatility by adjusting the borrowing cost or interest rate, lower borrowing cost reinforce lower prices and vice versa. 

Though, the real interest rate remains same while adjusting interest rate since nominal interest rate equals real interest rate plus inflation it barely affects spending, but blocks correction through lower real interest rate and higher supply, moreover higher real interest rate also lower demand. 

When the central banks could utilize the interest rate expectations to affect price expectations and spending they vaguely use interest rate to affect prices and demand/supply and spending. 

During high inflation higher interest rate expectations could lower demand and price expectations and increase supply which could control prices whereas during low inflation lower interest rate expectations could increase demand and price expectations and also lower supply.

The central bank must alert the economy in advance on rate hikes and cuts before the actuals... 

Higher interest rate expectations could lower demand and price expectations and increase supply and contain the price level and lower interest rate expectations could increase demand and price expectations and lower supply and contain the price level... which would help stabilise interest rate and expectations...