Rajan worries about competition for competitive-devaluation...

Recently Raghuram Rajan has created headlines by saying that the world is moving in the problems of the Great-Depression (1930s) as there is lack of coordination between the world’s central-banks in a run to achieve employment and growth through competitive-devaluation same like before when the (now) industrialised countries, back then in 30s, abandoned gold-standard and adopted the same technique to give exports a thrust... which actually helped the countries to come-out depression and did not accentuate it... The withdrawal from the gold-standard made a case to devalue your currency and it helped the countries to reduce unemployment and increase growth, and achieve recovery...  Exports have been the main source of growth for many economies... Rajan this time looks more concerned for the problems the easing-programmes are creating around the world in the emerging-markets... about off-shore capital flows and volatility which was very low back in the thirties, but definitely helped exports... Even the recovery which the US saw during the Great-Recession was preceded by increase in exports... In INDIA too exports shot-up when the Fed started taper-talks in 2013 and the foreign-capital was moving-out... Competitive-devaluation and easing becomes a headache when everybody tries to devalue at the same-time and there is a competition to devalue, and it is a gain to nobody... Competitive-devaluation is also achieved by more money-supply, same like lower interest-rate, but as we know more money-supply is also likely to inflate bubbles in a supply-constrained emerging economy and is not always desirable... However, the trend in the developed countries has been that inflation has gone down as supply-side has improved... For the developed-industrialized-world falling prices or deflation is a problem and not inflation like the emerging world, and the monetary-easing is not increasing prices internally too much and helping exports, but lower interest-rate is responsible for capital-flight which is producing volatility in the emerging-markets where supply-side is still a problem and might create bubbles when there is a divergence between the nominal and real-prices of assets which may go down when inflation will go down with higher interest-rate or the bubble-bursts and push the economy in recession or down-cycle... Full-employment is the limit for monetary-easing and probably even for competitive-devaluation after which it will constrain resources and produce inflation which (is right) should be tightened or otherwise someday the bubble will burst and will increase unemployment if supply-side outstrips demand... People will demand less... Full-employment should also be a guiding principle for devaluation... In a country close to full-employment more money-easing will increase inflation, wages and prices, which is actually bad for competitiveness and exports...  

Long-bonds may not be long...

Indian government has planned to bring 30 year bonds at much higher-rates than the rest of the world... Bonds are frequently traded by the central-banks and commercial-banks to change short-run interest-rates, as the Federal Reserve of the US was buying-in bonds to increase liquidity or money-supply that reduces (relative) investment demand and reduce interest-rate, when either demand is down or supply is up interest-rate goes down... More money-supply increases the ability of commercial banks to lend more and they try to cash the scale.... Nevertheless, bond interest-rate and bond prices are inversely related... Bonds may look long-term, but it is bought or sold frequently in the market... When you sell bonds they fetch you money, calculated as per interest-yields and bond-prices, too... Bond-prices and interest-rate also change with inflation and expectations... Banks are smarter than ordinary people to invest in bonds in big amounts... It is more popular among banks than the ordinary public because its value is more protected by inflation and price-rise, because when interest-rate on bonds goes down bond-price goes up and when interest-rate goes up bonds prices go down which compensates to the loss in the value of investment due to inflation... One of them will increase... Even when bond-interest is zero bond-prices may increase... And, this may sound good to an intelligent investor like banks than to the common people... But, as we have seen above, bonds are traded by central-banks to change short-run rates and thus bond prices... It is true that bonds are profitable investment, but no one actually knows what long-run rate and prices will be, because you may be enticed to sell it early than you expect, either bond interest-rate will help or prices... In the developed-world interest-rates have gone down in the long-run and bonds are trading very low... When you once surrender bonds you lose your long-run claim and it may not be available in the market again... It may look long-run, but we have to go through short-runs and, changes in expectations and condition of the economy...      

Trade-liberalization after full-employment will help...

INDIA in 2015 became the fastest growing economy in the world after China after change in the methodology for calculating real-gross domestic-product, but its high inflation (due to supply-side problems and slow trade-liberalization) and high nominal interest rate has put brakes on demand-supply, employment and achieving potential economic growth-rate... Higher growth-rate is important for higher demand, investment, and profits/wages with price-stability and full-employment. Monetary-policy is a supply-side tool, but it also increases demand in the economy by the way of increasing employment, but, again not after full-employment... Full-employment means we have reached our limits and there is a scarcity of labour within the economy, and supply cannot be increased with domestic labour and prices or inflation start rising... This can be called the labour supply-side problems with structural-factors like education, skills and productivity... In this situation if we want demand-supply and growth without increasing inflation we need external supplies or the international-trade without which the economy will only feel overheating and loss in the value of money and demand... External sector is as important as the domestic sector in fulfilling demand, increasing welfare and achieving higher-growth rate... If trade-liberalization does not reduce domestic employment and help lower prices and interest rates, it should be promoted, because that might eventually help us achieve full-employment and full growth... The point is that if we have achieved full-employment, trade-liberalization will also help achieve price-stability... More supply and lower prices are important for lower interest-rate, high investment and high economic-growth...  

QTM Version 2.0...

The Quantity-theory-of-money (QTM) has had been the holy-grail of economics for more than a century and is said to have a link with the Albert Einstein’s famous e = mc²...

...because both have connections with a mass and a velocity of something...  The equation of the quantity theory, MV =PT, also has mass or quantity of money (M) and velocity of circulation of money (V) which decides the level of inflation (P), and, real prices of goods and services in the economy (T) or nominal prices (N). Or we can also write it as MV = N, where the nominal-level of prices equals real-prices multiplied by inflation, which says mass of money and its velocity decide the level of prices in the economy... The same quantity-theory of money explains that money-supply decides the level of inflation and interest-rate in the economy. The interest rate or price of capital remains the most important price for the economy’s growth rate. There are many types of interest rate, but economists mostly view real-interest, nominal interest rate minus inflation, as more significant in deciding the level of investment and growth. However, ordinary public regard nominal or market interest rate, vital for spending. But, indeed, there is a difference between nominal and real interest rate, and if you want the real picture, real interest rate reflects the real-gain or real-sacrifice for the public. The majority does not know about it and everybody is not an economist. It is a kind information-asymmetry between economists and the general-public, but still important for agent’s actions and the outcomes... Nonetheless, money-supply and interest-rate has a direct effect on demand and supply to achieve full employment and higher economic-growth with increase in the value of money and not just price-stability, because increase in the value of money or deflation could help increase demand, which in the future might increase inflation and interest rate to cross the liquidity-trap visible in the developed-world. In the liquidity-trap interest-rates remains close to zero for a long-period of time due to low prices. In the developed world, our recent study shows, that despite so massive increase in the supply-of-money prices have shown a downward-slide, especially price of capital which should otherwise increase in case of a valid quantity theory of money. Prices or expectations of changes in it have a direct effect on the economic-growth. In other words, prices play an important role in economic-growth, and lower prices are more expansionary because it increases demand (Tobin). It may also be called law of prices. But, it works with both demand and supply. When prices fall demand increases and when they rise supply increases. It is expansionary both ways, but more expansionary downwards. And, we know well that lower price of capital or interest-rate is also expansionary in terms of investment and demand-supply, and economic-growth. In almost all the prior models a higher money-supply and higher savings result in lower interest rate which is very important for investment and economic expansion.  In the recent version of the quantity-theory-of-money, prices decrease and not increase when the monetary-volume increases. The central banks are trying to increase the money-base and reduce interest rate or price of capital, just reverse of the Fisher’s equation of exchange (MV = PT) that more money-supply would increase inflation and interest-rate. Under the new circumstances the quantity-theory-money and the equation of exchange do not hold the same conclusions as before. Since, in the new version increase in the quantity of money is likely to reduce price-level with low level of interest-rate. Increase in the monetary-base would reduce price or cost of capital and the general price-level. The long held opinion that increase in money-supply reduces the value of money (because of inflation) might not be true under the present case, because more money-supply is likely to reduce interest cost of production, which also increases supply and more supply may reduce the price-level, the law of supply. But, when demand is deficient more supply could reduce the price-level, and, the economy would fall in lower prices and interest rate, and probably will push economy in the liquidity trap. The central-banks are increasing money-supply, lowering interest-rate, increasing supply and also targeting inflation, which might not work because supply-side is improving, but excess of labour-supply and low wage growth may be responsible for weak-demand. Inflation-targeting could increase prices or inflation which might hurt real-wages and demand. The banks might try to reduce unemployment by increasing money and reducing interest-rate or cost of capital, but when cost is going down how inflation would pick. Inflation would increase when labour becomes scarce and demand higher wages to switch to other profitable locations. Higher money-supply and lower interest-rate also point that capital is not scarce, but after full-employment labour becomes scarce and might demand more wages which may also result in higher demand, inflation, interest-rate, and possibly exit from the liquidity-trap. Nevertheless, the results of the equation of exchange of the quantity theory of money have changed in the past few decades. Moreover scientists still use Newton’s method to launch rockets instead of Einstein which also might change in effects and interpretations...

Rajan might lower real-interest-rate...

There is almost an all around agreement that Rajan (our RBI Governor) will cut repo-rate to increase money-supply for investment and consumption demand as inflation has been on a downward trajectory... Monetary-policy is considered to be a supply-side tool to increase employment and growth, and higher money-supply will help by reducing interest-rate and increasing investment, means more-supply of goods and services... More supply is likely to lower prices, the law of supply... Rajan is supply-side economist and he should understand that more investment is needed to remove supply-side problems in agriculture and infrastructure and reduce inflation... Investment and savings depend on real-interest-rate, nominal-or-market-interest-rate minus inflation... Real-interest-rate in INDIA is near 3% (8%, market interest-rate, minus, 5%, inflation) and our Governor has reiterated that he wants to keep real-interest-rate around 1-1.5% to keep savings attractive... Savings are positively correlated with real-interest-rate... In the same way lower real-interest-rate is also supposed make investment attractive... Therefore, as per the Indian condition with lower inflation in the recent data there is a scope to cut real-interest-rate by atleast 1% or 100 basis points... However, Rajan will oblige industry with rate cuts only in several rounds. Moreover, the RBI Governor would also like to match credit demand with deposit growth rate which (the credit-growth-rate) has also been lagging behind due to higher-interest-rate in the past...   Lower real-interest-rate is important to increase investment and improve the supply-side problems... Rajan might agree...

US mothers having more children...

US' rate of the population growth will increase the rate of growth of the workforce/year... Means more demand, investment and growth... The country's actual, warranted and potential growth rate will increase... Actual growth rate is what the economy achieves... Warranted growth rate is what the forecasts say, the projection... And, potential is what is the economy's capacity. In case of higher population growth rate these all might go-up... The US does not have an age-limit for education and gap in it... actually getting degrees, good jobs and good pay-checks... Money may increase capacity for more children... More demand, more supply will help achieve full employment... The non-accelerating-inflation-rate-of-unemployment... also means price-stability, because of the non- accelerating-inflation-rate, words and meanings... But, when population increases money-supply should increase to keep wages and income atleast constant... If we will try to pay out wages and income from the money-supply in the past period it will reduce money-supply in everybody hands which will also reduce demand because if we assume that more people have joined the workforce, suppliers will supply more. Then supply relative to demand will go up, prices will fall, because now there are more goods and less money, value of money will go up, demand will go up... If this is the conclusion that prices will fall in the future, especially price of capital people will delay investment and less and less investment will put the economy in a downward spiral for a period... Similarly, the fear of higher interest rates soon may push the investor for investment soon... People view lower prices as a disincentive for investment, but they forget that lower prices will help everybody in terms of cost of living... The central-banks job is to match demand and supply of money by maintaining the right level of money-supply to keep demand and employment highest (possible) with prices stability in the economy to achieve highest growth rate to attract more investment and remove supply-side problems because that will make you capital costly because of inflation and high interest rates, again a disincentive... The central-bank has a monopoly over commercial banks to adjust price of capital to suit the economy... Fiscal or Government policy has the same role, price-stability and full employment... The economy has several players including the private sector... No economy can ever be a complete market economy... The US also used to subsidize agriculture not long-back ... Even oil market is restricted to export which has alot of potential now after shale... Lower oil prices will also make incomes in other countries soar and more demand for US exports. According to Keynes-Ramsay-rule economy should choose that capital-labor ratio which maximizes the present consumption in a domestic economy... hope it is true for the external-economy, too... Indirectly he is saying that supply demand as much as you can, means more supply, which also means lower prices or inflation, the law of supply... and Keynes always talked about short-run because he said “in the long-run  we all die”... And, lower prices have a direct relationship with lower interest rate... Keynes was aware of inflation and international trade... But, until Fisher and Wicksell real-interest-rate was not known to many and the central-banks later also tried to manage real variables- real interest rate, real wages... Keynes besides fiscal-policy was well aware of interest rate potential to achieve-full employment, but not in the liquidity trap... In the liquidity trap when nominal interest rate is zero, the banks try to cut down real interest rate by shooting inflation because when inflation will go up and nominal interest rate constant, real-interest rate will go down. Higher inflation will reduce real interest rate. However, reduction in nominal interest rate also reduces real rates. Nominal interest rate is normally cut to increase spending, but again not after the zero lower bound... The Fed understands the significance of real variables in increasing investment but not in increasing private demand... Private demand will increase when prices will go down and real wages increase... The Fed should now not commit inflation but deflation which will increase private demand... I think we are done with the investment and supply side...Now this time for the private demand.... Mothers are doing their best...  

QE without inflation targeting (Europe)...

QE means more money-supply, more demand/supply and growth. But, inflation targeting is making things worse. It means you are committing income and inflation at the same time, because any policy ultimately increases wages and income which creates demand/supply in the economy. But, by committing inflation you are actually cutting real wages. Keynes said that there is nominal-downward-wage-rigidity, but there is always scope to cut-down real-wages by increasing inflation. Blind following of the QE in the US will not get results as long as you are not sure which variables should be affected to achieve full-employment and growth. In general we think that nominal interest-rate decides the level of investment, but, actually, it is real interest rate. Both, real interest rate and real wages also reflect the cost of investment. Not sure what the central-banks are trying to achieve, but they are working against the demand. All their efforts are to help Capitalists by cutting of real interest-rate and real wages to improve supply. But, very low inflation means there is over-supply. It is an oversupply problem due to high inflation and low real interest rate before the recession which has led to lay-offs due to decreased demand relative to supply. Therefore, if ECB wants to increase demand relative to supply and investment is should not commit inflation as it is likely to hurt demand. QE without inflation targeting is likely to help more. People will have more money...