Stephen Roach: Economy Must Get Off ‘Steroids’

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Roach talks to Bloomberg’s Carol Massar about the risks to an economy operating at stall speed as well as Federal Reserve monetary policy and economic lessons from Japan’s lost decades. He thinks a recessionary relapse is more likely than most, but still recommends putting in a strategy to reduce monetary liquidity and fiscal stimulus. "You can’t stand in the way of balance sheet repair," Roach says. By the second half of this year, Roach believes policy accommodation can be pulled back if the economy is doing ok. He contrasts the normalisation of monetary policy in the Eurozone favourably to the easy money being provided by the Fed.

Roach also talks about China where he sees a bubble but more aggressive measures to counteract it.

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7 Comments
  1. DavidLazarusUK says

    The problem with current policy is it leaves all the management of the economy to the Fed, which normally only has one weapon interest rates. It allows Congress to have completely abdicated itself of any responsibility for managing the economy.

    I agree with Stephen Roach that an increase in interest rates is required. We still have immense amounts of mal-investment out there and low interest rates are stopping the market punishing such investments. Longer term we need to have a cap and collar on interest rates with the Fed only targeting inflation. If interest rates were restricted to between 4 and 11% it could stop excessive credit growth, as a zero rate policy could not happen again. The Fed could also demand commercial banks hand over some capital so there is lower capital to sustain lending. If there is any bubble the banks will be able to react quicker to inflation risks and so interest rates might be more volatile but they will still be within a band which means businesses will not find credit getting so expensive that they cannot make a profit.

    The responsibility for maintaining full employment should return to Congress who should control excess speculation through taxation and low demand through spending. This will be a lot more effective. So if there is property bubble increase capital gains taxes to choke off that speculation. If there is high unemployment in an area have spending programs in that area to create work. Hardly rocket science.

    1. Edward Harrison says

      That sounds sensible, David. It is clear to me that the over-reliance on monetary policy has had very negative side effects in terms of private sector debt accumulation, malinvestment and risk. The policy mixed should be skewed more toward fiscal using automatic stabilizers so as to permit the overcapacity created by excess credit to diminish. Fiscal can be more targeted and has less side effects, especially if one uses automatic stabilisers to de-politicise the process.

      The opposition to fiscal is ideological and has really fostered a boom-bust crisis dynamic.

      1. DavidLazarusUK says

        Unless there is an end to the ideological objection then the US citizen better accept serious levels of long term unemployment and poverty because full employment is not even on the agenda. Calling unemployment rates of 6% full employment is ridiculous. My definition is less than 3%. Though I suspect that economists will soon redefine US full employment at 8% before long as they fail to cut the numbers out of work.

        The appaling thing is that nothing is being done to help the average american. Trickle down policies still rule Washington.

        1. Edward Harrison says

          Yes, look at Switzerland as a juxtaposition. There, they have tighter money, higher capital requirements for banks, manufacturing prowess, single payer private sector administered healthcare, campaign money restriction, voting plebiscites AND incredibly low unemployment plus decent economic growth. I’m sure the usual objection that they are a country of 10 million while the US is 300 million could be used. But, the US really needs to take pointers from successful industrial models.

          1. DavidLazarusUK says

            Interesting choice. Switzerland is the ultimate corporatist state. Industrial espionage is a criminal offence unlike every other country. Switzerland is also highly dependant on the big banks. If they had been as reckless as Iceland then you would be looking at an Iceland in the moutains, with their bank secrecy laws under threat like Irelands low corporation tax rate. The one thing that saved them was that the Swiss banks were more conservative in lending so were less at risk from poor lending practices. Look at Jordan with far higher capital requirements and they escaped virtually unscathed.

            Ultimately the problems have been that pension funds and individuals need better returns than a low interest rate environment provides. In the UK with the poor returns from the stock markets, property looked attractive especially with its ability to be tax free if you were willing to declare the sales as your main residence in order to avoid capital gains tax.

          2. Edward Harrison says

            The Swiss banks were pretty reckless too. They barely escaped being roadkill. The largest writedowns went to Citi Merrill and UBS. At least the regulators learned from this and increased capital requirements.

          3. DavidLazarusUK says

            Yes but fortunately the Swiss banks had that capital base, and full support of the central bank. If UBS had not been in investment banking it could have escaped in much better state. The arguments for universal banking models are still unproven.

  2. Anonymous says

    The problem with current policy is it leaves all the management of the economy to the Fed, which normally only has one weapon interest rates. It allows Congress to have completely abdicated itself of any responsibility for managing the economy.

    I agree with Stephen Roach that an increase in interest rates is required. We still have immense amounts of mal-investment out there and low interest rates are stopping the market punishing such investments. Longer term we need to have a cap and collar on interest rates with the Fed only targeting inflation. If interest rates were restricted to between 4 and 11% it could stop excessive credit growth, as a zero rate policy could not happen again. The Fed could also demand commercial banks hand over some capital so there is lower capital to sustain lending. If there is any bubble the banks will be able to react quicker to inflation risks and so interest rates might be more volatile but they will still be within a band which means businesses will not find credit getting so expensive that they cannot make a profit.

    The responsibility for maintaining full employment should return to Congress who should control excess speculation through taxation and low demand through spending. This will be a lot more effective. So if there is property bubble increase capital gains taxes to choke off that speculation. If there is high unemployment in an area have spending programs in that area to create work. Hardly rocket science.

    1. Edward Harrison says

      That sounds sensible, David. It is clear to me that the over-reliance on monetary policy has had very negative side effects in terms of private sector debt accumulation, malinvestment and risk. The policy mixed should be skewed more toward fiscal using automatic stabilizers so as to permit the overcapacity created by excess credit to diminish. Fiscal can be more targeted and has less side effects, especially if one uses automatic stabilisers to de-politicise the process.

      The opposition to fiscal is ideological and has really fostered a boom-bust crisis dynamic.

      1. Anonymous says

        Unless there is an end to the ideological objection then the US citizen better accept serious levels of long term unemployment and poverty because full employment is not even on the agenda. Calling unemployment rates of 6% full employment is ridiculous. My definition is less than 3%. Though I suspect that economists will soon redefine US full employment at 8% before long as they fail to cut the numbers out of work.

        The appaling thing is that nothing is being done to help the average american. Trickle down policies still rule Washington.

        1. Edward Harrison says

          Yes, look at Switzerland as a juxtaposition. There, they have tighter money, higher capital requirements for banks, manufacturing prowess, single payer private sector administered healthcare, campaign money restriction, voting plebiscites AND incredibly low unemployment plus decent economic growth. I’m sure the usual objection that they are a country of 10 million while the US is 300 million could be used. But, the US really needs to take pointers from successful industrial models.

          1. Anonymous says

            Interesting choice. Switzerland is the ultimate corporatist state. Industrial espionage is a criminal offence unlike every other country. Switzerland is also highly dependant on the big banks. If they had been as reckless as Iceland then you would be looking at an Iceland in the moutains, with their bank secrecy laws under threat like Irelands low corporation tax rate. The one thing that saved them was that the Swiss banks were more conservative in lending so were less at risk from poor lending practices. Look at Jordan with far higher capital requirements and they escaped virtually unscathed.

            Ultimately the problems have been that pension funds and individuals need better returns than a low interest rate environment provides. In the UK with the poor returns from the stock markets, property looked attractive especially with its ability to be tax free if you were willing to declare the sales as your main residence in order to avoid capital gains tax.

          2. Edward Harrison says

            The Swiss banks were pretty reckless too. They barely escaped being roadkill. The largest writedowns went to Citi Merrill and UBS. At least the regulators learned from this and increased capital requirements.

          3. Anonymous says

            Yes but fortunately the Swiss banks had that capital base, and full support of the central bank. If UBS had not been in investment banking it could have escaped in much better state. The arguments for universal banking models are still unproven.

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