Iceland Ponders Radical Money Plan Including Elimination of Fractional Reserve Lending and Deposit Insurance

I have long railed against fractional reserve lending, duration mismatches (e.g. banks issuing 2-year CDs and lending money for 15-year mortgages), bank's ability to lend money into existence, and deposit insurance. 

Fractional reserve lending allows banks to lend out a near infinite amount of credit with essentially no backing. Money inevitable creates asset bubbles, but as long as the bubbles are expanding it appears the system is solvent.

Money that depositors believe is available on demand in their checking accounts is not actually present at all. And banks are not required to hold any reserves on savings accounts at all.

Deposit insurance is the epitome of moral hazard. It guarantees money will flow to banks offering the highest yield. Of course, banks offering the highest yields on deposits need to take the highest risks to be able to pay that interest. Depositors do not care because the deposits are insured.

Iceland Ponders Radical Money Plan

I am somewhat surprised by this development, but Iceland is investigating a banking system that will eliminate all of the above flaws.

The Telegraph reports Iceland Looks at Ending Boom and Bust with Radical Money Plan.

Iceland's government is considering a revolutionary monetary proposal - removing the power of commercial banks to create money and handing it to the central bank.

The proposal, which would be a turnaround in the history of modern finance, was part of a report written by a lawmaker from the ruling centrist Progress Party, Frosti Sigurjonsson, entitled "A better monetary system for Iceland".

"The findings will be an important contribution to the upcoming discussion, here and elsewhere, on money creation and monetary policy," Prime Minister Sigmundur David Gunnlaugsson said.

The report, commissioned by the premier, is aimed at putting an end to a monetary system in place through a slew of financial crises, including the latest one in 2008.

According to a study by four central bankers, the country has had "over 20 instances of financial crises of different types" since 1875, with "six serious multiple financial crisis episodes occurring every 15 years on average".

Mr Sigurjonsson said the problem each time arose from ballooning credit during a strong economic cycle.

The Proposal

The proposal is a 110 page PDF called Monetary Reform - A Better Monetary System for Iceland

The proposal describes in detail the problems of deposit insurance, fractional reserve lending, and various moral hazards in a way that is easy to understand. I encourage everyone to read the document as it debunks many widely-held beliefs such as the money-multiplier theory of how money is actually created.

The money-multiplier theory is widely taught and widely believed but totally wrong as I have discussed many times.

Unfortunately, the proposal has a major flaw. It hands responsibility for the creation of money to a panel. The document discusses that flaw in sections 9.5.3 and 9.5.4.

9.5.3 What if the money creation committee makes mistakes?

It has been pointed out that the money creation committee may not possess all the information necessary for creating the optimal amount of money for the economy. The concern is that wrong decisions by the committee may lead to either inflation or the economy failing to reach its potential.

It would be unrealistic to demand or expect perfect decisions on money creation under a sovereign money system. But it would also hard to believe that a committee tasked with creating the proper amount of money for the economy would consistently create money to similar excess as the commercial banks have done in the past.

9.5.4 Fear of government creating money to fund its policies

Concerns exist that if governments are allowed to create money directly, they will get carried away and create excessive amounts of money to pay for vote-winning projects.

Under Sovereign Money, however, the government is not allowed to create money directly. The decision to create money would be made by a money creation committee, independent of government, on the basis of what is appropriate for the economy as a whole. The committee will not have the power to decide who benefits from its money creation or what new money will be used for. The allocation of new money will be decided democratically by parliament.

What is the Proper Supply of Money?

The obvious flaw is there is no all-knowing panel that has any idea what the money supply should be.

Three Questions

1. Would a panel be any better than the Fed? 
2. Would it be politicized?
3. What increase in the amount of money is necessary for growth?

I do not know the answer to the first two questions although it's likely that the panel would be at least as good as the Fed, at least initially, if for no other reason than the proposal corrects many of the flaws in the existing monetary system.

I can answer question number three. The answer is zero. No growth in money supply is needed to have a growing economy.

Please consider a snip from the eBook What has Government Done to Our Money? by Murray Rothbard.

What “should” the supply of money be? All sorts of criteria have been put forward: that money should move in accordance with population, with the “volume of trade,” with the “amounts of goods produced,” so as to keep the “price level” constant, etc. Few indeed have suggested leaving the decision to the market. But money differs from other commodities in one essential fact. And grasping this difference furnishes a key to understanding monetary matters. When the supply of any other good increases, this increase confers a social benefit; it is a matter for general rejoicing. More consumer goods mean a higher standard of living for the public; more capital goods mean sustained and increased living standards in the future. The discovery of new, fertile land or natural resources also promises to add to living standards, present and future. But what about money? Does an addition to the money supply also benefit the public at large?

We may ask ourselves what would happen if, overnight, some good fairy slipped into pockets, purses, and bank vaults, and doubled our supply of money. In our example, she magically doubled our supply of gold. Would we be twice as rich? Obviously not. What makes us rich is an abundance of goods, and what limits that abundance is a scarcity of resources: namely land, labor, and capital. Multiplying coin will not whisk these resources into being.

We may feel twice as rich for the moment, but clearly all we are doing is diluting the money supply. As the public rushes out to spend its new-found wealth, prices will, very roughly, double — or at least rise until the demand is satisfied, and money no longer bids against itself for the existing goods.

An increase in the money supply, then, only dilutes the effectiveness of each gold ounce; on the other hand, a fall in the supply of money raises the power of each gold ounce to do its work. We come to the startling truth that it doesn’t matter what the supply of money is. Any supply will do as well as any other supply. The free market will simply adjust by changing the purchasing power, or effectiveness of the gold-unit. There is no need to tamper with the market in order to alter the money supply that it determines.

Aside from the errors regarding the amount of money and who is in control of creating money, the proposal is an excellent starting point for addressing many of the flaws inherent in the existing fatally-flawed fiat currency scheme.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

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If It Ain't Broken, Don't Fix It: Religious Freedom Act Take II

Religious Freedom Act Take II

I received a number of emails in response to Indiana Legalizes Discrimination on Grounds of "Religious Freedom".

The bill, signed by Indiana Governor Mike Pence openly encourages discrimination based on sexual preference although Pence incredulously denies that claim. Pence now recognizes the need to "clarify" the legislation.

One of the better email responses came from reader Mark who wrote ...

The Constitution plainly states "Congress shall make no law respecting an establishment of religion, or prohibiting the free exercise thereof."

The Constitutional guarantee of religious freedom is sacrosanct. The only restrictions placed on religious freedom are those religious practices that harm others.

And I would say “Yes” if you wanted to post a “No Catholics” or “No Jews” sign on the front door of your business. I would also warn, in the same breath, that you may find your business surrounded by protestors and boycotted the very next day. That is the market forces at work. Even though I am neither a Catholic nor a Jew, I would not do business with someone that had that sign on their front door. That is my choice, too.

Mark

If It Ain't Broken, Don't Fix It

I replied ...

"Why was there a need then to pass any bill? Pence now says the bill needs to be 'clarified'. If the bill needs 'clarification' then something in it is wrong. At best, the law was political stupidity. At worst, the legislation provides explicit and open encouragement of discrimination."

By the way, the problem with allowing a sign "Blacks Not Welcome" or "Jews Not Welcome" would be the massive protests that would undoubtedly disrupt neighboring establishments, all of which whose business would suffer while the sign was up.

In fact, it is likely the entire neighborhood of an establishment posting such as sign would be torched, with considerable and perhaps permanent damage to the property owner.

For similar reasons, freedom of speech does not allow someone to yell "fire" in a movie theater.

Otherwise, Mark is totally on target with the constitutional idea.

Acting Man Chimes In

I bounced my response off Pater Tenebrarum, a confirmed Libertarian, to see what he thought. Pater replied ...

In principle, the libertarian stance would be that I can decide on my private property, and if my body, time, equipment, etc. are concerned, who I want to let on my premises, and whom I wish to serve in some commercial capacity, or talk to, or otherwise interact with.

So if the law means something like "if you (for whatever reason) dislike gays or any other group of people, you cannot be forced by law to e.g. act as a photographer at their wedding", then it would be consistent with libertarian views - since obviously government coercion would otherwise be involved (saying "no" to someone is not tantamount to coercion, but not being allowed to say so is).

I personally think religious zealots of this sort are detestable, but as you can see, most businesses are voicing their opposition to discriminating conduct and social pressure (boycotts etc.) is already exerted as well (which again is perfectly legitimate).

Thus, there should be no need for the state to intervene at all. Anyway, it seems rather selective if it is introduced solely on "religious grounds". Any other reason than religious conviction should be just as admissible. For instance, it should suffice if one is merely a racist or homophobic jerk. I really don't get why it requires a law.

Real Purpose of the Bill

Pater is precisely correct. There is no need for the state to act.

It follows that the only conceivable purpose of the law is to make it clear that discrimination against gays on "religious" grounds is perfectly acceptable.

Actually there was one other purpose: Pence kowtowed to the extreme right wing for political purposes. Fortunately it blew up in Pence's face.

Text of the Bill

Inquiring minds may wish to dive into the complete Text of Indiana's ‘Religious Freedom’ Law.

Differences Between Indiana and Federal Legislation

Many people emailed the bill is exactly the same as the federal Religious Freedom Restoration Act, passed in 1993 under Clinton.

They are wrong as explained in What Makes Indiana's Religious-Freedom Law Different?

The Indiana statute has two features the federal RFRA and most state RFRAs do not. First, the Indiana law explicitly allows any for-profit business to assert a right to “the free exercise of religion.”

The federal RFRA doesn’t contain such language, and neither does any of the state RFRAs except South Carolina’s; in fact, Louisiana and Pennsylvania, explicitly exclude for-profit businesses from the protection of their RFRAs.

The new Indiana statute also contains this odd language: “A person whose exercise of religion has been substantially burdened, or is likely to be substantially burdened, by a violation of this chapter may assert the violation or impending violation as a claim or defense in a judicial or administrative proceeding, regardless of whether the state or any other governmental entity is a party to the proceeding.” Neither the federal RFRA, nor 18 of the 19 state statutes cited by the Post, says anything like this; only the Texas RFRA, passed in 1999, contains similar language.

Second, the Indiana statute explicitly makes a business’s “free exercise” right a defense against a private lawsuit by another person, rather than simply against actions brought by government. Why does this matter? Well, there’s a lot of evidence that the new wave of “religious freedom” legislation was impelled, at least in part, by a panic over a New Mexico state-court decision, Elane Photography v. Willock. In that case, a same-sex couple sued a professional photography studio that refused to photograph the couple’s wedding. New Mexico law bars discrimination in “public accommodations” on the basis of sexual orientation. The studio said that New Mexico’s RFRA nonetheless barred the suit; but the state’s Supreme Court held that the RFRA did not apply “because the government is not a party.”

If It Ain't Broken, Don't Fix It Part II

Curiously, one has to wonder if the absurd ruling in New Mexico happened precisely because New Mexico had an RFRA law in the first place.

So how is Indiana supposed to fix the law?

Then again, If Indiana's Religious-Freedom Law Isn't Discriminatory, Why Change It?

Mike Pence Responds

In a Wall Street Journal Op-Ed called Ensuring Religious Freedom in Indiana, Governor Pence says "Our new law has been grossly misconstrued as a ‘license to discriminate.’ That isn’t true, and here’s why."

Last week I signed the Religious Freedom Restoration Act, known as RFRA, which ensures that Indiana law will respect religious freedom and apply the highest level of scrutiny to any state or local governmental action that infringes on people’s religious liberty. Unfortunately, the law has stirred a controversy and in recent days has been grossly misconstrued as a “license to discriminate.”

I want to make clear to Hoosiers and every American that despite what critics and many in the national media have asserted, the law is not a “license to discriminate,” either in Indiana or elsewhere. 

Some express concern that Indiana’s RFRA law would lead to discrimination, but RFRA only provides a mechanism to address claims, not a license for private parties to deny services. Even a claim involving private individuals under RFRA must show that one’s religious beliefs were “substantially burdened” and not in service to a broader government interest—which preventing discrimination certainly is. The government has the explicit power under the law to step in and defend such interests.

Pence's Pack of Lies

Pence's defense reads like a pack of lies.

Here is the amusing part "Even a claim involving private individuals under RFRA must show that one’s religious beliefs were 'substantially burdened' and not in service to a broader government interest—which preventing discrimination certainly is. The government has the explicit power under the law to step in and defend such interests," states Pence.

Good Grief!

According to Pence, the government has an "explicit power" to defend gays against private individuals, requiring the individuals to prove they were "substantially burdened, and not in service to a broader government interest," in service denials.

Wow.

If that is really the intent of the law (of course it isn't), no Libertarian in his right mind could ever support such nonsense.

What the Legislation is Really About

Several readers emailed that I should read the comments to my first post on this subject.

I did, and I also read every email response as well. I have to say, the volume against me was probably 8-1. One reader got the message.

Reader Daniel replied ....

Hi Mish,

First I'd like to commend you for stating your fair and reasonable opinions about this matter!

Unfortunately it is not a big surprise that wherever there is a large concentration of conservative republicans you still get a whole lot of of bigots as clearly evident by the comments to your article.  Hopefully the future of the republican party will be different than what these guys represent.

I want to make a few points that I believe you share as well. If you do not, I would still like to read your response.

The problem with Mike Pence is not that he signed a bad law.  The problem is that he signed a law that will be used selectively against a specific group of people while other people will enjoy protections already enforced by the Federal government.

The religionists behind this law do not believe in freedom. They use libertarianism selectively when it's convenient to achieve their own version of theocracy which is the polar opposite of freedom.

By signing this law and having the Republican party associated with it, many fair minded individuals who would normally support republican and libertarian policies will no doubt decide to disassociate themselves from such a party.

Anyway, thank you for providing great articles which I read almost daily. 

Daniel

Bingo!

Reader Daniel, like Pater Tenebrarum gets it. There was no reason for this law other than what I stated above.

1. To make it clear that discrimination against gays on "religious" grounds is perfectly acceptable.
2. To kowtow to the extreme right wing for political purposes

Reader Mark slightly missed the mark but nicely raised an important constitutional question. Many emails were hateful.

Right to Be an Ass

I fully support the right of everyone to be a complete ass. Take for example this Email from Damon who wrote ...

"I have read your blog for years but no longer will. I also will not recommend it to others. I support Indiana over the sodomites that are destroying this country. I support Indiana over people like you."

To that I responded "good riddance".

I have no tolerance for bigots, hate-mongers, fake patriots who wrap themselves in the flag, and anyone who pretends their religion is better than all the rest, even if that stance hurts my blog traffic.

That is a stand I make by choice. I do not say things for "political expediency" or to win "popularity points" for this blog.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

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Downside Data Surprises in Canada; Bad Weather Up North? How About Recession?

The string of bad data reports not only applies to the US, economists up North appear to be no better at predicting the weather than US economists.

Variant Perception reports Downside Data Surprises Continue in Canada.

For the past 6 months, we have been alerting clients to the persistent decline in our Canada leading indicator. This is now showing up in numerous Canadian coincident data releases, with retail sales being the latest to miss expectations last Friday.  The economic surprise index is now declining sharply and there is little sign of immediate improvement ahead.



PMIs continue to fall whilst building permits and housing starts (some of the best leading indicators to watch), remain negative yoy (top chart). However one of our main themes this year has been that of cognitive dissonance, whereby growth disappoints, but higher excess liquidity supports asset prices.

Canada December Retail Sales

On February 20, the Huffington Post reported Canadian Retail Sales Post Biggest Drop Since April, 2010.

Retail sales in Canada in December posted their largest one-month drop since April 2010, as the cost to fill your gas tank plunged and holiday shoppers spent less.

Statistics Canada said Friday retail sales fell 2.0 per cent compared with November to $42.1 billion in December. That compared with a drop of 0.4 per cent that economists had expected, according to Thomson Reuters.

The drop in sales came as sales at gasoline stations fell 7.4 per cent in December due to lower gas prices, while sales at motor vehicle and parts dealers fell one per cent. Excluding motor vehicle and parts dealers, sales were down 2.3 per cent.

Despite the larger than-expected drop in sales, Bank of Montreal senior economist Benjamin Reitzes cautioned not to jump to conclusions based on the retail sales report. Reitzes noted the rise in popularity of Black Friday sales in Canada has pulled some holiday shopping into November.

Sales were down in nine of 11 subsectors, representing 71 per cent of retail trade.

Canada January Retail Sales

On March 20, the Statistics Canada Retail Trade, January 2015 report showed sales down for a second month.

Retail sales decreased for the second consecutive month in January, declining 1.7% to $41.4 billion. Sales were lower in 7 of 11 subsectors, representing 83% of retail trade.

Lower sales at gasoline stations represented the majority of the decline. Excluding sales at gasoline stations, retail sales were down 0.8%.

Retail Sales in Volume Terms Decreased 1.2%.



Gasoline Station Sales Down Seven Months in a Row

Sales at gasoline stations fell 8.8% in January, reflecting lower prices at the pump. This was the seventh straight monthly decrease and the largest monthly decline since November 2008.

Receipts at motor vehicle and parts dealers (-1.4%) decreased for the fourth consecutive month. The overall subsector decline was a result of weaker sales at new car dealers (-1.8%). Used car dealers (-0.9%) and other motor vehicle dealers (-0.5%) also registered declines. Sales at automotive parts, accessories and tire stores (+2.2%) advanced for the fourth time in five months.

Sales Down in Nine Provinces

Retail sales were down in nine provinces in January. Lower sales in Quebec, Ontario and Alberta accounted for most of the decrease.

Quebec (-2.4%) reported the largest decrease in dollar terms, with widespread declines across most store types.

The decline in Ontario (-1.4%) was mainly attributable to lower sales at gasoline stations.

Retail sales in Alberta (-2.8%) declined for the fourth consecutive month in January, reaching their lowest level since December 2013. The decline was largely a result of lower sales at gasoline stations and new car dealers.

Receipts in Nova Scotia fell to their lowest level since March 2013, decreasing for the sixth consecutive month.

Prince Edward Island (+0.5%) was the only province to register an increase in January.

Seasonally Adjusted Numbers



Economist's Theories on Gasoline

Hey wait a second. Didn't economists tell us consumers would take savings on gasoline and spend it elsewhere?

Yes they did. So there is only one possible explanation: Just as in the US, Canadian weather was much worse than economists initially thought.

GDP Decline in January

Please consider Canada's GDP Probably Down In January, CIBC Says After Disappointing Retail Data.

Canada’s economy likely shrank in January, CIBC said Friday following an unexpectedly negative reading on retail sales from Statistics Canada.

Retail sales fell 1.7 per cent in January, StatsCan reported, the second consecutive monthly decline. Analysts had been expecting a slowdown due to lower gas prices, but they weren’t expecting the broad-based declines that were actually seen: Seven of 11 retail sectors shrank in January, including autos, furniture and food and beverages.

Canada’s GDP for January “now looks set for a modest drop,” CIBC economist Andrew Grantham wrote in a client note.

Economists had been expecting that lower gas prices would mean Canadians would spend more on other things, but that doesn't seem to be happening.

"The latest figures suggest that households are becoming more cautious in their spending habits," Grantham wrote, adding he doesn't think Canada will meet the modest 1.5-per-cent growth rate that the Bank of Canada is predicting for the first quarter of the year.

Consumers are showing signs of exhaustion, with household debt levels reaching yet another record high in the last months of 2014, up to 163.3 per cent of disposable income.

Canada in Recession

Flashback, January 31, 2015: Canada in Recession, US Will Follow in 2015

On January 21 when the Canadian Central Bank unexpected slashed interest rates, I wrote Canadian Recession Coming Up.

Following the rate cut, the yield curve in Canada inverted out to three years. Inversion means near-term interest rates are higher than long-term rates.

I saw no other person mention the inversion at the time. An inverted yield curve generally portends recession.

Nine days later, the Canadian yield curve is still inverted. Let's compare what I posted about the curve on January 21 vs. January 30.

Canadian Yield Curve January 21

• 30-year: 2.044% (Today's Low 1.998%)
• 10-Year: 1.426% (Today's Low 1.366%)
• 05-Year: 0.791% (Down 19 basis points, an 18% decline)
• 03-Year: 0.590% (Down 27 basis points, a 31% decline)
• 02-Year: 0.560% (Down 29 basis points, a 34% decline)
• 01-Year: 0.580% (Down 34 basis points, a 37% decline)
• 01-Month: 0.640% (Down 22 basis points, a 26% decline)

Canadian Yield Curve January 30

• 30-year: 1.834% (Down 21.0 basis points)
• 10-Year: 1.250% (Down 17.6 basis points)
• 05-Year: 0.603% (Down 18.8 basis points)
• 03-Year: 0.386% (Down 20.4 basis points)
• 02-Year: 0.392% (Down 16.8 basis points)
• 01-Year: 0.490% (Down 9.0 basis points)
• 01-Month: 0.580% (Down 6.0 basis points)

Not only did yields plunge across the board since then, the yield curve is still inverted all the way out to three years.

Recession Has Arrived

There is no point in waiting for further data. The Canadian recession has already arrived.

Canadian Yield Curve March 31

• 30-year: 1.99%
• 10-Year: 1.37%
• 05-Year: 0.78%
• 03-Year: 0.51%
• 02-Year: 0.51%
• 01-Year: 0.58%
• 03-Month: 0.56%
• 01-Month: 0.53%

The Canadian yield curve is still inverted albeit very slightly. Instead of attempting to predict the weather, something that is very difficult for economists to do (even in arrears!), perhaps they should watch the yield curve.

Isn't that what they should be doing?

Weather Predicting US Style

For more on weather predicting in the US, please see Economists Fail to Predict Weather Once Again: Chicago PMI Disappoints.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

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Economists Fail to Predict Weather Once Again: Chicago PMI Disappoints

Chicago PMI Disappoints

Economists expected a rebound in the Chicago PMI index this month following its collapse last month. Alas, once again the weather was much worse in Chicago than economists thought.

The Bloomberg Consensus was for a rebound from last month's dismal print of 45.8 back into positive territory of 50.2

"Companies sampled in the Chicago PMI report continue to report a lull in activity, at a sub-50 March index of 46.3 following 45.8 in February. On a quarterly basis, the index averaged only 50.5 in the first quarter, down steeply from 61.3 in the fourth quarter for the weakest reading since the third quarter of 2009. Respondents are citing bad weather and fallout from the West Coast port slowdown as temporary negatives, and they see orders picking up during the second quarter."



Failure to Predict Weather

That the Chicago PMI index remained in contraction for the second month at 46.3 while economists expected a rebound into positive territory proves once again how difficult it is for economists to predict the weather in Chicago for February, even though it's now March.

Don't worry, economists tell us this unfortunate string of bad weather is "temporary" and will improve in the second quarter.

On the dark side, I fail to see how economists can predict the weather in advance when they cannot do so in arrears.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

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Historical Perspective on CPI Deflations: How Damaging are They?

Yet another central bank has announced a warning about the perils of deflation. Please consider China Central Bank Calls for Vigilance on Deflation.

China's central bank governor Zhou Xiaochuan warned on Sunday that the country needs to be vigilant for signs of deflation and said policymakers were closely watching slowing global economic growth and declining commodity prices.

Zhou's comments are likely to add to concerns that China is in danger of slipping into deflation and underline increasing nervousness among policymakers as the economy continues to lose momentum despite a raft of stimulus measures.

"Inflation in China is also declining. We need to have vigilance if this can go further to reach some sort of deflation or not," Zhou said at a high-level forum in Boao, on the southern Chinese island of Hainan.

Zhou added that the speed with which inflation was slowing was a "little too quick", though this was part of China's ongoing market readjustment and reforms.

Historical Perspective On CPI Deflations

In its March report, the BIS took a look at the Costs of Deflations: A Historical Perspective. Here are the key findings.

Concerns about deflation – falling prices of goods and services – are rooted in the view that it is very costly. We test the historical link bet ween output growth and deflation in a sample covering 140 years for up to 38 economies. The evidence suggests that this link is weak and derives largely from the Great Depression. But we find a stronger link between output growth and asset price deflations, particularly during postwar property price deflations. We fail to uncover evidence that high debt has so far raised the cost of goods and services price deflations, in so-called debt deflations. The most damaging interaction appears to be between property price deflations and private debt. 

Deflation may actually boost output. Lower prices increase real incomes and wealth. And
they may also make export goods more competitive.

Once we control for persistent asset price deflations and country-specific average changes in growth rates over the sample periods, persistent goods and services (CPI ) deflations do not appear to be linked in a statistically significant way with slower growth even in the interwar period. They are uniformly statistically insignificant except for the first post-peak year during the postwar era – where, however, deflation appears to usher in stronger output growth. By contrast, the link of both property and equity price deflations with output growth is always the expected one, and is consistently statistically significant.

Conclusions

The evidence from our long historical data set sheds new light on the costs of deflations. It raises questions about the prevailing view that goods and services price deflations, even if persistent, are always pernicious. It suggests that asset price deflations, and particularly house price deflations in the postwar era, have been more damaging. And it cautions against presuming that the interaction between debt and goods and services price deflation , as opposed to debt’s interaction with property price deflations, has played a significant role in past episodes of economic weakness.

The exception to the general rule was the Great Depression but, that was also an asset bubble deflation coupled with consumer price deflation.

Meanwhile central banks on every continent are worried about something they should welcome.

Economic Challenge to Keynesians

Of all the widely believed but patently false economic beliefs is the absurd notion that falling consumer prices are bad for the economy and something must be done about them.

I have commented on this many times and have been vindicated not only by sound economic theory but also by actual historical examples.

My January 20, post Deflation Bonanza! (And the Fool's Mission to Stop It) has a good synopsis.

And my Challenge to Keynesians "Prove Rising Prices Provide an Overall Economic Benefit" has gone unanswered.

There is no answer because history and logic both show that concerns over consumer price deflation are seriously misplaced.

Worse yet, in their attempts to fight routine consumer price deflation, central bankers create very destructive asset bubbles that eventually collapse, setting off what they should fear - asset bubble deflations following a buildup of bank credit on inflated assets.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

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Indiana Legalizes Discrimination on Grounds of "Religious Freedom"

Can you refuse service to gays and lesbians? You can in Indiana thanks to the "Religious Freedom" Bill.

Indiana Governor Mike Pence has signed a bill that would allow businesses to refuse service to gay and lesbian patrons on the grounds of “religious freedom”, even as some of the state’s largest business interests oppose the measure.

Mr Pence, a potential 2016 presidential contender, said he signed the bill because “many people of faith feel their religious liberty is under attack by government action”.

Proving that he cannot think, Pence quipped "If I thought it legalised discrimination in any way in Indiana, I would have vetoed it."

And what about religious freedom for atheists, Muslims, ISIS? Can they do whatever they want too, or is this just religious freedom for Christians and Jews?



Where does one draw the line? Can I post a sign Catholics not welcome? Jews go home?

Greg Ballard, the Republican mayor of Indianapolis, has said that the Indiana law sends the “wrong signal”. “Indianapolis strives to be a welcoming place that attracts businesses, conventions, visitors and residents,” he said in a statement Wednesday.

In recent days, three major conventions have threatened to pull out of the state because of the bill. The organisers of Gen Con, the city’s largest convention, said the law “will have a direct negative impact on the state’s economy, and will factor into our decision-making on hosting the convention in the state of Indiana in future years”.

History Lesson for Pence

The opening of the United States Declaration of Independence states as follows:

We hold these truths to be self-evident, that all men are created equal, that they are endowed by their Creator with certain unalienable Rights, that among these are Life, Liberty and the Pursuit of Happiness. That to secure these rights, Governments are instituted among Men, deriving their just powers from the consent of the governed;

"Many people of faith feel their religious liberty is under attack by government action," said Pence. Actually, people of all races, creeds, and religions are under attack by this ludicrous bill.

Backlash

Backlash is mounting. The Guardian reports Indiana Republicans to amend 'religious freedom' law in face of backlash.

The next day, the social media campaign #BoycottIndiana took over Twitter, and on Saturday hundreds gathered at the statehouse in Indianapolis to rally against the bill.

By Monday night, protesters were gathering again, this time in front of the Indianapolis City-County building. Protesters recited the pledge of allegiance, shouting the “for all” at the end of the oath.

Local businesses across the state capital have posted signs bearing the message that Indiana citizens, known as Hoosiers, will “not serve hate”.

The band Wilco canceled a performance in Indiana in protest to the law, and major Indiana-based businesses such as Angie’s List have put expansion plans on hold and other companies, like Salesforce.com, have stopped sending employees there for business.

“This is not just a gay issue, this is a Hoosier issue,” said city councilman Zach Adamson, the first openly gay elected councilman in Indianapolis. “We are, as a people, incensed about it.”

On Sunday, Pence defended the bill in an interview with George Stephanopoulos on ABC’s The Week.

The appearance inflamed opponents as Pence danced around questions about the law’s discriminatory implications and refused to directly answer questions about whether it gives businesses the right to deny service to LGBT people – six times.

“This is not about discrimination, this is about empowering people to confront government overreach,” he said. Asked again, he said: “Look, the issue here is still: is tolerance a two-way street, or not? … We’re not going to change the law.”

Message of Inclusion?!

State legislators say law is not anti-gay and blame the reaction on a ‘mischaracterisation’. ‘What we had hoped for was a message of inclusion’.

This has nothing to do with "inclusion". This has everything to do with a hopeless candidate foolishly appealing to the ultraright extremists and it backfired big time.

To Pence, you are equal unless your religion says otherwise. He is exactly the kind of fake-conservative jackass the Republican party needs to get rid of.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

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Ben Bernanke, Confused as Ever, Starts His Own Blog to Prove It

Ben Bernanke just started his own blog at the Brookings Institute. His first post, from today, Inaugurating a New Blog is the announcement.

Let's dive into Bernanke's second post of the day: Why are Interest Rates So Low?

Bernanke: Low interest rates are not a short-term aberration, but part of a long-term trend. As the figure below shows, ten-year government bond yields in the United States were relatively low in the 1960s, rose to a peak above 15 percent in 1981, and have been declining ever since. That pattern is partly explained by the rise and fall of inflation, also shown in the figure.

Mish: Inflation is only low if one ignores asset bubbles. The CPI does not factor in bubbles induced by monetary policy. The Bernanake and Greenspan Fed ignored the biggest bubble ever in housing for which the Fed has never apologized nor admitted any wrong doing. The effects of inflation are visible everywhere, except of course where the Fed looks.

Bernanke: If you asked the person in the street, “Why are interest rates so low?”, he or she would likely answer that the Fed is keeping them low. That’s true only in a very narrow sense. But what matters most for the economy is the real, or inflation-adjusted, interest rate (the market, or nominal, interest rate minus the inflation rate). The real interest rate is most relevant for capital investment decisions, for example. The Fed’s ability to affect real rates of return, especially longer-term real rates, is transitory and limited. Except in the short run, real interest rates are determined by a wide range of economic factors, including prospects for economic growth—not by the Fed.

Mish: It is difficult to say precisely where interest rates would be in the absence of the Fed, but the answer is likely, surprisingly low. The reason is the Fed (central banks in general) coupled with government deficit spending and fractional reserve lending are the very source of inflation. Amusingly, the Fed bills itself as an "inflation fighting force" but it is a key determinant of inflation. Worse yet, and since the Fed is totally clueless about asset bubbles, it fails to see inflation in front of its nose.

Bernanke: To understand why [the Fed’s ability to affect real rates is transitory and limited], it helps to introduce the concept of the equilibrium real interest rate (sometimes called the Wicksellian interest rate, after the late-nineteenth- and early twentieth-century Swedish economist Knut Wicksell). The equilibrium interest rate is the real interest rate consistent with full employment of labor and capital resources, perhaps after some period of adjustment. Many factors affect the equilibrium rate, which can and does change over time. If the Fed wants to see full employment of capital and labor resources (which, of course, it does), then its task amounts to using its influence over market interest rates to push those rates toward levels consistent with the equilibrium rate, or—more realistically—its best estimate of the equilibrium rate, which is not directly observable.

Mish: With that, the Fed admitted it is clueless about the alleged "equilibrium rate". Indeed it is not observable, nor is the concept of full employment known or observable. Government interference in the free markets, especially minimum wage laws grossly distort the level of full employment. Factor in changing consumer preferences and demographics, and it's a fool's mission to believe the Fed (any central bank), can come up with a realistic estimate to something Bernanke correctly admits is not directly observable.

Bernanke: When I was chairman, more than one legislator accused me and my colleagues on the Fed’s policy-setting Federal Open Market Committee of “throwing seniors under the bus” (to use the words of one senator) by keeping interest rates low. The legislators were concerned about retirees living off their savings and able to obtain only very low rates of return on those savings. I was concerned about those seniors as well. But if the goal was for retirees to enjoy sustainably higher real returns, then the Fed’s raising interest rates prematurely would have been exactly the wrong thing to do.

Mish: It's not the interest rate policy directly that threw seniors under the bus. Rather, it's the Fed's inflation policy while ignoring the consequences of asset bubbles that threw everyone but those with first access to money under the bus. The Fed ignored an enormous housing bubble (Bernanke did not see it at all), then when housing crashed, the Fed lowered rates to save the banks. The overall action was as "necessary" as it was to  have a Fed sponsored housing bubble in the first place.

Bernanke: A similarly confused criticism often heard is that the Fed is somehow distorting financial markets and investment decisions by keeping interest rates “artificially low.” Contrary to what sometimes seems to be alleged, the Fed cannot somehow withdraw and leave interest rates to be determined by “the markets.” The Fed’s actions determine the money supply and thus short-term interest rates; it has no choice but to set the short-term interest rate somewhere.

Mish: Bernanke's comment is preposterous. There was not always a Fed. And the market once set interest rates on its own accord. Moreover, there does not need to be a Fed any more than we need government central planners to determine steel production or the price of orange juice. The Fed certainly does have a choice.

Bernanke: So where should that be? The best strategy for the Fed I can think of is to set rates at a level consistent with the healthy operation of the economy over the medium term, that is, at the (today, low) equilibrium rate. There is absolutely nothing artificial about that!

Mish: It's as artificial as the Fed determining how much steel the mills should produce! In other words it's totally artificial. Besides, Bernanke even admitted the Fed does not know what the equilibrium rate is, and it ignores asset bubble when attempting to land on the unknowable and unobservable.

Is it any wonder the Fed has blown asset bubble after asset bubble with increasing amplitude over time?

OER vs Home Prices

I have made several posts on the consequences of ignoring asset prices while attempting to measure "inflation. Here are two charts from my September 2014 post Housing Prices, "Real" Interest Rates, and the "Real" CPI.

In the following charts and commentary, I substitute actual home prices as measured by the Home Price Index (HPI), for Owners' Equivalent Rent (OER), in the CPI.

Comparative Growth in HPI vs. OER



From 1994 until 1999 there was little difference in the rate of change of rent vs. housing prices. That changed in 2000 with the dot.com crash and accelerated when Greenspan started cutting rates.

The bubble is clearly visible but neither the Greenspan nor the Bernanke Fed spotted it. The Fed was more concerned with rents as a measure of inflation rather than speculative housing prices.

Two Inflation Indexes Year-over-Year



The above chart shows the effect when housing prices replace OER in the CPI. In mid-2004, the CPI was 3.27%, the HPI-CPI was 5.93% and the Fed Funds Rate was a mere 1%. By my preferred measure of price inflation, real interest rates were -4.93%. Speculation in the housing bubble was rampant.

In mid-2008 when everyone was concerned about "inflation" because oil prices had soared over $140, I suggested record low interest rates across the entire yield curve. At that time the CPI was close to 6% but the HPI-CPI was close to 0% (and plunging fast).

I would specifically like to see Ben Bernanke comment on those charts and how and why he thinks asset bubbles can be excluded from measures of inflation.

Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com

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