Thursday, January 26, 2012

The Eurozone crisis is slowly fading away

Eurozone swap spreads are still elevated, but they have come off their highs and as such are no longer signaling an imminent disaster. U.S. swap spreads have moderated substantially, having returned to the low 30s, well within the range that is considered "normal." The Eurozone banking system has avoided a meltdown, and banks' access to dollar liquidity (blue line in second chart above) continues to improve, suggesting further declines in euro swap spreads are likely. Meanwhile, from the perspective of U.S. markets, contagion risk has declined considerably.

If anything sums things up, it's this chart of the ratio of the Vix index (a measure of fear and uncertainty) to the 10-yr Treasury yield (a proxy for the economy's growth prospects). We are still far from optimum conditions, of course, but the worst of the panic and gloom-and-doom is a thing of the past. There is definitely light at the end of the tunnel.


Benjamin Cole said...

The Fed has an historic opportunity here to establish itself, and not federal deficits, as the engine of economic stimulation.

If Bernanke successfully moves to Market Monetarism, the remaining arguments for fiscal stimulus will wither, thus eliminating a huge burden on future generations, and bringing on lower tax rates.

The econo-shamans of the left and right are chanting verse about tight money and need for federal deficits--exactly the course that Japan has taken, an epic failure. Tight money does not work; federal deficits do not work.

Gold worship does not work.

Federal job-training or energy programs do not work.

The USDA does not work. The Defense Department is a huge parasite. Commerce and Labor should be shut down.

A balanced federal budget and a bullish Fed--a Fed that establishes growth targets--are the solution.

Adam Smith and Market Monetarism: The Path to Prosperity.

djakel said...

Benjamin--Please explain how targeting NGDP will create demand. It appears to me that the FED has attempted to do that with QE and it has failed. They are pushing on a string. Regulators are telling banks to lend, but only to those who have no chance of defaulting.

Wages are stagnant or declining and employment is barely rising. Health insurance cost is rising and tax policy is uncertain. Who, besides a few high growth companies, is going to hire in this environment?

Benjamin Cole said...


You ask a fair and tough question.

BTW, John Taylor gushed about the success of a QE program undertaken in Japan in the mid-2000s, please see here.
Go to year 2006 for his paper on Japan.

Taylor flatly stated QE was effective. Allan Meltzer, Milton Friedman and Ben Bernanke all told Japan to print more money (through QE).

Suffice to say you have a roll-call of right-wing heavyweights all saying QE can be effective, and indeed recommending it to Japan, or even pronouncing it a success.

In the USA, Bernanke needs to establish a regular, sustained program of QE in combination with growth nominal GDP targets.

Friedman was adamant that expansion in the money supply first leads to growth, and then (if overdone) to inflation. We want a ton of the first and some of the second.

The Fed just has to keep buying bonds until it sees result. You pump air into the tire until it fills up--not for just 10 seconds. It may take 15 seconds.

Bernanke quit QE to soon.

Japan has tried lower interest rates for 20 years. Alone, they do not work. They work in combo with sustained QE.

Public Library said...


Printing money doesn not icnrease the real production of an economy. It simply changes the prices and picks the winners and losers.

The problems are structural. Capital and priting presses are in abundance around the globe.

Public Library said...

Sorry for the spelling issues. Bloomberg keyboard is worse than typing on an iphone...