SNL on President Obama's China visit

Hat tip: Kid Dynamite.

Are Inflation Fears Overdone?

So say (separately) the editors of the Financial Times and New York Times columnist/Princeton economist Paul Krugman.

In an editorial yesterday ("US not in bondage") the FT editors wrote,

Shock, horror: US government bond rates are jumping. Soon, goes the story, long-term interest rates will leap, the Federal Reserve will monetise, inflation will soar and civilisation will end. Actually, no. What is happening is precisely the normalisation the Fed has sought. The government is not off the fiscal hook. But it does have at least some time.

[...]

What has happened, quite simply, is normalisation of inflation expectations

[...]

Does this mean nobody needs to worry? Certainly not. Desirable normalisation could yet become a panic over the massive prospective bond issuance. Now that the worst of the panic has passed, the administration and Congress need to agree a credible plan for elimination of the huge structural fiscal deficits. As the Congressional Budget Office’s forecasts demonstrate, President Barack Obama’s budget proposal is not such a plan: it leaves deficits of between 4 and 6 per cent of gross domestic product as far as the eye can see. This will need to change soon. But, right now, everybody needs to keep calm. Normalisation is a big success, not a danger.

In his New York Times column yesterday ("The Big Inflation Scare"), Dr. Krugman made a similar point: Inflation isn't a near-term concern, but we do

[H]ave a long-run budget problem, and we need to start laying the groundwork for a long-run solution.

Krugman also brought up the example of Japan, which has borrowed massively in recent years without driving up its interest rates or inflation. What many Americans fear -- our country losing its triple-A credit rating and having its government debt exceed 100% of its GDP -- has already happened in Japan (The CIA World Factbook says Japan's public debt exceeds 170% of its GDP). And yet, Japan's borrowing costs are significantly lower than ours. For example, according to Bloomberg, the current yield on 10-year U.S. Treasuries is 3.46%, versus 1.49% on the 10-year Japanese government bond.

I've wondered for some time about why Japan has so much lower borrowing costs than the U.S., despite having a lower sovereign debt rating and a much higher ratio of debt to GDP, but I haven't heard a convincing explanation yet. When I asked The Atlantic's Megan McCardle about this, she said the answer was Japan's Postal Savings System, but according to Wikipedia, prior to the beginning of its privatization in 2007, that system only held about 20% of Japan's government debt. Perhaps someone will leave a more convincing answer in the comment thread below.

John Mauldin's Latest

A few excerpts from this week's Thoughts from the Frontline newsletter, "Faith Based Economics":

On America's Fiscal Challenges:

The following headline caught my eye: "Obama Says US Long-Term Debt Load is 'Unsustainable.'" Yet they announced a $1.8 trillion deficit, which is really going to be at least $2 trillion, and are getting ready to pass health-care programs that will mean at least a trillion in deficits for as long as one can project.

How will they pay for it? Even getting rid of the Bush tax cuts will only produce a few hundred billion a year, which is nowhere near enough. They project much lower medical costs in the future, because they assume they are going to figure out ways to cut costs and make medical care more efficient¹. As if no one has ever tried that.

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You cannot propose massive increases in spending without either creating crushing debt that the markets will simply not allow, pushing interest rates much higher and really slowing growth and hurting the economy. It is a simple fact that you cannot increase the debt-to-GDP ratio without limit.

We found the limit on personal and corporate debt this past year. We pushed the limits until the system crashed. And now the US government wants to basically do the same thing. They are planning to see where the limits on government debt-to-GDP will be. Unless cooler and more rational heads in the Democratic Party prevail, this is not going to be pretty. Sometime in the middle of the next decade we will hit the wall, and it will make the current crisis pale in comparison.

The only way to solve the problem is to grow GDP more rapidly than debt, and for that to happen you have to have policies which are shaped for the growth of the economy or massive savings by consumers. And right now we have neither. Cap and trade is hugely anti-growth. So are high corporate taxes, and Obama is proposing to effectively raise corporate taxes by closing loopholes for income earned outside the US. Much better would be to lower the overall corporate level to a competitive world rate and then require the offshore income to be taxed.

Some Potential Good News about Health Care:

This week I visited the Cleveland Clinic and went through their Executive Health Program (more on that below). I got to visit for several hours with my doctor, Michael Roizen, of YOU: The Owner's Manual fame (not to mention all his subsequent books). They have now sold over 20 million copies, and I highly recommend them.

I have long been a student of medical trends, and long-time readers know that I think the next really big boom will be in the biotech world. I asked Mike what three things he thought would have the biggest impact in the next five years in medicine. What he said gave me hope, because he thinks there may be some advances in medicine that could help solve some of the basic health issues we all face, and at the same time give us some relief from the high and rising costs of medical care. I was aware of most of the research, but did not know that we were as close as it appears we actually are.

Briefly, he feels there are three developments in late-stage trials that could have major impacts. The first is the development of sirtuin, which so far seems to be delaying the effects of diabetes but also seems to work for a host of diseases that are inflammatory in nature (including many heart-related issues). It essentially delays the symptoms for 30-40 years. While the current trials are for very specific diseases, he thinks sirtuin will have a wide applicability and that it could be huge, as inflammation is the cause of a number of diseases. This could prolong useful life and forestall a number of debilitating conditions.

Second, there is a late-stage-three trial due out soon that promises to increase muscle mass. I have been reading about such developments, but was not aware that something might be available within a few years. This promises to help people stay active a lot longer than currently possible, which will be a good thing if we are going to live longer.

And finally, there is a study and trial which shows that DHA may delay the onset of Alzheimer's disease, which eats up a significant portion of US medical budgets.

It would be a sad irony if pending universal health care legislation leads to price controls which dry up the funding for these potentially cost-saving advances.

¹Megan McArdle had a good post on this on her Atlantic blog earlier this week, "Medicare is going to bankrupt us, which is why we need universal health care". Excerpt:

Perhaps predictibly, someone showed up in the comments to my post on Medicare and Social Security to argue that liberal analysts have very serious plans to cut Medicare's costs, which is why we need universal coverage, so that we can implement those very serious plans.

I hear this argument quite often, and it's gibberish in a prom dress. Any cost savings you want to wring out of Medicare can be wrung out of Medicare right now: the program is large and powerful enough, and costly enough, that they are worth doing without adding a single new person to the mix. Conversely, if there is some political or institutional barrier which is preventing you from controlling Medicare cost inflation, than that barrier probably is not going away merely because the program covers more people.

John Mauldin, Best-Selling author and recognized financial
expert, is also editor of the free Thoughts From the Frontline
that goes to over 1 million readers each week. For more
information on John or his FREE weekly economic letter
go to: http://www.frontlinethoughts.com/learnmore

The Latest Warning from China about the U.S. Dollar and Debt

From an op/ed column by Professor Yu Qiao of the School of Public Policy and Management, Tsinghua University, Beijing, in the Financial Times this week ("Asia is the victim if the bond bubble bursts"):

Most of Mr Obama’s stimulus spending is devoted to social programmes rather than growth promotion, which may exacerbate America’s over-consumption problem and delay sustainable recovery. On top of this, the unprecedented fiscal stimulus, with the Federal Reserve’s move to inject money into credit markets, contains self-destructive seeds. The US risks ending the dollar’s role as the reserve currency, especially considering there is already $10,000bn (€7,535bn, £7,009bn) in US Treasury debt, and much more in liabilities from the costs of social security, healthcare and financial institution bail-outs.

The provision of stable, reliable and viable dollars may be subordinated to short-term US interests, posing a risk to global monetary stability. In the long term, America may seek to resolve its economic mess by devaluing the dollar at best and a default at worst. This is depicted in a Chinese proverb: “Drinking poisonous liquid to quench thirst”.

Professor Yu proposes an interesting alternative in his op/ed: essentially, for China and other Asian holders of our debt to work with the U.S. government to convert some of these holdings into preferred minority stakes in equities and infrastructure projects, since "equity claims on sound corporations and infrastructure projects are at less risk from a currency default".