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Human Error or Animal Spirit? Hayek vs. Keynes

Human Error or Animal Spirit? Hayek vs. Keynes. October 2011. Financial Crises Become more Frequent US: Deviation from the Taylor Rule in 2001-2007 South East Asia: High growth of bank credit and asset market Japan: 10-year low interest rate Competing Theories

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Human Error or Animal Spirit? Hayek vs. Keynes

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  1. Human Error or Animal Spirit?Hayek vs. Keynes October 2011

  2. Financial Crises Become more Frequent • US: Deviation from the Taylor Rule in 2001-2007 • South East Asia: High growth of bank credit and asset market • Japan: 10-year low interest rate • Competing Theories • Hayek: Central bank’s manipulation of interest rate distorted intertemporal allocation of resources • the natural rate of interest parallel to Friedman’s natural rate of unemployment • Monetary authority may not push rate below the natural rate in the long run • Keynes: Private sector, irrational animal spirit • Monetary Policy is the Single most Important factor

  3. Deviation from the Taylor Rule Percentage Point Sources: The Federal Reserve, Deutche Bank

  4. 4.6 US Housing Price/Per Capita Disposable Income 4.4 4.2 4.0 3.8 3.6 3.4 3.2 3.0 2.8 2.6 2.4 2.2 Jun-1991 Jun-1995 Jun-1999 Jun-2003 Jun-2007 Jun-2011 Housing Bubble Created by …? Sources: CEIC

  5. % 9 40000 9 8 35000 8 7 7 30000 6 6 25000 5 5 20000 4 4 3 15000 3 2 10000 2 1 5000 1 0 0 0 Jul-1980 Jul-1984 Jul-1988 Jul-1992 Jul-1996 Jul-2000 Jul-2004 Jul-2008 Discount Rate（LHS） Nikkei（RHS） Japan: Whose Animal Spirit? Source: CEIC

  6. Rational Response to Low Interest Rate • High leverage of US households and financial institutions • Financial innovations sped up since 2001 • The Keynesian Theory Unsatisfactory • Where animal spirit comes from? Stock market crash in 1929. Why stock market crashed? Animal spirit • An inconsistency, why the government does not have animal spirit? • China: the Other Side of the Equation • Saved and invested too much before the crisis • Excess capacity absorbed by strong US demand fueled with easy credit • Subsidized exports and the “China Price” helped contain US inflation, which allowed the Fed to keep monetary policy loose

  7. 8 US Household Saving Rate，% 7 6 5 4 3 2 1 Jun-1987 Jun-1991 Jun-1995 Jun-1999 Jun-2003 Jun-2007 Jun-2011 Highly Leveraged Rationally Sources：CEIC

  8. Policy Failure • US QEs had little effect on bank lending & repair of balance sheet, Policies to support to housing prices prolonged market correction • China: Fiscal stimulus to add more excess capacity • China not to be the Savior this Time • Inflation worse than official numbers indicate • Debt crisis of Chinese version, more than 10,000 local government financing vehicles, total debt outstanding 25% of GDP, defaults reported • Inefficient government investment projects such as high speed train and solar power. Suspension and delay of investment due to difficulties in fund raising

  9. 14 YoY, % 12 10 8 6 4 2 0 -2 -4 -6 -8 -10 Jun-1996 Jun-1999 Jun-2002 Jun-2005 Jun-2008 Jun-2011 US Plenty of Money but No Credit Sources：CEIC

  10. 12 % 10 8 6 4 2 0 -2 -4 -6 Sep-1977 Sep-1982 Sep-1987 Sep-1992 Sep-1997 Sep-2002 Sep-2007 Loans Discount Rate Japan: Plenty of Money but No Credit Source: CEIC

  11. 70 YtD, % 60 50 40 30 20 10 0 Nov-2006 Nov-2007 Nov-2008 Nov-2009 Nov-2010 Manufacturing Infrastructure Real Estate Drink Poison to Quench Thirst Sources：CEIC

  12. The Way out: Bite the Bullets • US: Balance budget, increase savings, recapitalization of banks • China: Reform not reflate, deregulation, tax reduction

  13. Thank You! 译：游 校：赵

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