The Chimera Of Generational Fairness In Fiscal Policy

Although mainstream economics prides itself on being highly precise and mathematical, this is not apparent when looking at the discussion of fiscal policy. It is very easy to find appeals to intergenerational fairness when discussing fiscal policy. Such a term is essentially meaningless in technical terms; it is mainly used as a ploy to evoke images of doe-eyed grandchildren being robbed by nefarious politicians. This article explains why the concept is largely worthless as an analytical concept.

Fiscal Policy Discussions Back

Fiscal policy discussions are back in fashion, and I may have choose floating currency sovereign default risk as the topic for my next book (after the release of the breakeven inflation handbook).

I was out of commission with the flu this week, so I really did not keep up with the news flow. A lot was happening on the Fed outlook front, but I will not be in a position to comment until later. (This article is a bit of a placeholder status report; I prefer not to miss my Sunday article.)

Simple Inflation Breakeven Versus Economic Breakeven

In the analysis of inflation-linked bonds, we quite often refer to the inflation breakeven rate. The usual way of thinking about this is to say that this is the rate of inflation which results in the inflation-linked bond having the same return as a conventional bond. However, we technically need to have two definitions: the economic inflation breakeven, and the simple inflation breakeven. The simple inflation breakeven is just the spread between the inflation-linked bond and a similar maturity conventional (nominal) bond. Although there can be a wedge between the concepts, the simple inflation breakeven will tend to be close to the economic breakeven.

Why Lender-Of-Last-Resort Operations Are Inevitable

Lender-of-last-resort operations by central banks (or "bailouts of the financial system") are deservedly unpopular across the political spectrum. Malcontents have argued that risky lending ought to be handled by markets, and that deposits should be fully backed by reserves or Treasury bills. Unfortunately, the believers in these theories never bother to look at the economics of short-term lending. The money markets have the structure that they have for a reason, and they only will function if there is a lender-of-last-resort that is able to step in and prop the system up. Any attempts to make the system bailout proof would have far-reaching consequences into the structure of the economy.

Video: sfc_models Installation

A video that covers the initial installation steps (in Windows). It covers two installation techniques, and how to run Python scripts, for those new to Python.

Comment On sfc_models Development, Upcoming Reports

My work is now largely driven by my book publishing. Once I finish off the breakeven inflation analysis report, I might do a book of primers on fractional reserve banking. This would be a short book of blog articles that are largely repackaged as-is, with just some editorial cleanup (similar in concept to Abolish Money (From Economics)!). The next big project would likely be on business cycle analysis; the research for it would start relatively soon (and thus show up as blog articles). (However, I am looking to become more opportunistic for report topics. If there is an exciting crypto-Armageddon angle that pops up, I might go for that.)

The business cycle book is where I would start looking at extending the sfc_models package again. Although the book would be empirically-focused, I would want to build up a small suite of business cycle models to illustrate theoretical points. 

Installation Instructions For The Python sfc_models Package

The following text is an excerpt from An Introduction to SFC Models Using Python (Section 2.2). Although I obviously want to sell copies of my book, I want users to be able to use the package first for free. For an experienced Python programmer, the installation is very easy, as sfc_models is a vanilla Python package. However, many of my readers will not be familiar with Python, and would need some guidance in order to set it up.

I added in a file that describes the installation (at a high level) in the package, which users will hopefully see if they look at the GitHub repository. At some point, I would like to build up a free PDF that describes how to install and run examples. (Helping with documentation is one of the most pressing needs for outside help.)

Rising U.S. Breakeven Inflation - Mean Reversion Or Something Else?

There have been a great many attempts to pin the blame on the equity market correction on things other than the implosion of the short-volatility complex; inflation and fiscal policy being commonly-cited culprits. I do want to wander into equity analysis, but the move in breakeven inflation has been interesting. In particular, my approximation of forward inflation has gone back to its pre-2015 average relatively quickly.

As a disclaimer, this article was written before the highly-anticipated CPI release. I do not think the subsequent pricing changes will be enough to matter from the "big picture" perspective of this article.

Introduction To "Inflation Breakeven Analysis"

The great inflation of the 1970s in the developed countries provoked a strong political and economic reaction. Investors searched for ways to protect themselves from inflation. The United Kingdom launched the first modern inflation-linked bonds in 1981. In addition to being of interest to investors looking for protection against inflation, the market also provides a market-based measure of inflation expectations. Since investors have “skin in the game,” the resulting forecasts could be better than a purely survey-based inflation forecast. A more reliable inflation forecast could then be useful for policymakers that aim to control inflation.

This article is the unedited introduction to the upcoming report "Inflation Breakeven Analysis."

I Blame The Finance Profs

The equity market got smashed around today again, and commentators were busy trying to find the culprit: inflation, deficits, the Illuminati? As the article title indicates, I put finance academics as being the underlying cause of this problem. Once again, capital is being destroyed in size as a result of the side effects of their theories.

Primer: U.K. Index-Linked Gilts

Her Majesty's Treasury of the United Kingdom was one of the earliest modern issuers of inflation-linked bonds, with issuance starting in 1981. (There were earlier bonds that featured some form of indexation, but those were less systematic in design.) Unfortunately, the original design used is much harder to work with than the structure used by Canada ("Canadian model").

Inflation Swap Liquidity?

I have an open question to any of my readers in the fixed income markets: how liquid are the inflation swap markets nowadays? I did not want to pester my contacts about this. (I want to know whether it is worth sticking a section on inflation swaps in my book.)

Feel free to either comment, or send me an email via the "Contact Me" widget on the desktop version of the website. Let me know whether you want to to be attributed; my default is that I would not mention names. Thanks, in advance...

Primer: What Limits Bank Lending?

The unfortunate fact that bank deposits are considered money has one side effect: our mysticism about money extends towards banking. The apparent ability of banks to "create money out of thin air" seems unfair, and this leads to questions about what limits their ability to lend. The answer is a lot simpler than one might suspect. For any other business (with the possible exception of the resource industry), output is largely constrained by their ability to find customers that they can sell their product to. The business of banks is lending. By analogy, the ability to find customers that they can profitably lend to limits their growth.

Whither The Bond Bear Market?

Financial markets are in disarray, with the Treasury market sell off generally being blamed. From my perspective, such events are the time where relative value opportunities pop up, and so are welcome from a portfolio management point of view. If nothing is going on, there's no juice for outperformance. However, people who are not involved in fixed income portfolio management might be more worried about the effect on the economy. Although it is in my interest to tell everyone that the Treasury market is finally exciting, I think we need to keep events in perspective.