Complacency Will Be Tested in 2018

December 15, 2015

Complacency Will Be Tested in 2018

by Stephen S. Roach@

Despite seemingly robust indicators, the world economy may not be nearly as resilient to shocks and systemic challenges as the consensus view seems to believe. In particular, the absence of a classic vigorous rebound from the Great Recession means that the global economy never recouped the growth lost in the worst downturn of modern times.

Image result for Complacency will be tested in 2018

“World GDP growth is viewed as increasingly strong, synchronous, and inflation-free. Exuberant financial markets could hardly ask for more.I suspect that today’s consensus of complacency will be seriously tested in 2018”.–Stephen S. Roach

NEW HAVEN – After years of post-crisis despair, the broad consensus of forecasters is now quite upbeat about prospects for the global economy in 2018. World GDP growth is viewed as increasingly strong, synchronous, and inflation-free. Exuberant financial markets could hardly ask for more.

While I have great respect for the forecasting community and the collective wisdom of financial markets, I suspect that today’s consensus of complacency will be seriously tested in 2018. The test might come from a shock – especially in view of the rising risk of a hot war (with North Korea) or a trade war (between the US and China) or a collapsing asset bubble (think Bitcoin). But I have a hunch it will turn out to be something far more systemic.

The world is set up for the unwinding of three mega-trends: unconventional monetary policy, the real economy’s dependence on assets, and a potentially destabilizing global saving arbitrage. At risk are the very fundamentals that underpin current optimism. One or more of these pillars of complacency will, I suspect, crumble in 2018.

Unfortunately, the die has long been cast for this moment of reckoning. Afflicted by a profound sense of amnesia, central banks have repeated the same mistake they made in the pre-crisis froth of 2003-2007 – over staying excessively accommodative monetary policies. Misguided by inflation targeting in an inflationless world, monetary authorities have deferred policy normalization for far too long.

That now appears to be changing, but only grudgingly. If anything, central bankers are signaling that the coming normalization may even be more glacial than that of the mid-2000s. After all, with inflation still undershooting, goes the argument, what’s the rush?

Alas, there is an important twist today that wasn’t in play back then –central banks’ swollen balance sheets. From 2008 to 2017, the combined asset holdings of central banks in the major advanced economies (the United States, the eurozone, and Japan) expanded by $8.3 trillion, according to the Bank for International Settlements. With nominal GDP in these same economies increasing by just $2.1 trillion over the same period, the remaining $6.2 trillion of excess liquidity has distorted asset prices around the world.

Therein lies the crux of the problem. Real economies have been artificially propped up by these distorted asset prices, and glacial normalization will only prolong this dependency. Yet when central banks’ balance sheets finally start to shrink, asset-dependent economies will once again be in peril. And the risks are likely to be far more serious today than a decade ago, owing not only to the overhang of swollen central bank balance sheets, but also to the overvaluation of assets.

Image result for Complacency will be tested in 2018

Will the Republican Tax Plan work?

That is particularly true in the United States. According to Nobel laureate economist Robert J. Shiller, the cyclically adjusted price-earnings (CAPE) ratio of 31.3 is currently about 15% higher than it was in mid-2007, on the brink of the subprime crisis. In fact, the CAPE ratio has been higher than it is today only twice in its 135-plus year history – in 1929 and in 2000. Those are not comforting precedents.

As was evident in both 2000 and 2008, it doesn’t take much for overvalued asset markets to fall sharply. That’s where the third mega-trend could come into play – a wrenching adjustment in the global saving mix. In this case, it’s all about China and the US – the polar extremes of the world’s saving distribution.

China is now in a mode of saving absorption; its domestic saving rate has declined from a peak of 52% in 2010 to 46% in 2016, and appears headed to 42%, or lower, over the next five years. Chinese surplus saving is increasingly being directed inward to support emerging middle-class consumers – making less available to fund needy deficit savers elsewhere in the world.

By contrast, the US, the world’s neediest deficit country, with a domestic saving rate of just 17%, is opting for a fiscal stimulus. That will push total national saving even lower – notwithstanding the vacuous self-funding assurances of supply-siders. As shock absorbers, overvalued financial markets are likely to be squeezed by the arbitrage between the world’s largest surplus and deficit savers. And asset-dependent real economies won’t be too far behind.

In this context, it’s important to stress that the world economy may not be nearly as resilient as the consensus seems to believe – raising questions about whether it can withstand the challenges coming in 2018. IMF forecasts are typically a good proxy for the global consensus. The latest IMF projection looks encouraging on the surface – anticipating 3.7% global GDP growth over the 2017-18 period, an acceleration of 0.4 percentage points from the anemic 3.3% pace of the past two years.

However, it is a stretch to call this a vigorous global growth outcome. Not only is it little different from the post-1965 trend of 3.8% growth, but the expected gains over 2017-2018 follow an exceptionally weak recovery in the aftermath of the Great Recession. This takes on added significance for a global economy that slowed to just 1.4% average growth in 2008-2009 – an unprecedented shortfall from its longer-term trend.

Image result for Stephen S. Roach

Trumpian Economics

The absence of a classic vigorous rebound means the global economy never recouped the growth lost in the worst downturn of modern times. Historically, such V-shaped recoveries have served the useful purpose of absorbing excess slack and providing a cushion to withstand the inevitable shocks that always seem to buffet the global economy. The absence of such a cushion highlights lingering vulnerability, rather than signaling newfound resilience – not exactly the rosy scenario embraced by today’s smug consensus.

A quote often attributed to the Nobel laureate physicist Niels Bohr says it best: “Prediction is very difficult, especially if it’s about the future.” The outlook for 2018 is far from certain. But with tectonic shifts looming in the global macroeconomic landscape, this is no time for complacency.

*Stephen S. Roach, former Chairman of Morgan Stanley Asia and the firm’s chief economist, is a senior fellow at Yale University’s Jackson Institute of Global Affairs and a senior lecturer at Yale’s School of Management. He is the author of Unbalanced: The Codependency of America and China.


Picture a Khazanah Nasional Berhad without Azman Mokhtar

December 8, 2017

Picture a Khazanah Nasional Berhad without the character,integrity and steady hand of Azman Mohktar

by P. Gunasegaram

A QUESTION OF BUSINESS | Some one and half years before Azman Mokhtar steps down after a 15-year stint as managing director of Khazanah Nasional Bhd, the government’s wholly-owned strategic investment fund, it looks like the daggers are drawn to poke holes in what is by and large an impressive achievement.

Image result for Azman Mokhtar

Unlike the other so-called strategic investment fund, the notorious 1MDB, which has already lost the country almost all the long-term money it borrowed with US$7 billion (some RM28 billion) unaccounted for, Khazanah has been transformed since 2004 into a solid entity which has strong controls, procedures, a chain of accountability, and a team of competent professionals managing over RM145 billion in investments.

It is not only extremely ironic but the height of ridiculousness that among the names being considered as Azman’s replacement is Arul Kanda Kandasamy, the chief executive of 1MDB since January 2015, who has done nothing to clarify the sad state of affairs at 1MDB or even to ensure the release of its long overdue annual report.

Image result for Azman Mokhtar

Tengku Zafrul, 1MDB’s Arul Kanda Kandasamy –for Khazanah Nasional?

His appointment would make a mockery of Khazanah’s much stronger governance, good board representation, greater accountability, more transparency and much better performance than 1MDB which may be too much to make even for Prime Minister Najib Razak, who if he survives the elections, will make the final decision.

The major salvo against Khazanah, as with one or two other puzzling stories (see for instance, “Spinning 1MDB’s lopsided settlement”), came from across the Causeway from the Singapore Straits Times which made an unfair and ultimately wrong assessment of Khazanah’s performance over the years since 2004.

In a report titled “Khazanah feels the heat amid push to change its investment strategy”, the newspaper said: “Malaysia’s sovereign wealth fund Khazanah Nasional is under pressure to show higher returns to boost government coffers, with senior state officials lobbying for changes to its management and investment strategy.”

Then it went on to add: “The bulk of the government’s direct business investments is managed by Khazanah, which has returned an average of just RM825 million (S$270 million) in dividends annually over the past four years, from its RM145 billion worth of assets. This amounts to a less than 1 percent return a year between 2013 and last year.

“The Straits Times understands that there is a push by some within the Prime Minister Najib Razak’s vast circle of advisers to change Khazanah’s investment strategy, especially since the fund’s Managing Director, Tan Sri Azman Mokhtar, is due to leave in mid-2019, after a 15-year run at the helm.”

The best way to report a fund’s performance is its total return – this is accepted as the de facto measure of fund performance in investment analysis. This includes realised as well as unrealised gains on investments plus dividends. Khazanah calls this the net worth adjusted (NWA) value.

The other performance measure it uses is the realisable asset value (RAV), which is essentially the market value of all its investments. When you subtract the liabilities, mainly borrowings, from RAV, and make adjustments to account for dividends as well as realised investment gains through sales of investments, you obtain the NWA value.

Now, anyone who has the slightest knowledge of fund management should know that dividends alone is not the way to measure a fund’s return. You have to take into account the increase in the value of investments that it owns and gains from investments sold. And why choose just the period from 2013 to 2016? A fund is best assessed over a longer period.

Misleading analysis

The best way to report a fund’s performance is its total return – this is accepted as the de facto measure of fund performance in investment analysis. This includes realised as well as unrealised gains on investments plus dividends. Khazanah calls this the net worth adjusted (NWA) value.

The other performance measure it uses is the realisable asset value (RAV), which is essentially the market value of all its investments. When you subtract the liabilities, mainly borrowings, from RAV, and make adjustments to account for dividends as well as realised investment gains through sales of investments, you obtain the NWA value.

The Singapore Straits Times report pointed out that the NWA value actually declined eight percent over the last two years, but failed to point out that such fluctuations are normal and happen because of market and currency fluctuations amongst others.

Unlike many other sovereign wealth funds, Khazanah has many large core holdings such as Tenaga Nasional, Telekom Malaysia, Axiata, CIMB, IHH Healthcare, etc, which it holds through good and bad times and when the market rises or falls. Market volatility plays havoc with NWA.

In 2008 for instance, in the aftermath of the world financial crisis, its NWA value tanked nearly 50% as markets collapsed but recovered by 68% and 39% respectively in the following two years, 2009 and 2010, as markets recovered. It would be wrong to think that Khazanah did badly in 2008 and well in 2009 and 2010 – the events that led to the fall and rise were beyond its control.

To prevent that kind of misleading analysis, it is common to compare fund performance over a period of time and against a set benchmark – for Khazanah that benchmark, because most of its holdings are Malaysian, would be the Kuala Lumpur stock market which is measured by the FBM KLCI index.

As Khazanah pointed out in its retort to the Singapore Straits Times report, its NWA value increased annually by 9.3% on a compounded basis between 2004 and 2016 which is very much in line with the FBM KLCI index growth of 9.4% over the same period. During the period the NWA value of its investments rose over two times to RM102.1 billion from RM33.3 billion, creating value of RM68.9 billion. In contrast, 1MDB destroyed nearly half of the value Khazanah created over 12 years in less than a handful of years.

That 9.3% annual compounded growth of NWA over 2004-2016 – the best measure of Khazanah’s performance – was mentioned towards the end of the Singapore Straits Times article. And even then, the article mentioned it was lower than the performance of the broad market without actually giving the 9.4% figure.

This figure is pretty alright considering that many of Khazanah’s investments have long gestation periods such as the Iskandar corridor development and others may be historically making losses, for example, Proton, Malaysia Airlines and Silterra.

Erroneous comparison

Further, the article makes an erroneous comparison between Khazanah and the Employees Provident Fund.

It said: “The fund performs poorly when compared with the country’s Employees Provident Fund (EPF), which all private workers and employers must contribute to. Since Mr Azman took over Khazanah in 2004, it has returned a total of RM9 billion in dividends, which works out to an average annual return of below 1 percent of the fund size. Meanwhile, the EPF has added more than 5 percent annually to its members’ retirement savings.”

The EPF has a major part of its investments invested in government bonds, much of which give fixed returns over 4% per year. It supplements this by booking in realised profits from its equity trading and other businesses – it has no strategic holdings. Thus it can return close to 5% in dividends but the value of its funds don’t increase as much, if you take out increased contributions from members. The correct comparison should be between the 9.3% annual return and the EPF dividend rate of 5% plus any unrealised gains.

Also, the article makes a comparison, again erroneous, comparing pre-tax profit as a percentage of total asset size with other funds. It said: “Khazanah’s profit before tax – not including unrealised capital gains – also lags behind those of its peers, such as Singapore’s Temasek Holdings, China Investment Corporation (CIC), Alaska Permanent Fund Corporation (APFC) and the world’s largest sovereign fund, Norway’s Government Pension Fund Global (GPFG).”

But the key phrase there is “not including unrealised capital gains” – as a strategic investment fund, it holds stakes in sizeable companies that it does not sell off. The others play no such role and are free to take profits from their investments as and when they see fit.

Overall, the Singapore Straits Times article is rather unbalanced and lopsided, and looks very much like it was planted there via the provision of selective information by those who want to smear Khazanah’s name and have their own agendas in terms of lobbying for some people to take over when Azman’s term ends.

That article has been picked up and quoted widely among the press in Malaysia, both online and print, and has had its intended effect by those who may have planted it there. It is however lamentable that a respected publication in terms of reporting regional affairs has been so used.

Meantime, one hopes the powers-that-be don’t try to fix what isn’t broken and continue to give support for Khazanah to operate conservatively and competently with proper checks, balances and accountability, unlike what has happened at 1MDB.

To do anything otherwise is to rain down more suspicion and lack of confidence on a country already beleaguered by a plethora of governance ills and all that comes with it such as market and currency weakness. We simply can’t afford another fund debacle.


Why 1997 Asian Crisis Lessons Lost

December 7, 2017

Why 1997 Asian Crisis Lessons Lost

by Jomo Kwame Sundaran

Image result for jomo kwame sundaram

Various different, and sometimes contradictory lessons have been drawn from the 1997-1998 East Asian crises. Rapid or V-shaped recoveries and renewed growth in most developing countries in the new century also served to postpone the urgency of far-reaching reforms. The crises’ complex ideological, political and policy implications have also made it difficult to draw lessons from the crises.

Conventional wisdom

The conventional wisdom was to blame the crisis on bad economic policies pursued by the governments concerned. Of course, the vested interests favouring the international financial status quo or further liberalization also impede implementing needed reforms. Such interests continue to be supported by the media.

Citing currency crisis theory, the initial response to the crises was to blame poor macroeconomic, especially fiscal policies, although most East Asian economies had been maintaining budgetary surpluses for some years. Nevertheless, the IMF and others, including the international business media, urged spending cuts and other pro-cyclical policies (e.g., raising interest rates) which worsened the downturns.

Such policies were adopted in much of the region from late 1997, precipitating sharper economic collapses. By the second quarter of 1998, however, it was increasingly recognized that these policies had worsened, rather than reversed the economic deterioration, transforming currency and financial crises into crises of the real economy.

By early 1998, however, as macroeconomic orthodoxy lost credibility, the blame shifted to political economy, condemning ‘cronyism’ as the cause. US Federal Reserve Bank chair Alan Greenspan, US Treasury Deputy Secretary Lawrence Summers and IMF Managing Director Michel Camdessus formed a chorus criticizing Asian corporate governance in quick sequence over a month from late January.

Image result for Stiglitz, Sachs and Krugman

Paul Krugman, Joseph Stiglitz and Jeffery Sachs supported Keynesian counter-cyclical policies.

The dubious conventional explanations of the Asian crises were not shared by more independently minded mainstream economists with less ideological prejudices. The World Bank’s chief economist Joseph Stiglitz and other prominent Western economists such as Paul Krugman and Jeffrey Sachs supported Keynesian counter-cyclical policies.

Regional contagion and response

The transformation of the region’s financial systems from the late 1980s had made their economies much more vulnerable and fragile. Rapid economic growth and financial liberalization attracted massive, but easily reversible, footloose capital inflows.

New regulations encouraged short-term lending, typically ‘rolled over’ in good times. Much of these came from Japanese and continental European banks as UK and US banks continued to recover from the 1980s’ sovereign debt crises. But these gradual inflows suddenly became massive outflows when the crisis began.

Significant inflows were also attracted by stock market and other asset price bubbles. The herd behaviour characteristic of capital markets exacerbated pro-cyclical market behaviour, heightening panic during downturns. Fickle market behaviour also exacerbated contagion, worsening regional neighbourhood effects.

Japan’s offer of US$100 billion to manage the crisis in the third quarter of 1997 was quickly stymied by the US and the IMF. Instead, a more modest amount was made available under the Miyazawa Plan to finance more modest facilities, institutions and instruments.

Image result for ASEAN Chengmai Initiative

Much later, in Chiang Mai, Thailand, the region’s Finance Ministers approved a series of bilateral credit lines or swap facilities, conditional on IMF approval. Many years later, the finance ministers of Japan, China and South Korea ensured that these arrangements were regionalized, and no longer simply the aggregation of bilateral commitments, while increasing the size of the credit facility.

New International Financial Architecture

A year after the crisis began in July 1997, US President Bill Clinton called for a new international financial architecture. The apparent spread of the Asian crisis to Brazil and Russia underscored that contagion could be more than regional.

The collapse of Long-Term Capital Management (LTCM) following the Russian crisis led the US Federal Reserve to intervene in the market to coordinate a private sector bailout. This legitimized government interventions to ensure functioning financial systems and sufficient liquidity to finance economic recovery.

After the US Fed lowered interest rates, capital flowed to East Asia once again. The Malaysian government’s establishment of bailout institutions and mechanisms in mid-1998 and its capital controls on outflows from September 1998 also warned that other countries might go their own way.

Ironically, the economic recoveries in the region from late 1998 weakened the resolve to reform the international financial system. Talk of a new international financial architecture began to fade as recovery was presented as proof of international financial system resilience.

Janet Yellen Was a Master of Thinking in Public. What About Jay Powell?

November 5, 2017

Janet Yellen Was a Master of Thinking in Public. What About Jay Powell?

by Adam Davidson

Jay Powell, Trump’s nominee for Federal Reserve chair, is praised as a safe, consensus choice, but no one can be entirely sure what he is thinking. Photograph by T.J. Kirkpatrick / Bloomberg via Getty

Much of the time, the Federal Reserve operates a bit like a commercial pilot on a long, routine flight over the Pacific. The plane’s navigational system is taking care of nearly all the decisions, and the pilot is just there in case things go haywire. The central role of the Fed’s chair, governors, and regional presidents is to meet roughly every six weeks to decide on the Fed funds rate. Technically, that rate is the amount banks charge one another for overnight loans; metaphorically, however, it’s the central drumbeat of the economy. (Or should it be “the thrust of the airplane’s engines”? Too many metaphors.) The Fed funds rate ripples throughout our financial system and, in ways that are still not fully understood, helps determine inflation, unemployment, and, from time to time, the very structural soundness of the global economy.

On Thursday, President Trump nominated Jerome (Jay) Powell as the next chair of the Federal Reserve. By near-universal agreement, he’s a safe choice. For five years, he has been one of the little-known gray men at those regular meetings, always voting with the usually unanimous majority, never expressing dissent or an independent view. Journalists and Fed watchers have scoured his background and found virtually nothing to suggest a monetary Powell doctrine—some take on the world that would tell us how he might handle, say, a financial crisis or a sudden recession with a President screaming for the Fed to act. Bloomberg carefully studies each member of the Fed’s Open Market Committee (the body that determines that crucial rate), and has rated Powell as precisely “neutral,” meaning he is neither a “dove” (someone generally supportive of lower rates to increase employment) or a “hawk” (someone who is more worried about inflation and wants to use faster-rising rates to slow the economy down). The assumption is that he will continue the policies of the recent past, which is to say that he will encourage the Fed to very slowly, very carefully increase the Fed funds rate.

Our ignorance about Powell is partly because he is not an economist, so there is no trail of academic papers in which he has carefully laid out his views. Powell, who is sixty-four, is a lawyer. Early in his legal career, he represented banks; in the mid-eighties, he was hired by one, eventually becoming a vice-president of the investment bank Dillon, Read. Aside from a short stint in George H. W. Bush’s Treasury Department, he spent most of his career at huge global investment firms, including the Carlyle Group and a firm that he founded, Severn Capital Partners. He has made few public statements; those he has made are obscure even by Fed standards. This summer, for example, he said that he would have expected more inflation right now, given that the economy has been growing healthily and unemployment has fallen. He said that the lack of inflation is “kind of a mystery,” and offered no additional insight. The interplay between Federal Reserve policy and inflation is a central question of macroeconomics, and so it is crucial to understand how a Fed chair thinks through this question. By comparison, Janet Yellen, the outgoing chair, has recently also expressed surprise at the unusually low level of inflation, but she hardly left it there. She walked through several possible reasons for it, including global technological change (she pointed to online shopping, which encourages price cuts, as one potential cause), and lower-than-expected increases in medical prices. She additionally explained how continued surprises might influence her decisions about Fed policy. Yellen was candid and clear, so that anyone—or at least anyone who understands central bankers—could grasp what she is thinking, and how her thinking might change if the facts change.

Image result for janet yellen

Dr. Janet Yellen is a master at thinking in public—continually sharing what she is doing, why she is doing it, and what she might do in the future. This was essential to the Fed’s role in stabilizing the global economy during its greatest modern crisis.–Adam Davidson

Like her predecessor, Ben Bernanke, Yellen is a master at thinking in public—continually sharing what she is doing, why she is doing it, and what she might do in the future. This was essential to the Fed’s role in stabilizing the global economy during its greatest modern crisis. It’s an odd feature of our modern economy that it requires the entire financial world to trust in a handful of monetary-policy wizards who meet in secret every six weeks or so. But it is true. The Fed funds rate is the platform upon which the global economy is built, and was tested so profoundly that Bernanke and Yellen (who served as vice-chair before her promotion) had to invent new suites of macroeconomic tools. If they hadn’t built such trust through decades of rigorous academic work and open communication while at the Fed, their experiments would surely not have been so successful.

If the economy continues as it has for the past three years or so—slowly, steadily growing, with minimal inflation or turmoil—there should be little reason to worry about Powell. A middle-of-the-road man of consensus will be able to guide the Fed well. Powell is a relief for those worried that Trump—who has made it quite clear how little he knows or cares about monetary policy—might put in place a fringe ideologue or a man like Arthur Burns, who, as the Fed chair, succumbed to President Nixon’s desire to goose the economy through lower rates right before the 1972 election, even if it increased the likelihood of long-term inflation.

Image result for The Fed Reserve

If, however, there is severe economic turbulence—a rougher-than-usual recession or a financial crisis that erupts, suddenly, somewhere else on the globe—the fact that few people know how Powell thinks will be a real problem. Hopefully, he will take after his predecessors and begin to tell us about himself. We need to know who you are, Mr. Powell—it’s possible our economy will depend on it.

  • Adam Davidson is a staff writer at The New Yorker


On Republican Tax Bill

November 4, 2017

The Donald Trumps Stand to Gain Millions from the Republican Tax Bill


Watching Paul Ryan and his Republican colleagues struggling to finish writing their long-awaited tax bill over the past few weeks brought to mind an adage attributed to Al Smith, the street-schooled New York politician who served four terms as governor, during the nineteen-twenties: someone is going to be cheated; the question is who. The Republicans—having committed to huge tax cuts for corporations, unincorporated businesses, and very large estates, while also pledging to help out middle-class households—were in a bind. According to some reports, they were trying to fit five trillion dollars’ worth of tax cuts into the $1.5 trillion allotment they had pencilled into their budget for 2018.

You don’t need to have gone beyond eighth grade, which is where Smith completed his formal education, to know that this was a tricky task. The size of the math problem helps explain why the bill unveiled on Friday morning by Ryan, the House Speaker, and Kevin Brady, the chairman of the House Ways and Means Committee, was so long (three hundred and thirty-six pages), complicated, and filled with the kind of accounting that would have fit in at Enron. But, despite its complexity, the basic thrust of the bill is straightforward: the Donald Trumps of the world get caviar; the ordinary person gets peanuts; and future taxpayers, who will bear the burden of all the new debt issuance necessary to finance the package, get shafted.

In announcing their bill, both Ryan and Brady claimed that a typical middle-class family, with two kids and about fifty thousand dollars in earnings, stood to save close to twelve hundred dollars in taxes. (To be precise: $1,182.) “This plan is for middle-class families who are living paycheck to paycheck,” Ryan said. The owner of a small business that makes sixty-two thousand dollars a year would save more than three thousand dollars, Ryan added.

Image result for Donald Trump the Tax Reformer

Donald Trump–The Tax Reformer–Making America’s Rich richer while the ordinary person gets peanuts; and future taxpayers get shafted.

Figures like these demand close scrutiny. In reducing marginal tax rates, doubling the standard deduction, and expanding tax credits for children and other dependents, the bill would benefit many middle-class households. But abolishing personal exemptions could hurt middle-class families who have a lot of children. As could eliminating the deductions for state and local taxes, health-care expenditures, and student-loan interest.

The treatment of state and local taxes, and the new limits the bill would place on mortgage-interest deductions, appear to be targeted at households in blue states, such as New York and California, which have high taxes and expensive real estate. No surprise there: it’s partisan politics. Other aspects of the bill would affect households everywhere. Unlike the tax cuts for corporations and other businesses, the tax cuts for families are temporary: after five years, they expire.

Without taking factors such as these into account, it is hard to reach any firm conclusions about what the bill means for middle-class families. (In the coming days, various tax experts will make some assumptions and produce over-all distribution tables.) But, in gauging how the legislation would affect corporations and very wealthy people, we can be definitive: they will benefit hugely. Despite the fact that the bill keeps the top rate of income tax at 39.6 per cent, it represents a big giveaway to the rich, particularly the very rich.

How so? The measure shifts the burden of taxation in the U.S. from corporations, which are largely run and owned by rich people, to households. It cuts the top rate on “pass through” business income—the sort of money generated by sole proprietorships, investment partnerships, and S-corporations—from 39.6 per cent to twenty-five per cent. And it phases out the estate tax, which falls most heavily on the largest estates, starting in 2024. Indeed, according to an analysis by the Committee for a Responsible Federal Budget, fully three-quarters of the over-all tax cuts in the bill are directed at businesses and large estates.

But that’s not all. The bill also repeals the alternative minimum tax, which was designed to ensnare rich people with clever accountants and a lot of sheltered income. In doing so, the bill creates enormous incentives for engaging in tax-evasion schemes, particularly the conversion of highly paid employees into unincorporated businesses.

To understand how all this could work in practice, it might be helpful to consider the case of a single very rich taxpayer (or non-taxpayer): Donald Trump himself. As I noted back in September, when the central proposals of the G.O.P. plan were already public, Trump stood to benefit in three different ways; that analysis has now been confirmed.

First, consider the abolition of the A.M.T. According to Trump’s 2005 tax return, parts of which were leaked earlier this year, he paid $38.4 million in federal taxes on income of $152.7 million, which means that his effective tax rate was about twenty-five per cent. But $31.3 million of his payment went to cover his A.M.T. liability. If there hadn’t been an A.M.T., he would have paid just $7.1 million, or about five per cent of his taxable income. To look at it another way, if this tax bill had already been in effect, Trump would have seen his tax bill reduced by more than eighty per cent.

Because Trump owns hundreds of unincorporated businesses, he also stands to be a big beneficiary of the new flat rate on pass-through income. In his 2005 tax return, he declared $67.4 million in income from “rental real estate, royalties, partnerships, S corporations, trusts, etc.” Since pass-through income is currently taxed like salary income, income of this sort would theoretically be subject to the 39.6-per-cent top rate. In actual fact, Trump offset much of this income by itemizing a huge, unexplained loss that was probably carried over from the early nineteen-nineties. But when those carryovers eventually run out, as they probably have by now, Trump will have a great deal of pass-through income to pay tax on. Thanks to the Republican bill, he’d pay a rate of just twenty-five per cent.

Finally, there is the abolition of the estate tax. To be sure, Trump may have already taken precautions to avoid the estate tax, by, for example, setting up specialized family trusts. But if he lived another ten years and then left his heirs, say, two billion dollars of unsheltered assets, then, under the current system, they would face a federal tax bill of eight hundred million dollars. Under the Republican bill, that liability would disappear.

The tax affairs of very rich people are all differently arranged, of course. But in some ways Trump’s finances are fairly typical. He earns most of his income from businesses. He already exploits the tax system to the max. And he has benefitted enormously from the great asset-price boom of the past twenty years. On Thursday afternoon, he said the Republicans were giving the American people a “big, beautiful Christmas present.” For some reason, he didn’t explain that the biggest presents, by far, would be handed out to people like him.

Trump’s Federal Reserve Nominee Chairman–Jerome Powell

November 3, 2017

Image result for Federal Reserve

Trump’s Federal Reserve Nominee Chairman–Jerome Powell

by Kenneth Rogoff*

Jerome Powell, US President Donald Trump’s pick to succeed Janet Yellen as Fed Chair, will face some extraordinary challenges at the outset of his five-year term. But the greatest challenge of all will be to stay out of Trump’s shadow and uphold the Fed’s independence.

Image result for Jerome PowellFederal Reserve Chairman Designate Jerome Powell with President Donald J. Trump.

Jerome Powell “is a sane and sober choice that heralds short-term continuity in Fed interest-rate policy, and perhaps a simpler and cleaner approach to regulatory policy.”–Kenneth Rogoff


CAMBRIDGE – With the appointment of Jerome Powell as the next Chair of the United States Federal Reserve Board, Donald Trump has made perhaps the most important single decision of his presidency. It is a sane and sober choice that heralds short-term continuity in Fed interest-rate policy, and perhaps a simpler and cleaner approach to regulatory policy.

Although Powell is not a PhD economist like current Fed Chair Janet Yellen and her predecessor, Ben Bernanke, he has used his years as an “ordinary” governor at the Fed to gain a deep knowledge of the key issues he will face. But make no mistake: the institution Powell will now head rules the global financial system. All other central bankers, finance ministers, and even presidents run a distant second.

If that seems hyperbolic, it is only because most of us don’t really pay attention to the Fed on a day-to-day basis. When the Fed gets it right, price stability reigns, unemployment remains low, and output hums along. But “getting it right” is not always easy, and when the Fed gets it wrong, the results can be pretty ugly.

Famously, the Fed’s efforts to tame a stock-market bubble in the late 1920s sparked the Great Depression of the 1930s. (Fortunately, of the candidates Trump was considering for the Fed post, Powell is the one least likely to repeat this mistake.) And when the Fed printed mountains of money in the 1970s to try to dull the pain of that decade’s oil shocks, it triggered an inflationary surge that took more than a decade to tame.

At times, the rest of the world seems to care more about Fed policy than Americans do. Little wonder: perhaps more than ever, the US dollar lies at the heart of the global financial system. This is partly because much of world trade and finance is indexed to the dollar, leading many countries to try to mimic Fed policies to stabilize their exchange rates.

Image result for Thank You Janet Yellen

Thank You, Dr. Janet Yellen for Your Service to the International Financial Community

Powell will face some extraordinary challenges at the outset of his five-year term. By some measures, stock markets look even frothier today than they did in the 1920s. With today’s extraordinarily low interest rates, investors seem ever more willing to assume greater risk in search of return.

At the same time, despite a strongly growing US and global economy, inflation remains mystifyingly low. This has made it extremely difficult for the Fed to normalize policy interest rates (still only 1%) so that it has room to cut them when the next recession hits, which it inevitably will. (The odds of a recession hitting in any given year are around 17%, and that seems like a good guess now.)

If Powell and the Fed cannot normalize interest rates before the next recession, what will they do? Yellen insists that there is nothing to worry about; the Fed has everything under control, because it can turn to alternative instruments. But many economists have come to believe that much of this is smoke and mirrors.

For example, so-called quantitative easing involves having the Fed issue short-term debt to buy up long-term government debt. But the US Treasury owns the Fed, and can carry out such debt purchases perfectly well by itself.

Some argue for “helicopter money,” whereby the Fed prints money and hands it out. But this, too, is smoke and mirrors. The Fed has neither the legal authority nor the political mandate to run fiscal policy; if it tries to do so, it runs the risk of forever losing its independence.

Given that monetary policy is the first and best line of defense against a recession, an urgent task for the new chair is to develop a better approach. Fortunately, good ideas exist, and one can only hope that Powell will quickly move to create a committee to study long-term fixes.

One idea is to raise the Fed’s inflation target. But this would be problematic, not least because it would breach a decades-long promise to keep inflation around 2%. Moreover, higher inflation would induce greater indexation, ultimately undermining the effectiveness of monetary policy. Paving the way for effective negative-interest-rate policy is a more radical – but by far the more elegant – solution.

Bank regulation is also part of the Fed’s mandate. The 2010 Dodd-Frank financial-reform legislation, which has spawned 30,000 pages of rules, has been a boon for lawyers. But the massive compliance costs ultimately fall on small and medium-size businesses. It would be far better simply to require banks to raise much more of their resources in equity markets instead of through bonds. That way, shareholders, not taxpayers, would take the big hit in a crisis.

I have not mentioned the elephant in the room: the threat to the Fed’s independence posed by a president seemingly intent on challenging all institutional norms. When President Richard Nixon was intent on being re-elected in 1972, he put heavy pressure on then-Fed Chair Arthur Burns to “juice” the economy. Nixon was re-elected, but inflation soared and growth collapsed. No one should be wishing for a replay – even if Nixon eventually was impeached.

*Dr. Kenneth Rogoff, Professor of Economics and Public Policy at Harvard University and recipient of the 2011 Deutsche Bank Prize in Financial Economics, was the chief economist of the International Monetary Fund from 2001 to 2003. The co-author of This Time is Different: Eight Centuries of Financial Folly, his new book, The Curse of Cash, was released in August 2016.