IMF Going All Out Keynes

Keynes once opined that in an effort to boost aggregate spending the government should hire unemployed workers to dig holes, bury money in them and then hire more workers to unearth the cash. In a similar verve, Ben Bernanke illustrated his thoughts on monetary stimulus by proposing to have helicopters drop money on neighbourghoods where spending falls the most during recessions. Following in this intellectually rigorous train of thought is the International Monetary Fund. In chapter 3 of its April World Economic Outlook The IMF submits research on housing slump prolonged recessions. They come to the conclusion that housing slumps following recession prohibit or even reverse consumption resumption. That is to say if your house looses half its value (a.k.a. your average Joe lost half his life savings) as a consumer you’ll probably pull back from spending. That this wasn’t obvious to one of the most important institutions of the global economy is in itself a source of worry. More worrying still, is the solution proposed.

The fact that government interventions in housing markets is not recognized as the main culprit of the last crisis is a sad fact on its own. That governments are being asked to further expand their lack of clout over real-estate markets is simply despairing. The IMF’s proposal is for governments to develop debt forgiveness schemes for distressed homeowners during recessions. Their rational is that when recessions occur income drops, leading to an initial drop in demand for housing and an increase in supply. This in turn drives down home values. As leveraged homeowners home equity turns negative they begin to default on their mortgages. This is exactly what happened in the States. The IMF believes that a vivious circle develops whereby drops in home values curbs spending and increases defaults leading to net wealth compression leading to more  drops in consumption and so on and so forth. The IMF believes that if corrections in housing markets can be mitigated, output slumps will be less severe.

This is all true. The problem is the part on mitigating housing price drops. The IMF thinks governments should do that and they propose it should be done through debt forgiveness schemes. Now, one might ask if it were so easy why in the hell haven’t banks done this already? The IMF would argue its some perfectly competitive market where banks are afraid of individually doing the debt forgiveness effort and other banks profiteering from said efforts. Two things, first collusion is illegal so of course they wouldn’t start a debt reduction country club and second, because it’s stupid. Banks are in the business of evaluating what levels of debt are appropriate that’s their job! If it was a good idea to reduce debts they wouldn’t need the IMF’s politburo encouragements to do it.

More seriously however is the moral dilemma argument. If banks or countries start instituting debt forgiveness schemes consumers will have an incentive to over pay for homes in expectation of a market correction. This will fuel higher prices and housing bubbles which were the source of the problems in the first place. One might argue that the laws governing home defaults in the US act as a de facto debt forgiveness mechanism. As their home equity turned negative Americans had the legal cover to rationally decide to walk away from their homes when their equity turned negative. That mechanism is partially to blame for the savageness of the housing downturn in the US.

So let’s recapitulate. Americans don’t save enough. Americans walk away from financial responsibilities and in so doing jeopardized their country’s economic health. The IMF wants countries to de-insensitivize savings (by punishing banks with debt forgiveness plans) and wants less people to be financially responsible for their houses. Keynes’ legacy of moral hazard lives on and strong apparently. International economic institutions seem to be breeding ground for backward economic discourse nowadays . Kinda reminds me of this one trade theory teacher I had, who had worked at the WTO, and taught our class that China’s Renmimbi was significantly overvalued. not even a joke…. sad times eh?

Financial professionals joke about academics getting into teaching or researching because they weren’t smart enough to make it in the private sector. I’m gonna go out on a limb and believe that for now.

Potash vs. Oil Sands, a policy dichotomy

With news of PetroChina International Investment Co. readying itself to be the sole owner of the undeveloped Mackay River in-situ project ~40 km Ouest of Fort McMurray, the question of Canada’s foreign takeover review scheme merits further attention than it’s been getting of late. The deal triggered by Athabasca Oil Sands Corp. owner of the remaining 40% stake not owned by PetoChina will lead to the latter buying the stake for an estimated $680 M Canadian dollars.

Now for those not aware, the Mackay river flows into the Athabasca river which itself flows into Athabasca Lake which outflows through Slave river and through a few national parks until the water system reaches its final destination in the North Arctic Sea. All that to say that the in-situ development finds itself in quite the environmentally sensitive region. Now, a foreign state owned company will be an environmental guarantor of the region. Why am I kicking up a fuss about this exemple of foreign Oil Sands ownership and not say, Statoil’s not far off operations. Is it maybe because Norwegians are something of green nuts while China is competing with Russia for most pollutated country in the World, maybe. Is it because Statoil is known for trying to maximize the return on Norwegian taxpayer dollar while PetroChina and other chinese primary ressource companies are known for attempting to distort markets for the gain of the motherland, probably.

The reason I raise this issue is because I personally disagreed with the Canadian federal government’s decision to oppose the BHP Billiton bid for Potash Corp of Saskatchewan, while I opposed the federal governments regulatory decision to allow PetroChina’s majority ownership and operating of Canadian natural ressource exploitations. So who between the Conservative government of Canada and myself is wrong while both hold seemingly inconsistent and paradoxical opinions? I’ll let you answer that once I’ve finished exposing my case.

Let’s start by raising a point that would seem to show inconsistency on behalf of the Government. The regulatory approval of PetroChina’s deal with Athabasca raised the feds no problem because it could only increase competition for the supply of Canadian Oil and increase the competition for demand in Canadian labour, win-win right? The decision to oppose the purchasing of Potash Corp. was one of opposing increased supply of Canadian potash (one of the worlds most popular agricultural fertilizers). Sudden policy shift or backtrack? Not really, here is a situation of two weights, two measures. Both ressources are considered ‘Strategic Ressources’ in Canada. However one is treated as a free market good while the other one is considered as legitimate producer collusion product, a.k.a. a cartel worthy product. In light of the Governments recent abolition of the Canadian Wheat Board monopoly, their previous decision to protect the Saskatchewan potash cartel seems strange. Or maybe it doesn’t after all Alberta (where most of the Oil Sands are) is traditionally pro-market whereas Saskatchewan is traditionally left-leaning. Does lobbying by Provincial governments really explain a difference in policies. The real difference lies behind the fact that Oil production is extremely geographically atomized, thus it’s trade is quite competitive, potash on the other hand can only be found in a few regions of the World. One of the regions richest in potash is western Canada. Essentially the difference is that Canadians can get away with cartel-esque behaviour in potash but not in oil.

This demonstrates that if the conservatives in Canada are not consistent in their policies it is not for lack of reflection of pragmatic economic solutions, simply inconsistent and un-ideological ones. So we actually have two very different decisions made for pragmatic reasons. That just means I will have to raise two different objections!

Regarding the BHP Billiton takeover of Potash Corp. blocking. The main reason for blocking the takeover was because of the aforementioned cartel in potash. In Saskatchewan the export of potash outside of NAFTA is undertaken by a corporation called Canpotex (short for Canadian Potash Exporters), which effectively operates as a cartel controlling over 30% of the worlds potash production. BHP would have broken up the cartel in order to produce at capacity and sell freely. The Provincial governments belief was that it would have lost royalty revenue from the drop in per unit profit. Whether the government would have actually registered a drop in revenues following the decision is aside from the point. It represents a stark intervention into markets which should be unacceptable in a modern democracy. A short list of consequences include, higher fertilizer prices for such poor farmers as those found in India or Africa, damaged Aussie-Canadian relations, reduced attractiveness of Canada as an investment destination and countless other immeasurable and unimaginable damages to Canada and the World.

Unfortunately one bad decision tends to follow another in politics, let’s now turn our attention to the regulatory decision that paved the way for a foreign power’s state owned corporation buying up ressources in Canada. As a fervent classical-liberal and staunch internationalist, I am all in favour for increasing developing nations and less than democratic nations participation in Global trade. I think there is no better way to improve their economic and socio-political prospects, than permitting them to join the WTO and partake in international trade. Although these beliefs push me to reflexively accept international takeovers, I believe there are a few caveats needed to smooth things out. First problem is the lack of reciprocity. Chinese companies benefit from industrialized nations legal systems when investing in the West. Western multinationals do not benefit from such property protection when doing business in China. Let’s help China, let’s show them some tough love by telling them they can buy our ressources when our companies will get some respect in China. An important issue is that state owned corporations do not necessarily seek to maximize profits as much as maximize socio-economic and political priorities of their governments, whereas public companies always seek to maximize profit for their shareholders. From the economic literature I believe it is most evident to all that maximizing profit in a competitive environment is the key to increasing global welfare.

It is hence my view that the Government’s Foreign Takeover Review process should be aimed at differentiating between those companies who will seek to maximize profit through increased productivity, the real key to increased wealth, and those companies who may have alternate motives such as shifting wealth from one geography to another (like state owned corporations). Blocking foreign State’s proxies from buying our ressources and encouraging public companies to invest is good policy. Let’s hope that when the Canadian federal government finishes its review of the takeover process that will be the ensuing conclusion.