Best of the Week
Most Popular
1. Gold vs Cash in a Financial Crisis - Richard_Mills
2.Current Stock Market Rally Similarities To 1999 - Chris_Vermeulen
3.America See You On The Dark Side Of The Moon - Part2 - James_Quinn
4.Stock Market Trend Forecast Outlook for 2020 - Nadeem_Walayat
5.Who Said Stock Market Traders and Investor are Emotional Right Now? - Chris_Vermeulen
6.Gold Upswing and Lessons from Gold Tops - P_Radomski_CFA
7.Economic Tribulation is Coming, and Here is Why - Michael_Pento
8.What to Expect in Our Next Recession/Depression? - Raymond_Matison
9.The Fed Celebrates While Americans Drown in Financial Despair - John_Mauldin
10.Hi-yo Silver Away! - Richard_Mills
Last 7 days
UK Coronavirus Infections and Deaths Trend Trajectory - Deviation Against Forecast - 1st Apr 20
Huge Unemployment Is Coming. Will It Push Gold Prices Up? - 1st Apr 20
Gold Powerful 2008 Lessons That Apply Today - 1st Apr 20
US Coronavirus Infections and Deaths Projections Trend Forecast - Video - 1st Apr 20
From Global Virus Acceleration to Global Debt Explosion - 1st Apr 20
UK Supermarkets Coronavirus Panic Buying Before Lock Down - Tesco Empty Shelves - 1st Apr 20
Gold From a Failed Breakout to a Failed Breakdown - 1st Apr 20
P FOR PANDEMIC - 1st Apr 20
The Past Stock Market Week Was More Important Than You May Understand - 31st Mar 20
Coronavirus - No, You Do Not Hear the Fat Lady Warming Up - 31st Mar 20
Life, Religions, Business, Globalization & Information Technology In The Post-Corona Pandemics Age - 31st Mar 20
Three Charts Every Stock Market Trader and Investor Must See - 31st Mar 20
Coronavirus Stocks Bear Market Trend Forecast - Video - 31st Mar 20
Coronavirus Dow Stocks Bear Market Into End April 2020 Trend Forecast - 31st Mar 20
Is it better to have a loan or credit card debt when applying for a mortgage? - 31st Mar 20
US and UK Coronavirus Trend Trajectories vs Bear Market and AI Stocks Sector - 30th Mar 20
Are Gold and Silver Mirroring 1999 to 2011 Again? - 30th Mar 20
Stock Market Next Cycle Low 7th April - 30th Mar 20
United States Coronavirus Infections and Deaths Trend Forecasts Into End April 2020 - 29th Mar 20
Some Positives in a Virus Wracked World - 29th Mar 20
Expert Tips to Save on Your Business’s Office Supply Purchases - 29th Mar 20
An Investment in Life - 29th Mar 20
Sheffield Coronavirus Pandemic Infections and Deaths Forecast - 29th Mar 20
UK Coronavirus Infections and Deaths Projections Trend Forecast - Video - 28th Mar 20
The Great Coronavirus Depression - Things Are Going to Change. Here’s What We Should Do - 28th Mar 20
One of the Biggest Stock Market Short Covering Rallies in History May Be Imminent - 28th Mar 20
The Fed, the Coronavirus and Investing - 28th Mar 20
Women’s Fashion Trends in the UK this 2020 - 28th Mar 20
The Last Minsky Financial Snowflake Has Fallen – What Now? - 28th Mar 20
UK Coronavirus Infections and Deaths Projections Trend Forecast Into End April 2020 - 28th Mar 20
DJIA Coronavirus Stock Market Technical Trend Analysis - 27th Mar 20
US and UK Case Fatality Rate Forecast for End April 2020 - 27th Mar 20
US Stock Market Upswing Meets Employment Data - 27th Mar 20
Will the Fed Going Nuclear Help the Economy and Gold? - 27th Mar 20
What you need to know about the impact of inflation - 27th Mar 20
CoronaVirus Herd Immunity, Flattening the Curve and Case Fatality Rate Analysis - 27th Mar 20
NHS Hospitals Before Coronavirus Tsunami Hits (Sheffield), STAY INDOORS FINAL WARNING! - 27th Mar 20
CoronaVirus Curve, Stock Market Crash, and Mortgage Massacre - 27th Mar 20
Finding an Expert Car Accident Lawyer - 27th Mar 20
We Are Facing a Depression, Not a Recession - 26th Mar 20
US Housing Real Estate Market Concern - 26th Mar 20
Covid-19 Pandemic Affecting Bitcoin - 26th Mar 20
Italy Coronavirus Case Fataility Rate and Infections Trend Analysis - 26th Mar 20
Why Is Online Gambling Becoming More Popular? - 26th Mar 20
Dark Pools of Capital Profiting from Coronavirus Stock Markets CRASH! - 26th Mar 20
CoronaVirus Herd Immunity and Flattening the Curve - 25th Mar 20
Coronavirus Lesson #1 for Investors: Beware Predictions of Stock Market Bottoms - 25th Mar 20
CoronaVirus Stock Market Trend Implications - 25th Mar 20
Pandemonium in Precious Metals Market as Fear Gives Way to Command Economy - 25th Mar 20
Pandemics and Gold - 25th Mar 20
UK Coronavirus Hotspots - Cities with Highest Risks of Getting Infected - 25th Mar 20
WARNING US Coronavirus Infections and Deaths Going Ballistic! - 24th Mar 20
Coronavirus Crisis - Weeks Where Decades Happen - 24th Mar 20
Industry Trends: Online Casinos & Online Slots Game Market Analysis - 24th Mar 20
Five Amazingly High-Tech Products Just on the Market that You Should Check Out - 24th Mar 20
UK Coronavirus WARNING - Infections Trend Trajectory Worse than Italy - 24th Mar 20
Rick Rule: 'A Different Phrase for Stocks Bear Market Is Sale' - 24th Mar 20
Stock Market Minor Cycle Bounce - 24th Mar 20
Gold’s century - While stocks dominated headlines, gold quietly performed - 24th Mar 20
Big Tech Is Now On The Offensive Against The Coronavirus - 24th Mar 20
Socialism at Its Finest after Fed’s Bazooka Fails - 24th Mar 20
Dark Pools of Capital Profiting from Coronavirus Stock and Financial Markets CRASH! - 23rd Mar 20
Will Trump’s Free Cash Help the Economy and Gold Market? - 23rd Mar 20
Coronavirus Clarifies Priorities - 23rd Mar 20
Could the Coronavirus Cause the Next ‘Arab Spring’? - 23rd Mar 20
Concerned About The US Real Estate Market? Us Too! - 23rd Mar 20
Gold Stocks Peak Bleak? - 22nd Mar 20
UK Supermarkets Coronavirus Panic Buying, Empty Tesco Shelves, Stock Piling, Hoarding Preppers - 22nd Mar 20
US Coronavirus Infections and Deaths Going Ballistic as Government Start to Ramp Up Testing - 21st Mar 20
Your Investment Portfolio for the Next Decade—Fix It with the “Anti-Stock” - 21st Mar 20
CORONA HOAX: This Is Almost Completely Contrived and Here’s Proof - 21st Mar 20
Gold-Silver Ratio Tops 100; Silver Headed For Sub-$10 - 21st Mar 20
Coronavirus - Don’t Ask, Don’t Test - 21st Mar 20
Napag and Napag Trading Best Petroleum & Crude Oil Company - 21st Mar 20
UK Coronavirus Infections Trend Trajectory Worse than Italy - Government PANICs! Sterling Crashes! - 20th Mar 20
UK Critical Care Nurse Cries at Empty SuperMarket Shelves, Coronavirus Panic Buying Stockpiling - 20th Mar 20
Coronavirus Is Not an Emergency. It’s a War - 20th Mar 20
Why You Should Invest in the $5 Gold Coin - 20th Mar 20
Four Key Stock Market Questions To This Coronavirus Crisis Everyone is Asking - 20th Mar 20
Gold to Silver Ratio’s Breakout – Like a Hot Knife Through Butter - 20th Mar 20
The Coronavirus Contraction - Only Cooperation Can Defeat Impending Global Crisis - 20th Mar 20
Is This What Peak Market Fear Looks Like? - 20th Mar 20
Alessandro De Dorides - Business Consultant - 20th Mar 20
Why a Second Depression is Possible but Not Likely - 20th Mar 20

Market Oracle FREE Newsletter

Coronavirus-bear-market-2020-analysis

Fiat Money and Business Cycles in Emerging Markets

Economics / Emerging Markets Mar 16, 2014 - 06:13 PM GMT

By: MISES

Economics

Roger McKinney writes: After the stock market collapse of 2008 and a decline of 3.4 percent for U.S. GDP in 2009, investors rushed to stash funds in emerging markets (EM) where economies were growing at a 3.1 percent annual rate. But the US stock market fell in January of this year largely due to financial trouble in emerging markets. The economies of EM nations, such as, Brazil, Russia, India, Turkey, Thailand, and China, have deteriorated in part because of the withdrawal of US dollar investments from them. Here is a chart from the Institute for International Finance (IIF)[1] showing the capital flows to EM nations:



This dynamic confirms the effects of monetary policy as described by the ABCT, the Austrian business cycle theory. The ABCT states that inflationary monetary policies, such as those of the Fed for the past five years, will cause an unsustainable boom as new money pours into the economy and stimulates demand for consumer goods and capital goods, increasing prices and the relative price of capital goods. Usually we think of the ABCT in terms of a single nation, but the EM problems demonstrate that it has international implications as well, especially in a world of increasing trade integration and a currency that other countries use for trade and their banks keep for reserves, such as the US dollar and the Euro.

Mises wrote about the international effects of banks creating more credit money than the domestic population wants to hold:

The role money plays in international trade is not different from that which it plays in domestic trade. Money is no less a medium of exchange in foreign trade than it is in domestic trade. Both in domestic trade and in international trade purchases and sales result in a more than passing change in the cash holdings of individuals and firms only if people are purposely intent upon increasing or restricting the size of their cash holdings. A surplus of money flows into a country only when its residents are more eager to increase their cash holdings than are the foreigners. An outflow of money occurs only if the residents are more eager to reduce their cash holdings than are the foreigners. A transfer of money from one country into another country which is not compensated by a transfer in the opposite direction is never the unintended result of international trade transactions. It is always the outcome of intended changes in the cash holdings of the residents. Just as wheat is exported only if a country's residents want to export a surplus of wheat, so money is exported only if the residents want to export a sum of money which they consider as a surplus.[2]

What Mises wrote is backward to what mainstream economics and the financial media teach: trade in goods happen first then money follows to square the balances. While Mises wrote about international trade, the same principle applies to international investing. Just as consumers will buy imported goods (export money) if the Fed creates more money than US citizens want to hold, investors will “import” investment opportunities (export money for investment) if the Fed creates more new money than investors want to hold. As a result, the Fed exports its unsustainable boom, often to emerging market countries. That is one reason that the Fed monetary pump has not generated the higher price inflation in the US that the mainstream economists would like.

The export of US investment dollars to EM countries caused a boom in those economies, but the threat of reduced credit expansion by the Fed has brought turmoil. Of course, the Fed had done nothing but nip at the massive bond purchases by cutting back ten of 80 billion dollars in purchases per month. The Fed advertises that it will keep interest rates near zero indefinitely. That means that money flowing to emerging markets may increase in the future as the IIF forecasts. Eventually, the Fed will be forced to raise interest rates and at that time EM nations must pay the price. As Mises wrote:

One of the main objectives of currency devaluation — whether large-scale or small-scale — is ... to rearrange foreign trade conditions. These effects upon foreign trade make it impossible for a small nation to take its own course in currency manipulation irrespective of what those countries are doing with whom its trade relations are closest. Such nations are forced to follow in the wake of a foreign country’s monetary policies.

The emerging market situation reflects another aspect of the ABCT: most emerging market nations export commodities such as metals, food, coal, and oil. In the Austrian taxonomy, they produce higher order goods, consumer goods being the lower order. In another analogy, commodities are at the headwaters of the stream of production and flow through many transformations before becoming consumer goods. Commodities are much more sensitive to changes in the money supply because producing them requires capital intensive processes. Production is much more volatile than consumer goods.

A simplified taxonomy of the worldwide structure of production might categorize the US, Europe, and Japan as producers of capital goods intermediate between the higher order raw material producers of EM nations and the consumer goods producers such as China. This categorization is not clearly defined because most nations have several of the stages of production. Nevertheless, increasing integration has achieved a degree of international specialization in the capital structure. China tends to be a consumer goods producer while the US imports many consumer goods and raw materials for transformation into intermediate capital goods, such as aircraft, electrical generating equipment, and cars.

Internationally, the ABCT might work something like this: the Fed expands credit, and thereby the money supply, during a recession in order to stimulate domestic aggregate demand. But it creates more money than US citizens want to hold, so they buy more imported consumer goods from China and investments from EM countries. The export of investment funds causes the boom in the higher order phases of the capital structure in EM nations instead of the US where the Fed intended the funds to go.

Of course, Europe and Japan add to the world’s stock of reserve currencies and tend to expand credit in sync with the US, thereby multiplying the effects.

At some point, the Fed will begin to cut back on credit expansion in order to head off rising price inflation at home. Investors will repatriate their money from EM nations and cause a decline in the EM foreign exchange rate with respect to the dollar, yen, and euro. The IIF report from October warned that, “... other things equal, if market expectations for the U.S. policy interest rate were to rise from the current 1 percent at end-2015 to 2 percent, this could result in a retrenchment of EM portfolio flows of around $43 billion ...”[3]

The sliding exchange rate will make debts by EM governments and businesses that are denominated in dollars and euros more difficult to repay and cause some bankruptcies. If EM nations try to defend their foreign exchange rate through higher interest rates to attract more investment, they make domestic borrowing more difficult and run the risk of exacerbating the business slump.

So EM nations face two problems at the same time: (1) the withdrawal of investment funds from the US and (2) a collapse in the demand for commodities as the boom ages and turns into a bust.

If only the Fed could see the damage it causes not just at home, but worldwide.

Roger McKinney is an analyst for an HMO and teaches economics for a small private college. See Roger McKinney's article archives.

You can subscribe to future articles by Roger McKinney via this RSS feed.

© 2014 Copyright Ludwig von Mises - All Rights Reserved Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.


© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules