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Friday, February 17, 2006

Another Non-Surprise

Well this news from Italy really should come as a shock to no-one:

Italy’s economic record was under scrutiny during the national election campaign on Thursday after forecasts the ruling centre-right coalition would fail to meet its budget deficit-cutting target next year.

The ISAE institute said the deficit would rise to 4.2 per cent of gross domestic product from 3.9 per cent this year, breaching a government promise last July to its European Union partners to reduce the deficit in 2007 to less than 3 per cent.

According to the International Monetary Fund, Italy’s potential annual economic growth rate has slipped to 1.25 per cent. Thursday’s ISAE report forecast growth of 1.3 per cent this year and 1.4 per cent in 2007 after 0.1 per cent last year.

Italy has overshot the EU’s 3 per cent limit on budget deficits every year since 2003, but was in July granted a one-year reprieve – until 2007 – to put its public finances in order.

The government is forecasting a deficit of 3.5 per cent this year and 2.8 per cent in 2007. Last year’s deficit of 4.3 per cent was Italy’s highest since 1996.

Could This Be The Reason?

As noted in the last post, there has been a noteable movement of foreign investors out of Japan in the last week. Today we have news of a draconian report from the Japanese government Council on Economic and Fiscal Policy which indicates the country either needs major spending cuts or a sharp rise in taxes. When you couple this with the possibility of a steady rise in interest rates and the fact that wages are ticking up above productivity due to the kind of labour shortage an ageing economy will naturally produce, then you have to wonder whether some people haven't look at this report, put two and two together, and decided it's time to up-tent.

Japan’s government would need to cut more than the equivalent of its defence, education and public works budgets combined in order to balance its books by 2011, Junichiro Koizumi’s main policymaking body was told on Wednesday night.

The effort to prove the necessity of a tax rise to close the budget deficit – about 4 per cent of gross domestic product before interest payments – comes as the cabinet’s so-called fiscal hawks are losing ground.

Japan's Growth Spurt

Well the Japanese economy is certainly ticking along at a very lively clip: an annualised rate of 5.5% in the last quarter of last year. Quite something when you compare it to the somewhat meagre showing of the US economy ver the same period (1.1%). So should we draw the conclusion that the Japanese economy is in better underlying shape than the US one? I doubt it.

First of all, there is the nice old English expression that one swallow doesn't make a summer: 2005 growth for Japan was 2.8% compared to what - 3.6% or so for the US.

Secondly, we have been here before. In the last quarter of 2003 to be precise, when Japan registered in the unrevised numbers a rate of approximately 7%.

The big question is: is this sustainable? I still doubt it, and it seems the international investment set for once agree with me:

The Nikkei 225 fell 2.1 per cent to a three-week low of 15,713.45 on Friday, despite being pushed up briefly by strong gross domestic product figures. The fall was led by real estate stocks, which plummeted as foreigners – big buyers within the sector - continued to exit the Japanese market...........

Monday, February 13, 2006

Longevity, Education and Growth

Posting has been erratic of late, and will probably continue so to be. I am hard at work writing up (and here).

Basically I am working on the idea that there is some kind of endogenous process between education, fertility and longevity at work in the economic growth process.

Today I found an interesting paper which runs along somewhat similar lines:

Endogenous Longevity and Economic Growth by Jocelyn Finlay. Here's the abstract with some working notes on the paper below.

In a two period overlapping generations model of endogenous longevity and economic growth, individuals choose to invest in health and education. The investments are costly in terms of foregone first period consumption and the benefit is in the second period where health has the effect of increasing the probability of survival, and education investment will bring higher income. These investments are risky as survival through period two, when the payoffs can be had, is not certain. Individuals with varying degrees of risk aversion will choose the ordering in which they invest in health and education. It is only when investment in education is achieved that an economy will experience endogenous growth.

My Notes

Economic growth models that treat longevity as an exogenous parameter show that an increase in life expectancy will increase the time horizon over which returns to education can be realised, thereby encouraging investment in human capital and driving endogenous growth.

This is an important point. It is in conformity with the view of Life History Theory, and fits in with the idea that there is also a trade off between longevity and fertility.

"Investment in schooling has the effect of increasing income in the second period of life, but an individual will only live into this period probabilistically. Thus lifetime income is state contingent - a person lives through the second period or dies prematurely at the end of the first period - and if the individual lives through the second period then they are able to enjoy the higher income from skilled wages, but if they die they will have foregone current consumption to invest in schooling but are not alive to enjoy the benefit."

This seems to be thinking in terms of development economics and the evolution of the demographic transition. Definitely a valid view.

As I say, this paper is restricted in that it seems to conceptualise the problem in the exclusive case of countries passing through the 'demographic transition', but the
idea seems to have a more general applicability, in particular it seems perfectly transerable to the case of mature economies with low fertility.

Definitely worth a read.

Bernanke's Howitzer Speech?

Is Bernanke about to give the US Congress a hard line, sock it to me baby, inflation firefighting speech. I certainly hope not, but some seem to expect that this is what he may need to do to keep his credentials in the right place. This is surely a sign that Alan Greenspan's last move may not have been the best one available, maybe at the last meeting a pause may have been a better 'options put'.

Ben Bernanke, appearing before Congress this week for the first time since becoming Federal Reserve chairman Feb. 1, is likely to brush aside lawmakers' calls for a pause in the central bank's credit-tightening campaign and vow vigilance against inflation, analysts say.

Cementing the Fed's inflation-fighting credibility at a time of regime change at the central bank is particularly important because some in the markets are already suspicious that Bernanke will be soft on inflation. Behind those concerns: Bernanke's suggestion in 2002 that the Fed would pull out all stops if needed to fight a deflationary downturn in the economy, a strategy he compared to a ``helicopter drop'' of money.

``He's given his helicopter speech and established his anti- deflation credentials,'' says Tom Gallagher, Washington-based senior managing director at ISI Group, a New York money- management and research firm. ``Now he's got to give his howitzer speech and establish his anti-inflation credibility.''

James Hamilton has a thoughtful and interesting post which explains some of the reasons why Bernanke really needs to be able to be flexible, especially in the light of the oil price risk post by the looming confrontation with Iran (and here).