Good morning. Today is Friday, December 9th.
After 10 months of prison in Russia for carrying cartridges of cannabis oil in her luggage, US basketball star Brittney Griner has been released in exchange for Viktor Bout, a Russian arms dealer who was sentenced to 25 years of prison in the US. The two-time Olympic medalist walked past the arms dealer during the swap on a tarmac in the Abu Dhabi airport. Talk about apples and oranges.
- As part of our new partnership with Project Syndicate, today you’ll find an article from Nobel laureate economist Joseph E. Stiglitz, "All Pain and No Gain from Higher Interest Rates," along with your daily newsletter. Scroll down and enjoy, with a sprinkle of Focus Flow.
—Özlem, with Tanem and Can
• The European Commission proposed plans to modernize its value-added tax system and implement measures to reduce VAT fraud that would save member states up to €18 billion more a year in tax revenues over the next ten years while saving businesses €5 billion a year in compliance costs in the same period.
- The scheme: The proposal includes mandatory real-time digital reporting by companies selling goods across borders within the bloc to help authorities catch fraudsters, who have been making billions through carousel fraud: importing goods from VAT-free EU countries and selling them with VAT in other parts of the bloc without handing the tax revenue to authorities.
- The cost: The EU estimated its VAT tax gap —the difference between tax owed and collected— was €93 billion in 2020, with at least a quarter linked to trade within the bloc. The total VAT collected in the bloc in 2020 was roughly over €1 trillion.
• G7’s price cap on Russian oil is not low enough to make a significant reduction in Kremlin’s revenues next year, economists argued, adding that even if the cap leads to a drop in crude production, Moscow still has plenty of cash to fund its war effort for now. Russia is expected to continue diverting flows east, mainly to China and India.
- The quote: At $60 per barrel, "the price cap looks very generous," said Renaissance Capital economist Sofya Donets. "It is close to what was priced in by the market for 2023 and to the level suggested in Russia’s budget."
• British consumer spending picked up in early December, in line with usual seasonal trends as people spent more in the run-up to Christmas, despite a surging cost of living, according to interbank payments data based on credit and debit card spending, which the Bank of England provides to the ONS.
- Furthermore: However, spending was flat compared with a year earlier — reflecting a sharp real-term decline given the high rate of inflation, which hit a 41-year high of 11.1% in October.
• Japan's economy contracted less than initially estimated in Q3, reinforcing that it is slowly recovering from the pandemic even as major export markets show further signs of weakening. The Cabinet Office on Thursday revised the contraction in annualized quarterly GDP to 0.8% from a preliminary reading of 1.2%, compared with analyst estimates for a 1.1% fall.
- On a related note: Separate data showed the world's third-largest economy had recorded its first current account deficit in eight years in October, reflecting high import costs imposed on households and businesses by a decline in the yen's value to multi-decade lows this year.
• Wirecard's former CEO Markus Braun, who steered the payments company through its rise and spectacular collapse two years ago, went on trial for fraud on Thursday after a scandal that shook German politics and tarnished the country's business reputation. The accused, which include two other managers of the defunct blue chip company, could be jailed for up to 15 years if convicted.
- What happened? Wirecard admitted in June 2020 that €1.9 billion were missing from its balance sheet. Within days, Wirecard became the first-ever DAX member to file for insolvency, owing creditors nearly $4 billion. The prosecution asserts that Wirecard invented vast sums of phantom revenue to mislead investors and creditors and drive up the share price.
• Trafigura is distributing more than €1.6 billion to its top investors after its net profit rose to €6.6 billion in the year ended Sept. 30. The Swiss-based commodities trading company more than doubled its net profits from already record levels last year. The payout is a result of trading houses benefiting from the energy crisis due to the Russian invasion of Ukraine.
• Credit Suisse on Thursday hailed a "milestone" in its turnaround plan after raising 2.24 billion Swiss francs (€2.27bn) as part of a 4 billion franc cash call. Shareholders exercised 98.4% of their subscription rights, giving a boost to managers tasked with getting the Swiss bank back on track after the biggest crisis in its 166-year history.
• Exxon Mobil said it will increase spending to $23-25 billion and expand investments to limit carbon emissions. The plan is a part of the company’s strategy to "produce the energy and products society needs" while reducing greenhouse gas emissions, Chief executive Darren Woods said.
- A step back: Exxon announced record profits in the second and third quarters this year, facilitated by its controversial decision during the Covid-19 pandemic to double down on fossil fuels as European competitors shifted to renewables.
• President Vladimir Putin said Russia achieved a "significant result" with the acquisition of "new territories" — a reference to the annexation of four partly occupied regions in September that Kyiv and most members of the UN condemned as illegal. Warning that the war could be lengthy, Putin said Russia had made the Sea of Azov its "internal sea," now bounded by Russia and Russian-controlled territories in southern Ukraine including Crimea.
• German officials said they expect to arrest more people in connection with a far-right group’s plan to overthrow the state by storming the parliament and installing an ex-aristocrat as the national leader. In accordance, a top security official Georg Meier accused the far-right Alternative for Germany party of feeding conspiracy theories like those of the Reichsbuerger movement.
• US Basketball star Brittney Griner was released in a prisoner swap with a notorious Russian arms dealer Viktor Bout, nicknamed "Merchant of Death", after she was held captive for nearly 10 months due to drug charges. "She’s safe, she’s on a plane, she’s on her way home," President Joe Biden said from the White House, where he was accompanied by Griner’s wife, Cherelle.
• EU countries agreed to allow Croatia to join the Schengen Area as of Jan. 2023, finally accepting the country after years of await. However, Romania and Bulgaria’s accession into Schengen was blocked —despite both having joined the EU six years before Croatia— by Austria, citing concerns about migration.
• China began implementing an eased version of their strict zero-Covid policy after the National Health Commission issued relaxed anti-pandemic regulations on Wednesday that loosened lockdowns and eliminated a mandatory negative text to enter most public spaces.
• The World Health Organization said that the Covid-19 pandemic disrupted the efforts to control malaria, causing 63,000 more deaths and 13 million more infections globally over the last two years.
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• Google and other search engines must delete search results about people in Europe if the information can be proven wrong, the European Court of Justice ruled. In a recent case, Google refused to remove search results based on the names of two managers at a group of investment companies. The court disagreed, saying that if someone submits sufficient evidence proving the "manifest inaccuracy" of the information, the search engine must grant the request.
• Apple will offer full end-to-end encryption for almost all the data users store in its global cloud-based storage system. Apple’s iMessage and Facetime communications services are already encrypted, but photos, videos, and chats in iCloud were not protected until now, making it easier for hackers, spies, and law enforcement agencies to access users’ private information.
- On the other hand: The FBI said it is "concerned with the threat end-to-end and user-only-access encryption pose," insisting they hinder the agency’s ability to investigate crimes ranging from cyberattacks to violence against children, and terrorism.
• The US Department of Defense chose Amazon, Google, Microsoft, and Oracle as its new cloud service providers. The companies will have a shared budget of $9 billion for the Joint Warfighting Cloud Capability project, which aims to modernize the Pentagon’s IT infrastructure by facilitating central management and advanced data analytics among other capabilities.
• Ramesh "Sunny" Balwani, the former president of Theranos, was sentenced to 12 years and 11 months in prison on charges of defrauding investors and patients of the blood testing startup led by Elizabeth Holmes. Prosecutors said Balwani and Holmes deceived investors by saying their company invented a technology that can run medical tests with a small amount of blood while continuing to use traditional methods and providing patients with inaccurate results.
All pain and no gain from higher interest rates
–Unconventional Economic Wisdom
Central banks’ unwavering determination to increase interest rates is truly remarkable. In the name of taming inflation, they have deliberately set themselves on a path to cause a recession – or to worsen it if it comes anyway. Moreover, they openly acknowledge the pain their policies will cause, even if they don’t emphasize that it is the poor and marginalized, not their friends on Wall Street, who will bear the brunt of it. And in the United States, this pain will disproportionately befall people of color.
As a new Roosevelt Institute report that I co-authored shows, any benefits from the extra interest-rate-driven reduction in inflation will be minimal, compared to what would have happened anyway. Inflation already appears to be easing. It may be moderating more slowly than optimists hoped a year ago – before Russia’s war in Ukraine – but it is moderating nonetheless, and for the same reasons that optimists had outlined. For example, high auto prices, caused by a shortage of computer chips, would come down as the bottlenecks were resolved. That has been happening, and car inventories have indeed been rising.
Optimists also expected oil prices to decrease, rather than continue to increase; that, too, is precisely what has happened. In fact, the declining cost of renewables implies that the long-run price of oil will fall even lower than today’s price. It is a shame that we didn’t move to renewables earlier. We would have been much better insulated from the vagaries of fossil-fuel prices, and far less vulnerable to the whims of petrostate dictators like Russian President Vladimir Putin and Saudi Arabia’s own war-mongering, journalist-murdering leader, Crown Prince Mohammed bin Salman (widely known as MBS). We should be thankful that both men failed in their apparent attempt to influence the US 2022 midterm election by sharply cutting oil production in early October.
Yet another reason for optimism has to do with mark-ups – the amount by which prices exceed costs. While markups have risen slowly with the increased monopolization of the US economy, they have soared since the onset of the Covid-19 crisis. As the economy emerges more fully from the pandemic (and, one hopes, from the war) they should decrease, thereby moderating inflation. Yes, wages have been temporarily rising faster than in the pre-pandemic period, but that is a good thing. There has been a huge secular increase in inequality, which the recent decrease in workers’ real (inflation-adjusted) wages has only made worse.
The Roosevelt report also dispenses with the argument that today’s inflation is due to excessive pandemic spending, and that bringing it back down requires a long period of high unemployment. Demand-driven inflation occurs when aggregate demand exceeds potential aggregate supply. But that, for the most part, has not been happening. Instead, the pandemic gave rise to numerous sectoral supply constraints and demand shifts that – together with adjustment asymmetries – became the primary drivers of price growth.
Consider, for example, that there are fewer Americans today than there were expected to be before the pandemic. Not only did Trump-era Covid-19 policies contribute to the loss of more than a million people in the US (and that is just the official figure), but immigration also declined, owing to new restrictions and a generally less welcoming, more xenophobic environment. The driver of the increase in rents was thus not a large increase in the need for housing, but rather the widespread shift to remote work, which changed where people (particularly knowledge workers) wanted to live. As many professionals moved, rents and housing costs increased in some areas and fell in others. But rents, where demand increased, rose more than those where demand fell decreased; thus, the demand shift contributed to overall inflation.
Let us return to the big policy question at hand. Will higher interest rates increase the supply of chips for cars, or the supply of oil (somehow persuading MBS to supply more)? Will they lower the price of food, other than by reducing global incomes so much that people pare their diets? Of course not. On the contrary, higher interest rates make it even more difficult to mobilize investments that could alleviate supply shortages. And as both the Roosevelt report and my earlier Brookings Institution report with Anton Korinek show, there are many other ways that higher interest rates may exacerbate inflationary pressures.
Well-directed fiscal policies and other, more finely tuned measures have a better chance of taming today’s inflation than do blunt, potentially counterproductive monetary policies. The appropriate response to high food prices, for example, is to reverse a decades-old agricultural price-support policy that pays farmers not to produce, when they should be encouraged to produce more.
Likewise, the appropriate response to increased prices resulting from undue market power is better antitrust enforcement, and the way to respond to poor households’ higher rents is to encourage investment in new housing, whereas higher interest rates do the opposite. If there was a labor shortage (the standard sign of which is increased real wages – the opposite of what we are currently seeing), the response should involve the increased provision of childcare, pro-immigration policies, and measures to boost wages and improve working conditions.
After more than a decade of ultra-low interest rates, it makes sense to “normalize” them. But raising interest rates beyond that, in a quixotic attempt to tame inflation rapidly, will not only be painful now; it will leave long-lasting scars, especially on those who are least able to bear the brunt of these ill-conceived policies. By contrast, most of the fiscal and other responses described here would yield long-term social benefits, even if inflation turned out to be more muted than anticipated.
The psychologist Abraham Maslow famously said, “To a man with a hammer, everything looks like a nail.” Just because the US Federal Reserve has a hammer, it shouldn’t go around smashing the economy.
Joseph E. Stiglitz, a Nobel laureate in economics, is a University Professor at Columbia University and a member of the Independent Commission for the Reform of International Corporate Taxation.
© Project Syndicate 1995–2022
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