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What Is a Liquidity Trap? Is It Good or Bad?

What Is a Liquidity Trap?A liquidity trap happens when an economy is in a recession but interest rates are already the lowest they can go, 0%, which is…

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Liquidity traps can lead to deflation—a precarious environment for the economy.

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What Is a Liquidity Trap?

A liquidity trap happens when an economy is in a recession but interest rates are already the lowest they can go, 0%, which is also known as the “zero lower bound.” What else can a central bank do to spur growth? That is the conundrum.

People think the main job of a central bank like the Federal Reserve is to manage interest rates, and in so many ways they are right: Low interest rates spur economic growth and add more money into consumer’s pockets so they, in turn, can buy more things. High interest rates make it tougher for banks to loan to businesses and consumers (and other banks), but they help curb dangerous inflationary pressures that could cause the everyday items we use to be too expensive.

But what happens when interest rates are as low as they can go but the economy remains at a standstill? The Fed must get creative to come up with ways to escape the liquidity trap, or else it can lead to—or prolong—deflation.

What Happens in a Liquidity Trap?

While central banks may hold the reins to monetary policy, what happens to the stock market during a liquidity trap? In a nutshell, too many investors wait on the sidelines and don’t invest their money, not even in typically low-risk securities like Treasuries. Likewise, people hoard their cash as savings and don’t spend it. What gives?

You could say that, when interest rates are zero, the opportunity cost of holding cash is also zero, because there is less incentive to invest your assets into 1-year bonds, for instance, since your yield will be minimal (although it should also be noted that bond prices move inversely to the fed funds rate). The Fed maintains that “movements in its policy rate are associated with similar movements in short-term interest rates.”

In addition, people could also be hoarding cash because they are afraid of an impending crisis or economic shock, such as war or a large-scale health event like COVID-19. Alternatively, they could be worried about their earnings potential shrinking (i.e., losing their job) during a negative event, like a recession or deflation. During a liquidity trap, people want their assets to be liquid, which means easily convertible to cash.

Usually, a decrease in interest rates spurs growth, but when rates are already at zero, the central bank is nearly out of options—and it takes a lot to persuade people to change their spending habits.

Examples of Liquidity Traps

While liquidity traps may sound alarming, they have occurred more frequently than investors might think.

The Great Depression

Economist John Maynard Keynes described the phenomenon of the liquidity trap as early as 1936. In the General Theory of Employment, Interest and Money, Keynes discussed reasons why the American economy could not lift itself out of the Great Depression. He believed the problem was a fundamental lack of demand for goods and services, which resulted in a lack of demand for labor.

Only when spending increased—particularly by the government—would demand grow, production increase, and thus, more workers get hired. Many argue that America’s entrance into World War II finally ended the Great Depression because the government started spending up a storm to create weapons and artillery to ensure success for its soldiers. Keynes’ views had a profound impact on the field of economics, and many still subscribe to his theories today.

Japan’s Lost Decade

In the 1990s, Japan was facing a particularly deep economic crisis. An asset bubble had formed in both its housing and stock markets, and its central bank had implemented a series of steep interest rate hikes to quell it—to disastrous consequences.

Overleveraged banks and insurance companies, which were loaded with bad debts, needed to be bailed out by the government. Businesses teetered on failure, and many replaced their full-time employees with temporary workers, offering no benefits. Japan’s economy stalled, and prices declined. Interest rates were cut, but its citizens sat on their savings instead of spending them. The country experienced crippling deflation, and it would take over a decade for it to recover.

The COVID-19 Recession

Some analysts believe that after the COVID-19 stock market crash and subsequent COVID-19 recession, the U.S. economy entered a liquidity trap—even though the Federal Reserve had quickly instituted quantitative easing measures as well as helicopter money.

People hoarded cash. The graph below, from FRED, the Federal Reserve’s data center, depicts just how much cash on-hand, known as the M1 money supply (made up of currency and liquid deposits, such as savings), had skyrocketed during this period. It was astounding.

The M1 money supply rapidly increased from $4 trillion to $20 trillion during 2020–2021, consistent with the cash hoarding theorized in a liquidity trap arising from the unprecedented fiscal stimulus and monetary expansion of the COVID-19 crisis

Board of Governors of the Federal Reserve System (US), M1 [M1SL], retrieved from FRED, Federal Reserve Bank of St. Louis; https://fred.stlouisfed.org/series/M1SL, October 25, 2021

How Can Liquidity Traps Be Avoided?

If central banks run “out of ammo” with interest rates, as Keynes put it, they could turn to expansionary fiscal policies to dig out their economy from the liquidity trap.

What does that mean? Simply put: increasing the monetary supply.This could happen in a number of ways:

Quantitative Easing

Large-scale asset purchases, are also known as quantitative easing. Through this program, a central bank buys trillions of dollars of long-term securities—mainly government bonds. This increases market liquidity and fosters a favorable lending environment for banks, who in turn make it easier for their customers to take out mortgages and business loans.

In the wake of the Great Recession, the Fed’s balance sheet grew by $3.5 trillion between January 2009 and December 2013. And while critics believed that the practice of QE can prolong liquidity traps because it keeps long term interest rates low, in an April 2014 article published by the Federal Reserve Bank of St. Louis, economists Maria Arias and Yi Wen reiterate that inflation did not result from this endeavor. They point to increased communication from the Fed with its public—who reinforced their stance that QE would eventually be reversed—as one of the main reasons why.

Helicopter Money

Helicopter money is another unconventional method of jumpstarting an economic engine. This involves injecting large sums of money into the economy through increased government spending such as entering a war, providing tax cuts, or offering a direct cash stimulus. After all, if you suddenly received a no-strings attached check from the U.S. government, would you add it to your savings account, or would you spend it?

Economists believe that helicopter money works best in deflationary environments, since it tends to ignite inflation and can also weaken the dollar.

Raising Interest Rates

And if nothing else is working, this may seem counterintuitive, but raising interest rates actually could help. After all, so much of what happens in the markets boils down to a matter of supply and demand. As interest rates rise, other financial assets simply start to look more attractive to investors than holding cash, so demand for cash decreases.

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Four burning questions about the future of the $16.5B Novo-Catalent deal

To build or to buy? That’s a classic question for pharma boardrooms, and Novo Nordisk is going with both.
Beyond spending billions of dollars to expand…

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To build or to buy? That’s a classic question for pharma boardrooms, and Novo Nordisk is going with both.

Beyond spending billions of dollars to expand its own production capacity for its weight loss drugs, the Danish drugmaker said Monday it will pay $11 billion to acquire three manufacturing plants from Catalent. It’s part of a broader $16.5 billion deal with Novo Holdings, the investment arm of the pharma’s parent group, which agreed to acquire the contract manufacturer and take it private.

It’s a big deal for all parties, with potential ripple effects across the biotech ecosystem. Here’s a look at some of the most pressing questions to watch after Monday’s announcement.

Why did Novo do this?

Novo Holdings isn’t the most obvious buyer for Catalent, particularly after last year’s on-and-off M&A interest from the serial acquirer Danaher. But the deal could benefit both Novo Holdings and Novo Nordisk.

Novo Nordisk’s biggest challenge has been simply making enough of the weight loss drug Wegovy and diabetes therapy Ozempic. On last week’s earnings call, Novo Nordisk CEO Lars Fruergaard Jørgensen said the company isn’t constrained by capital in its efforts to boost manufacturing. Rather, the main challenge is the limited amount of capabilities out there, he said.

“Most pharmaceutical companies in the world would be shopping among the same manufacturers,” he said. “There’s not an unlimited amount of machinery and people to build it.”

While Novo was already one of Catalent’s major customers, the manufacturer has been hamstrung by its own balance sheet. With roughly $5 billion in debt on its books, it’s had to juggle paying down debt with sufficiently investing in its facilities. That’s been particularly challenging in keeping pace with soaring demand for GLP-1 drugs.

Novo, on the other hand, has the balance sheet to funnel as much money as needed into the plants in Italy, Belgium, and Indiana. It’s also struggled to make enough of its popular GLP-1 drugs to meet their soaring demand, with documented shortages of both Ozempic and Wegovy.

The impact won’t be immediate. The parties expect the deal to close near the end of 2024. Novo Nordisk said it expects the three new sites to “gradually increase Novo Nordisk’s filling capacity from 2026 and onwards.”

As for the rest of Catalent — nearly 50 other sites employing thousands of workers — Novo Holdings will take control. The group previously acquired Altasciences in 2021 and Ritedose in 2022, so the Catalent deal builds on a core investing interest in biopharma services, Novo Holdings CEO Kasim Kutay told Endpoints News.

Kasim Kutay

When asked about possible site closures or layoffs, Kutay said the team hasn’t thought about that.

“That’s not our track record. Our track record is to invest in quality businesses and help them grow,” he said. “There’s always stuff to do with any asset you own, but we haven’t bought this company to do some of the stuff you’re talking about.”

What does it mean for Catalent’s customers? 

Until the deal closes, Catalent will operate as a standalone business. After it closes, Novo Nordisk said it will honor its customer obligations at the three sites, a spokesperson said. But they didn’t answer a question about what happens when those contracts expire.

The wrinkle is the long-term future of the three plants that Novo Nordisk is paying for. Those sites don’t exclusively pump out Wegovy, but that could be the logical long-term aim for the Danish drugmaker.

The ideal scenario is that pricing and timelines remain the same for customers, said Nicole Paulk, CEO of the gene therapy startup Siren Biotechnology.

Nicole Paulk

“The name of the group that you’re going to send your check to is now going to be Novo Holdings instead of Catalent, but otherwise everything remains the same,” Paulk told Endpoints. “That’s the best-case scenario.”

In a worst case, Paulk said she feared the new owners could wind up closing sites or laying off Catalent groups. That could create some uncertainty for customers looking for a long-term manufacturing partner.

Are shareholders and regulators happy? 

The pandemic was a wild ride for Catalent’s stock, with shares surging from about $40 to $140 and then crashing back to earth. The $63.50 share price for the takeover is a happy ending depending on the investor.

On that point, the investing giant Elliott Investment Management is satisfied. Marc Steinberg, a partner at Elliott, called the agreement “an outstanding outcome” that “clearly maximizes value for Catalent stockholders” in a statement.

Elliott helped kick off a strategic review last August that culminated in the sale agreement. Compared to Catalent’s stock price before that review started, the deal pays a nearly 40% premium.

Alessandro Maselli

But this is hardly a victory lap for CEO Alessandro Maselli, who took over in July 2022 when Catalent’s stock price was north of $100. Novo’s takeover is a tacit acknowledgment that Maselli could never fully right the ship, as operational problems plagued the company throughout 2023 while it was limited by its debt.

Additional regulatory filings in the next few weeks could give insight into just how competitive the sale process was. William Blair analysts said they don’t expect a competing bidder “given the organic investments already being pursued at other leading CDMOs and the breadth and scale of Catalent’s operations.”

The Blair analysts also noted the companies likely “expect to spend some time educating relevant government agencies” about the deal, given the lengthy closing timeline. Given Novo Nordisk’s ascent — it’s now one of Europe’s most valuable companies — paired with the limited number of large contract manufacturers, antitrust regulators could be interested in taking a close look.

Are Catalent’s problems finally a thing of the past?

Catalent ran into a mix of financial and operational problems over the past year that played no small part in attracting the interest of an activist like Elliott.

Now with a deal in place, how quickly can Novo rectify those problems? Some of the challenges were driven by the demands of being a publicly traded company, like failing to meet investors’ revenue expectations or even filing earnings reports on time.

But Catalent also struggled with its business at times, with a range of manufacturing delays, inspection reports and occasionally writing down acquisitions that didn’t pan out. Novo’s deep pockets will go a long way to a turnaround, but only the future will tell if all these issues are fixed.

Kutay said his team is excited by the opportunity and was satisfied with the due diligence it did on the company.

“We believe we’re buying a strong company with a good management team and good prospects,” Kutay said. “If that wasn’t the case, I don’t think we’d be here.”

Amber Tong and Reynald Castañeda contributed reporting.

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Petrina Kamya, Ph.D., Head of AI Platforms at Insilico Medicine, presents at BIO CEO & Investor Conference

Petrina Kamya, PhD, Head of AI Platforms and President of Insilico Medicine Canada, will present at the BIO CEO & Investor Conference happening Feb….

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Petrina Kamya, PhD, Head of AI Platforms and President of Insilico Medicine Canada, will present at the BIO CEO & Investor Conference happening Feb. 26-27 at the New York Marriott Marquis in New York City. Dr. Kamya will speak as part of the panel “AI within Biopharma: Separating Value from Hype,” on Feb. 27, 1pm ET along with Michael Nally, CEO of Generate: Biomedicines and Liz Schwarzbach, PhD, CBO of BigHat Biosciences.

Credit: Insilico Medicine

Petrina Kamya, PhD, Head of AI Platforms and President of Insilico Medicine Canada, will present at the BIO CEO & Investor Conference happening Feb. 26-27 at the New York Marriott Marquis in New York City. Dr. Kamya will speak as part of the panel “AI within Biopharma: Separating Value from Hype,” on Feb. 27, 1pm ET along with Michael Nally, CEO of Generate: Biomedicines and Liz Schwarzbach, PhD, CBO of BigHat Biosciences.

The session will look at how the latest artificial intelligence (AI) tools – including generative AI and large language models – are currently being used to advance the discovery and design of new drugs, and which technologies are still in development. 

The BIO CEO & Investor Conference brings together over 1,000 attendees and more than 700 companies across industry and institutional investment to discuss the future investment landscape of biotechnology. Sessions focus on topics such as therapeutic advancements, market outlook, and policy priorities.

Insilico Medicine is a leading, clinical stage AI-driven drug discovery company that has raised over $400m in investments since it was founded in 2014. Dr. Kamya leads the development of the Company’s end-to-end generative AI platform, Pharma.AI from Insilico’s AI R&D Center in Montreal. Using modern machine learning techniques in the context of chemistry and biology, the platform has driven the discovery and design of 30+ new therapies, with five in clinical stages – for cancer, fibrosis, inflammatory bowel disease (IBD), and COVID-19. The Company’s lead drug, for the chronic, rare lung condition idiopathic pulmonary fibrosis, is the first AI-designed drug for an AI-discovered target to reach Phase II clinical trials with patients. Nine of the top 20 pharmaceutical companies have used Insilico’s AI platform to advance their programs, and the Company has a number of major strategic licensing deals around its AI-designed therapeutic assets, including with Sanofi, Exelixis and Menarini. 

 

About Insilico Medicine

Insilico Medicine, a global clinical stage biotechnology company powered by generative AI, is connecting biology, chemistry, and clinical trials analysis using next-generation AI systems. The company has developed AI platforms that utilize deep generative models, reinforcement learning, transformers, and other modern machine learning techniques for novel target discovery and the generation of novel molecular structures with desired properties. Insilico Medicine is developing breakthrough solutions to discover and develop innovative drugs for cancer, fibrosis, immunity, central nervous system diseases, infectious diseases, autoimmune diseases, and aging-related diseases. www.insilico.com 


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Another country is getting ready to launch a visa for digital nomads

Early reports are saying Japan will soon have a digital nomad visa for high-earning foreigners.

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Over the last decade, the explosion of remote work that came as a result of improved technology and the pandemic has allowed an increasing number of people to become digital nomads. 

When looked at more broadly as anyone not required to come into a fixed office but instead moves between different locations such as the home and the coffee shop, the latest estimate shows that there were more than 35 million such workers in the world by the end of 2023 while over half of those come from the United States.

Related: There is a new list of cities that are best for digital nomads

While remote work has also allowed many to move to cheaper places and travel around the world while still bringing in income, working outside of one's home country requires either dual citizenship or work authorization — the global shift toward remote work has pushed many countries to launch specific digital nomad visas to boost their economies and bring in new residents.

Japan is a very popular destination for U.S. tourists. 

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This popular vacation destination will soon have a nomad visa

Spain, Portugal, Indonesia, Malaysia, Costa Rica, Brazil, Latvia and Malta are some of the countries currently offering specific visas for foreigners who want to live there while bringing in income from abroad.

More Travel:

With the exception of a few, Asian countries generally have stricter immigration laws and were much slower to launch these types of visas that some of the countries with weaker economies had as far back as 2015. As first reported by the Japan Times, the country's Immigration Services Agency ended up making the leap toward a visa for those who can earn more than ¥10 million ($68,300 USD) with income from another country.

The Japanese government has not yet worked out the specifics of how long the visa will be valid for or how much it will cost — public comment on the proposal is being accepted throughout next week. 

That said, early reports say the visa will be shorter than the typical digital nomad option that allows foreigners to live in a country for several years. The visa will reportedly be valid for six months or slightly longer but still no more than a year — along with the ability to work, this allows some to stay beyond the 90-day tourist period typically afforded to those from countries with visa-free agreements.

'Not be given a residence card of residence certificate'

While one will be able to reapply for the visa after the time runs out, this can only be done by exiting the country and being away for six months before coming back again — becoming a permanent resident on the pathway to citizenship is an entirely different process with much more strict requirements.

"Those living in Japan with the digital nomad visa will not be given a residence card or a residence certificate, which provide access to certain government benefits," reports the news outlet. "The visa cannot be renewed and must be reapplied for, with this only possible six months after leaving the countr

The visa will reportedly start in March and also allow holders to bring their spouses and families with them. To start using the visa, holders will also need to purchase private health insurance from their home country while taxes on any money one earns will also need to be paid through one's home country.

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