Bernanke on Monetary Policy and the Housing ‘Bubble’
Reporting on Fed Chair Ben Bernanke’s speech to the American Economic Association has focused on his suggestion that ‘we must remain open to using monetary policy as a supplementary tool for addressing those risks’ associated with asset price inflation. However, the rest of his speech makes clear that Bernanke views this as very much a second-best option. His speech contains a review of the evidence against the notion that monetary policy was the main cause of the housing ‘bubble’ in the US and elsewhere.
The WSJ quotes Dale Jorgenson on what was missing from Bernanke’s speech:
a Harvard professor who served as Mr Bernanke’s thesis adviser at MIT in the 1970s, said the Fed chairman made a “pretty convincing” argument that low rates were not the driving force of the housing bubble.
But he said Mr Bernanke should have laid more blame at the feet of Congress for encouraging reckless mortgage lending with its support of Fannie Mae and Freddie Mac and other policies meant to increase home ownership.
“I didn’t hear any word with regard to going back to Congress about changing housing policy,” he said.
Leaving aside that fact that his reconfirmation is pending before Congress, one suspects that Bernanke knows a lost cause when he sees one. As the WSJ notes in another article:
In today’s Washington, we suppose, it only makes sense that the companies that did the most to cause the meltdown are being kept alive to lose even more money. The politicians have used the panic as an excuse to reform everything but themselves.
posted on 04 January 2010 by skirchner in Economics, Financial Markets, House Prices, Monetary Policy
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Pre-Christmas Linkfest
Crowding-out in the face of a rising supply price of foreign capital.
How EMU promotes anarchist violence.
How Kevin Rudd sold Australia down the river in Copenhagen.
International Economy symposium on targeting assets prices with monetary policy.
My final op-ed for the noughties: (NZ) Labour Should Not Take its Eyes Off the Target.
posted on 22 December 2009 by skirchner in Economics, Financial Markets, Fiscal Policy, Monetary Policy
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(Not So) Outrageous Predictions for 2010
Saxo Bank has released its outrageous predictions for 2010, which are actually not outrageous at all. But how did they go with their outrageous predictions for 2009? My comments in square brackets.
1) There will be severe social unrest in Iran as lower oil prices mean that the government will not be able to uphold the supply of basic necessities. [IE: yes, but not because of oil, half marks]
2) Crude will trade at $25 as demand slows due to the worst global economic contraction since the great Depression. [IE: WTI bottomed out at $33.22 in mid-January].
3) S&P will hit 500 in 2009 because of falling earnings, vaporizing housing equity and increased cost of funds in the corporate sector. [IE: S&P 500 made lows at the even more ominous sounding level of 666].
4) The EU is likely to crack down on excessive government budget deficits in several member states, and Italy could live up to previous threats and leave the ERM completely. [IE: if only!]
5) The AUDJPY will drop to 40. The decline in the commodities markets will affect the Australian economy. [IE: AUD-JPY actually bottomed in October 2008. Lows for 2009 were 55.55. Australian economy outperformed ROW]
6) EURUSD will fall to 0.95 and then go to 1.30 as European bank balances are under tremendous pressure because of exposure to the faltering Eastern European markets and intra‐European economic tensions. [IE: EUR-USD made lows at 1.2459 and highs at 1.5144 YTD, but half marks for European bank stress].
7) Chinese GDP growth drops to zero. The export driven sectors in the Chinese economy will be hurt significantly by the free‐fall economic activity in the Global Trade and especially of the US. [IE: growth forecast wrong, no marks for stating the obvious implications of global recession already in evidence]
8) Pre‐In’s First Out. Several of the Eastern European currencies currently pegged or semi‐pegged to the EUR will be under increasing pressure due to capital outflows in 2009. [IE: Full marks, although fixed exchange rates spell macro trouble by definition]
9) Reuters/ Jefferies CRB Index to drop to 30% to 150. The Commodity bubble is bursting, with speculative excesses so large they have skewed the demand and supply statistics. [IE: see comments on Australia]
10) 2009 will see the first Asian currencies to be pegged to CNY. Asian economies will increasingly look towards China to find new trade partners and scale down their hitherto US‐centric agenda. [IE: wrong on first part, second part hardly unique to 2009]
So score 2/10 for Saxo in 2009, which is a whole lot better than Nouriel Roubini.
posted on 18 December 2009 by skirchner in Economics, Financial Markets
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3.75 is the New 4.75
So says Deputy Governor Ric Battellino of the RBA’s official cash rate. Battellino’s speech once again highlights the fact that the RBA calibrates changes in the official cash rate to changes in actual borrowing rates. Battellino also notes that:
The margin on variable housing loans is much the same today as it was at the start of the crisis.
All this makes the whole political pantomime of bank-bashing rather pointless. It is also the case that the RBA will probably discount the implications of tighter bank capital regulation for retail borrowing rates in its future setting of the official cash rate. The equilibrium official cash rate may shift even lower as a result.
posted on 16 December 2009 by skirchner in Economics, Financial Markets, Monetary Policy
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Crowding-Out in a Small Open Economy (That Would Be Us!)
Tony Makin makes the case for a crowding-out effect from fiscal stimulus via the exchange rate and net exports. Last week’s September quarter balance of payments implied a 1.8 percentage point subtraction from growth on the part of net exports, which is consistent with this story. Indeed, despite a positive contribution in the first half of 2009, export volumes made no contribution to measured GDP growth for the year-ended in June. A 13.1% decline in import volumes, by contrast, made a 3.3 percentage point contribution to growth over the same period.
Remarkably, the Australian dollar-US dollar exchange rate bottomed out in October 2008, the same month as the first stimulus package, before rising 57% from its lows around 0.6000 to its recent highs around 0.9400.
I made a similar case for crowding-out via the exchange rate and net exports in this op-ed following the May Budget.
posted on 15 December 2009 by skirchner in Economics, Financial Markets, Fiscal Policy
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How the US Government Funds Mortgage Fraud
The Centre for Public Integrity and the Washington Post investigate Ginnie Mae:
The trouble signs surrounding Lend America had been building for years. A top executive was convicted of mortgage fraud but still helped run the company. Home loans made by its headquarters were defaulting at an extremely high rate. Federal prosecutors alleged in a civil suit that the company falsified loan documents and committed fraud.
Yet despite these red flags, a little-known federal agency continued giving its blessing to Lend America, allowing it to do business in the name of the U.S. government. The Government National Mortgage Association, known as Ginnie Mae, authorized the firm to bundle its mortgages into securities and sell them to investors around the world—all backed by U.S. taxpayer money.
posted on 14 December 2009 by skirchner in Economics, Financial Markets
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Why Do Banks Pay Political Protection Money?
With the government, the opposition and the media all heavily engaged in gratuitous bank-bashing, few people have given much attention to the implications of tighter capital adequacy regulation for the cost of borrowing to consumers. RBA Governor Glenn Stevens was remarkably frank about the implications of increased regulation in a speech this week:
on the assumption that most of these regulatory changes go ahead, one effect will presumably be to make the process of financial intermediation more costly. The intention, after all, is that lenders will operate with more capital against the risks they are taking. But capital is not free; shareholders have to be induced to supply it, and it will have to be paid for. High-quality liquid assets typically carry lower yields too, so mandating higher liquidity will have some (modest) cost as well. Admittedly it can be argued that shareholders of financial institutions will have a less risky investment and so should be prepared to accept lower returns. But customers of financial institutions – depositors and borrowers – will also pay via higher spreads between what lenders pay for funds and what they charge for loans. That is, they will pay more ex ante to use a safer financial system, as opposed to taxpayers having to pay large costs ex post to re-capitalise a riskier system that runs into trouble.
Stevens’ posited trade-off between a safer financial system that is more expensive and one that is cheaper and riskier may only hold up to a point. His assumption that a more tightly regulated financial system is less likely to be bailed-out by taxpayers may not hold at all. As Stevens notes, careful attention needs to be given to whether the additional costs imposed by increased regulation will yield the desired benefits.
The increase in funding costs being passed on by the banks to their borrowers as a result of the financial crisis is not something we can do much about ex post, especially given that Australia is a price-taker in global capital markets. But we can do something about the future of bank capital regulation. Bashing the banks, while giving the government a free pass to tighten the regulation of capital without due attention to costs and benefits is perverse.
Perhaps even more perverse is the way the banks continue to fund the politicians who are actively seeking to damage their franchise. The AEC’s web site shows that the big four banks are all major donors to political parties (see, eg, Westpac’s return). No doubt the banks fear things would be even worse if they didn’t pay their political protection money, but it’s hard to see how.
posted on 10 December 2009 by skirchner in Economics, Financial Markets, Politics
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Once a Leaker, Always a Leaker
The following observation from a London-based hedge fund trader is perhaps representative of offshore perceptions of monetary policy in Australia:
The RBA hiked rates again overnight, in line with leaks yesterday but contrary to some speculation at the height of the Dubai panic.
I don’t think there were any leaks on this occasion. Friday’s Reuters poll had all but one respondent expecting a 25 bp tightening, despite Dubai. But it shows that the perception that the RBA is a leaker is well entrenched in financial markets.
posted on 02 December 2009 by skirchner in Economics, Financial Markets, Monetary Policy
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Who Would Want to Own an ETS?
Michael Stutchbury quotes Warwick McKibbin on the likely consequences of Labor’s emissions trading scheme:
Economist and Reserve Bank of Australia board member Warwick McKibbin warns the Carbon Pollution Reduction Scheme is “fundamentally unstable”, the price of permits will be “inherently volatile” and the Copenhagen agenda is in “total disarray”. “The political fallout from this is going to lead to changes,” he says.
The Coalition should let Kevin Rudd have full ownership of the fallout.
posted on 28 November 2009 by skirchner in Economics, Financial Markets, Politics
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Tony Abbott Offers Support for a Carbon Tax
Tony Abbott offers support for a carbon tax as an alternative to an ETS in today’s Australian:
many respected economists think a carbon tax would be more certain, less complex and far less open to manipulation than traded carbon permits.
In government, Malcolm Turnbull showed considerable interest in Warwick McKibbin’s proposal for a hybrid ETS-carbon tax. This story from February 2007 (’Turnbull gives tick to McKibbin carbon trading model’) quotes McKibbin as saying that Turnbull ‘understands it completely’, which makes Turnbull’s subsequent support for Labor’s ETS all the more inexcusable.
The Liberals who support Labor’s ETS do so largely because they are too lazy to argue for the alternative policy approaches they know to be better. I have heard several Liberal frontbenchers maintain that any policy with the word ‘tax’ in it won’t gain political support. They support an ETS only because they want to neutralise climate change as a political issue, not because they believe it to be the best policy. This is a monumental failure of leadership.
An obvious way forward for the Liberal Party, and for the Coalition, would be to commission McKibbin to design a hybrid scheme to take to the next election as an alternative to Labor’s ETS.
UPDATE: Joe Hockey goes begging for ideas on Twitter:
Hey team re The ETS. Give me your views please on the policy and political debate. I really want your feedback.
As David Cameron once said, too many tweets make a twat.
posted on 27 November 2009 by skirchner in Economics, Financial Markets, Politics
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HSBC to Retail Gold Bugs: Get Your Own Damn Vault, Ours is Full
Gold is all about capital gain (or loss, as the case may be). After storage and insurance costs, gold has a negative yield. These costs may be about to go up, with retail gold bugs being booted out of gold storage facilities to make way for institutional investors. From the WSJ:
Amid gold’s rise—it has gained 32% this year and reached a record on Monday—investors have been loading up on bullion and coins. One big problem now is where to store it. The solution from HSBC, owner of one of the biggest vaults in the U.S.: somewhere else.
HSBC has told retail clients to remove their small holdings from its fortress beneath its tower on New York City’s Fifth Avenue. The bank has decided retail customers aren’t profitable enough and is demanding those clients remove their gold to make room for more lucrative institutional customers…
HSBC’s decision has created a logistical nightmare for both the investors and the security teams in charge of relocating the gold, silver and platinum to new vaults across the country…
HSBC is telling clients to either move their metal, or prepare for it to be delivered to their doorsteps. In a July letter, seen by The Wall Street Journal, HSBC said the precious metal “will be returned to the address of record… at your expense,” unless instructed otherwise. HSBC recommended clients move their holdings to Brink’s Global Services USA Inc., which has a vault in Brooklyn, N.Y.
posted on 25 November 2009 by skirchner in Economics, Financial Markets, Gold
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NZ Labour Loses its Way on Inflation
The Wall Street Journal has been running a series of articles on the impact of US dollar weakness on Asia-Pacific economies. In today’s edition, I write about New Zealand Labour’s abandonment of the consensus on inflation targeting:
Mr. Goff’s criticism of this dynamic misses the important benefits inflation targeting and its effects on the exchange rate bring to New Zealand. The dollar’s fluctuations help insulate the economy from external shocks, not least during the recent global financial crisis. When demand weakens in the rest of the world, the New Zealand dollar depreciates, making New Zealand’s exports more competitive. When external demand is strong, the currency rises, moderating export prices in New Zealand-dollar terms and restraining import price inflation. New Zealand’s floating exchange rate thus smoothes external demand and economic activity, making the central bank’s job of controlling inflation much easier.
Many exporters resent the role of the exchange rate in moderating New Zealand’s economic cycle, viewing their competitiveness as being sacrificed on the altar of inflation control. But the idea that New Zealand can ignore inflation and grow faster through easy money and a lower exchange rate is a short-sighted view, no matter how tempting. It ignores the fact that higher domestic prices resulting from inflation would ultimately undermine rather than promote international competitiveness. Economic growth and export success must ultimately be built on real factors such as productivity growth, not easy money and exchange rate depreciation.
Sinclair Davidson made similar arguments in relation to the Australian dollar in an earlier op-ed in the series.
posted on 23 November 2009 by skirchner in Economics, Financial Markets, Monetary Policy
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The End of Inflation Targeting?
The leader of the opposition New Zealand Labour Party, Phil Goff, has announced the abandonment of his party’s support for inflation targeting by the Reserve Bank of New Zealand.
It was a Labour government that introduced the Reserve Bank of New Zealand Act in 1989, making New Zealand a global pioneer in the practice of inflation targeting.
I have long suspected that the global trend towards increased central bank independence and inflation targeting would eventually be reversed. As I noted in my Bubble Poppers monograph, even the central banking community is increasingly divided on the issue.
If the bipartisan consensus in favour of inflation targeting can be shattered in New Zealand, it can happen anywhere.
posted on 19 November 2009 by skirchner in Economics, Financial Markets, Monetary Policy
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Gold Price a Stock Rather than a Flow Equilibrium
With the nominal US dollar gold price posting record highs, I have an op-ed in today’s Age discussing the role of central banks and exchange rates in the determination of the gold price. Gold is a stock rather than a flow equilibrium and central banks command a large share of global stocks. However, exchange rates also have a large influence on the local currency returns to gold:
US dollar weakness has a positive valuation effect on the US dollar gold price, in the same way that it makes oil more expensive in US dollar terms. While a rising US dollar gold price is seen as symptomatic of a declining US dollar, this is true of US dollar commodity prices more generally.
Like other commodities, gold’s gains look less impressive in terms of currencies other than the US dollar. The Australian dollar exchange rate is positively correlated with the US dollar gold price, so that gains in US dollar terms are usually offset by Australian dollar appreciation. For an Australian investor, gold may be a good hedge against Australian dollar weakness, but actually increases exposure to US dollar weakness.
posted on 17 November 2009 by skirchner in Economics, Financial Markets, Gold
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Capital Gains Tax Myths and Realities
The CIS have released my Policy Monograph on Reforming Capital Gains Tax: The Myths and Realities Behind Australia’s Most Misunderstood Tax. There is an op-ed version in today’s Australian.
The 2004 Productivity Commission inquiry into first home ownership noted that ‘changes to the capital gains tax regime coupled with longstanding negative-gearing arrangements were seen to have contributed to higher prices through encouraging greater investment in housing’, but the commission did not model the effects of the tax changes. If increased investment is putting upward pressure on prices, this is an argument for easing supply-side constraints, not for discouraging investment with a CGT. CGT is a tax on transactions that would reduce turnover in owner-occupied housing and lead to a less efficient allocation of that stock.
Some mistakenly see a CGT on the family home as a way of soaking the rich. Yet a CGT on owner-occupied housing would most likely be accompanied by tax deductibility for mortgage interest payments, as in the US, offsetting any increase in revenue from a CGT.
In conjunction with negative gearing, the Ralph reforms were blamed for the housing boom in Australia in the early part of this decade. In reality, the boom was caused by the inability of housing supply to respond flexibly to the increased debt-servicing capacity of households in a low inflation, low interest rate environment.
The boom in house prices also occurred in the context of a bear market in equities between 2001 and 2003. It is not surprising demand for housing increased when prices of a competing asset class were declining. House price inflation was a global phenomenon, arguing against country-specific factors as the main cause.
Rather than increasing the tax burden on housing, policymakers need to tackle the impediments to new housing supply to improve affordability.
posted on 12 November 2009 by skirchner in Economics, Financial Markets, Fiscal Policy, House Prices
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