Greenspan was Right
Alan Greenspan tries to educate a deaf and dumb US Congress, 6 April 2005:
We at the Federal Reserve remain concerned about the growth and magnitude of the mortgage portfolios of the GSEs, which concentrate interest rate risk and prepayment risk at these two institutions and makes our financial system dependent on their ability to manage these risks. Although Fannie and Freddie have chosen not to expand their portfolios significantly this past year (presumably at least partly in light of their recent difficulties), the potential for rapid growth in the future is not constrained by the existing legislative and regulatory regime. It is a reasonable presumption that rapid growth is likely to resume once Fannie and Freddie believe they have resolved their current difficulties. Without changes in legislation, Fannie and Freddie will, at some point, again feel free to multiply profitability through the issuance of subsidized debt. To fend off possible future systemic difficulties, which we assess as likely if GSE expansion continues unabated, preventive actions are required sooner rather than later.
posted on 28 October 2008 by skirchner in Economics, Financial Markets
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Blaming Greenspan
The WSJ is polling readers on the question ‘How much is Greenspan to blame, if at all, for the financial crisis?’ Polling to date suggests that around 25% of readers think ‘He is more to blame than anyone else,’ while 40% maintain ‘He has significant blame.’ Only 10% say ‘he is not to blame.’
The majority view implicitly places an enormous burden on monetary policy to manage, not just inflation outcomes, but a whole range of other policy issues as well, from housing to the regulation of financial markets. The notion that monetary policy could somehow effectively deal with the multiple regulatory failures implicated in the credit crisis is absurd and goes against everything we have learned about how monetary policy should be conducted in recent decades. Unfortunately, because monetary policy is seen to have a pervasive influence over the economy, Greenspan makes for an easy target and a simple monocausal narrative for all that went wrong.
It is particularly irksome to see Greenspan having to defend himself against the blame-shifting behaviour of the US Congress. Afterall, the Federal Reserve operates under a Congressional mandate and is subject to Congressional oversight. If there were problems at the Fed, then the buck stops with Congress.
This point about accountability goes well beyond the area of monetary policy. Politicians and regulators write the rules of the game and are at least notionally accountable for the outcomes under these rules. The ferocity of attacks by politicians on corporate executives, financial markets and capitalism in general is a transparent attempt to divert attention from their own failings and avoid accountability for their policies.
posted on 24 October 2008 by skirchner in Economics, Financial Markets
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How Freddie and Fannie Fooled Paul Krugman
Charlie Calomiris and Peter Wallison in The Last Trillion-Dollar Commitment: The Destruction of Fannie Mae and Freddie Mac:
Although Fannie and Freddie were building huge exposures to subprime mortgages from 2005 to 2007, they adopted accounting practices that made it difficult to detect the size of those exposures. Even an economist as seemingly sophisticated as Paul Krugman was misled. He wrote in his July 14, 2008, New York Times column that:
‘Fannie and Freddie had nothing to do with the explosion of high-risk lending…whatever bad incentives the implicit federal guarantee creates have been offset by the fact that Fannie and Freddie were and are tightly regulated with regard to the risks they can take. You could say that the Fannie-Freddie experience shows that regulation works.’
Here Krugman demonstrates confusion about the law (which did not prohibit subprime lending by the GSEs), misunderstands the regulatory regime under which they operated (which did not have the capacity to control their risk-taking), and mismeasures their actual subprime exposures (which he wrongly states were zero). There is probably more to this than lazy reporting by Krugman; the GSE propaganda machine purposefully misled people into believing that it was keeping risk low and operating under an adequate prudential regulatory regime.
Krugman is hardly alone in this.
posted on 23 October 2008 by skirchner in Economics, Financial Markets
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‘Bubbles’ in Everything: Indonesian Seaweed Edition
At least one ‘bubble’ they will be hard pressed to pin on US monetary policy:
a few months ago, parts of the $14 billion global seaweed market started soaring. The price for a key type of Indonesian seaweed suddenly more than tripled, to as much as 18,000 rupiah (or $1.80) per kilogram, from about 5,000 rupiah.
Then, just as quickly, the seaweed bubble burst, adding the spindly plant to the long list of the world’s assets—including oil, stocks and houses—that have tumbled in value. By early September, prices skidded to 12,000 rupiah. By October, they were down to 10,000, and they may be headed lower.
“Nothing like this has ever happened before,” says Asu Hasna, a 42-year-old seaweed farmer in this coastal community on the island of Sulawesi, which, along with parts of the Philippines, is a tropical seaweed hot spot. Before, she says, seaweed prices never fell. “These are bad times.”
Despite recent declines, prices are still higher than they were a year ago. But the recriminations over what went wrong have begun, complete with calls for more government involvement, efforts to make the industry more transparent and reforms to restore market confidence.
posted on 21 October 2008 by skirchner in Economics, Financial Markets
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A Failure of Understanding
Terry McCrann continues his efforts to educate the punditocracy on the relationship between the official cash rate and retail lending rates:
What has never been understood, not just by the general public but by even the supposed literati—politicians and the economentariat—is that the Reserve took those bank increases into account in deciding the official changes. If they hadn’t happened, official rates would have gone higher.
The associated failure to understand, is that the Reserve quite deliberately set out to slow the economy. We didn’t stumble by mistake into this slowdown.
posted on 18 October 2008 by skirchner in Economics, Financial Markets
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The Not So Secret Life of Nouriel Roubini
Way too much information from Gawker.
UPDATE: ‘Nick Denton Is An Anti-Semite With A Nazi Mind’.
UPDATE II: ‘A bunch of wimps’.
posted on 16 October 2008 by skirchner in Economics, Financial Markets
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The Wrong Plan for Australia
I have an op-ed in today’s Wall Street Journal on the Rudd government’s fiscal stimulus package.
posted on 15 October 2008 by skirchner in Economics, Financial Markets
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Governments are Making Things Worse
Jonathan Macey, writing in the WSJ, calls for an end to the demonisation of markets:
Despite all the hard work and good intentions on the part of our public officials, when economists and historians look back on the current financial crisis they are likely to conclude that government intervention prolonged and deepened it. In particular, officials at the Federal Reserve, the Securities and Exchange Commission and the Treasury Department are to blame for publicly losing confidence in the very economic system they are supposed to protect.
The Fed, the Treasury and the SEC appear to be in a state of panic. A crisis mentality led the custodians of the U.S. capital markets publicly to jettison their lifelong commitments to the capital markets in favor of a series of short-term regulatory quick fixes…
Letting markets work is messy and costly. Nevertheless, the only sensible way to deal with the current crisis is to force the companies who created the mess to bear at least some of the costs of their mistakes. Most of all, if the markets are to get back on track our regulators must put an immediate stop to their current practice of publicly demonizing the markets and work to restore confidence in the system.
posted on 11 October 2008 by skirchner in Economics, Financial Markets
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US 2009 Depression
For the truly bearish, Intrade launches a US 2009 depression contract. Depression is defined ‘as a cumulative decline in GDP of more than 10.0% over four consecutive quarters… Negative quarters in the preceding year will count towards the total GDP decline for expiration purposes.’
The contract is yet to trade, but the bid-ask is 5.1/15, with most of the volume on the short-side.
posted on 08 October 2008 by skirchner in Economics, Financial Markets
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RBA Once Again Shows the Irrelevance of RMBS Intervention
The statement accompanying today’s 100 bp easing in the official cash rate by the Reserve Bank once again makes explicit that the RBA calibrates monetary policy to changes in retail interest rates:
the Board judged that a material change to the balance of risks surrounding the outlook had occurred, requiring a significantly less restrictive stance of monetary policy. The Board also took careful note of movements in funding costs in wholesale markets. Having weighed these considerations, the Board decided that, on this occasion, an unusually large movement in the cash rate was appropriate in order to bring about a significant reduction in costs to borrowers.
The RBA has always acknowledged that it is the average level of market interest rates over time that matters for the transmission of monetary policy. Much of the commentary on the extent of pass through by the banks has ignored this obvious point. Unfortunately, it is easier to bash the banks than to explain how monetary policy actually works.
Today’s announcement also shows the RBA can deliver a more substantial easing in credit conditions than could ever be achieved through government intervention in the market for residential mortgage-backed securities. The best way for the RBA to pull the rug out from under the RMBS interventionists is to be even more explicit about the extent to which it is discounting government policy in setting the cash rate.
posted on 07 October 2008 by skirchner in Economics, Financial Markets
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The Political Economy of RMBS Intervention
I have an op-ed in today’s Age on the politics behind the government’s intervention in the market for residential mortgage-backed securities.
It was pleasing to see the Australian Financial Review take a strong editorial stance against the intervention (‘Swan Banks on a Very Bad Idea,’ AFR, 29 September 2008, p. 62). The AFR attributed the very transparent politics behind the intervention ‘to the Hollowmen school of policymaking.’
posted on 30 September 2008 by skirchner in Economics, Financial Markets
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Government Shows the Irrelevance of AussieMac
Treasurer Swan has announced that:
To reinvigorate the Australian RMBS market and support competition in mortgage lending, I will direct the AOFM to invest in AAA rated RMBS in two initial tranches of $2 billion each.
The government’s intervention in the RMBS market shows that we don’t need a GSE to support market liquidity. Both the RBA and AOFM can perform this function, if deemed necessary.
I doubt an intervention of this size will do much to ease liquidity premia or see much pass through to retail mortgage interest rates. But even allowing for some small pass through, all the government has done is marginally weaken the case for further reductions in the official cash rate by the RBA. Whatever the AOFM giveth, the RBA will surely taketh away.
posted on 26 September 2008 by skirchner in Economics, Financial Markets
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Are the RBA and Treasury ‘Ideologically and Factually Flawed’?
AussieMac proponent Joshua Gans says:
It is not hard to imagine that Labor politicians are left wondering how they appear to have gotten themselves alligned [sic] with Terry McCrann and the CIS. The answer is that the advice they are getting is flawed both ideologically and factually.
Since this is much the same advice that the government has been getting from those notorious right-wing think tanks, the RBA and Treasury, one can only assume that Joshua thinks that these institutions are similarly in error. What exactly does it mean to be ‘ideologically flawed’ anyway?
The main reason the Treasurer is uninterested in AussieMac is that we already have institutions such as the RBA that stand ready to supply market liquidity, to the extent that it is needed. The experience both in Australia and overseas has been that central bank liquidity operations have been undersubscribed. Governor Stevens complained at the most recent House Economics Committee hearing that they practically had to brow-beat the market into stumping-up enough RMBS.
The government can also assist home buyers directly, without needing to intermediate that assistance through a GSE and the mortgage securitisation industry. The UK government has taken this more direct approach, but we are a long way from needing that sort of intervention in Australia.
The RBA can be expected to calibrate its new easing cycle to conditions in credit markets. If the banks fail to fully pass on cuts in the official cash rate, the RBA will just cut by larger amounts to get the desired change in retail lending rates.
posted on 26 September 2008 by skirchner in Economics, Financial Markets
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Why Freddie and Fannie are to Blame for the Credit Crisis II
From Bloomberg’s Judy Shenn.
posted on 25 September 2008 by skirchner in Economics, Financial Markets
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The Blindsiding of Peak Oil
T Boone Pickens pays the price for being long peak oil:
the downturn in energy has blindsided the industry veteran, leaving one of his hedge funds that focuses on energy stocks down almost 30% through August. A smaller commodity-focused fund is down 84%.
All in, the funds have lost around $1 billion this year, a figure that includes $270 million of personal losses. “It’s my toughest run in 10 years,” said Mr. Pickens, a former geologist who earned billions by building an oil company and investing in energy. “We missed the turn in the market, there’s nothing fun about it.”…
Mr. Pickens says he’s shifted his funds’ portfolios to a more neutral stance, to keep his losses in check. That means he hasn’t fully benefited as oil prices jumped in the past few days to $106.61 a barrel from about $90.
posted on 24 September 2008 by skirchner in Economics, Financial Markets
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