When Bubble Poppers Attack

I have an op-ed in today’s Australian, arguing against the view that central banks should explicitly target asset prices:

In 2002, prior to becoming Fed chairman, Bernanke gave a speech titled Asset “Bubbles” and Monetary Policy. Bernanke noted that “the correct interpretation of the 1920s is not the popular one: that the stock market got overvalued, crashed and caused a Great Depression. The true story is that monetary policy tried overzealously to stop the rise in stock prices. But the main effect of the tight monetary policy was to slow the economy. The slowing economy, together with rising interest rates, was in turn a major factor in precipitating the stock market crash”.

The singular cause of the Great Depression of the 1930s, in Bernanke’s view, was that the Federal Reserve fell under “the control of a coterie of bubble poppers”.

Bernanke was merely reaffirming a well-established consensus among economists, ranging all the way from John Maynard Keynes to Milton Friedman. In his A Treatise on Money, Keynes said: “I attribute the slump of 1930 primarily to the deterrent effects on investment of the long period of dear money which preceded the stock market collapse and only secondarily to the collapse itself.” Friedman’s 1963 A Monetary History of the United States also laid blame for the Great Depression squarely at the feet of the Fed and its attempt to become “an arbiter of security speculation or values”.

posted on 12 November 2008 by skirchner in Economics, Financial Markets

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Labor’s Expensive Manufacturing Fetish

I have an op-ed in today’s SMH critical of the federal government’s ‘new’ car industry plan:

Labor’s manufacturing fetish is long-standing and deeply held. Kevin Rudd’s observation, made as opposition leader in 2006, that he wanted Australia to be “more than a mine for China and a beach for the Japanese” suggests this fetish is based on a caricature of the Australian economy…

The billions of dollars in help provided by successive Australian governments to the local car industry has come at the expense of consumers and taxpayers, destroying jobs and income in other industries. This is the real, but largely unseen, cost of industry assistance.

posted on 11 November 2008 by skirchner in Economics

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A Libertarian Defence of Alan Greenspan

The scapegoating of Alan Greenspan across the political spectrum has been shameful and shameless. It is therefore pleasing to see that the Cato Institute has published a timely defence of Greenspan by David Henderson and Jeff Rogers Hummel. Henderson and Hummel argue that:

Alan Greenspan stands out as the most competent—and arguably the only competent—helmsman of United States monetary policy since the creation of the Federal Reserve System…

his policy may have ended up slightly too discretionary. But that possibility hardly justifies the “asset bubble” hubris of those economic prognosticators who, only well after the fact, declaim with absolutely certainty and scant attention to the monetary measures, how the Fed could have pricked or prevented such bubbles…

Rather than demonstrating that monetarist rules are obsolete and free banking unnecessary, Greenspan’s policies suggest that the more thoroughly either of those two objectives is implemented, the greater the macroeconomic stability our economy will enjoy.

I made a similar argument here about how contemporary central banking closely approximates the free banking ideal of a market-determined monetary order.

posted on 10 November 2008 by skirchner in Economics, Financial Markets

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The Education of Sallyanne Atkinson

ABC Learning Chair Sallyanne Atkinson learns political economy the hard way:

DEEP in debt, Sallyanne Atkinson appears stunned by the collapse of ABC Learning.

“I find that absolutely bizarre” the businesswoman who chaired the failed childcare corporation for seven years said yesterday when told 40 per cent of the centres are unprofitable.

“This is a business subsidised by the Government. How can it be unprofitable?”

posted on 09 November 2008 by skirchner in Economics, Financial Markets

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Self-Importance and the G20

Former Australian Treasurer Peter Costello once told us that the G20 was ‘important in itself,’ an idea to which he could easily relate. Former IMF Chief Economist Simon Johnson continues this fine tradition of explaining the relevance of the G20:

the fact that G20 heads of government will now start meeting (dinner is on November 14; mark your calendars) is most significant. Almost always, once a group like this meets, it can agree on its own importance and the need for another meeting.

I’m sure we can all sleep a little easier at night, knowing the G20 is on the job.

posted on 09 November 2008 by skirchner in Economics, Financial Markets

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US Presidential Vote Equation

Ray Fair’s final US Presidential election equation update:

The final economic values (‘final’ as of October 30, 2008) are 0.22 for GROWTH, 2.88 for INFLATION, and 3 for GOODNEWS. Given these values, the predicted Republican vote share (of the two-party vote) is 48.09 percent. So the prediction is 51.91 for the Democrats and 48.09 for the Republicans, for a spread of 3.82.

The current situation is unusual in that the economy since the end of the third quarter appears to have gotten much worse. People may perceive the economy to be worse than the economic values through the third quarter indicate, which, other things being equal, suggests that the vote equation may overpredict the Republican share. But for what it is worth, the final vote prediction is 48.09 percent of the two-party vote for the Republicans. The Republican share of the two-party House vote is predicted to be 44.24 percent.

posted on 01 November 2008 by skirchner in Economics, Financial Markets

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Long-Run Wealth Accumulation and Household Debt

RBA Deputy Governor Ric Battellino tells the public what Steve Keen won’t:

Australian households have much bigger holdings of financial assets than financial liabilities. Financial assets at 30 June averaged around $275 000 per household while liabilities averaged $150 000 per household. Since then, we estimate that average assets have fallen to around $245 000 per household, though this is still quite a strong position.

This balance sheet structure is very favourable in terms of maximising long-run accumulation of wealth, because the return on these assets over long terms exceeds the cost of debt by a substantial margin. The returns do not, however, accumulate evenly from year to year. Some years produce very strong returns while others produce negative returns.

posted on 30 October 2008 by skirchner in Economics, Financial Markets

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Rudd and Greed

I have an op-ed in today’s Australian responding to the Prime Minister’s attacks on ‘the culture of greed’:

Scottish Enlightenment philosopher David Hume noted as long ago as 1741: “Avarice, or the desire of gain, is a universal passion which operates at all times, in all places and upon all persons.” One cannot explain episodic phenomena such as financial crises with reference to a constant such as human nature or rationality.

The principal mistake the critics of free markets make is to assume that self-interest, greed and irrationality affect only private sector decision-makers. Politicians and regulators are just as prone to self-interested behaviour and do not become saints by virtue of elected or unelected office. The public sector and regulators are populated by the same species that is found in the private sector and financial markets. We should always be suspicious of claims to superior moral virtue coming from politicians.

posted on 29 October 2008 by skirchner in Culture & Society, Economics, Financial Markets

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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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