pril 29 10:56 AM

 Financial innovation: Give me a number | The Economist – FELIX SALMON interviews Glenn Yago: Felix Salmon and Glenn Yago on financial innovation from Felix Salmon on Vimeo. It’s an interesting little conversation, but I continue to be frustrated by the lack of empirical specificity among innovation defenders. Yes, it’s easy to come up with ways that innovation might generate benefits, just as it’s easy to point out the very real economic damage done by crises associated with innovation. What’s missing is any real empirical evidence that there are net benefits to a free-wheeling, innocent until proven guilty approach to financial innovation.

Paul Collier and his Plundering Planet: When Both Economists and Environmentalists Don’t Get it Right – World Bank Poverty and Growth Blog – Do you remember The Bottom Billion, Paul Collier’s 2007 book which became a classic? If you do, you will certainly like his latest work, The Plundered Planet. He came to launch his new book to the Bank this week, and I found it both fascinating and provocative. Let me give some examples of why. Professor Collier, now the Director of the Centre for the Study of African Economies at Oxford University, declares a two-front war on economists and environmentalists at the same time. He is against what he calls “utilitarian economists,” because if left on their own, they would end up plundering the planet. But Collier also takes on “romantic environmentalists,” who would be unable to eradicate hunger in case they’re given the chance to rule the world. So as you can see, the book’s premises don’t really fit into the script of the blockbuster, Oscar-winning movie Avatar.

Parsing the Fed: How the Statement Changed – The Fed’s statement following the April meeting was nearly identical to March’s remarks. The central bank continues to see economic improvement, but makes no signal that rates are going to rise in the near term. April included the third consecutive dissent over the language used to describe low rates. (Read the full April statement.)

Fed Intends to Keep Rates Low – The Federal Reserve’s policy making committee still has its lasers focused on the weak points in this economic recovery.  In the minutes of the open market committee meeting, released today, the Fed noted  that the economy is improving but it also noted ongoing weakness in the labor market and the fact that bank lending continues to contract. It didn’t need to say anything about the debt crisis rolling across Europe–that’s the elephant in the room. The bottom line: Don’t worry about inflation or interest rates; worry about the economic recovery. And, thankfully, that’s just what they are doing. The Fed is not only keeping the Fed Funds rate near zero, there is also no evidence that they have begun to shrink their balance sheet, nor are they anywhere close to selling off the $1.5 trillion in mortgage securities that they are sitting on. The good news there is that both long and short-term interest rates should stay tame for the foreseeable future.

 

 Alford: Fed Talk As Policy The Fed believes that it has succeeded in making monetary policy significantly more transparent. Furthermore, the Fed believes that by being transparent it can influence market expectations and the behavior of the real economy. This is the basis for the emphasis on “talk as policy”. However, one can ask: has rhetorical guidance regarding the Fed funds target made policy significantly more transparent than in the past? Assume for the moment that, in an effort to make its next statement less repetitive, the Committee decided to replace the word “extended” with a synonym – “prolonged” Is there any doubt that the markets would react to the changing of the word “extended”, even if it was only to replace with one of its synonyms?

The Lone Dissenter: Another Month, Another Hoenig Dissent – The long-serving official again opposed the central bank’s decision to keep rates very low for an extended period on Wednesday, his third such action in three straight policy gatherings. While the Fed officials who endorse that view say the rate outlook ultimately depends on how the economy performs, financial markets see the language as a pledge the current 0% interest rate policy stance will be maintained for months to come, perhaps even into next year. Hoenig worries the Fed is creating the conditions for future financial imbalances, and he frets the central bank is limiting its flexibility. In comments this year, Hoenig has also suggested the Fed should get around to raising rates sooner rather than later, arguing even a modest tightening would still leave monetary policy very supportive of growth. It should be noted that Hoenig’s dissent is tied to the language, not the policy decision. The statement doesn’t indicate that he wants rates to be higher, just that he wants to remove the “extended period” language to give the Fed more flexibility.

 Greece Downgrade: What Shoes Will Drop Next?– Yves Smith – Those who called Greece a subprime borrower were more correct than they knew. One of the factors that made subprime losses so devastating has been the high loss severities. The real risk here is to Eurobanks. They ran with even higher leverage ratios than US banks, they are believed to have recognized less of the losses thus far on their books than their US peers. Even worse, readers report that the major dealers (and the Eurobanks were part of this cohort) are carrying toxic assets at prices that are vastly above likely long-term value. Eurobank exposure to Greece is over $190 billion, and total periphery country exposure is roughly $900 billion. In the subprime crisis, many pundits and the Fed itself thought the losses would be contained, unaware that for every $1 in BBB subprime bonds, another $10 in CDS had been written, and that many of these exposures sat with highly levered firms, namely insurers and dealers, who were not able to take much in the way of losses. The gross level of exposures looks much worse here and the banks most at risk have not done much (save take government handouts) to rebuild their balance sheets. \

Guest Post: No Wonder the Eurozone is Imploding –  You might assume that the reason for the implosion in the Eurozone is a mystery. But it’s not. There Wouldn’t Be a Crisis Among Nations If Banks’ Toxic Gambling Debts Hadn’t Been Assumed by the World’s Central Banks There wouldn’t be a crisis among nations if banks’ toxic gambling debts hadn’t been assumed by the world’s central banks. As I pointed out in December 2008:The Bank for International Settlements (BIS) is often called the “central banks’ central bank”, as it coordinates transactions between central banks. BIS points out in a new report that the bank rescue packages have transferred significant risks onto government balance sheets, which is reflected in the corresponding widening of sovereign credit default swaps:

Greece and the Euro: Going, Going . . The most terrifying words I’ve seen written so far about the growing crisis in Greece were penned by Yves Smith yesterday:  "So the whole idea that the financial crisis was over is being called into doubt. Recall that the Great Depression nadir was the sovereign debt default phase. And the EU’s erratic responses (obvious hesitancy followed by finesses rather than decisive responses) is going to prove even more detrimental as the Club Med crisis grinds on." The Great Depression was composed of two separate panics.  As you can see from contemporary accounts—-in 1930 people thought they’d seen the worst of things.   Unfortunately, the economic conditions created by the first panic were now eating away at the foundations of financial institutions and governments, notably the failure of Creditanstalt in Austria.  The Austrian government, mired in its own problems, couldn’t forestall bankruptcy; though the bank was ultimately bought by a Norwegian bank, the contagion had already spread.  To Germany. 

El-Erian says Greece will default – Mohamed El-Erian has an important piece on Greece in tomorrow’s FT; if you want to boil his 750-word article down to 3, it’s basically “Greece will default”.El-Erian comes to this conclusion using three logical steps. The first:A number of things have to happen very fast over the next few days to have some chance of salvaging the situation. At the very minimum, the government in Greece must come up with a credible multi-year adjustment plan that, critically, has the support of Greek society; EU members must come up with sizeable funds that can be quickly released and which are underpinned by the relevant approval of national parliaments; and the IMF must secure sufficient assurances from Greece (in the form of clear policy actions) and the EU (in the form of unambiguous financing assurances) to lead and co-ordinate the process. And a squadron of flying pigs dropping 100-euro notes from helicopters across both the Greek and Iberian peninsulas would probably help too.

Crises and currencies – HERE I was thinking that the world’s intense focus on European debt concerns presented the perfect opportunity for China to quietly revalue its currency against the dollar: The yuan’s climb to a one-year high against the euro will erode China’s competitiveness in its largest export market and delay an end to its currency’s peg against the dollar, said UniCredit SpA and Societe Generale SA.Forward contracts on the currency fell after debt-rating downgrades of Greece and Portugal yesterday deepened concern that a sovereign-credit crisis will hamper a global economic recovery. The European turmoil may buttress Premier Wen Jiabao’s reticence to abandon the yuan’s peg to the dollar, adopted in July 2008 to shield exporters from the world recession. “Chinese authorities have said all along that they are concerned about the stability of the global recovery,”

 Why carbon tax proponents should talk more about deregulation – After nine years of regulatory review, the federal government gave the green light Wednesday to the nation’s first offshore wind farm, a highly contested project off the coast of Cape Cod. The full article is here.  But wait, whoops!, I left out one part: Several regulatory hurdles remain, and opponents of the wind farm have vowed to go to court, potentially stalling Cape Wind for several more years.

Clinton on Derivatives: ‘Too Much Has No Economic Purpose’ – WSJ – Former President Bill Clinton said he’s not certain Goldman Sachs broke the law in setting up the deal that drew civil fraud charges from the SEC, but he questioned the merit of financial firms’ deals that amount to bets on things they don’t own.  “I think too much of this stuff has no economic purpose,” Clinton said at a financial summit, referring to the use of derivatives. He did say that derivatives for farmers and agriculture companies to hedge bets on their own crops is a different matter.Clinton said use of derivatives is part of a broader problem in the economy. “Too much of our growth in the last decade was in finance,” he said.

 Hard To Take New Peterson Foundation Deficit Reduction Survey Seriously – In advance of the "fiscal summit" it’s holding today, The Peter G. Peterson Foundation yesterday released a survey that it says shows “broad agreement” for a serious deficit reduction effort. Except that it doesn’t. The survey is of 58 of the "most senior economic officials from the last eight administrations and Congressional leaders from the past 30 years." Frankly, I’m not sure how seriously anyone should take the opinion this group about the current need to reduce the deficit and national debt given that all of them were responsible in some way for adding to or not dealing with it when they were in office and actually had an opportunity to do something about it. But putting aside that admittedly snarky comment, the survey results are suspect for a number of reasons.
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