tag:blogger.com,1999:blog-582368152716771238.post3211306693990499931..comments2024-03-28T05:14:02.071-05:00Comments on The Grumpy Economist: Stopping Bank Crises Before They StartJohn H. Cochranehttp://www.blogger.com/profile/04842601651429471525noreply@blogger.comBlogger43125tag:blogger.com,1999:blog-582368152716771238.post-81688785798089575562013-07-18T09:14:30.421-05:002013-07-18T09:14:30.421-05:00"What about the lending side of today's b..."What about the lending side of today's banking industry? There would be lending companies instead -- funded exclusively by equity investors, who consciously choose to put their savings at risk rather than hold them as deposits or other money-like bank liabilities."<br /><br />One thing Mr. Klein neglects to mention is the role of the primary dealers. Should equity investors be able to say no to the federal government? The primary dealer facility was set up back in the 1960's to ensure that the federal government can always find buyers for it's debt. If buying that debt puts equity investors at risk, should they be forced to buy? FRestlyhttps://www.blogger.com/profile/09440916887619001941noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-7905017729330980892013-07-17T07:49:47.868-05:002013-07-17T07:49:47.868-05:00There is an article by Matthew Klein published by ...There is an article by Matthew Klein published by Bloomberg which makes similar points to John Cochrane in his WSJ article. See:<br /> <br />http://www.bloomberg.com/news/2013-03-27/the-best-way-to-save-banking-is-to-kill-it.html<br />Ralph Musgravehttps://www.blogger.com/profile/09443857766263185665noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-54399916512261976302013-07-13T08:19:45.928-05:002013-07-13T08:19:45.928-05:00Ralph
GE's problem was that they had trouble ...Ralph<br /><br />GE's problem was that they had trouble rolling over commercial paper. Under Professor Cochrane's approach I suppose that amounts to a "run" on GE. There was no government guarantee of GE's commercial paper - the market participants knew they were taking on credit risk when they bought and were free to assess GE's credit worthiness. <br /><br />Professor Cochrane's rules would say that GE had to raise all of its money through equity or long term debt structured in a way that there could not be a material roll over risk.Absalonhttps://www.blogger.com/profile/09131268683451462949noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-967466759294651152013-07-12T01:07:11.827-05:002013-07-12T01:07:11.827-05:00In your GE example, GE is acting as a bank, isn’t ...In your GE example, GE is acting as a bank, isn’t it? I.e. if a “Cochrane” system were to be effectively implemented, the rules would state that ANY ENTITY, whether it describes itself as a bank or not, has to obey “Cochrane” rules. And if GE had obeyed Cochrane rules it wouldn’t have had a problem.Ralph Musgravehttps://www.blogger.com/profile/09443857766263185665noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-2372181033423932602013-07-10T19:33:52.235-05:002013-07-10T19:33:52.235-05:00Overnight reverse repurchase agreements with hairc...Overnight reverse repurchase agreements with haircut proportional to price-volatility on any collateral. Government Bond collateral makes the most sense but if there isn't enough of it, no reason not to extend to other asset classes.<br /><br />That's the safest asset there is and that's what I've recommended should back deposits (here: http://catalystofgrowth.com/theory/alternative-banking-system/)<br /><br />AAA commercial paper is pure unsecured credit risk to corps. It's kinda safe because generally the corps get downgraded progressively prior to default but relying on that is dangerous. Plus you have risk to accounting fraud on the part of the corps (small, I agree).DOBhttp://catalystofgrowth.com/noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-44503316069034587162013-07-08T21:59:02.159-05:002013-07-08T21:59:02.159-05:00I know this is a post on financial regulation, not...I know this is a post on financial regulation, not monetary policy (who can tell the difference nowadays?). <br /><br />What do you think of John Taylor's recent article in the FT saying that Mark Carney should adopt a “rule for all seasons” that "would allow for the possibility that bank rate would be extra low in periods following a stint at the zero lower bound, but by a measurable rules-based amount that depends in a consistent way on the degree to which the desired bank rate has fallen below zero bound."<br /><br />http://economicsone.com/2013/07/03/toward-a-rule-for-all-seasons/<br /><br />Is Taylor's advice impractical because it simply consists of "open-mouthed-operations"?<br /><br />Also, this rule sounds a lot like targeting the level of NGDP.Samhttps://www.blogger.com/profile/03796339415643845682noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-50335284234154296902013-07-07T21:18:17.164-05:002013-07-07T21:18:17.164-05:00Ralph,
What you should realize is that there is n...Ralph,<br /><br />What you should realize is that there is no such thing as a 100% safe asset. Currency is the ultimate in liquidity, is fairly durable, is legally protected as a means of exchange, and is non-volatile, but has a tendency to lose purchasing power over time.<br /><br />All other assets involve a trade off.FRestlyhttps://www.blogger.com/profile/09440916887619001941noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-735078209967778822013-07-07T17:06:30.353-05:002013-07-07T17:06:30.353-05:00The problem in shadow banking is not just at the i...The problem in shadow banking is not just at the investor side. The money market funds invested in commercial paper. The issuers of commercial paper were seeking lower rates by borrowing short term and avoiding banks (which had reserve requirements). Some of those issuers then turned around and lent the money for longer terms. When shadow banking hit a bump, the issuers could not roll over their paper and had a liquidity crisis. GE, for example, had to borrow substantial sums from Buffet at high effective interest rates and it benefited from US government guarantees of its commercial paper and direct government purchases of its paper. <br /><br />One can be a purist and say that the government should not have propped up GE and simply allowed it to go bankrupt. Would that really have been better than government stop gap funding? Absalonhttps://www.blogger.com/profile/09131268683451462949noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-99134927860961622013-07-06T06:03:41.498-05:002013-07-06T06:03:41.498-05:00OK, but I think the relevant point here is that sc...OK, but I think the relevant point here is that science respects simple laws which explain a lot: e.g. E=MC2. The above Cochrane banking system can be set out on about one side of a piece of A4 paper, whereas Dodd-Frank is 10,000 bits of paper and fails to solve the TBTF subsidy problem.<br /><br />So it’s game, set and match to the Cochrane system. Incidentally a very similar system was set out here:<br /><br />http://www.positivemoney.org.uk/wp-content/uploads/2010/11/NEF-Southampton-Positive-Money-ICB-Submission.pdf<br />Ralph Musgravehttps://www.blogger.com/profile/09443857766263185665noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-45998887919225835942013-07-01T22:26:26.317-05:002013-07-01T22:26:26.317-05:00BTW---there is a fad now to say that legislation h...BTW---there is a fad now to say that legislation has a certain number of pages, therefore must be bad legislation.<br /><br />Every year, we get about a cumulative 8,000 pages of legislation from the Housed Armed Services Committee, and the relevant House Appropriations Committee, and the pertinent two Senate Committees, on the Department of Defense.<br /><br />That's every year!<br /><br />So, one could say "there are 8,000 pages of legislation on this year's Defense budget---what an example of boondogglerey!"<br /><br />Dodd-Frank has 10,000? Only 2,000 more than what comes up every year on Defense.<br /><br />Benjamin Colehttps://www.blogger.com/profile/14001038338873263877noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-2162240002817060962013-07-01T16:36:36.375-05:002013-07-01T16:36:36.375-05:00I think the lending regulations were counterproduc...I think the lending regulations were counterproductive because they were so complex. Instead, all lending institutions should be treated the same, with a few simple rules regarding loan requirements, and reserve requirements, no bailouts, and most of all total transparency. <br /><br />And BIG penalties for breaking any of these simple rules.KyleNhttps://www.blogger.com/profile/15766641765942339253noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-66742625050617808092013-06-27T18:50:15.297-05:002013-06-27T18:50:15.297-05:00Runs are a pathology of financial contracts, such ...Runs are a pathology of financial contracts, such as bank deposits, that promise investors a fixed amount of money and the right to withdraw that amount at any time.<br /><br />i wouldnt say that (but you know more).. <br /><br />if they did not use fractional reserves that were too high, then the pathology would also have a cure (also downstream re-fractioning too. can someone tell me the right term please? i would be grateful)<br /><br />if all they did was store my money, and charge me a fee.. <br />such a pathology could not happen, but we also agree to let them play with it while we aren't using it (as long as they give us a share). no? <br /><br />so the pathology is that the money is in play, but the owners of it are not risking it. however, the bank is giving them a micro share in exchange for that guarantee. <br /><br />ie. the minute the state sets an amount, all banks go to it. if a good marginal rate would be lower, too bad... higher, also too bad.. <br /><br />i have not thought of the latter enough, but i have thought of the former. <br /><br />its sets up a destructive situation in which none can avoid it (and sadly, those that are publicly owned can avoid it less as its impossible to justify a more prudent course given outcomes i point out below). <br /><br /><br />lets say that absent a dictated amount, banks set their own. larger banks have an advantage, in that they can get away with a larger amount. but all in all, each bank sets their own. those going to high, end up failing by overextending and losing. those going too low, end up losing market to those dancing next to the edge. <br /><br />and clients would look at that the way we look at risk in stocks, and so that may offset the seeming confusion that would come. [ie. banking would be more like stock, which is your point. no? except that now the depositor can lose but also has a choice of which risk is acceptable. no?]<br /><br />but now, in comes the state and it sets an amount. <br />now what happens? <br /><br />well, the meek banks set it to that amount, the others set to that amount and its simple game theory that plays that script out. <br /><br />if set low, the system wont make maximum... <br />if set just right, balancing on a razor blade, not in averages across many, goldilocks will be very happy. <br /><br />however, the system and those setting favor setting it too high, and riding the outcome for as long as possible hoping that they get to get theirs before the hot potato is in their hands and the music stops. <br /><br />a lesser bank cant afford to set a more prudent rate and be wrong (they dont know if that rate they pick is right, or the state rate is right). <br /><br />a larger bank can make a lot before that wave hits shore... <br /><br />there is no way to stop this train as part of the deal of letting the state do this, would be that the state also offers the banks stability insurances in exchange for not fighting the rate setting. one big happy family, united under state insurance, even if its a promise. <br /><br />in shorthand: if your going to tell us a rate, then your going to have to insure that what you pick is not the bad choice as we will not leave the outcome of our banks to your choices without such a guarantee. otherwise we will choose... (say the banks) [not a bad deal if one side is smart and we should point out, its not the political side]<br /><br />this whole situation is a gold mine for large banks as they could ride the wave and when the inevitable hits, get a free ride to kick off on the next wave coming in as the agreements kick in (even if just promises). <br /><br />so if you go back to them setting it, and you get to choose which reserve you put your money against, you could choose no reserve, which will cost you money for them to hold it for you (rent), smaller fraction(which is much less likely as a system to collapse if sufficient), large fraction (you can lose your money). <br /><br />the point is that the fixes created the pathology... <br /><br />some of these arrangements and things would always lead to a bad end, just because they set up a self organized system that converges on that in a kind of monetary Abilene paradox.. though thats not quite right, either. <br /><br /><br /><br /><br /><br /><br />Artfldgrhttps://www.blogger.com/profile/13594241837693535704noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-47572602596348135272013-06-27T17:01:35.365-05:002013-06-27T17:01:35.365-05:00What I was getting at was how do you measure the &...What I was getting at was how do you measure the "safeness" of an asset?<br /><br />1. Liquidity - how easily can you convert the asset to currency<br />2. Durability - how well does it hold up over time<br />3. Supply / Demand - are there constraints on either that would negatively affect the value of the asset over time<br />4. Legal protections / limitations - what recourse do you have if the seller of the asset misrepresents what he / she sold to you<br />5. Volatility - how much do the other four measures of "safeness" change over time through technological or legal / political changeFRestlyhttps://www.blogger.com/profile/09440916887619001941noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-38768728981528587832013-06-27T11:59:46.706-05:002013-06-27T11:59:46.706-05:00Thanks, Prof. Cochrane. You have correctly identif...Thanks, Prof. Cochrane. You have correctly identified the cause of and solution to the most important economic & policy issue of our time. <br /><br />I understand the dynamics of an N x N matrix of derivative exposures, and how net exposures devolve to gross as the participants start to fail. There is no need, little benefit, and considerable risk, as we have seen, to having moral hazard fund the book. Or the many other variations of it.<br /><br />The same phenomena pertains to other domains including the money markets, repo, and deposit insurance. Let the participants who create the risk adequately capitalize it, and let the investors who by the asset wear the risk. <br /><br />Your comments about providing low/no risk investment alternatives to retail investors are also appropriate and actionable. Distribution of Treasury notes and bills could easily accommodate the scale. Banks and intermediaries could compete on the basis of whatever risk/return profile they deem workable in the market. Let them compete without a call option on the taxpayer's pockets.<br /><br />Well done and an important piece of work.<br />Hunter Brownhbhttps://www.blogger.com/profile/18158575088898471870noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-13889370404757817322013-06-27T08:32:09.007-05:002013-06-27T08:32:09.007-05:00OK - there is no such thing as a 100% safe asset. ...OK - there is no such thing as a 100% safe asset. Instead of saying "100% safe assets", I should have said "99.5% safe assets" or perhaps "assets which are in the top 5% safety-wise".Ralph Musgravehttps://www.blogger.com/profile/09443857766263185665noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-77114885174674109812013-06-26T16:15:59.147-05:002013-06-26T16:15:59.147-05:00Either they are prone to borrowing to short and le...Either they are prone to borrowing to short and lending too long, or they are borrowing too much, Or they are not being charged enough to borrow money.<br /><br />I would say that there is economic value in the risk allocation function. If banks don't provide it, it would be possible to dump more responsibility onto the markets. Although, I am not sure that that is necessarily a good idea. I would not like to see the state to become the primary commerical bank.<br /><br />From a regulatory point of veiw, what I would really like to see is a mechanism for banks to fail without triggering fears of systemic failure.<br /><br />Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-49690407170141450052013-06-26T12:18:19.235-05:002013-06-26T12:18:19.235-05:00What is a 100% safe asset?What is a 100% safe asset?FRestlyhttps://www.blogger.com/profile/09440916887619001941noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-75907081944644117392013-06-26T08:06:19.623-05:002013-06-26T08:06:19.623-05:00Dodd-Frank currently stands at ten thousand pages:...Dodd-Frank currently stands at ten thousand pages: which is nothing more than a lawyer’s paradise. Finding loopholes in that lot will be easy.<br /><br />In contrast, the basic principles of a Cochrane type system has got KISS written all over it. In fact I can set it out in one sentence:<br /><br />All bank creditors must be loss absorbers, and must be legally bound to absorb the biggest loss a bank can possibly make, the only exception being creditors who want their bank to return the EXACT SUM they’ve deposited, and those deposits must be backed by 100% safe assets.<br />Ralph Musgravehttps://www.blogger.com/profile/09443857766263185665noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-43974959581206289852013-06-26T03:35:37.653-05:002013-06-26T03:35:37.653-05:00I like this intelligent and thoughtful approach o...I like this intelligent and thoughtful approach of this post.<br /><br />But still, it is a call for regulation, and there are usually unintended consequences---and industry end runs around---to regulations. <br /><br />In general, I add this: regardless of what is the very best solution to feeble banks, in good government the KISS solution is often preferred, as in Keep It Simple, Stupid.<br /><br />I prefer a simple, easy-to-understand solution to feeble banks. Maybe higher reserves, a maximum size, and the sticky deposits is the answer.<br /><br />After all, the real purpose of banks to is pool savings and put them to productive use, through lending. <br /><br />How much of this overnight banking and derivative whiz-bang stuff is connected to that basic purpose? <br /><br />Will our economy suffer if banks go back to the basics?<br /><br /><br /><br /><br />Benjamin Colehttps://www.blogger.com/profile/14001038338873263877noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-29818533780210644052013-06-25T14:56:53.246-05:002013-06-25T14:56:53.246-05:00Mike
If a financial firm fails the losses can be ...Mike<br /><br />If a financial firm fails the losses can be borne by the creditors.<br /><br />You say: "The story I find most convincing is that the crisis started because the government was forcing banks to lend to customers who couldn't repay their loans, so regulation caused the crisis."<br /><br />I suspect you find this convincing because it is consistent with your belief system. I know this explanation is widely cited on the "right". The explanation makes no sense to me because:<br />1) The crisis went far beyond any group of borrowers the regulators wanted to favor;<br />2) Even if the regulators leaned on retail banks to make unsafe loans no one forced the ratings agencies to give the resulting paper (when the mortgages were pooled in MBSs) high ratings or forced Lehman Brothers or the rest to buy the resulting paper. Without the complete breakdown of due diligence in the secondary market there would have been no housing bubble or financial crisis.<br /><br />I know the explanation you cite was adopted in the "White Paper" put out by the Romney campaign (it was signed by Mankiw and three others). Given my views on the matter that became a reason for rejecting the so-called "White Paper" as a whole.Absalonhttps://www.blogger.com/profile/09131268683451462949noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-89336543033389526232013-06-25T14:38:16.630-05:002013-06-25T14:38:16.630-05:00Excellent article - I couldn't agree more. In ...Excellent article - I couldn't agree more. In the article, you ask the question: "Won't eliminating short-term funding for long-term investments drive up rates for borrowers?" i.e. isn't maturity transformation critical to supporting long-term lending? Let me add a few points to support your claim that it is not. <br /><br />In modern developed economies, life insurers and pension funds manage a large pool of funds that explicitly prefers long-term investments to short-term investments. Most banks in fact hedge their long-term interest rate risk with insurers and pension funds so in many cases, the duration risk of long-term assets has already been shifted away from banks onto insurers and pension funds. This means that "structural changes in the economy have drastically reduced and even possibly eliminated the need for society to promote and subsidise maturity transformation" as I argue in this post <a href="http://www.macroresilience.com/2010/10/21/questioning-the-benefits-of-maturity-transformation/" rel="nofollow">Questioning the Benefits of Maturity Transformation</a>Ashwinhttps://www.blogger.com/profile/12538605904825633269noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-3396646577805879232013-06-25T13:04:46.243-05:002013-06-25T13:04:46.243-05:00Frank:
Yes; let bad banks fail. Good banks will s...Frank:<br /><br />Yes; let bad banks fail. Good banks will step into the void. Utilities, unlike banks, are natural monopolies, so a (not very strong) case can be made for bailing them out.<br /><br />Absalom: <br /><br />If a firm fails, the losses can be borne by its shareholders or by the taxpayer. That's an easy choice. The story I find most convincing is that the crisis started because the government was forcing banks to lend to customers who couldn't repay their loans, so regulation caused the crisis.mike sproulhttp://www.csun.edu/~hceco008/realbills.htmnoreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-7103745100320197402013-06-25T12:10:30.066-05:002013-06-25T12:10:30.066-05:00"Are banks incapable of matching the maturiti..."Are banks incapable of matching the maturities of their assets and liabilities without the wise guidance of government officials?"<br /><br />Yes. Cochrane is candid that the run started in the shadow banking sector where regulation was least (or non-existent). Lehman Brothers and Bear Stearns were at 30:1 leverage.Absalonhttps://www.blogger.com/profile/09131268683451462949noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-75958631830819120832013-06-25T12:06:34.046-05:002013-06-25T12:06:34.046-05:00TGGP:
http://www.census.gov/briefrm/esbr/www/esbr...TGGP:<br /><br />http://www.census.gov/briefrm/esbr/www/esbr020.html<br /><br />There was a lot of new housing construction. Absalonhttps://www.blogger.com/profile/09131268683451462949noreply@blogger.comtag:blogger.com,1999:blog-582368152716771238.post-35307855078112149242013-06-25T09:12:41.734-05:002013-06-25T09:12:41.734-05:00I'm somewhat puzzled by your post. Wouldn'...I'm somewhat puzzled by your post. Wouldn't capital requirements a la Hellwig and Admati solve the same problems in pretty much the same way without imposing restrictions on the type of debt that financial institutions issue?<br />Regulating what liabilities constitute short term and what type of capital needs to be held when short term liabilities are issued seems to open a whole new can of worms similar to the risk-weights in the Basel accord.<br />Would love to hear your thoughts on capital requirements vs regulating maturity!Anonymousnoreply@blogger.com