Richmond Fed Interview

The Richmond Fed published a long interview with me in their Econ Focus, shorter pdf (print) version here and longer web version here. Some of the questions:

• Does the 2010 Dodd-Frank regulatory reform act meaningfully address runs on shadow banking?
• So what do you think is the most promising way to meaningfully end "too big to fail"?
• Do you think there's any reason to believe recessions following financial crises should necessarily be longer and more severe, as Carmen Reinhart and Kenneth Rogoff have famously suggested?
• Many people have asked whether the finance industry has gotten too big. How should we think about that?
• What are your thoughts on quantitative easing (QE) — the Fed's massive purchases of Treasuries and other assets to push down long-term interest rates — both on its effectiveness and on the fear that it's going to lead to hyperinflation?
• Both fiscal and monetary policies have been on extreme courses recently. What are your thoughts on how they might affect each other as they move back to normal levels?
• Switching gears to finance specifically, what do you think are some of the big unanswered questions for research?
• You wrote an op-ed on an "alternative maximum tax." What’s the idea there?
• Can transfers really help the bottom half of the income distribution?
• Which economists have influenced you the most?

You'll have to click to the interview for answers!

Thanks to Aaron Steelman, Lisa Kenney and especially  Renee Haltom, who helped a lot with the editing. I'm a lot less coherent in person!

Making fun of people's names?

Paul Krugman is now reduced to making fun of my name.

I was alerted to the fact that we were living in a Dark Age of macroeconomics when the same cockroach put in an appearance at the University of Chicago.

Oh how clever. I haven't heard that one since about, hmm, first grade, circa 1965. (Follow the link if you're not sure who he's talking about.)

Paul continues

Now, some people get all upset by this terminology. Why can’t I be serious and respectful? Well, the answer is that we’re not having a serious conversation

No, the royal "we" are not.

I suppose I should read this as a welcome sign of desperation; that Krugman, having run out of ideas, and unwilling to read the interesting "serious conversation" regarding stimulus that the rest of us are having in the academic literature (say, my own recent modest contribution), is reduced to endlessly flogging the old "Say's law" calumny and now this.

Here are Krugman's similarly profound thoughts about Narayana Kocherlakota's name.

Healthcare tidbits

Tidbits that came in following my WSJ oped last week

1. I heard from a lot of people in the burgeoning market for cash only transparent service. Maybe the internet will undercut the current non-competitive system! Some nice links:

http://selfpaypatient.com/ A blog devoted to self-pay patients and doctors.The first post is cool -- why passing laws to force price transparency won't work.

http://www.amazon.com/The-Self-Pay-Patient-Affordable-Healthcare-ebook/dp/B00HBUPLFG/ The e book. Haven't read, looks interesting.

http://surgerycenterofoklahoma.tumblr.com/ Dr. Keith Smith, of Surgery Center of Oklahoma, who I wrote about last week, has a nice tumblr.

 www.regencyhealthnyc.com.  An interesting direct cash pay pricing surgical clinic

2. The "last embassy" blog points out a curious feature of Obamacare: you need a credit card or bank account -- plus internet connection -- to sign up. That's a bit of a problem for poor uninsured people supposedly the beneficiaries of this system. I do sense a bit of a disconnect between the people who designed Obamacare, and the intended beneficiaries -- who don't have a computer, high speed broadband, strong internet skills, credit card and bank account, and who shop (like all of us) by word of mouth. ("They have no computers? Let them use their ipads" a modern Marie Antoinette might say)
http://thelastembassy.blogspot.com/2013/05/the-aca-and-unbankable-or-steve-miller_22.html

3. Cato's Michael Cannon produced an extraordinary comprehensive listing of Adminstration executive orders on Obamacare. I salute Michael's patience to slog through this. Get to the excellent last two paragraphs.
http://www.forbes.com/sites/michaelcannon/2013/12/27/as-predicted-obamacare-plunges-into-utter-chaos/

4. Media. I did a few interviews following the WSJ oped

Fox
http://video.foxbusiness.com/v/2976885479001/the-steps-to-fixing-obamacare/

CNBC's Kudlow report
http://video.cnbc.com/gallery/?play=1&video=3000231610

Not very enlightening, really.

5. Hilarious tidbit. I know, it's hard to clean up websites.

http://www.whitehouse.gov/realitycheck/3

What to do when Obamacare unravels

Wall Street Journal Oped December 26 2013.

The unraveling of the Affordable Care Act presents a historic opportunity for change. Its proponents call it "settled law," but as Prohibition taught us, not even a constitutional amendment is settled law—if it is dysfunctional enough, and if Americans can see a clear alternative.

Source: David Gothard, Wall Street Journal

This fall's website fiasco and policy cancellations are only the beginning. Next spring the individual mandate is likely to unravel when we see how sick the people are who signed up on exchanges, and if our government really is going to penalize voters for not buying health insurance. The employer mandate and "accountable care organizations" will take their turns in the news. There will be scandals. There will be fraud. This will go on for years.

Yet opponents should not sit back and revel in dysfunction. The Affordable Care Act was enacted in response to genuine problems. Without a clear alternative, we will simply patch more, subsidize more, and ignore frauds and scandals, as we do in Medicare and other programs.

There is an alternative. A much freer market in health care and health insurance can work, can deliver high quality, technically innovative care at much lower cost, and solve the pathologies of the pre-existing system.

Why English Majors (and their editors) Should Take an Economics Class

To avoid writing silly articles, as appeared in the Sunday New York Times under the title "Triumph of the English Major." Gerald Howard, a book editor in New York City writes of an early experience:

I had the idea that we should reissue two early novels by the fine writer Alice Adams...

So there I was in our C.F.O.’s office with a P. & L. that just eked out a 7 percent return. He looked at that piece of paper dubiously....Then, with that wry and sad expression with which financial people have regarded liberal arts people since at least the invention of movable type and perhaps even written language, he signed off on my shortfallen P. & L. and said to me, “You know, we could make more money by just putting this advance into a certificate of deposit.”

I knew he was right...C.D.’s were paying 10 percent per annum or more....

However, as I went back to my office I experienced an instance of what the French call “stair wit.” I thought, wait a minute, I am putting that $7,500 to work. It’s an investment. The chain of activity I am putting in motion will give work to printers and shippers. It will provide bookstores (there were still bookstores) with tangible goods to sell at a profit. The revenue from those sales will help to pay my salary, my colleagues’ salaries, even our C.F.O.’s salary. Alice Adams will have some thousands of dollars in her pocket — maybe to invest in a C.D. All this and a few thousand people fewer than I put down on the P. & L. (I’d lied, of course) will have bought and enjoyed two excellent novels that deserved to be in print.

Whereas if we’d just put that money in the hands of a bank, they would just ... well, I was pretty hazy on what a bank would actually do with that money, but my general sense was that it would sit there in a vault microbially propagating itself and what good would that do anybody? Economically I was putting my shoulder — or Penguin’s shoulder — to the wheel! I came away with the conviction that I wasn’t useless anymore.

This makes a good quiz question for an undergraduate micro class. Make it an essay question, for the English majors. "What's wrong with this story?"

Hope for healthcare?

"Can this Man Save Health care?" is another nice article about Dr. Keith Smith, founder of the Surgery Center of Oklahoma (SCO) in Oklahoma City. (Previous blog post here.)  He is trying the audacious, running a low-price hospital with prices posted on the web -- the Southwest Airlines of hospitals that I've been hoping for.

Williamson on the economics blogosphere

Steve Williamson has an insightful set of posts, Minneapolis Redux, and Journalists Looking for a Fight. They are tangentially on the Minneapolis Fed affair, but really about the coverage of the affair and deeply thoughtful about how the economics blogosphere is evolving.

Reporters at the Minneapolis Star-Tribune, the Financial Times, the Wall Street Journal, and other outlets were fair, I think. They talked to the people involved, and covered the story the way good reporters should. What went on in the economics blogosphere I think is revealing of what this medium can and cannot do. In many cases, bloggers dived into the story and did what they do best. They made stuff up, or repeated things that have become "blog truths" - basically fiction that, when repeated often enough, somehow becomes truthy. 

So, this runs from the outrageous to the comical, covering all points in between....

His own posts here set a high standard for looking up, checking, and linking to the things he's talking about. Hopefully the market test will induce us all to better blogging.

What if we got the sign wrong on monetary policy?

I've been following with interest the rumblings of economists playing with an amazing idea -- what if we have the sign wrong on monetary policy? Could it be that raising the interest rate raises inflation, and not the other way around?

Most recently, Steve Williamson plays with this idea towards the end of a recent provocative blog post.   Most of Steve's post is about the Phillips curve, but he concludes

If the Fed actually wants to increase the inflation rate over the medium term, the short-term nominal interest rate has to go up.

Three Nobel Lectures, and the Rhetoric of Finance

It was my great pleasure -- and honor -- to attend this year's Nobel prize ceremonies. It started with the Nobel prize lectures, which I found very thought provoking.

Shiller 

I'll work backwards, as it was thinking about Bob Shiller's talk that taught me the biggest lesson. Preview: this will start pretty negative, but I learn a big lesson by the end. Hang in there, Shiller fans.

Calomiris and Haber on the politics of bank regulation

Foreign Affairs has a very nice article "Why Banking Systems Succeed -- And Fail: The Politics Behind Financial Institutions" by Charles Calomiris and Stephen Haber.

This is a healthy tonic for all us economists who seem to specialize in clever complex advice for the benevolent monarch sort of policy. It's a good reminder of just how counterproductive our bank regulation is for economic ends, and how it serves well political ends.

They cover English vs. Scottish banking, US vs. Canada, and the roots of the dysfunctional US system that crashed in 2008. They are light on the current situation, but it isn't hard to see the same groups feeding at the public trough before receiving tribute now.

Public choice often seems depressing, as if ideas don't matter at all. But they do, and the last few paragraphs are thoughtful.

Within a democracy, effective reforms in banking require more than good ideas or brief windows of opportunity. What is crucial is persistent popular support for good ideas.

It does no good to assume that all the alternative feasible political bargains have already been considered and rejected.As George Bernard Shaw wrote, “The reasonable man adapts himself to the world: the unreasonable one persists in trying to adapt the world to himself. Therefore all progress depends on the unreasonable man.” Meaningful banking reform in a democracy depends on informed and stubborn unreasonableness.

"Informed and stubborn unreasonableness." I like that a lot better than "tilting at windmills!"

Chris Demuth on Obamacare

Source: Weekly Standard

I found a nice Obamacare essay by Chris Demuth, "The Silence of the Liberals: Obamacare is Inimical to Their Values Too," in the Weekly Standard.

The point: Liberals ought to join in the project of constructing a market-based alternative to Obamacare.  We do, in fact, have the same goals, and the question is simple cause-and-effect of what policies will actually produce those goals.

A few highlights with comments (but read the whole thing). We start with a quick reminder of the unfolding train wreck:

Obamacare will never achieve its promise of affordable health care for all paid for with improved efficiencies in health insurance and medical care. ...the program improves “access” mainly by herding millions of people and firms into insurance they do not want or need. A great many will simply refuse, having little to fear for the time being, with the result that government expenditures will be far higher than projected. It is equally clear that the variety and quality of medical care will be seriously restricted for all concerned.

"Liberals" may not care about expenditures, but surely ought to worry on the last point.

The charge "you have no alternative" is false:

...many prominent Republicans and conservatives​...[and libertarians]...​have come forward with specific proposals for expanding affordable health care more than Obamacare does, while eliminating its many harmful and unworkable features. 

This is an important point. The alternatives will advance "liberal" values, and give people of modest means better care at lower cost than Obamacare. They "go further and aim higher."  This is not the usual narrative of "people need" government help vs. stingy budget hawks. This is about a better way to achieve the same goals-- and more.

Hansen Nobel Spanish Translation

Spanish translation of my blog post on Lars Hansen's Nobel Prize

El premio Nobel de Lars Hansen (traducción al español de Pedro Cervera)

Lars ha realizado tal cantidad de investigación pionera y profunda, que ni siquiera puedo comenzar a enumerar la lista completa sin comentar que sólo entiendo una parte de ella.

Escribí capítulos enteros de mi libro de texto “Valoración de activos” basándome tan sólo en uno de los documentos de Hansen. Lars escribe para el futuro y normalmente tardamos diez años o más en entender lo que ha hecho y su verdadera importancia....

(para el resto, haga clic aquí (pdf))

Unintentionally hilarious Nobel coverage

Shawn Tully at Fortune wrote a very thoughtful piece describing Gene Fama's research and views on efficient markets.

The version I saw on  CNN money magazine is unintentionally both hilarious, and ends up making a far deeper point than I think Shawn intended.  It is chock full of little links trying to draw you off to other articles on the magazine. These were undoubtedly not put in or even reviewed by Shawn, but they tell you an enormous amount about the world of finance and finance journalism.

For example, here we are in the middle of an article describing Gene and efficient markets.

...Understanding Fama's evolving view of the market is one of the most valuable, practical guides for today's investors. 

MORE: 20 top picks from 20 star investors 

Fama's ideas may have received the ultimate validation, but they're still highly controversial.... 

Well, they haven't received the ultimate validation from the bots that run CNN money, that's for sure!

Learning the wrong lesson while waiting on hold

Health care policy debates seem to have become a war of anecdotes. Margaret Talbot of the New Yorker posted one titled "My canceled policy and my values" which is circulating the blogoshphere

... like many of the twelve million or so Americans who buy their own insurance, we received a letter from CareFirst in late October saying that our policy would be cancelled, because it didn’t conform to Affordable Care Act requirements. ...I stopped procrastinating and got on the phone with CareFirst... First lesson learned: healthcare.gov is not the only balky system around.

Fama Nobel En Espanol

Pedro Cervera kindly translated my short piece on Gene Fama's Nobel prize, which will appear in "Estrategia Financiera" next month:

Eugene Fama: Mercados eficientes, primas de riesgo y el premio Nobel.

En 1970, Gene Fama definió que un mercado era “informacionalmente eficiente” si los precios incorporaban en cada momento la información disponible relativa a los valores futuros.

“Un mercado en el que los precios reflejan la totalidad de la información existente es denominado eficiente “[Fama, 1970]. 

....

para el resto, haga clic aquí para un pdf

For the rest go here for a pdf (I don't speak Spanish and gave up trying to get accents right in blogger!)

Health economics and cognitive dissonance

PS: I will be talking about alternatives to Obamacare on Wed Dec 4 at the Cato Policy Perspectives event in Chicago.

After the ACA -- Crafting an Alternative to Obamacare

I gave a talk at Hoover, encouraging those of us who are less than fans to speak up and outline the alternative to Obamacare. Podcast here.

Repeal and status quo is not enough. We need to listen, and point out how a radically freed and competitive system will address the genuine concerns that motivate many to support the law despite its flaws -- preexisting conditions, health care for the poor, outrageous cost and so forth.

The essay "After the ACA" lays it out in some detail.  The talk is a lighter discussion of where we are, but emphasizes how sitting back and letting the ACA unravel will just lead to an even more expensive and incorherent system. Stand up and state the alternative.

A limited central bank

Philadelphia Fed president Charles Plosser gave a noteworthy speech, "A limited central bank." It's especially noteworthy in the context of Janet Yellen's nomination, discussion between Congress and Fed about how the Fed should be run, the Fed's focus on unemployment, and the current state of the hawks vs. doves debate.

We find out what he thinks of micromanaging the taper based on monthly employment reports:

The active pursuit of employment objectives has been and continues to be problematic for the Fed. Most economists are dubious of the ability of monetary policy to predictably and precisely control employment in the short run, and there is a strong consensus that, in the long run, monetary policy cannot determine employment....

New vs. Old Keynesian Stimulus

While fiddling with a recent paper, "The New-Keynesian Liquidity Trap" (blog post), a simple insight dawned on me on the utter and fundamental difference between New-Keynesian and Old-Keynesian models of stimulus.

The Work Behind the Prize: Video and Text

This is a link to the "Work Behind the Prize" event from Monday Nov 4. Our charge was, explain to the community of scholars at the University of Chicago, what Lars Hansen and Gene Fama's research was that won them Nobel Prizes. Jim Heckman and John Heaton talk about Lars Hansen's work, Toby Moskowitz and I talk about Gene Fama. 10 minutes each. I start at 33:50.

Here is the text of my remarks. (Faithful blog readers will note some recycling. Let's call it "refining.") A pdf with embedded pictures is here. The video on youtube is here

Eugene Fama: Efficient markets, risk premiums, and the Nobel Prize

In 1970, Gene Fama defined a market to be “informationally efficient” if prices at each moment incorporate available information about future values.

A market in which prices always `fully reflect’ available information is called `efficient.’” - Fama (1970)

If there is a signal that future values will be high, competitive traders will try to buy. They bid prices up, until prices reflect the new information, as I have indicated in the little picture. “Efficient markets” just says that prices in a competitive asset market should not be predictable.


“Efficient markets” is not a complex theory. Think Darwin, not Einstein. Efficiency is a simple principle, like evolution by natural selection, which organizes and gives purpose to a vast empirical project.

The Work Behind the Prize

This afternoon (Monday November 4) a panel of four will try to explain the research that Gene Fama and Lars Hansen did to win the Nobel Prize for the University of Chicago community.

This is classic University of Chicago, community of scholars stuff: Yes, we've congratulated you.  Now, let's talk seriously about the ideas and the research.

My job: Explain efficiency, long run returns and volatility in 10 minutes flat. Wish me luck. John Heaton and Jim Heckman will describe Lars Hansen's work, and Toby Moskowitz will join me on the Fama panel.  Gary Becker will moderate

The announcement is here; RSVP if you want to attend as seating is limited. The event will be web-cast here

The Next Obamacare Fiasco

Thousands Of Consumers Get Insurance Cancellation Notices Due To Health Law Change Kaiser Health News

Some health insurance gets pricier as Obamacare rolls out Los Angeles Times

Kaiser:

Health plans are sending hundreds of thousands of cancellation letters to people who buy their own coverage,...The main reason insurers offer is that the policies fall short of what the Affordable Care Act requires starting Jan. 1

Florida Blue, for example, is terminating about 300,000 policies, about 80 percent of its individual policies in the state. Kaiser Permanente in California has sent notices to 160,000 people – about half of its individual business in the state. Insurer Highmark in Pittsburgh is dropping about 20 percent of its individual market customers, while Independence Blue Cross, the major insurer in Philadelphia, is dropping about 45 percent.

LA Times:

Blue Shield of California sent roughly 119,000 cancellation notices out in mid-September, about 60 percent of its individual business. About two-thirds of those policyholders will see rate increases in their new policies....

Middle-income consumers face an estimated 30% rate increase, on average, in California due to several factors tied to the healthcare law. Some may elect to go without coverage if they feel prices are too high. Penalties for opting out are very small initially. Defections could cause rates to skyrocket if a diverse mix of people don't sign up for health insurance

This is interesting. Obamacare could actually increase the number of people without insurance, because you are not allowed to keep (consumer) or sell (insurance company) simple cheap insurance.

Bob Shiller's Nobel

As with Lars Hansen and Gene Fama, Bob Shiller has also produced a span of interesting innovative work, that I can't possibly cover here. Again, don't let a Nobel Prize for one contribution overshadow the rest. In addition to volatility, Bob did (with Grossman and Melino) some of the best and earliest work on the consumption model, and his work on real estate and innovative markets is justly famous.  But, space is limited so again I'll just focus on volatility and predictability of returns which is at the core of the Nobel.

Source: American Economic Review

The graph on the left comes from Bob's June 1981  American Economic Review paper. Here Bob contrasts the actual stock price p with the "ex-post rational" price p*, which is the discounted sum of actual dividends. If price is the expected discounted value of dividends, then price should vary less than the actual discounted value of ex-post dividends.  Yet the actual price varies tremendously more than this ex-post discounted value.

This was a bombshell. It said to those of us watching at the time (I was just starting graduate school) that you Chicago guys are missing the boat. Sure, you can't forecast stock returns. But look at the wild fluctuations in prices! That can't possibly be efficient. It looks like a whole new category of test, an elephant in the room that the Fama crew somehow overlooked running little regressions.  It looks like prices are incorporating information -- and then a whole lot more!  Shiller interpreted it as psychological and social dynamics, waves of optimisim and pessimism.

Lars Hansen's Nobel

Lars has done so much  deep and pathbreaking research, that I can't begin to even list it, to say nothing of explain the small part of it that I understand.  I wrote whole chapters of my textbook "Asset Pricing" devoted to just one Hansen paper. Lars writes for the ages, and it often takes 10 years or more for the rest of us to understand what he has done and how important it is.

So I will just try to explain GMM and the consumption estimates, the work most prominently featured in the Nobel citation. Like all of Lars' work, it looks complex at the outset, but once you see what he did, it is actually brilliant in its simplicity.

The GMM approach basically says, anything you want to do in statistical analysis or econometrics can be written as taking an average.

Understanding Asset Prices

The Nobel Committee's "Understanding Asset Prices" "scientific background" paper for the Fama, Hansen, Shiller award is excellent. It is pretty much a self-contained graduate course in empirical finance.

Gene Fama's Nobel

(For a pdf version click here.)

Photo: Elizabeth Fama

Gene Fama’s Nobel Prize

Efficient Markets

Gene’s first really famous contributions came in the late 1960s and early 1970s under the general theme of “efficient markets.” “Efficient Capital Markets: a Review of Theory and Empirical Work’’ [15] is often cited as the central paper. (Numbers refer to Gene’s CV.)

“Efficiency” is not a pleasant adjective or a buzzword. Gene gave it a precise, testable meaning. Gene realized that financial markets are, at heart, markets for information. Markets are “informationally efficient” if market prices today summarize all available information about future values. Informational efficiency is a natural consequence of competition, relatively free entry, and low costs of information in financial markets. If there is a signal, not now incorporated in market prices, that future values will be high, competitive traders will buy on that signal. In doing so, they bid the price up, until the price fully reflects the available information.

Like all good theories, this idea sounds simple in such an overly simplified form. The greatness of Fama’s contribution does not lie in a complex “theory” (though the theory is, in fact, quite subtle and in itself a remarkable achievement.) Rather “efficient markets” became the organizing principle for 30 years of empirical work in financial economics. That empirical work taught us much about the world, and in turn affected the world deeply.

For example, a natural implication of market efficiency is that simple trading rules should not work, e.g. “buy when the market went up yesterday.” This is a testable proposition, and an army of financial economists (including Gene, [4], [5],[ 6]) checked it. The interesting empirical result is that trading rules, technical systems, market newsletters and so on have essentially no power beyond that of luck to forecast stock prices. It’s not a theorem, an axiom, or a philosophy, it’s an empirical prediction that could easily have come out the other way, and sometimes did.

Fama, Hansen, and Shiller Nobel

Gene Fama, Lars Hansen and Bob Shiller win the Nobel Prize. Congratulations! (Minor complaint: Nobel committee, haven't you heard of Google? There are lots of nice Gene Fama photographs lying around. What's with the bad cartoon?)

I'll write more about each in the coming days. I've spent most of my professional life following in their footsteps, so at least I think I understand what they did more than for the typical prize.

As a start, here is an an introduction I wrote for  Gene Fama’s Talk, “The History of the Theory and Evidence on the Efficient Markets Hypothesis” given for the AFA history project. There is a link to this document on my webpage here. The video version is here at IGM.

Introduction for Gene Fama

On behalf of the American Finance Association and the University of Chicago Graduate School of Business, it is an honor and a pleasure to introduce Gene Fama. This talk is being videotaped for the AFA history project, so we speak for the ages.

Gene will tell us how the efficient-markets hypothesis developed. I’d like to say a few words about why it’s so important. This may not be obvious to young people in the audience, and Gene will be too modest to say much about it.

“Market efficiency” means that asset prices incorporate available information about values. It does not mean that orders are “efficiently” processed, that prices “efficiently” allocate resources, or any of the other nice meanings of “efficiency.” Why should prices reflect information? Because of competition and free entry. If we could easily predict that stock prices will rise tomorrow, we would all try to buy today. Prices would rise today until they reflect our information.

Friday Art Fun

Totally off topic. It's Friday, time to relax.

Source: Nina Katchadourian

15th Century Flemish Style Portraits Recreated In Airplane Lavatory Click the link for the full set.

From the artist:

While in the lavatory on a domestic flight in March 2010, I spontaneously put a tissue paper toilet cover seat cover over my head and took a picture in the mirror using my cellphone. The image evoked 15th-century Flemish portraiture. <…> I made several forays to the bathroom from my aisle seat, and by the time we landed I had a large group of new photographs entitled Lavatory Self-Portraits in the Flemish Style

From the art critic (Sally Cochrane)

What no one's saying, though, is that she was hogging the bathroom while a line of antsy people held their bladders! 

In related art news, the street artist Banksy is prowling New York. A group of Brooklyn locals, seeing people coming in to photograph the stencil, promptly covered it with cardboard and starting charging $5 per shot. Entrepreneurship and property rights are still alive.

Krugtron parts 2 and 3

Niall Ferguson has completed his Krugtron trilogy, with Part 2 and Part 3, (Part 1 here FYI, which I blogged about earlier.)

Part 2 continues Part 1. In fact, Krugman is as human as the rest of us, and the future is hard to see. Niall compiles a long record of what Krugman actually said at the time. As before, those of us on the sharp end of Krugman's insults enjoy seeing at least his own record set straight.

But Niall admits what I said last time: we don't really learn much from anyone's prognostication

In the past few days, I have pointed out that he has no right at all to castigate me or anyone else for real or imagined mistakes of prognostication. But the fact that Paul Krugman is often wrong is not the most important thing. ..

What Niall is really mad at are the insults, the lying and slandering (I'm sorry, that's what it is and there are no polite words for impolite behavior), and the lack of scholarship -- Krugman does not read the things he castigates people for.

And it matters.

Mulligan on Obamacare Marginal Tax Rates

Casey Mulligan wrote a nice Wall Street Journal Oped last week, summarizing his recent NBER Working Paper (also here on Casey's webpage) on marginal tax rates.

What do I mean, tax, you might ask. Obamacare is about giving people stuff, not taxing. Sadly, no. Obamacare gives subsidies that are dependent on income. As you earn more, you receive fewer subsidies for health care, reducing the incentive to earn more. Casey tots this sort of thing up, along with the actual taxes people will pay.

Economists use the word "tax" here and we know what we mean, but it would be better to call it "disincentives" so it's clearer what the problem is, and just how painful we make it for poor people in this country to rise out of that poverty.

As you can see, the average marginal "tax" rate went up 10 percentage points since 2007, and about 5 percentage points due to Obamacare alone.

Going back to the working paper, I think this is actually an understatement. (Probably the first time Casey or I have ever been accused of that!)

Margins on Exchanges

A nice Bloomberg View by David Goldhill offers an Econ 101 lesson in incentives. Though the average subsidy rate to health insurance is limited, the marginal subsidy rate is 100% once consumers hit the income limits -- so many consumers have no incentive at all to shop for lower prices. In turn, this greatly lowers the chance that insurers will compete on price.

David:

Let’s take an example. A family of four at 138 percent of the poverty level ($32,499) has its premium capped at 3.29 percent of income or $1,071. The rest is subsidy. So, if the cost of a silver plan is $10,000, the subsidy for this family is $8,929. A family at 400 percent of the poverty level ($94,200) has to pay up to 9.5 percent of its income for a plan, or $8,949. So the same $10,000 premium carries a subsidy of only $1,051.

But now look at those two families from the insurer’s perspective. A $10,000 plan already costs more than the maximum amount either family would pay. If the insurer raises the premium to $10,001, both families get $1 in additional subsidy. If it raises premiums to $11,000, both families get $1,000 in additional subsidy. In other words, no matter how much an insurer raises rates, a subsidized household pays zero more.

Ferguson on Krugtron

A fun show is breaking out. Niall Ferguson on "Krugtron the invincible."

Paul Krugman, for a while now, has been lambasting those he disagrees with by trumpeting their supposed "predictions" which came out wrong, and using words like "knaves and fools" to describe them -- when he's feeling polite. These claims often are based on a rather superficial, if any, study of what the people involved actually wrote, mirroring the sudden narcolepsy of Times fact-checkers any time Krugman steps in to the room. Niall has lately been a particular target of this calumnious campaign.

Niall's fighting back. "Oh yeah? Let's see how your "predictions" worked out!" Don't mess with a historian. He knows how to check the facts. This is only "part 1!" Ken Rogoff seems to be on a similar tear. (and a new item here.) This will be worth watching.

Dupor and Li on the Missing Inflation in the New-Keynesian Stimulus

Bill Dupor and Rong Li have a very nice new paper on fiscal stimulus: "The 2009 Recovery Act and the Expected Inflation Channel of Government Spending" available here.

New-Keynesian models are really utterly different from Old-Keynesian stories. In the old-Keynesian account, more government spending raises income directly (Y=C+I+G); income Y then raises consumption, so you get a second round of income increases.

New-Keynesian models act entirely through the real interest rate.  Higher government spending means more inflation. More inflation reduces real interest rates when the nominal rate is stuck at zero, or when the Fed chooses not to respond with higher nominal rates. A higher real interest rate depresses consumption and output today relative to the future, when they are expected to return to trend. Making the economy deliberately more inefficient also raises inflation, lowers the real rate and stimulates output today. (Bill and Rong's introduction gives a better explanation, recommended.)

So, the key proposition of new-Keynesian multipliers is that they work by increasing expected inflation. Bill and Rong look at that mechanism: did the ARRA stimulus in 2009 increase inflation or expected inflation?  Their answer: No.

Eight young stars

Eight of the World’s Top Young Economists Discuss Where Their Field Is Going is a interesting post, interviewing a few of economics' young stars. It's about a year old, but a correspondent just sent it to me and I think it's still good reading.

It's particularly good reading for PhD students. These are better models to emulate than older economists, as they tell you a bit more what directions are going well now -- at least what gets you baptized a star! Here are a few things I noticed.

Rogoff on UK Defaults

Ken Rogoff wrote a very interesting FT oped on UK finances (FT original, Rogoff webpage if you can't see FT.)

The issue: Should we worry about huge sovereign debts of advanced countries? Or was the only problem with fiscal stimulus that it was not big enough?

Financial Reform in 12 Minutes

I was on a panel yesterday at a fascinating conference, "The US Financial System–Five Years after the Crisis."  The conference was run simultaneously at Hooover and Brookings, with a live video link. Which went dead exactly as I was proclaiming the wonders of modern technology, but otherwise worked remarkably well. Alas, the conference was run under "Chatham house rules" so I can't tell you all the remarkable things that the Very Important People said. I can pass on surprise that there was so little disagreement between the Brookings and Hoover sides. I was expecting a spirited defense of Dodd-Frank from the East. Instead, they piled on it, if anything more eloquently that the West, with only one very thoughtful but still lukewarm defense.  I hope the presentations will eventually be made public, as they were uniformly interesting -- even the ones I disagreed with I thought were wrong in very interesting and thoughtful ways.

I was given 12 minutes to comment on the state of financial reform, is too big to fail over, are we ready for the next crisis. My answer follows. Yes, faithful readers will recognize something of a moving average, which will continue both to move and to average.

Have fun

Financial Reform in 12 Minutes

Is too big to fail over? No. Are we ready for the next crisis? Absolutely not. 

Miron and Rigol go after a classic

Jeff Miron and Natalia Rigol have a provocative working paper, "Bank Failures and Output During the Great Depression." They take on one of Ben Bernanke's most famous papers.

Is QE contractionary?

I ran across a fascinating blog post by Peter Stella at Vox-Eu on exit strategies and QE. 

Peter points out that only banks can hold reserves, while anyone can hold short term Treasuries. And you can easily use Treasuries for collateral.  That means that short term Treasuries are in some sense more liquid than reserves, and that by buying huge amounts of Treasuries and issuing reserves, the Fed may be actually contracting. 

Asset Pricing MOOC Open

My Coursera Asset Pricing MOOC is now open. The direct link is here -- but you may need to register to see it. 

I recommend browsing the week 1 videos, especially the theory preview videos, if you want a sense of what it's all about. Week 0 is background material on continuous time math.

Week 0 (background) and week 1 are up now, 2 and 3 should be up later this week.

Warning, this is a PhD level asset pricing class, designed to get you in to the theory used for research-level asset pricing. It pretty much follows my textbook "Asset Pricing" (and supplementary material) You don't have to buy the text to take the Coursera class. People who just want to watch the videos are also welcome.

The New-Keynesian Liquidity Trap

I just finished a draft of an academic article, "The New-Keynesian Liquidity Trap"  that might be of interest to blog readers, especially those of you who follow the stimulus wars. 

New-Keynesian models produce some stunning predictions of what happens in a "liquidity trap" when interest rates are stuck at zero.  They predict a deep recession. They predict that promises work: "forward guidance," and commitments to keep interest rates low for long periods, with no current action, stimulate the current level of consumption.  Fully-expected future inflation is a good thing. Growth is bad. Deliberate destruction of output, capital, and productivity raise GDP. Throw away the bulldozers, let them use shovels. Or, better, spoons. Hurricanes are good. Government spending, even if financed by current taxation, and even if completely wasted, of the digging ditches and filling them up type, can have huge output multipliers.

Even more puzzling, new-Keynesian models predict that all of this gets worse as prices become more flexible.  Thus, although price stickiness is the central friction keeping the economy from achieving its optimal output, policies that reduce price stickiness would make matters worse.

In short, every law of economics seems to change sign at the zero bound. If gravity itself changed sign and we all started floating away, it would be no less surprising.

And of course, if you read the New York Times, people like me who have any doubts about all this are morons, evil, corrupt, and paid off by some vast right-wing conspiracy to transfer wealth from the poor to the secret conspiracy of hedge fund billionaires.

So I spent some time looking at all this.

McDonalds and the minimum wage

Recently, on a long car trip returning from a glider contest, I did something unusual among our liberal elite: I actually went to a McDonalds and ate there.

The lady who took my order must have been about 19, as were all the other employees I could see, and pretty clearly new on the job.  Getting the order right took some effort.  I made the mistake of paying cash. The bill was something like $7.62. I first offered a $10, and she rang it up. Then I found 12 cents in my pocket, and offered it. This was a big mistake, as the cash register had already computed my change, and adjusting to my offer of 12 cents was beyond her abilities.

Most people might have been annoyed, but as an economist and an educator, I'm happy to see human capital building. OK, I was a little annoyed.

Which brings me, of course, to the proposals for a sharply increased minimum wage.

Summers withdraws

You have undoubtedly seen the news by now. Chicago Tribune, and Wall Street Journal

I'm sad, actually. A Summers confirmation would have been a great focus for a national debate on the role of the Federal Reserve, the role and character of its Chair, proper relations between the Fed and Wall Street, where we are going with financial regulation, whether bailouts and stimulus are a good idea, and how macroeconomic and monetary policy should be conducted.

I mean that as a totally honest statement -- don't read any coded pro- or anti- Summers implications in it.

I don't see that happening with any of the remaining candidates. We are at a good moment to attract some lightning, and I'm sorry to see the lightning rod bow out.

Banking news

There are two interesting tidbits of banking news in today's (9/10/2013) papers.

The Wall Street Journal has a long page 1 article, "Life on Wall Street Gets Less Risky" describing what it's like at Morgan Stanley under the new regulatory regime. Two bits caught my eye

A Chicago economist runs a central bank

Raghu Rajan celebrated his first day on the job running India's central bank. Coverage from Financial Times and Wall Street Journal.

Did he.. Find the coffee machine? Test the sofas in his office? Dust off his desk? Tour the printing press? Or...

Sargent online

Tom Sargent and John Stachurski go online with a fascinating web based course in quantitative economic modeling.

Two thoughts.  The education world is going online, but we're all in version 1.0 at best. Tom and John's website is an interestingly different paradigm than the online courses such as the Coursera platform that I'm using for an online asset pricing course.  I'll be curious to see which elements of which paradigm survive. Or perhaps the Toms' webiste will become the "textbook" for Coursera type courses, which can then add videos, forums, a structured environment for plowing through the material, and  the carrot of certification at the end.

The website is just gorgeous. Producing economic (and scientific) articles for viewing online has so far been a headache. Our journals produce beautiful pdf representations of.. printed pages. They might as well show 3-d images of a papyrus scroll. Math and tables in html as presented on most journal websites is just pathetically ugly. As I looked through this website, I'm enthused that 1) I need to learn python and 2) I need to learn to write my papers and textbooks in this gorgeous format.

Fed Chair

My pick for Fed chair below. I don't have much to say on the choice between Janet Yellen and Larry Summers. Both are worthy economists, with well-discussed pluses and minuses on which I have no particular insight.

So, this post is about who else one might want to look at, and much more importantly the broader question about what makes a good Fed chair.

The press mostly  wants a soothsayer, who will foresee events the market does not see and calm the waters -- in practice,  basically operating the worlds largest contrarian hedge fund, or the commissariat of macroeconomic central planning. Such people don't exist, so that's a self-defeating job description. Let's talk about reality.

The Fed chair will not just have to pick the right course, but will also have to wade through the cacophony of advice and pressure he or she will receive, from politicians, powerful banks and businesses, outside critics – people like me – and the crosswinds of contradictory advice from Fed board members, staff and regions. And then guide a headstrong committee and a ponderous bureaucracy to those ends.

To do that, a chair needs a clear intellectual framework and a core set of principles.

Ronald Coase

Ronald Coase has died, inspiration and hope for those of us who don't write 10 papers a year. But they have to be good ones.

Two insightful retrospectives:

David Henderson, in the Wall Street Journal, also here at Hoover (no paywall)

Dylan Matthews in the Washington Post "Wonkblog" "Here are five of his papers you need to read"

When I got to Chicago, it seemed that people, especially graduate students, would shout "Coase theorem" at totally random moments. The pattern has since started to make some sense.

Nasdaq freeze

An anonymous correspondent explained last week's Nasdaq freeze thus.

The truth about what happened Aug 22 to the Nasdaq is that new limit-up/limit-down rules took effect in derivatives (exchange-traded products) listed at Arca at the same time that new options began trading marketwide that day. Since the market is full of complex, multi-leg trades, bad data propagated, affecting Goldman’s options-trading algorithms Tuesday, spawning hundreds of derivatives trading halts by VIX expirations Wednesday, and producing bad data in the consolidated tape by Thur, halting Nasdaq trading. So the real culprit was the SEC. But it’s bad form to say publicly that the regulator is responsible for jeopardizing the market.

I can't vouch for the story, or even for understanding it all. But I'm interested in several emerging stories that some trading pathologies are in part unintended consequences of SEC regulation. It's also not the first time I hear of financial market participants afraid to speak out and earn the disfavor of their regulator.

Macro-prudential policy

Source: Wall Street Journal

Not a fan. A Wall Street Journal Op-Ed. Link to WSJ. Link to pdf on my website. Director's cut follows:

Interest rates make the headlines, but the Federal Reserve's most important role is going to be the gargantuan systemic financial regulator. The really big question is whether and how the Fed will pursue a "macroprudential" policy. This is the emerging notion that central banks should intensively monitor the whole financial system and actively intervene in a broad range of markets toward a wide range of goals including financial and economic stability.

Taylor Jackson Hole Blog

John Taylor is blogging from Jackson Hole

Day 1: Skepticism of unconventional policy  Academics say quantitative easing does't do much. I happen to agree

Forward guidance Is "forward guidance" clarification of a rule, i.e. here is what we think we'll feel like doing in the future, or a precommitment? To the Bank of England and ECB, the former.

This looks like an interesting series to watch.

MOOC

I will be running a MOOC (massively online) class this fall. Follow the link for information. The class will roughly parallel my PhD asset pricing class. We'll run through most of the "Asset Pricing" textbook. The videos are all shot, now I'm putting together quizzes... which accounts for some of my recent blog silence.

So, if you're interested in the theory of academic asset pricing, or you've wanted to work through the book, here's your chance. It's designed for PhD students, aspiring PhD students, advanced MBAs, financial engineers, people who are working in industry who might like to study PhD level finance but don't have the time, and so on. It's not easy, we start with a stochastic calculus review!  But I'm emphasizing the intuition, what the models mean, why we use them, and so on, over the mathematics.

Litterman on carbon finance

I just read a very nice article by Bob Litterman in CATO's "Regulation" on the finance of carbon taxes. It includes a review of some of the recent academic calculations.

(Related, Ronald Bailey at Reason.com takes on the Administration's latest cost of carbon estimates, and reviews Robert Pindyk's recent NBER working paper "What do the models tell us?" also covered by Bob.)

Like just about every economist, Bob favors a carbon tax or tradeable emissions right over the vast network of regulatory controls on which we are now embarked. I might add that getting rid of the large subsidies for carbon emissions implicit in many country's policies would help before we start taxing.

But let's get to business, how big should the carbon tax be?

Rajan to run the central bank of India

My colleague Raghu Rajan has just been appointed governor of the central bank of India. See Financial Times and Reuters. Congratulations Raghu!

Let me add two little notes to the songs of praise for this decision.

Traditionally, academic central bank governors come from the world of monetary policy, people who think about interest rates and inflation and all that. Raghu comes from the academic world that studies finance and banking. Look at his vita and you'll see great article after great article thinking about how banks work.

Just in time. Central banks are now all scrambling to understand banking and financial markets, regulating the financial system, avoiding crises, and so on. This is their central new task. (Or you might say, a return to their age-old task after a short interlude.) You can't ask for a person on the planet who has thought more clearly and productively about these issues.

His popular book “Saving capitalism from the capitalists” with Luigi Zingales is also revealing. Yes, he sees how over regulation and corruption are at the heart of India’s problems (and many of our own). But he also sees the strong political forces that keep the dysfunctional system in place. If anyone can understand and resist the political pressures that central bank governors face, it will be Raghu. And he won’t be tempted to think that any monetary magic or financial dirigisme from a central bank can fix all of India's problems.

He is also about the most polite person I know, while never shying away from standing for what's right. That means he will be far more effective than typical bull-in-a-china-shop academics like myself would ever be in steering a ponderous bureacracy.

Good luck, Raghu. I think you'll need it.

Reuters already expreses the view that it's too bad he's out of the running for the US Fed job.

The Republic of Paperwork

Mark Steyn, while writing on other matters, came up with this gem:

40 percent of Americans perform minimal-skilled service jobs about to be rendered obsolete by technology, and almost as many pass their productive years shuffling paperwork from one corner of the land to another in various “professional services” jobs that exist to in order to facilitate compliance with the unceasing demands of the microregulatory state. The daily Obamacare fixes — which are nothing to do with “health” “care” but only with navigating an impenetrable bureaucracy — are the perfect embodiment of the Republic of Paperwork.

Immigration

WSJ Op-Ed on immigration, with extra comments.  Original here.

Think Government Is Intrusive Now? Wait Until E-Verify Kicks In

Source: Wall Street Journal

Massive border security and E-Verify are central provisions of the Senate immigration bill, and they are supported by many in the House. Both provisions signal how wrong-headed much of the immigration-reform effort has become.

E-Verify is the real monster. If this part of the bill passes, all employers will be forced to use the government-run, Web-based system that checks potential employees' immigration status. That means, every American will have to obtain the federal government's prior approval in order to earn a living.

Et tu, Brute?

Politico's Byron Tau has a hilarious story:

Pot legalization activists are running into an unexpected and ironic opponent in their efforts to make cannabis legal: Big Marijuana...

On Au

Greg Mankiw has a cool New York Times article and blog post, "On Au" analyzing the case to be made for gold in a portfolio, including a cute problem set. (Picture at left from Greg's website. I need to get Sally painting some gold pictures!)

I think Greg made two basic mistakes in analysis.

From Livestock to the Stock Exchange

From Livestock to the Stock Exchange. © Sally Cochrane All Rights Reserved

Artist's description: This is a brief visual history of trade, reading left to right. The first "money" was cattle, represented by the cheese. Ancient Mesopotamians kept track of their cattle exchanges on cuneiform tablets like receipts (we have some at the Oriental institute of Chicago!). The root of the word "pecuniary" comes from the root "pecu" meaning "cattle." Cowrie shells were another early form of currency for trade, and beaver fur, which was very valuable, was used in barter when Europeans discovered the New World. The coins and stock ticker tape represent the modern end of the history. July 2013. 8"x 16" oil on canvas.

Original here with many other sizes.

Sally says the beaver fur was inspired by a Russ Roberts EconTalk podcast, interviewing Timothy Brook on his book Vermeer's Hat. "Part of the book talked about how valuable beaver fur was for making hats that ended up in the Netherlands during Vermeer's lifetime." I don't know how many other artists listen to EconTalk while painting...

The Value of Public Sector Pensions

The unfunded promises of public sector pensions are in the news, with the Detroit bankruptcy. Josh Rauh at Stanford and Hoover has a nice blog post on the subject titled "Public Sector Pensions are a National Issue''. (Josh and Robert Novy-Marx wrote a very influential paper (ssrn manuscript) alerting us to the size of the state and local pension bomb.)

Josh's baseline number for the value of underfunded pensions: $4 trillion. Why so big, and why is this a surprise? Because many governments calculate their funding by assuming they will earn 8% per year. Discounting a riskless liability (pensions) at a risky rate is a basic error in finance. It's made all the time. University presidents are notorious for demanding their endowments "reach for yield" in order to "make our rate of return targets."

Reading this piece sparks a few thoughts about the risks posed by pensions and other unfunded liabilities.

Are we prepared for the next financial crisis?

This is the title of a very well-prepared video made by Hal Weitzman, Dustin Whitehead and the Booth "Capital Ideas" team, based on interviews with many of our faculty. Direct link here (Youtube)

Health Insurance and Labor Supply

I just ran across an interesting paper, "Public Health Insurance, Labor Supply, and Employment Lock" by  Craig Garthwaite,  Tal Gross and my Booth colleague Matthew Notowidigdo.

They study an interesting event

... In 2005, Tennessee discontinued its expansion of TennCare, the state’s Medicaid system. ... Approximately 170,000 adults (roughly 4 percent of the state’s non-elderly, adult population) abruptly lost public health insurance coverage over a three-month period.

The result was

a large and immediate labor supply increase....we find an immediate increase in job search behavior and a steady rise in both employment and health insurance coverage. 

A Ray of Hope? Hospitals Post Prices

I was intrigued by news stories of an Oklahoma hospital posting prices for surgery -- prices far below those offered by its competitors. Here is the article and the surprisingly low price list.  Several competitors felt the pressure to slash and post prices.

Stopping Bank Crises Before They Start

This is a Wall Street Journal Oped 6/24/2013

Regulating the riskiness of bank assets is a dead end. Instead, fix the run-prone nature of bank liabilities.

In recent months the realization has sunk in across the country that the 2010 Dodd-Frank financial-reform legislation is a colossal mess. Yet we obviously can't go back to the status quo that produced a financial catastrophe in 2007-08. Fortunately, there is an alternative.

At its core, the recent financial crisis was a run. The run was concentrated in the "shadow banking system" of overnight repurchase agreements, asset-backed securities, broker-dealers and investment banks, but it was a classic run nonetheless.

Mankiw on the 1%

Greg Mankiw has an intereting new article draft, titled "Defending the 1%"  It's mistitled really, as the main point I got out of it is the more interesting question, "Can transfers really help the bottom 50%?"

It's a very well written (as one would expect) and survey of economic issues surrounding the idea of greatly expanded taxation of upper income people to fund transfers. Go read it, I won't do it justice in a summary.

As Greg notes, much of the success of the 1% is not rent-seeking, nor inherited wealth, but entrepreneurs who innovated and got spectacularly wealthy in the process.

Two seconds

The weekend wall street journal had an interesting article about high speed trading, Traders Pay for an Early Peek at Key Data. Through Thompson-Reuters, traders can get the University of Michigan consumer confidence survey results two seconds ahead of everyone else. They then trade S&P500 ETFs on the information.


Source: Wall Street Journal

Naturally, the article was about whether this is fair and ethical, with a pretty strong sense of no (and surely pressure on the University of Michigan not to offer the service.)
It didn't ask the obvious question: Traders need willing counterparties. Knowing that this is going on, who in their right mind is leaving limit orders on the books in the two seconds before the confidence surveys come out?

OK, you say, mom and pop are too unsophisticated to know what's going on. But even mom and pop place their orders through institutions which use trading algorithms to minimize price impact. It takes one line of code to add "do not leave limit orders in place during the two seconds before the consumer confidence surveys come out."

In short, the article leaves this impression that investors are getting taken. But it's so easy to avoid being taken, so it seems a bit of a puzzle that anyone can make money at this game. 

I hope readers with more market experience than I can answer the puzzle: Who is it out there that is dumb enough to leave limit orders for S&P500 ETFs outstanding in the 2 seconds before the consumer confidence surveys come out?

Job market doldrums

Three recent views on the dismal labor market pose an interesting contrast.

Alan Blinder wrote a provocative WSJ piece on 6/11, Fiscal Fixes for the Jobless Recovery. A week prviously, 6/5, Ed Lazear wrote about The Hidden Jobless Disaster. And John Taylor has a good short blog post Job Growth–Barely Keeping Pace with Population

All three authors emphasize that the unemployment rate is a poor measure of the labor market. Unemployment counts people who don't have a job but are actively looking for one. People who give up and leave the labor force don't count. Employment is a more interesting number, and the employment-population ratio a better summary statistic than the unemployment rate. After all, if unemployment falls because everyone who is looking for a job gives up, I don't think we'd see that as a good sign.

Source: Wall Street Journal

Ed Lazear made this interesting chart. As he explains,

Two on financial reform

I recently read two interesting items in the long-running financial regulation saga.

First, a very thoughtful, clear, and succinct speech by Philadelphia Fed President Charles Plosser titled "Reducing Financial Fragility by Ending Too Big to Fail." It's interesting to see a (another?) Fed President basically say that the whole Dodd-Frank / Basel structure is wrong-headed. Two little gems:

 There is probably no better example of rule writing that violates the basic principles of simple, robust regulation than risk-weighted capital calculations.
...
Remember that Title II resolution is available only when there are concerns about systemic risk. Just imagine the highly political issue of determining whether a firm is systemically important, especially if it has not been designated so by the Financial Stability Oversight Committee beforehand....

...Creditors will perceive that their payoffs will be determined through a regulatory resolution process, which could be influenced through political pressure rather than subject to the rule of law

No surprise, I agree.

Second, Anat Admati and Martin Hellwig have an addition to their "Banker's new clothes" book (my review),  23 Flawed Claims Debunked.  Don't miss the fun footnotes.  Anat and Martin get some sort of medal for patience in wading through dreck.

Bipartisan Mercantilism

From the press release here and here

Wednesday, June 5, 2013 WASHINGTON, D.C. — Following new figures that show a 34 percent jump over last month’s [my emphasis] U.S.-China trade deficit, U.S. Sens. Sherrod Brown (D-OH), Jeff Sessions (R-AL), Chuck Schumer (D-NY), Lindsey Graham (R-SC), Debbie Stabenow (D-MI), Richard Burr (R-NC), Susan Collins (R-ME), and Robert Casey (D-PA), today introduced the Currency Exchange Rate Oversight Reform Act of 2013... 

 ...the bill would use U.S. trade law to counter the economic harm to U.S. manufacturers caused by currency manipulation, and provide consequences for countries that fail to adopt appropriate policies to eliminate currency misalignment. The senators’ introduction comes in advance of upcoming talks between President Obama and Chinese President Xi.

Obviously, this is a political shot across the bow to the Obama Administration to press mercantilist trade restrictions in the upcoming discussions with China. Still, why cloak it in such nonsense as

“It is universally accepted that China and other major countries intentionally manipulate their currency to create an advantage for themselves in the marketplace” [Senator] Graham said.

Well, not "universally."

The "complete summary" continues,

"the bill specifies the applicable investigation initiation standard, which will require Commerce to investigate whether currency undervaluation by a government provides a countervailable subsidy if a U.S. industry requests investigation... 

I'm glad to see that industries which don't like to compete with Chinese manufacturers will become experts in monetary policy.

The legislation requires Treasury to develop a biannual report to Congress that identifies... "fundamentally misaligned currencies" based on observed objective criteria...

I cannot find what those "objective criteria are." Let us know, guys and gals, a Nobel Prize in economics awaits you.

If they don't like the Chinese peg, maybe next they can target Texas for its 1-1 peg to the Ohio dollar, which is obviously sucking business to Texas.

When they're done with "currency manipulation" perhaps they can get to the serious business of impeaching the Easter Bunny.


(Thanks to Alex Walsh at the Birmingham News for pointing me to the link.)

Immigration

I wrote a short essay on immigration for Hoover's "Advancing A Free Society" series. It's here, and reproduced below.  The whole set of essays in Hoover's Immigration Reform series is worth perusing.

Since writing it, and also reading Steve Chapman's good editorial on the subject (Chicago Tribune, Townhall) the e-verify system seems like an even bigger nightmare. Every employer in the country must check that every applicant has the Federal Government's permission to work before employing him or her.

Beyond the points raised in the essay below, it's an interesting coincidence that this e-verify is in the news at the same time as the IRS scandal. Congressional Republicans get the cognitive-dissonance award of the year for this one.

Monetary Policy Puzzle

Might raising interest rates, but not paying interest on reserves, actually be "stimulative," inducing banks to lend out reserves?

Last week, I gave a talk on monetary policy at a forum organized by the Becker-Friedman institute.  I explained my view, that as long as reserves pay the same interest rate as very short-term Treasuries, and as long as banks are holding huge amounts of excess reserves, that monetary policy and pure quantitative easing -- buy short-term treasuries, give the banks more reserves -- has absolutely no effect on anything. Interest-paying excess reserves are exactly the same thing as short-term treasuries.

When the time comes to tighten, I said, I hope dearly that the Fed continues to pay a market interest rate on reserves and allow huge amounts of excess reserves to continue. (I had lots of financial-stability reasons, which will wait for another day here.)   But that means that conventional open market operations and quantitative easing -- more reserves, less Treasuries -- will continue to have no effect whatsoever.

An audience member asked a very sharp question: Suppose the Fed raises interest rates but does not raise the rate on reserves? Now, banks do have an incentive to lend them out instead of sitting on them. Wouldn't velocity pick up, MV=PY start to work again, and the Fed get all the "stimulus" it wants and then some?

It's a particularly sharp question, because it gives sensible-sounding mechanism why the conventional sign might be wrong: why raising rates now might give monetary "stimulus" that is otherwise so conspicuously lacking. There are a few other of these stories wandering around. One: Low rates are said to discourage retirees and other savers, who now "can't afford to spend."  (Quotes around things that don't make much economic sense.)   John Taylor, wrote a very provocative WSJ oped, (too subtle to summarize in one sentence here) and also came close to saying the sign is wrong and higher rates would be more stimulative.

But is the suggestion right? I sort of stammered, and needed the weekend to think it through. (Giving talks like this is a great way to clarify one's ideas. Or maybe this just reveals my shocking ignorance. In any case, it makes a good exam question.) Think about it, and then click the "read more."

Forward Guidance vs. Commitment

He: "Honey, I'm getting tickets for Sunday's football game. Do you want to come?"

Forward guidance.  She: "As things look now, I think I'll feel like coming when Sunday rolls around. Of course that might change. If my mother calls and wants to go shopping I might well feel differently."

Commitment. She: "Sure, honey, that sounds like fun. Get the tickets. I know my mom might call, and I'll regret it later, but we have to get the tickets now, so count me in."

Anaphylaxis

My daughter Sally is at the Grand Central Academy of Art in New York. This is one of her still lives (yes, it's a painting). See if you can figure out what it means. Then click on the figure for an explanation. Don't miss "ceci n’est pas une molécule d’histamine." 

Yes, this has nothing to do with economics. It's just cool.

The Fed and Shadow Banking

The WSJ has a fascinating Op-Ed by Andy Kessler, "The Fed Squeezes the Shadow-Banking System" Andy thinks that Quantiative Easing has the opposite, contractionary effect.

QE is just a huge open market operation. The Fed buys Treasury securities and issues bank reserves instead. Why does this do anything? Why isn't this like trading some red M&Ms for some green M&Ms and expecting it to affect your weight?  (M&M of course stands for "Modigliani Miller" if you didn't get the joke.)

The usual thinking is that bank reserves are "special." They are connected to GDP in a way that Treasuries are not.  In the conventional monetary view, MV = PY.  Bank reserves, through a multiplier, control M. The bank or credit channel view says that bank reserves control lending and lending affects PY. The red M&Ms, though superficially identical, have more calories.

In Andy's view (my interpretation), that is turned around now. Now, Treasuries supply more "liquidity" needs than bank reserves, and (more importantly) the supply of treasuries is more connected to nominal GDP than is the supply of bank reserves.