Cyprus and Resolution Authority

Holman Jenkins has a revealing Cyprus update in today's Wall Street Jounal. For those of you who haven't been following the news, Cyprus' banks failed, borrowing huge amounts of money and investing it in Greek debt (yes).  Cyprus was bailed out by the EU after a chaotic week, including an agreement that large depositors would lose some money, called a "bail-in."

ECB dilemma

It was announced yesterday that  Europe will have a new, central bank supervisor run by the ECB, much as our Fed combines monetary policy and bank supervision. Be careful what you wish for, you just might get it.

One big unified central agency always sounds like a good idea until you think harder about it. This one faces an intractable dilemma.

Here's the problem. Why not just let Greece default?" is usually answered with "because then all the banks fail and Greece goes even further down the toilet." (And Spain, and Italy).

So, what should a European Bank Regulator do? Well, it should protect the banking system from sovereign default. It should declare that  sovereign debt is risky, require marking it to market, require large capital against it, and it should force banks to reduce sovereign exposure  to get rid of this obviously "systemic" "correlated risk" to their balance sheets. (They can just require banks to buy CDS, they don't have to require them to dump bonds on the market. This is just about not wanting to pay insurance premiums.) It should do for the obvious risky elephant in the room exactly what bank regulators failed to do for mortgage backed securities in 2006.

Unraveling the Mysteries of Money

Harald Uhlig and I did a fun interview run by Gideon Magnus (Chicago PhD) at Morningstar. We talk about the foundations of money, fiscal theory, monetary policy, European debt problems, etc. Gideon framed it well, and Harald is really sharp. Somebody combed my hair. A cleaned up version of the interview appeared in the Morningstar Advisor Magazine (html) (A prettier pdf)



A link in case the video doesn't work or doesn't embed well (if you see "server application unavailable" the link usually still works), or if you want the original source.

The video starts a little abruptly, as it left out Gideon's thoughtful introduction (it's in the Magazine) and framing question:

Gideon Magnus: I want to discuss the value of money and the idea that money is valued similarly to any other asset. Are there really assets backing money? If so, what are they? John, please explain.

Bad Hair Day

A short interview by Betty Liu on Bloomberg TV: (if that doesn't work a link). The ECB's big bond buying program, how "sterilizing" won't solve everything, and discussion of the WSJ Oped on the future of the Fed

Bloomberg TV Interview

An interview on the Tom Keene's show this morning on Bloomberg TV


I always feel bad after these things, that I could have answered much better or clearer. Or found a better tie. Well, we do what we can. A direct link

A good Greek story

Matt Jacobs sent along a link to a great story from Greece on Reuters,  "Lessons in a shrimp farm's travails." The whole article is worth reading, but here are a few tidbits:

Just over a decade ago, Napoleon Tsanis set out from Sydney with 11 million euros and a dream to build a shrimp farm in his ancestral homeland... What he got was years of wrestling Greek bureaucracy and a court battle with a civil servant...

Common sense from France

Today's WSJ has a lovely editorial from Pascal Salin, professor emeritus of economics at the Université Paris-Dauphine. It echoes many of the things I've said about the euro crisis, but with deeper political insight....and it's from France.

A few tidbits with comment

Contrary to what is claimed daily in the media by politicians and many economists, there is no "euro crisis." The single currency doesn't have to be "saved" or else explode.

The Devaluation Chorus Sings again

The chorus to devalue (and then inflate) the euro as the key to solving Europe's ills is singing again.

Ken Griffin and my colleague Anil Kashyap have a big OpEd on the Euro in the New York Times. They want Germany to leave the Euro, followed by quick euro depreciation relative to the Mark and Dollar.

Martin Feldstein, writing in the Wall Street Journal, echoes this faith in devaluation

The only way to prevent the dissolution of the euro zone might be a sharp decline in the value of the euro relative to the dollar and to other currencies

As you might have guessed, I think it's a terrible idea.

Bloomberg TV link

I did a Bloomberg TV interview this morning on Euro debt crisis. I can't seem to insert the video here, so you'll have to follow the link if you're curious.

Update: I figured out how to embed bloomberg vidoes!

A glimmer of hope?

Weekend Update.

On Monday the Greeks decide whether to vote for the Easter Bunny or Santa Claus to solve their fiscal problems. What is Europe planning to do next?

Sunday's New York Times had an unusually cogent article on European events over the weekend, reporting on events with thoughtful analysis:

Euro explosion

The European bank run is on, and with it the slow-motion train wreck  will move to high speed.

The Wall Street Journal reports €600 to 900 million  a day are flowing out of Greek banks, and  the outflow may rise above a billion euros per day. At the end of April there were only €166 Billion deposits to flow. Count the days.  And Greeks -- those who can't move money abroad or move themselves abroad -- are "hiding money in jars, under the bed, even burying it in the mountains."

In related news, I read last week say that payments are simply stopping in Greece. If there's a chance to pay in Drachma next month, why pay in euros now? Shipments are stopping -- if your invoice might get paid in drachma, no point in sending goods today. This is simple implosion.  Spain has already lost about € 100 billion of bank deposits and Italy is losing them quickly.

Economist's Haiku for Europe

A lovely letter to the Economist says it all.

Sir: 

Leaving the euro zone is no option for Greece (“Fiddling while Athens burns”, May 19th). The new drachma would be valueless, as there would be no demand for it. A country that finds it difficult to run its fiscal affairs cannot manage a national currency. The restored drachma would stay in circulation only if the Greeks were denied access to foreign exchange, preventing the informal use of the euro. That would require draconian exchange controls of the type put in place by Germany after the first world war, which ensured the circulation of the depreciating mark during a period of hyperinflation.

What can Europe do for Greece? It can provide it with a stable monetary unit: the euro. What can Europe not do for Greece? Well, it cannot give it a sound fiscal system. The Greeks have to achieve that themselves if they wish to remain a sovereign country.

Ernst Juerg Weber
Associate professor of economics
University of Western Australia
Perth  

Good news from Europe

This morning's Wall Street Journal article on renewed bank competition in Europe is one little bright spot. Apparently, large healthy international banks are competing for deposits in Greece, Spain and Italy.

Simon Johnson on the Euro

Simon Johnson has a good blog post on the end of the euro. Digging in, the run is on, the end is near, and the chaos will be worse than you thought.T he ECB has also monetized a lot more than you thought.

Still, I do not understand why even Simon cannot imagine the idea of sovereign default while staying in -- and firmly committing to stay in -- the currency union. The picture Simon paints of the euro breakup is a catastrophe. So why not even talk about sovereign default (restructuring) without euro breakup?

It strikes me as really the only way out, and the longer Europe waits, the harder it will be. 

Austerity, Stimulus, or Growth Now?

(This is also a Bloomberg "Business class" column, with minor improvements.)

Austerity isn't working in Europe. Greece is collapsing, Italy and Spain’s output is declining, and even Germany and the U.K. are slowing down. In addition to its direct economic costs, these “austerity” programs aren't even swiftly closing budget gaps. As incomes decline, tax revenue drops, and it is harder to cut spending. A downward spiral looms.

These events have important lessons for the U.S. Our government cannot forever borrow and spend 10 percent of gross domestic product each year, with an impending entitlements fiasco to boot. Sooner or later, we will have to fix our finances, too.  Europe's experience is a warning that austerity -- a program of sharp budget cuts and (even) higher tax rates, but largely putting off “structural reforms” for a sunnier day -- is a dangerous path.

Why is austerity causing such economic difficulty? What else should we do?

Sargent on debt and defaults

Tom Sargent's Wall Street Journal oped is well worth reading closely. It's a very short summary of his Nobel prize speech

As readers of this blog will probably know, I think Europe should stop bailing out bondholders of Greek and other debt. (See the Euro collection and Euro tags to the right.)

"What about Alexander Hamilton?" has always been a nagging doubt.

What zero bound?

German bond yields turn negative, as reported in the Wall Street Journal.

Source: Wall Street Journal

Negative interest rates are a big puzzle. Easy stories miss the point: "flight to quality," "need for collateral," etc. Those stories don't explain why bonds are worth more than money.  There's no more quality or better collateral than cash!

So why would anyone suffer a negative rate on government bonds when they can hold cash instead?

For some of us it might make sense. Cash is clunky, dangerous and expensive to put under a mattress. Many banks now charge for the privilege of depositing. So an individual might prefer a very slightly overpriced government bond to cash.

But a bank has a better option. Why not just hold reserves? Reserves are like cash, and as safe and liquid (more so) than government bonds. I might have guessed that only people were buying these bonds. It seems I'm wrong (unconfirmed rumor) -- banks are buying and holding the bonds.

So why would a bank hold a bond at negative interest rate rather than hold reserves? Sometimes there are arcane technical, accounting or regulatory reasons, but so far nobody I've talked to has identified one here.

Should Greece Devalue?

Two weeks ago I wrote the following in a little Bloomberg column about the Euro 

Defenders [of devaluation] think that devaluing would fool workers into a bout of “competitiveness,” as if people wouldn’t realize they were being paid in Monopoly money. If devaluing the currency made countries competitive, Zimbabwe would be the richest country on Earth. No Chicago voter would want the governor of Illinois to be able to devalue his way out of his state’s budget and economic troubles. Why do economists think Greek politicians are so much wiser? 

This paragraph set off a little kerfuffle in the Cochrane-is-a-moron section of the blogosphere. I won't respond in detail, because I presume you're more interested in economics than what anyone thinks of anyone else's intelligence.

But the paragraph was mighty distilled, and the evident interest in the question suggests a little fuller examination of whether devaluation is a good idea or not for a country like Greece, and trying to understand why people come to such different views.

I think I can sum it up this way: Devaluation is like a cigarette. The Keynesian camp basically says, "Boy, a cigarette would perk me up right now."' Modern macroeconomists (I'm looking for a good name -- "Dynamic?" "Intertemporal?" "Equilibrium?" Really everybody else, including new-Keynesians) basically say "Maybe, but smoking is a really bad lifestyle decision." We think of policies as rules, not decisions.

The following discussion resembles that between a teenager and the parent who found a pack of cigarettes. It sounds like facts are at issue -- just how good does it really feel, just how long does it take to get addicted, how bad are the long-run effects -- but there is a deeper difference in perspective, which is why the arguments are a lot more heated than the simple facts suggest.