“I cannot help thinking that the central bankers are escaping very lightly in the post-crisis dust-up. For while incentive structures in banking exacerbated the credit bubble, they were a much less potent cause of trouble than central bank behavior across the world.”
So writes John Plender in the Financial Times this morning (See “Blame the Central Bankers more than the Private Bankers”: http://www.ft.com/cms/s/0/58aa12a8-0575-11df-a85e-00144feabdc0.html.)
This article should be read!
One point that Plender makes is that maybe we need fewer academic central bankers and “more private sector bankers with a practical understanding of markets.” You mean heading up the Economics Department at Princeton is not enough to be the head of a central bank?
“The academics who dominate modern central banking were ideologically committed to the notion of efficient markets and to exclusive reliance on inflation targeting regardless of imbalances arising from easy credit and soaring asset prices.”
The consequence? An asymmetrical approach to monetary policy: “Interest rates were reduced when asset prices fell, but were not raised in response to wildly overheating markets.”
This focus gave us the ridiculously low interest rates in the United States from 2002 through to 2004 and the subsequent asset (housing) bubble which accompanied them. This conclusion comes even after and “In spite of the bizarre recent assertion by Ben Bernanke…that the Fed was largely innocent in the matter of bubble creation.”
This mindset, Plender argues, is still around and is present in some of the approaches to fight systemic risk and to provide “macro-prudential” regulation and supervision. The mix of policy that these “academic” officials are proposing “suffers from the single disadvantage that it will not work.”
What Mr. Plender really asks for is central bankers that have less experience with the academic study of banking and financial markets and that have more practical experience in these markets.
The particular approach followed by central bankers, Plender continues, led to the rise in bank leverage which was “a far more important factor” in the crisis than was financial innovation.
How could this be?
Well, the incentive structures in banking placed emphasis on current bank earnings. And, the surest way to increase performance during the 1990s and 2000s was to leverage up the portfolio so as to earn a few more basis points. This behavior had to continue because competitors kept doing it. As “Chuck” Prince, the Chairman and CEO of Citigroup, so eloquently put it, if the music is still playing you must continue to dance. Competition demanded more basis points to keep in the dance for investor’s money.
And, the continued increases in leverage were underwritten by the monetary authorities who followed the philosophy of central banking described above. When the bubble burst, the leverage, of course, worked in the opposite direction.
I would highly recommend reading Plender’s article.
Showing posts with label central bankers. Show all posts
Showing posts with label central bankers. Show all posts
Wednesday, January 20, 2010
Monday, May 12, 2008
Defenses of the Current U. S. dollar policy.
Defenders of the current economic policy of the Bush administration are now surfacing. Apparently, enough concern has been raised to cause a need to defend the status quo. There are two arguments for not changing policy at the present time. First, there is the argument that the value of the dollar has bottomed out along with signs that there could be an upturn. The second argument is that the United States is still too important in the world for the dollar to have to play by the same rules as all other nations. We will present these two defenses in turn.
The argument for the strengthening of the dollar is the growing attention that has been given to the weakness in the dollar over the past six years or so. Some analysts have discerned such concern being expressed in recent speeches of Ben Bernanke. The feeling is that the ‘balance is shifting’ from the emphasis on financial market crisis to greater emphasis being placed on what has been happening in the foreign exchange markets. Just the added attention on the foreign exchange market has given people hope.
Another factor in this glimpse of optimism is what is happening in Europe. Last Thursday, the Bank of England and the European Central Bank left their interest where they were. The concern expressed by these leaders is with inflation and they, the leaders of these banks, stated that ‘their mandate’ is to maintain price stability within their domains. Given the recent rise in the price of oil and other commodities, greater concern is being expressed that inflation could get out-of-hand and the need right now is to keep a lid on price pressures. The underlying theme is that these central banks will do what they have to do in order to fight these inflationary trends...but this could cause an economic slowdown in Europe, taking the pressure off the central banks to further raise rates or even to let them fall.
This, of course, is taken as a hopeful sign by those arguing for the stabilizing of the dollar because it would help to change relative interest rates between Europe and the United States, something that has contributed to the weakness in the dollar. Higher short term interest rates in Europe have drawn investors away from the U. S. during the recent period when the Federal Reserve has been dramatically lowering their target for the Fed Funds rate. In addition, the Federal Reserve Open Market Committee, after their latest meeting, announced that their latest reduction in the Fed Funds target may be the last one…at least for a while. [See the post of May 1, 2008, “Where is the Leadership?” http://maseportfolio.blogspot.com/.] This has been taken as a hopeful sign that the yield differential between Europe and the United States will become more favorable to the United States.
Finally, although not noticed at the time, the finance ministers of the G-7 nations called attention to the problems, including that of the dollar, in international currency markets and stated that they could not ignore these going forward. [See my post “Finance Ministers Concerned with the U. S. Dollar”, of April 13 at the above website.] Analysts have now gone back to this and claimed this to be another piece of evidence that the concern over the decline in the value of the dollar has risen on the agenda of world bankers. This, they argue is just another sign that maybe the decline in the value of the dollar is over and that some rise might be expected in the future.
In terms of the second argument, analysts are arguing that, yes, the dollar has declined in value but we needn’t be overly concerned with the decline because the United States is too important in the world for nations and other investors to ‘dump’ the dollar. The United States, they argue is still a great place for people to invest and, in this respect, will continue to be a haven to world investors in this age of uncertainty and changing technologies. Also, just the fact that the United States possesses the major military machine in the world gives it the ability to continue to pay off its debts. Even though China and India are becoming major economic powers in the world, the United States and the dollar will maintain its position and prevail over other currencies [including the Euro] in the foreseeable future.
Essentially, the argument here is that it is in the best interest of other nations [China and India included] to see that the role of the dollar is maintained. And, as long as the United States and the U. S. dollar serve as the lubricant for world trade, there is plenty of incentive to see that the current system continues to work. Others, like the G-7, will do what they have to do to keep things as they are.
There are several responses I would like to make to these arguments.
First, people seem to forget that the United States had a budget surplus as recently as 2001. Why do we think that fiscal discipline is not a viable alternative?
Second, most of the first argument is based on wishful thinking. There has been talk before by Treasury Secretaries and Federal Reserve Chairman about a strong dollar…but nothing ever came of this. The situation in England and Europe may require higher interest rates before lower rates are considered…and the Federal Reserve has only suggested a pause in the lowering of interest rates here. And, what is the G-7 going to do for the dollar if United States policymakers do not show a real commitment on their part.
Third, no country in the world has considered itself ‘too’ important to ignore the rules that other nations play by. Although a ‘go-it-alone’ attitude has prevailed in Washington, D. C. over the past 7 ½ years, it has already come back to haunt us in many different areas. In the early 1990s, Robert Rubin convinced Bill Clinton that the United States could not afford to be out-of-step with the rest of the world and needed to bring the Federal budget under control. Clinton listened to him and by the time he left office, the United States was, fiscally, in very god shape and the dollar was doing quite well. This strength was recognized in world financial markets. We are a part of the world and can play by the rules that everyone else plays by. We only hurt and isolate ourselves if we consider that we are above the rules.
Will we continue on the path suggested by those arguing for little or no change in United States economic policy? Yes, for at least the short run.
First, we have a lame duck administration. There is nothing dramatic that will be done before a new administration comes into office. All that we can expect is efforts to protect the legacy of the current administration.
Second, there is a question as to whether a new administration will accept the economic and financial realities that exist or will they try and enact legislation reflecting the promises they are making to get elected. Before confidence can be restored in the U. S. government, there must be real commitment on the part of a new administration that market participants in international markets can trust.
Third, there is still the lingering financial uncertainty. How fragile is the financial system at this time and how will continuing economic weakness contribute to any future dislocations? Banks and others seem to be working out their problems in an orderly fashion, but will this continue?
Fourth, how will United States citizens respond to more and more foreign ownership of their physical assets? Sovereign wealth funds and other investors will keep investing their dollars in U. S. companies. The use of these dollars in this way has recently increased every year and there is no reason that this will stop. How will the electorate respond in the future to seeing U. S. firms coming more and more under the control of foreign nations and other foreign interests? Globalization is coming home to America.
Finally, will the United States enact an effective energy policy? This, sadly, is still in the distant future.
The future...the dollar may fluctuate around the current range for a while...but, it seems to me that unless things change, the longer term picture contains more weakness in the dollar's value.
The argument for the strengthening of the dollar is the growing attention that has been given to the weakness in the dollar over the past six years or so. Some analysts have discerned such concern being expressed in recent speeches of Ben Bernanke. The feeling is that the ‘balance is shifting’ from the emphasis on financial market crisis to greater emphasis being placed on what has been happening in the foreign exchange markets. Just the added attention on the foreign exchange market has given people hope.
Another factor in this glimpse of optimism is what is happening in Europe. Last Thursday, the Bank of England and the European Central Bank left their interest where they were. The concern expressed by these leaders is with inflation and they, the leaders of these banks, stated that ‘their mandate’ is to maintain price stability within their domains. Given the recent rise in the price of oil and other commodities, greater concern is being expressed that inflation could get out-of-hand and the need right now is to keep a lid on price pressures. The underlying theme is that these central banks will do what they have to do in order to fight these inflationary trends...but this could cause an economic slowdown in Europe, taking the pressure off the central banks to further raise rates or even to let them fall.
This, of course, is taken as a hopeful sign by those arguing for the stabilizing of the dollar because it would help to change relative interest rates between Europe and the United States, something that has contributed to the weakness in the dollar. Higher short term interest rates in Europe have drawn investors away from the U. S. during the recent period when the Federal Reserve has been dramatically lowering their target for the Fed Funds rate. In addition, the Federal Reserve Open Market Committee, after their latest meeting, announced that their latest reduction in the Fed Funds target may be the last one…at least for a while. [See the post of May 1, 2008, “Where is the Leadership?” http://maseportfolio.blogspot.com/.] This has been taken as a hopeful sign that the yield differential between Europe and the United States will become more favorable to the United States.
Finally, although not noticed at the time, the finance ministers of the G-7 nations called attention to the problems, including that of the dollar, in international currency markets and stated that they could not ignore these going forward. [See my post “Finance Ministers Concerned with the U. S. Dollar”, of April 13 at the above website.] Analysts have now gone back to this and claimed this to be another piece of evidence that the concern over the decline in the value of the dollar has risen on the agenda of world bankers. This, they argue is just another sign that maybe the decline in the value of the dollar is over and that some rise might be expected in the future.
In terms of the second argument, analysts are arguing that, yes, the dollar has declined in value but we needn’t be overly concerned with the decline because the United States is too important in the world for nations and other investors to ‘dump’ the dollar. The United States, they argue is still a great place for people to invest and, in this respect, will continue to be a haven to world investors in this age of uncertainty and changing technologies. Also, just the fact that the United States possesses the major military machine in the world gives it the ability to continue to pay off its debts. Even though China and India are becoming major economic powers in the world, the United States and the dollar will maintain its position and prevail over other currencies [including the Euro] in the foreseeable future.
Essentially, the argument here is that it is in the best interest of other nations [China and India included] to see that the role of the dollar is maintained. And, as long as the United States and the U. S. dollar serve as the lubricant for world trade, there is plenty of incentive to see that the current system continues to work. Others, like the G-7, will do what they have to do to keep things as they are.
There are several responses I would like to make to these arguments.
First, people seem to forget that the United States had a budget surplus as recently as 2001. Why do we think that fiscal discipline is not a viable alternative?
Second, most of the first argument is based on wishful thinking. There has been talk before by Treasury Secretaries and Federal Reserve Chairman about a strong dollar…but nothing ever came of this. The situation in England and Europe may require higher interest rates before lower rates are considered…and the Federal Reserve has only suggested a pause in the lowering of interest rates here. And, what is the G-7 going to do for the dollar if United States policymakers do not show a real commitment on their part.
Third, no country in the world has considered itself ‘too’ important to ignore the rules that other nations play by. Although a ‘go-it-alone’ attitude has prevailed in Washington, D. C. over the past 7 ½ years, it has already come back to haunt us in many different areas. In the early 1990s, Robert Rubin convinced Bill Clinton that the United States could not afford to be out-of-step with the rest of the world and needed to bring the Federal budget under control. Clinton listened to him and by the time he left office, the United States was, fiscally, in very god shape and the dollar was doing quite well. This strength was recognized in world financial markets. We are a part of the world and can play by the rules that everyone else plays by. We only hurt and isolate ourselves if we consider that we are above the rules.
Will we continue on the path suggested by those arguing for little or no change in United States economic policy? Yes, for at least the short run.
First, we have a lame duck administration. There is nothing dramatic that will be done before a new administration comes into office. All that we can expect is efforts to protect the legacy of the current administration.
Second, there is a question as to whether a new administration will accept the economic and financial realities that exist or will they try and enact legislation reflecting the promises they are making to get elected. Before confidence can be restored in the U. S. government, there must be real commitment on the part of a new administration that market participants in international markets can trust.
Third, there is still the lingering financial uncertainty. How fragile is the financial system at this time and how will continuing economic weakness contribute to any future dislocations? Banks and others seem to be working out their problems in an orderly fashion, but will this continue?
Fourth, how will United States citizens respond to more and more foreign ownership of their physical assets? Sovereign wealth funds and other investors will keep investing their dollars in U. S. companies. The use of these dollars in this way has recently increased every year and there is no reason that this will stop. How will the electorate respond in the future to seeing U. S. firms coming more and more under the control of foreign nations and other foreign interests? Globalization is coming home to America.
Finally, will the United States enact an effective energy policy? This, sadly, is still in the distant future.
The future...the dollar may fluctuate around the current range for a while...but, it seems to me that unless things change, the longer term picture contains more weakness in the dollar's value.
Sunday, April 13, 2008
Finance Ministers Concerned with U. S. Dollar
The G-7 Finance Ministers and Central Bank Governors met in Washington, D. C. this past week and expressed concern over the decline in the value of the dollar. The United States dollar has fallen by about 15% against the Euro over the past year and has fallen by about 8.0% since the end of 2007. Against the yen it has fallen by the same amount over the past twelve months and by almost 10% since the close of 2007. The dollar has fallen by almost 10% against the currencies of major trading partners of the United States in the past year. Over the past six years the dollar has been in almost constant decline against most major currencies and against major U. S. trading blocks. The data all seem to show the same result.
The Group of Seven, generally, is relatively subtle about the statements they make. However, most observers agree that the statement put out by these people last Thursday evening was relatively blunt. The statement reads, “Since our last meeting, there have been sharp fluctuations in major currencies, and we are concerned about their possible implications for economic and financial stability.” They followed this up by saying “We continue to monitor exchange markets closely, and cooperate as appropriate.”
But, what can be done. The possibilities are not very pleasant. The United States can raise interest rates. Or, Europe, and other countries, can lower their interest rates. Or, there can be direct intervention in markets. Although the English lowered rates last week, the European Central Bank has not followed. The English are in the midst of their own housing crisis and felt that they could not go any longer avoid lowering rates. Other central banks are not so willing to lower rates because, world wide there is a fear of setting off inflation again.
Much of the rest of the world has gone through the battle to get inflation under control and realign their fiscal and monetary affairs so as to keep inflation under control. This has meant that governments could not lose control of their fiscal discipline and that central banks had to become independent of the national government. In many cases, central banks pursued inflation targeting in order to establish their credibility and gain the confidence and trust of the global investment community. These countries, once they paid the price to achieve this control and credibility, are not willing to give up what came at such a cost. Other central banks will only reluctantly, if at all, lower their interest rates.
The United States has not conformed to the rest of the world in this respect. There has been little or no discipline established over its fiscal affairs and the Federal Reserve, especially between 2002 and 2005, conducted a policy that seemed anything but independent of the administration in Washington, D. C. There is now little or no confidence in the ability of the leaders in the Bush administration to gain the control necessary to regain fiscal discipline and monetary independence. Any necessary action on the part of Washington is going to have to wait until, at least, there is a new administration sworn in. So, don’t bet on the Federal Reserve raising interest rates in the near term.
What about direct intervention? This may work in the very short run, but the long term consequences of such action is worse than the benefits gained in the short run. These should not be relied upon unless absolutely necessary and then probably not even then.
Sooner or later the United States is going to have to bite-the-bullet and pay for the dislocations it has caused. Like almost every other country in the world, the United States is going to have to pay by the current international rules. America has ‘gone-it-alone’ for almost eight years now, in foreign affairs, as well as in economics and finance. In economics and finance, ultimately you have to pay for the way you have lived. You can only postpone things for so long.
The G-7 Finance Ministers and Central Bank Governors have given the United States a ‘mild’ slap on the hand. But, many financial experts believe that having this issue reach this level is a sign that the rest of the world is tired of the United States doing just what it wants to do. This administration is not going to really do anything about it. The G-7 statement, however, should be taken seriously by everyone of the candidates running for the office of President of the United States.
The Group of Seven, generally, is relatively subtle about the statements they make. However, most observers agree that the statement put out by these people last Thursday evening was relatively blunt. The statement reads, “Since our last meeting, there have been sharp fluctuations in major currencies, and we are concerned about their possible implications for economic and financial stability.” They followed this up by saying “We continue to monitor exchange markets closely, and cooperate as appropriate.”
But, what can be done. The possibilities are not very pleasant. The United States can raise interest rates. Or, Europe, and other countries, can lower their interest rates. Or, there can be direct intervention in markets. Although the English lowered rates last week, the European Central Bank has not followed. The English are in the midst of their own housing crisis and felt that they could not go any longer avoid lowering rates. Other central banks are not so willing to lower rates because, world wide there is a fear of setting off inflation again.
Much of the rest of the world has gone through the battle to get inflation under control and realign their fiscal and monetary affairs so as to keep inflation under control. This has meant that governments could not lose control of their fiscal discipline and that central banks had to become independent of the national government. In many cases, central banks pursued inflation targeting in order to establish their credibility and gain the confidence and trust of the global investment community. These countries, once they paid the price to achieve this control and credibility, are not willing to give up what came at such a cost. Other central banks will only reluctantly, if at all, lower their interest rates.
The United States has not conformed to the rest of the world in this respect. There has been little or no discipline established over its fiscal affairs and the Federal Reserve, especially between 2002 and 2005, conducted a policy that seemed anything but independent of the administration in Washington, D. C. There is now little or no confidence in the ability of the leaders in the Bush administration to gain the control necessary to regain fiscal discipline and monetary independence. Any necessary action on the part of Washington is going to have to wait until, at least, there is a new administration sworn in. So, don’t bet on the Federal Reserve raising interest rates in the near term.
What about direct intervention? This may work in the very short run, but the long term consequences of such action is worse than the benefits gained in the short run. These should not be relied upon unless absolutely necessary and then probably not even then.
Sooner or later the United States is going to have to bite-the-bullet and pay for the dislocations it has caused. Like almost every other country in the world, the United States is going to have to pay by the current international rules. America has ‘gone-it-alone’ for almost eight years now, in foreign affairs, as well as in economics and finance. In economics and finance, ultimately you have to pay for the way you have lived. You can only postpone things for so long.
The G-7 Finance Ministers and Central Bank Governors have given the United States a ‘mild’ slap on the hand. But, many financial experts believe that having this issue reach this level is a sign that the rest of the world is tired of the United States doing just what it wants to do. This administration is not going to really do anything about it. The G-7 statement, however, should be taken seriously by everyone of the candidates running for the office of President of the United States.
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