Archive for the ‘Financial Markets/ Finance’ Category

Reform of the Anglo-Saxon economics curriculum

June 20, 2014

Robert Skidelsky joins the debate over reforming economics pedagogy. This is followed by interesting comments from Brad Delong. With so many joining the chorus for change, not sure when it will change? And this is not just about the anglo-saxon world. It is also about other parts of the world where what is taught in the west is blindly copied. Atleast in the west, some people understand the limitations of current economics teaching, in the other places this is not even understood. There is just competition on most places to keep pace with the west..

Skileddesky says economics teaching should be more pluralistic:


Does Europe face the prospect of a lost decade?

June 19, 2014

Christian Noyer of Banque De France asks this q in a recent speech.

He says lost decade could happen in Europe for two reasons (though adds it is not limited to Europe alone):


Harvard money managers exit after years of subpar returns

June 19, 2014

It is always interesting to read such stuff.

The Univs which teach and preach the virtues of finance to the world struggle when it comes to performing in their own backyards. Just a few months ago there was news on how U of Chicago has messes up its finances. And now Harvard’s money managers have been dismissed for showing sub-par returns:

After years of subpar results at Harvard Management Co., three high-level managers have exited the $32.7 billion endowment and the university is searching for new leadership.

Apoorva K. Koticha, 48, among the highest-paid traders at Harvard Management in 2011, has left, according to two people familiar with the matter. News of his departure comes a week after Jane Mendillo, chief executive officer of the university’s investment company since July 2008, said she will resign at the end of the year. Mark McKenna, 43, a money manager at the endowment, moved to BlackRock Inc. (BLK) this month to start an event-driven hedge fund. Since April 2013, Harvard Management has also parted ways with two heads of its private-equity unit.

“When the team posts mediocre records too many years in a row, the coach goes,” said Erik Gordon, a professor at the University of Michigan’s Ross School of Business. “And, not far behind her, the assistant coaches.”

One does not know in finance which way the tide will turn..

Albert Hirschman’s hiding hand and behavioral economics

June 18, 2014

An interesting article by Prof. Cass Sunstein.

This article is a preface to the Hirschman’s  classic on development (haven’t read though):


Why standard macro models fail during crises?

June 18, 2014

I mean just because we think this time is different and pile on expectations. We fail to appreciate that there could be events which could just scuttle the whole thing. No model can incorporate the entire gamut of uncertainty and uncertain events.

David F. Hendry and Grayham E. Mizon say these basic ideas in a more technical way:

Many central banks rely on dynamic stochastic general equilibrium models – known as DSGEs to cognoscenti. This column – which is more technical than most Vox columns – argues that the models’ mathematical basis fails when crises shift the underlying distributions of shocks. Specifically, the linchpin ‘law of iterated expectations’ fails, so economic analyses involving conditional expectations and inter-temporal derivations also fail. Like a fire station that automatically burns down whenever a big fire starts, DSGEs become unreliable when they are most needed.

Call them whatever- DSGE. ABCD, XYZ etc…There are limitations on what they can achieve and all such models should clearly specify what they cannot do or can fail potentially. In many ways this fascination for models etc is this fascination for making economics a science and having physics envy. When the main agent here is individual who can react really unpredictably, we can never be sure the way these models will work. But despite all this, we just believe so much in these models.

This does not mean we should ignore economic modelling. Not at all. Just that we should know their limitations which could be serious at times..

China may soon have no choice but to let its currency float..

June 17, 2014

Yu Yongding of Chinese Academy of Social Sciences ( a solid China expert) predicts China could soon allow its currency to float. Not that it wants to but it will be forced to..

He begins saying China so far is managing all the three legs of Mundell Trilemma:

The Nobel laureate economist Robert Mundell showed that an economy can maintain two – but only two – of three key features: monetary-policy independence, a fixed exchange rate, and free cross-border capital flows. But China is currently juggling all three – an act that is becoming increasingly difficult to sustain.

….This raises an obvious question: How has China managed to defy the Mundell trilemma by maintaining all three policy objectives simultaneously? The answer lies in China’s sterilization policy.

China has run a capital-account surplus for most of the last 30 years, and a trade surplus every year since 1993. The PBOC keeps the exchange rate stable by intervening heavily in the foreign-exchange market, creating so much liquidity that the authorities must engage in massive sterilization to avoid overshooting the targeted increase in the monetary base.

In China, unlike in advanced countries, monetary and sterilization policy are often one in the same. The degree to which monetary policy is expansionary depends on the degree to which the liquidity created by currency-market intervention has been sterilized.  

He says costs of sterilization are higher than the benefits and are actually distorting the economy. So he hopes and predicts that China will soon allow the currency to float:

Nonetheless, though predictions that China would abandon its exchange-rate controls in order to uphold monetary autonomy have proved wrong over the last decade, this time may be different. With China’s liberalization of interest rates and short-term capital flows making it increasingly difficult for the country to juggle Mundell’s “irreconcilable trinity,” one hopes that Chinese leaders will finally allow the renminbi to float, while keeping in place existing capital controls.

The day this happens it will mark as quite a momentous day for history of macroeconomics..

What did Bank of Japan lack in its previous policies to boost economy?

June 13, 2014

BoJ has been using Quant easing and related polices for more than 15 years now. So, why was it not as effective? Moreover, what is it new about its recent QE policy (called QQE bu BOj – Qualitative and Quantitative  Easing)?

BoJ chief  Haruhiko Kuroda reviews eco theory around QE and the QE polices of Japan :


IMF releases its Global Housing Index (Have housing prices in India declined?)

June 12, 2014

WSJ Blog points to a recent IMF initiative – Housing Markets Monitor. IMF is now going to present the housing trends every quarter. Interestingly, it shows housing prices have declined most in India. Wondering whether there is some other India the IMF is talking about? Where do we see decline in housing prices in India?

Anyways, Min Zhu, Deputy Managing Director, IMF shares his thoughts on housing and policy in this speech and blogpost. He says there are three kinds of policies to tackle housing bubbles — MiP, MaP and MoP:

Regulation of the housing sector involves a complex set of policies—the noted economist Avinash Dixit suggested the acronyms MiP, MaP, MoP to refer to microprudential, macroprudential and monetary policy, respectively.

Microprudential policy aims to ensure the resilience of individual financial institutions. It is necessary for a sound financial system but may not be sufficient; sometimes, actions suitable at the level of individual institutions can destabilize the system as a whole.

Hence we also need macroprudential policies aimed at increasing the resilience of the system as a whole. The main macroprudential tools used to contain housing booms are limits on loan-to-value (LTV) ratios and debt-to-income (DTI) ratios and sectoral capital requirements (Figure 4). Hong Kong SAR has imposed caps on loan-to-value and debt-to-income ratios since 1990s, Korea since 2000s, and during and after the global financial crisis, over 20 advanced and emerging economies have followed their example.

Another macroprudential tool is to impose stricter capital requirements on loans to a specific sector such as real estate. This forces banks to hold more capital against these loans, discouraging heavy exposure to the sector. In many advanced economies—Ireland, Norway, and Spain— and emerging market economies— Estonia, Peru, and Thailand— capital adequacy risk weights were increased on mortgage loans with high loan to value ratios.

Though evidence thus far suggests that macroprudential policies are effective in the short-run in cooling off housing markets, it is clear that honing them remains a work-in-progress.

Finally, there is the monetary policy, which involves the central bank raising interest rates if they want to cool off the housing sector.  While monetary policy could be an important tool in many cases in support of macroprudential policies, the optimal allocation of responsibilities between prudential policy and monetary policy remains a matter of much discussion. What  is clear however, is that monetary policy will need to be more concerned than it was before with financial stability and hence with housing markets.

The tools for containing housing booms are still being developed. The evidence on their effectiveness is only just starting to accumulate. The interactions of various policy tools can be complex. But all this should not be an excuse for inaction. The interlocking use of multiple tools might overcome the shortcomings of any single policy tool. We need to move from “benign neglect” to an “all of the above” approach when it comes to policy choices.

Does not mention RBI’s measures to mitigate housing bubbles before the crisis…

A world without banks? a graphic short story..

June 10, 2014

John Cochrane and Doug Diamond have this cartoon strip on the need for banks.

Though, post the 2007 crisis one is not sure of the message of the cartoon. Govt isn’t as much the villain as it is made out to be..Atleast in terms of banking…Without it, we could actually have had a world without banks as most would have shut down.

I guess some lessons are still not learnt..

How ‘Law and Finance’ paper transformed research in finance

June 10, 2014

Steven Neil Kaplan and Luigi Zingales of U Chicago review how the Law and Finance paper written by four econs – Rafael La PortaFlorencio Lopez-de-SilaneAndrei ShleiferRobert W. Vishny.  How this paper challenged the conventional wisdom on finance and made the field  richer:


Michael Lewis on a Rigged Stock Market and the Heroes of Wall Street..

June 5, 2014

Prof. Jeremy Siegel of Wharton interviews Michael Lewis where he talks about his recent work on bashing Wall Street. The book is called — Flash Boys: A Wall Street Revolt

Here is a sample:

Jeremy Siegel: On page 232, you write the following: “The stock market at bottom was rigged. The icon of global capitalism was a fraud.” Wow. Those are strong statements. They probably have been misinterpreted in a lot of ways. First of all, let me say that I believe a lot of what you are saying about high-frequency trading. It’s true, and we have to get these regulators off their duff to do something about this. But don’t you think words like that scare people away from legitimate investing in the stock market?

Michael Lewis: I doubt any words I could write would be as scary as what high-frequency traders have done and what exchanges have done with them. When I’m writing that, I’m writing through the eyes of the person who’s been investigating the stock market for the previous 231 pages. That’s his view of the matter. A lot of people, when they read the book and the facts of what he’s uncovered, will come to the same conclusions. It doesn’t mean that you shouldn’t invest in the stock market. It doesn’t mean that you won’t do well in the stock market. But it does mean there’s a systematic stealth that’s built into the stock market. “Rigged” is a fair description of it. It just turns on the connotations of “rigged.” But to my mind, that’s a fair description of it. And to Brad Katsuyama’s mind.

Great read all through.

Thinking about financial stability issues…

June 5, 2014

Luci Ellis, Head of Financial Stability Department at RBA summarises the several issues on fin stab in this speech.

He even uses cartoons to explain his various ideas. The cartoon on difference between mon stab and fin stab is a nice one. 

A good read..


How to become an oligarch?

June 2, 2014

Join a very large brand-name private-equity fund… so says Prof. Simon Johnson.

His article is part of his advice to graduating students:


What makes Switzerland an international finance centre?

May 20, 2014

A nice speech by Thomas J. Jordan, Chairman of the Governing Board Swiss National Bank.

He points to historic reasons that led to formation of Swiss IFC and how it can maintain it in future.



A sovereign debt story: Republic of Argentina vs NML Capital

May 12, 2014

An interesting piece by T Sabri Oncu (former CAFRAL chief economist). He points to this recent case of NML capital (hedge fund) suing Argentina Govt over payment of debt. This blog pointed to another piece which shows how an Act in US allowed US financial firms to sue sovereigns in US courts over debt payment issues.

NML capital (along with others) has taken advantage of  this act to sue Argentina:


History of Netherlands Central Bank and future outlook for central banks (which is highly confused)…

May 8, 2014

A really nice speech by Klaas Knot head of De Nederlandsche Bank, the central bank for Dutchland.

The speech is given celebrating 200 years of the bank, so there is some history to it. Knot then also looks at the future outlook for central banks in future. How DNB evolved from being a sleeping old lady to guardian of the gilder is an interesting story which I guess is common across most central banks.

He says neglect of financial stability as a goal is coming to haunt central bankers. After all the original purpose for most central banks was fin stability which then moved to price stability. With FS, there are two issues:


How has Canada managed to always exempt itself from financial crises?

May 6, 2014

Renee Haltom of Richmond Fed has a nice short note on the topic. Though much was covered by Bordo et al in this paper and the Halton summarises their idea broadly.

The main thing is that Canada’s banking system evolved very differently. The banks were large and relatively well divsrsfied which meant that if one sector went down, the banks would remain fine. In Us banks were much smaller and large in number as there was restriction on branching in other states.  Even Fed did not address this issue of unit banking and it went all the way till 1990s when this restriction was removed.

Other things in Canada were:


The last crisis before the Fed came into being..

May 2, 2014

An interesting piece of monetary history by Tim Sablik of Richmond Fed. We usually talk about the 1907 panic and great depression to question the Fed’s role, not really read on the crisis which happened just as WW-I broke out. The interesting thing is Fed was just set-up in 1913 and was not ready to fight the crisis. This led to some innovations by Treasury to intervene and stabilise the markets. The author says if this experience was learnt before, may be there would have been no need for Fed. After all Fed was formed to address financial stability amidst huge opposition for setting a centralised institution to manage money. The background:

You gentlemen are to form the bulwark against financial disaster in this nation,” Treasury Secretary William Gibbs McAdoo told the members of the first Federal Reserve Board as they took their oath of office on Aug. 10, 1914. The seven men — including McAdoo, who served as the first chairman of the board — would not have to wait long for their first test. Less than two months earlier, Austria’s Archduke Franz Ferdinand and his wife were assassinated by a Bosnian-Serb nationalist, plunging Europe into war.

The United States would also be swept up in the conflict, but its first battles were waged in financial markets. European powers needed money to finance fighting, and that meant gold. At the time, the United States was a debtor nation and a minor financial power, but the warring European nations could no longer trade with each other. They quickly began selling their holdings on the New York Stock Exchange, converting dollars to gold.

In June and July, the United States had nearly $70 million in net gold exports. The effect of several European nations calling in their debts simultaneously created a significant external drain on U.S. gold reserves, threatening to place constraints on banks’ ability to lend domestically.

It would have been a golden opportunity for the nascent Federal Reserve to save the day. According to 19th century British economic writers Henry Thornton and Walter Bagehot, a lender of last resort could counter such a threat by raising interest rates to stem the outflow of gold to foreign nations while lending freely to sound financial institutions to satisfy domestic demand for money. The Federal Reserve System had the capacity to do just that, but there was one problem: It wasn’t actually up and running yet.

Basically McAdoo changed the rules of the game which allowed banks to get liquidity and step out of crisis:

Without the Fed to provide liquidity to sound institutions, McAdoo had to turn to the Aldrich-Vreeland Act. Loans under the Act would not be bailouts, as any bank seeking emergency currency would have to put up full collateral and pay increasing interest to ensure the funds would be retired quickly after the crisis passed.

McAdoo had actually invoked the Act to offer emergency loans the previous summer, when legislation to reduce tariffs  prompted a decline in stock prices as businesses worriedabout greater foreign competition. Although no banks applied for the emergency currency, the stock market reacted favorably to the announcement. Almost exactly one year later, McAdoo made a similar announcement: “There is in the Treasury, printed and ready for issue, $500,000,000 of  currency, which the banks can get upon application under that law.”

This time, banks were keenly interested in obtaining the currency, but there were some problems. The Act allowed national banks to apply for the emergency loans only if they had already issued national bank notes equal to at least 40 percent of their capital. The restriction was intended to prevent overuse of the currency, but it meant that many major  banks could not participate at all. For example, National City Bank in New York had $4 million bank notes in circulation in 1913 — only 16 percent of its capital. Additionally, state-chartered banks and trusts could not borrow under Aldrich-Vreeland, mirroring the lack of access that hadescalated the Panic of 1907.

Recognizing the potential problem, McAdoo visitedCongress the same day he invoked the Act, asking legislators to remove the restrictions.“If depositors thought that certain institutions didn’t have the currency, there might have been a run on those institutions. So the fact that the major New York bankscould not have qualified for Aldrich-Vreeland money could have been an impediment,” says Silber. 

Once Congress amended the Act, the emergency notes flowed to banks quickly (see chart). Just one week after McAdoo’s announcement, banks had requested $100 million in Aldrich-Vreeland currency, and large trucks delivered bags full of the preprinted notes to Treasury offices around  the country. ..

It basically boils down to providing liquidity which freezes suddenly.. In the end:

Other countries mitigated panics with systems very different from the one the United States ultimately adopted (see “Why Was Canada Exempt from the Financial Crisis,” p. 23). Acentral bank fulfills many other functions in addition to panic prevention, but if panics were the only problem, the success of Aldrich-Vreeland suggests that there may have been alternatives to the Fed.

Nice bit from history..

A radical solution to resolve Argentina’s debt woes (and other countries)..

May 1, 2014

An interesting piece by Prof Laura Alfaro of HBS. She goes down the history lane to understand Argentina’s recent (nth) debt crisis. Till 1970s there was very little foreign borrowing. Moreover, there was complete sovereign immunity and one could not sue foreign governments in US courts: (more…)

Reforming teaching of economics – a roadmap

April 28, 2014

Economists love to use to word reform for changing anything related to economics. But how about a reform to change the way economists teach the subject?

Post Crash Economics, is this forum/society floated by Manchester School to reform economics teaching. The guys at Manchester are taking forward the movement launched by French students in 1999 to reform economics., The movement despite its appeal and support could not make much headaway.  This have hotted up after the recent crisis which has led many to introspect over econ teaching.

PCE has released this really interesting roadmap for reforming economics. The broad idea is – teach history and make economics connect to the real world:



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