Archive for October 15th, 2009

Impact of recessions on Trade – A historical analysis

October 15, 2009

There has been tons of research lately analysing the impact of global recession/US recession on economies. The analysis has happened plus/minus financial crisis. The financial crisis has been further categorised into housing, equity market crisis.

What about the impact of global crisis on international trade? Caroline Freund of World Bank has written a paper on this issue.

The author examines the impact of historical global downturns on trade flows. The results provide insight into why trade has dropped so dramatically in the current crisis, what is likely to happen in the coming years, how global imbalances are affected, and which regions and industries suffer most heavily.

The author finds that the elasticity of global trade volumes to real world GDP has increased gradually from around 2 in the 1960s to above 3 now. The author also finds that trade is more responsive to GDP during global downturns than in tranquil times. The results suggest that the overall drop in real trade this year is likely to exceed 15 percent.

There is significant variation across industries, with food and beverages the least affected and crude materials and fuels the most affected. On the positive side, trade tends to rebound very rapidly when the outlook brightens.

The author also finds evidence that global downturns often lead to persistent improvements in the ratio of the trade balance to GDP in borrower countries.

It is a pretty simply done paper but has quite interesting insights. Read on…

Importance of prices

October 15, 2009

John  Taylor points to this excellent write-up on price system by Russell Roberts.

In the end Roberts says:

Prices create harmony. They settle what would otherwise be disputes between buyers and sellers. They adjudicate. They create information and encourage people to use that information in ways that could never be done by a human settler of disputes, a graphite czar.

It takes you to the first microeconomics class immediately. It also serves as a useful lesson in economic writing.

A review of Monetary Policy research

October 15, 2009

Fed organised a conference on Monetary Policy. Fed Vice Chairman Don Kohn has given an excellent speech summarising  tons of monetary policy research which has been used/useful for policymaking. All these papers would be refined to develop a handbook of monetary economics.

John Taylor was at the conference and takes a jive at Krugman:

The meeting demonstrated how completely wrong Paul Krugman is about recent developments in economics, at least as he portrayed the subject in the New York Times Magazine last month. This was not an all efficient markets meeting. The talk from start to finish was about the market imperfections, price rigidities, deadweight losses due to market power, and imperfect information, which all occur in monetary economics. If anything there was too much focus on market distortions. Overall I saw tremendous progress documented at the meeting. The presentation by my Stanford colleague Pete Klenow and his coauthor Ben Malin, for example, reviewed the impressive volume of empirical research on firm price setting decisions using new BLS data sets. Their discussant Marty Eichenbaum pointed to even more of this kind of research, which solidifies and bolsters the type of monetary theory that has been developed in recent years

As per Taylor, the problem was not with research/economists but economic policy:

But if there has been so much progress in monetary economics, then why did we have the financial crisis? I argued that it was the policy, not the economics, which got off track. When the policy implications of the research were followed by policy makers, we had good economic performance, as in the period called the Great Moderation. When policy got off track, the Great Moderation ended in the financial crisis and Great Recession. I am hoping that policy will get on track again and we will have Great Moderation II.

I think economists are acting really childish. The idea is not about  who is wrong/right but work together to plaster the much fractured economics and trust in it.

Euro in crisis – proving the sceptics wrong?

October 15, 2009

Ewald Nowotny, Governor of the Austrian National Bank has an interesting speech evaluating Euro’s and ECB’s role in the crisis.

He says Euro has withstood quite well in this crisis and has proved its sceptics wrong:

There were many sceptics: It can’t happen, It’s a bad idea, and It can’t last, as Rudiger Dornbusch has nicely summed up the arguments of the critics (Jonung and Drea 2009). The intellectual tool at the heart of the discussion on monetary union was the theory of optimum currency areas (OCA), which goes back to Mundell (1961). The argument is well known: Countries or regions facing asymmetric shocks need different monetary policies and an adjustment in the exchange rate. As the vocal euro-sceptic Martin Feldstein put it:

“A single monetary policy for a group of heterogeneous countries that experience different shocks cannot be optimal – the problem is that, when it comes to monetary policy, one size cannot fit all.” (Feldstein 2009).

If heterogeneous regions do share a common currency, they need alternative adjustment mechanisms like flexible wages, mobile factors, both labour and capital, and fiscal transfers. The better these alternative adjustment mechanisms work, the lower is the cost to go for a common currency. Introducing a common currency or joining a monetary union then comes down to comparing the costs with the benefits (De Grauwe 2007). In the euro area the bottom line is negative, according to the sceptics. The crucial alternative adjustment mechanisms are too weak, raising the costs of a common currency beyond the expected benefits (Feldstein 1997).

He reviews a lot of research on 10 years of Euro. He even looks at what if Euro was not there scenario in this crisis. He looks at the experience of Denmark in this crisis which is a non-EMU member. Denmark faced numerous problems in this crisis. So much so, the crisis has led Denmark Central bank Gov making a case to join EMU.

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