Archive for November 23rd, 2009

Risk management lessons from Philippe Jorion

November 23, 2009

One cannot skip Philippe Jorion, if he has taken a course in finance/MBA in finance. Atleast that seems to be the case in Indian schools. The moment your professor teaches about risk and moves to Value at Risk, he/she would most likely ask you to read Jorion’s famed book on VAR.


The Academy of Behavioral Finance & Economics

November 23, 2009

I got an email from Prof Rassoul Yazdipour of Academy of Entrepreneurial Finance:

Dear Amol,
I very much enjoyed your blog on interview with professor Malkiel; esp. the part on Behavioral Finance/Econ. So I thought to drop a line and let you know about The Academy of Behavioral Finance & Economics and its 2010 Annual Meeting in Chicago.
Appreciate spreading the word via your blogs/sites.

I was just checking the Annual meeting details and one can send papers by May 15, 2010. The meeting will be held on Sep 15-17 2009. The tentative topic list for papers is as follows:

Theoretical and empirical/experimental works that involve the application of psychology and neuroscience to all areas of financial decision-making and practice will be considered for presentation at the meeting. This includes, but is not limited to, the following areas:

1.  Investment and the Working of Financial Markets at all levels of functionality and capital  allocation—including both public and private aspects; 
2.  Financial Management of Companies—both public and private entities;
3.  Firm Entry and Exit Process—ranging from startup ventures to mature businesses;
4.  Entrepreneurship, Innovation, and Venture Capital;
5.  All other Business and Economic Endeavors that Involve Human Decision Making and Choice Under Conditions of Risk and Uncertainly; 
6.  Teaching and Learning—ranging from case development to other pedagogical issues.

As it is tentative, one can send other behavioral finance/economics papers as well.

The 2009 meeting details are here. It was held on Sep 23-25 2009. They have not uploaded the papers till now.

So, I thought I would just share this information with the visitors of this blog. Please spread the word.

I would wait for the papers.


BTW, the Burton Malkiel post is here.

Lessons from East Asian Crisis

November 23, 2009

San Fransisco Fed organised a conference on Asia and the Global Financial Crisis. All biggies – Bernanke, Rogoff, Obstfeld, Eichengreen etc  – discussed on variety of topics – Asian crisis of 1997, Asian economies in this crisis, global imbalances etc.


I was reading this paper by Anne Krueger on lessons from East Asian crisis. More specifically, on Korea’s 1997 crisis and Japan’s crisis. The paper is very easy to read and tells you many lessons on the way.


Lessons from Japan:

  • A first, and perhaps the most important, one is that an undercapitalized banking system can retard, if not entirely stifle, an incipient recovery even when fiscal policy is expansionary.
  • Second, efforts by banks (and acquiescence by the government) to hide their difficulties not only delay recovery but create uncertainty about the financial system as a whole
  • Third, unless measures to restore healthy banks are sufficiently large, they do not significantly contribute to the resolution of the problem.
  • Fourth and finally, when banks continue to roll over NPLs, they are starving the potential new entrants (especially small and medium enterprises) of credit, and hence reducing growth.


The same lessons could be drawn from Korean as well:

The Korean experience reinforces the Japanese lessons. Although the crisis was triggered by difficulties within the banks that were intensified by the exchange rate regime, the crisis was financial once the exchange rate had been allowed to depreciate and float. It was already seen that the underlying  problem had been a failure of the financial system to develop commensurately with the needs of an increasingly complex modern economy. This was connected to the problems of the chaebol. They had been heroes of Korea’s hugely successful growth experience, but had accepted government restrictions and had had their own banks each financing much of the needs of the individual groups.

 However, the actions taken by Korean policymakers was faster than Japanese. Krueger points this was also because Japan’s much of the problems was becasue of domestic issues. So Japan just chugged on hoping small policymeasures would be enough. Despite hope, the economy kept slipping.

Whereas in Korea, they owed a large foreign debt and hence there was a lot of attention. The politiicians initially said no to IMF aid but had tioe eventually take it. I had earlier pointed to an interesting angle on why US came forward to help Korea so quickly. But other East- Asian economies also had huge foreign liabilities but were much slower and had much bigger crisis as well.

Lessons for today:



  • Perhaps the most important conclusion that can be drawn from crises in many countries is that delays in recognizing and confronting the difficulties in the financial sector are costly. Denial by officials may be understandable, but when the measures taken are timid relative to the magnitude of the problem, or when they are undertaken after significant delays, the costs of the cleanup mount
  • Both the credibility of the authorities and the transparency of both the situation and the measures taken are also crucial.
  • Moreover, in almost all crisis situations, the crisis happens because of underlying weaknesses in the economic policy framework and economic  structure.
  • It is also notable that growth can resume fairly quickly when strong measures are taken. Most forecasts of post-crisis growth in the Asian countries were unduly pessimistic.
  • For emerging markets, further lessons derive from the necessity to maintain consistency between policies toward exchange rates and monetary and fiscal policies.
  • But perhaps the strongest lesson from all of the crisis situations is the urgent necessity of restoring the financial system by recapitalizing the banks, removing the NPL from bank portfolios, and enabling the resumption of the flow of credit.

All well known ideas. Nicely put though.


Lack of Fiscal expectations could undermine Taylor rule

November 23, 2009

I had said earlier we should read Eric Leeper. He brings really interesting interactions between fiscal and monetary policy. His research centres on the idea that managing and anchoring fiscal expectations is as crucial. We usually worry about inflation and central bank expectations and never really look at fiscal policies. This is not surprising as much of research has focused on monetary policy. The mon pol research has looked at DSGE models (see this as well) which do not have any role of fiscal policy.

Nevertheless, times are changing and we are seeing some research on fiscal policy. Much of the fight is between fiscal multipliers.  It is high time we start to engage in research like we do for central banks- rules, institutions, frameworks etc.

Econs like Leeper are helping us think through these ideas.

In a new paper Leeper says:

Slow moving demographics are aging populations around the world and  pushing many countries into an extended period of heightened fiscal stress. In some countries, taxes alone cannot or likely will not fully fund projected pension and health care expenditures. If economic agents place sufficient probability on the economy hitting its ”fiscal limit” at some point in the future–after which further tax revenues are not forthcoming–it may no longer be possible for “good” monetary policy—behavior that obeys the Taylor principle—to control inflation or anchor inflation expectations. In the period leading up to the fiscal limit, the more aggressively that monetary policy leans against inflationary winds, the more expected inflation becomes unhinged from the inflation target. Problems confronting monetary policy are exacerbated when policy institutions leave fiscal objectives and targets unspecified and, therefore, fiscal expectations unanchored. In light of this theory, the paper contrasts monetary fiscal policy frameworks in the United States and Chile.

The paper is fairly technical and needs a patient reading. It would have been better if he explained the broad ideas in English and put the technical details in appendix. For instance he gives you scenarios of active fiscal policy vs monetary policy and vice versa. One does not get a proper idea on what the analysis actually show.

But one gets a broad idea on what the paper implies. Anchoring fiscal expectations is important as it undermines monetary policy as well. The idea that at some point of time taxes will not be able to fund the growing expenditures and pension liabilities is a threat. So, we need some clarity on how governments plan to manage their public finances. With no clarity, monetary policy would also suffer. There have been many instances in the past when  fiscal policy mess has resulted in a monetary policy mess as well.

The case studies of US and Chile are contrasting and interesting stuff.

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