Archive for February 4th, 2010

Reverse bailout – a proposal for bank bailouts

February 4, 2010

Reint Gropp and Jan Pieter Krahnen in a eurointelligence article look at the bank bailout problem.

During the recent financial crisis almost all bank rescue operations followed the same myopic script:  once a troubled bank reports its troubles, a rush for resurrection sets in, frequently on a Friday evening after close of business. The authorities have only two and a half days, from Friday to Sunday, to find a workable solution. On Monday morning, before the opening of the markets on the other side of the globe, a water-tight rescue plan has to be presented to the public. More often than not, the bank will be bailed out with public money. This rewards excessive risk taking and weakens the position of the bank’s competitors. Both effects decrease social welfare and financial stability over the medium term. At the same time, the seeds for the next crisis are planted.

Their solution is what they call as reverse bailout:



Credit rating agencies make merry eitherways

February 4, 2010

Today’s eurointelligence edition has a nice comment from the Portugese financial minister:

Jean Quatremer has an interview with a defiant Jose Socrates, PM of Portugal, who says he has brought down his country’s budget deficit before, between 2005 and 2007, and he can do it again. He was particularly critical of the rating agencies, who now criticise governments for spending too much money, which, lest one forget, they did to save the global financial system, and thus the rating agencies own income sources.


In this crisis, rating agencies role has been pivotal. It has been a colossal failure, nasty comments leading to soul seraching. Their overall track record predicting sovereign risks is pretty bad as well.

And now as this crisis eases, they could be making it worse for economies as well. The ratings are procyclical. The question of who rates these agencies is as important as restructuring financial regulation.

Understanding public finances

February 4, 2010

PFM Blog points to a technical note on understanding public finances.

Julio Escolano explains:

It is meant to be used by fiscal economists as a small manual or “vade mecum” of formulas and relationships among fiscal variables. These are tools and methodologies are often not found in standard economics manuals, rather they are scattered throughout different papers, manuals, articles, and in some cases, only in the “lore” or “folk wisdom” of specialized economists or public finance practitioners. Thus, it can be useful to have them compiled in a compact presentation and with consistent notation and formulas. In fact, the idea and encouragement to write this note come from Carlo Cottarelli, Director of the IMF’s Fiscal Affairs Department, one evening that we were working in the office until late. We found that Carlo, other colleagues, and I had been independently deriving the same formulas for some note we were working on—nobody remembered these formulas off the top of our head. (Felicitously, we all came out with the same results.) I guess we would have gone home earlier that evening if we had had this note then.

I was going through the note and found it to be highly technical. So beware. 

Indian audience will be inundated (actually has already begun) with budget basics (as Union Budget is on 26 Feb 2009) for the next 30-35 days. This is a note for those interested in advanced stuff.

Recovery due to stimulus or private investments?

February 4, 2010

I had earlier referred to the possibility of US recovery being investmentless.  

John Taylor in his recent blogpost says that Q4 2009 growth of 5.7% was mainly investment driven. He looks at various graphs showing growth in GDP with investment, consumption, exports and government expenditure.

  • In the first chart the red line shows the contribution from investment. It explains most of the recession and the rebound.
  • In the next chart you see the contribution of consumption, which plays a noticeable but considerably smaller role.
  • The third chart shows the contribution of net exports, which explains some of the smaller movements in early 2008.
  • The fourth chart shows the contribution of government purchases. I have focused on non-defense federal plus state and local purchases because defense spending was not part of the stimulus (adding in defense does not change the story). Note that none of the action in real GDP growth is due to government purchases.
  • In other words during the entire first year of the stimulus package, the contribution of government purchases to change in real GDP growth is virtually nil. There is no evidence here that the stimulus has worked either to raise GDP growth or to create jobs.

Now, CEA’s second quarterly report on the economic impact of ARRA-2009 gives a completely different picture. The act looks at the impact of ARRA or fisal stimulus in Q4 2009. The key findings are:

  • As of the end of December 2009, $263.3 billion of the original $787 billion, or roughly one-third of the total, has been outlayed or gone to American households and businesses in the form of tax reductions. An additional $149.7 billion has been obligated for projects and activities, which means that the money is available to recipients once they make expenditures.  
  • The two CEA methods of estimating the impact of the fiscal stimulus suggest that the ARRA added between 2 and 3 percentage points to real GDP growth in the second quarter of 2009; between 3 and 4 percentage points in the third quarter; and between 1½ and 3 percentage points in the fourth quarter. These estimates are broadly similar to those of a wide range of other analysts.
  • The CEA estimates that as of the fourth quarter of 2009, the ARRA has raised employment relative to what it otherwise would have been by 1½ to 2 million.
  • For the third quarter of 2009, we now have direct reports on jobs created or saved from a subset of recipients of ARRA funds. These reports identify 640,000 jobs that would not have existed but for the Recovery Act. 

Who is right? All I know is I am terribly confused. But yes, it does not look like an investmentless recovery. In 1991 and 2001 recession recovery was investmentless but here we see a V shaped recovery likw we saw in 1970 and 1980s recessions.

The role of government stimulus is where the confusion is. I guess it will remain for many years to come. The answers will change depending on the research methodology.

RIP Fed’s and RBI’s alphabet soup

February 4, 2010

In case you missed it, Fed held on 26-27 Jan decided to unwind the various liquidity facilities or alphabet soup on 1st Feb 2010:

In light of improved functioning of financial markets, the Federal Reserve will be closing the Asset-Backed Commercial Paper Money Market Mutual Fund Liquidity Facility, the Commercial Paper Funding Facility, the Primary Dealer Credit Facility, and the Term Securities Lending Facility on February 1, as previously announced.

 In addition, the temporary liquidity swap arrangements between the Federal Reserve and other central banks will expire on February 1.

The Federal Reserve is in the process of winding down its Term Auction Facility: $50 billion in 28-day credit will be offered on February 8 and $25 billion in 28-day credit will be offered at the final auction on March 8. The anticipated expiration dates for the Term Asset-Backed Securities Loan Facility remain set at June 30 for loans backed by new-issue commercial mortgage-backed securities and March 31 for loans backed by all other types of collateral. The Federal Reserve is prepared to modify these plans if necessary to support financial stability and economic growth.

WSJ Blog says:


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