Euro exit: Lessons from Argentina

This is an interesting article by Mario I. Blejer,  Former Governor of the Central Bank of Argentina  and Eduardo Levy-Yeyati Professor of Economics at Barcelona Graduate School of Economics.

Rumours of Eurozone break-up are mounting. This column argues that exiting a strong currency for a weak one poses almost unthinkable challenges, from the redenomination of contracts and the imposition of bank restrictions to the restructuring of external debt and limiting of capital mobility. Lessons from Argentina illustrate just how radical the changes would need to be.

The article is broadly in line with what Eichengreen has said in this paper. Argentina still could manage as pesos were still in the system. With Euro, it is all the more complex.

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What are fiscal councils?

Setting up fiscal councils is another of the buzzwords post this crisis. But what are these and which countries have them? What have been the experiences?

Role of economists in Policy-Making – idealistic economist vs cynical economist

Lars Calmfors of Stockholm University has this interesting take on the topic.

The role that research and researchers should play for economic policy-making is an important topic which probably all applied economists have reflected a lot on. It is very difficult to come up with some general theory and to make broad generalisations. It is much easier to try to draw conclusions if one can make explicit references to particular episodes. This is the approach here, where I draw on my personal experiences.

I shall focus on two issues:

1. The roles of value judgements and economic analysis in policy-making and the contribution researchers can make to hold them apart.

2. The possibilities of finding institutional frameworks for the proper integration of economic research in policy making.

Assorted Links

• IFMR Blog points to its new financing product
• Gulzar summaries several issues on  this topic Labor market in the Great Recession
• Cowen asks which country has the largest ramp-up fiscal stimulus? It is Saudi Arabia. Though Saudi is also pretty lowly placed on fiscal transparency.
• Krugman compares Raghu Rajan’s recent article with Schumpeter’s in Great Depression
• Nudges on How McDonald’s uses automatic enrollment
• WSJ Blog points to a new paper from James Bullard of St Louis Fed. He said if US were to slid into Japan style deflation trap, Fed should shift away from interest rate policy and instead focus on “quantitative easing” measures. This would boost inflation expectations if inflation shows signs of ticking lower.
• John Taylor reflects on the new Blinder-Zandi Working Paper on the Crisis.
• Chinn points last decade warmest on record

What’s wrong with economics?

This is the title of a speech by DeLisle Worrell, Governor of the Central Bank of Barbados. Another speech/paper which looks at problems with economics. Interestingly, it comes from a central banker of a very small developing economy. So, it has some other insights.

He is dismayed over recent developments in economics:

How US moved to a paper currency system? lessons for central banking

Bennett McCallum of CMU writes this fascinating paper on the topic.

Assorted Links

• IFMR Blog points to Buisiness correspondent model in Brazil
• Gulzar on Explaining India’s inflation story
• Krugman points US Economy is Number One in economic outlook, on the negative side though
• WSJ Blog points to a new paper which says Words, Not Deeds, Are Central Bank’s Main Power
• MAcroblog says The money-inflation connection: It’s baaaack!
• Chinn points to a new conference on China
• Fame-French answer this q- Are Treasury Bonds Risk-Free? Barring TIPS, treasury bonds suffer from inflation risk. Even TIPS suffer from real return risk.
• Economix Blog on Europe’s Two-Speed Economy: North Vs. South

Water markets- an institutional perspective

I came across this fascinating paper on the topic by a team of economists, water experts and environment experts.

Teaching economics after the financial crisis

There are all kinds of reforms happening or expected reforms because of the financial crisis. What about reforms or changes in the way economics is taught? Not much thought has gone into this. This is as important as this is how we are training future thinkers in economics.

Alan Blinder reflects on this in this very useful paper. He looks at new additions/changes in his textbook co-written with William Baumol.

Assorted Links

• Cowen has 2 superb posts- first discusses how we should be looking at impact of fiscal policy. He says there are two ways to look at fiscal policy impact. One the overall govt expenditure which is stable throughout the year and two the sudden increase which is labelled as stimulus. What is important is that you look at both and not just the second category. Countries like Germany etc have a higher overall expenditure and therefor automatic stabilizers are larger. Second post is on why Cowen has been wrong on Europe?
• Krugman on <!– — Updated: 4:42 pm –>Permanently High Unemployment
• WSJ Blog points to some interesting papers –  Economists Try to Measure Uncertainty’s Impact on Growth, Credit Cards Take From Poor, Give to the Rich, Note to China: Economic Reform Doesn’t Produce Democracy
• Paul Romer Podcast with Paul Kedrosky
• PSD Blog on Would Ulysses have taken out a microfinance loan?
• Economix points to a new report estimating impact of fiscal stimulus

RBI first quarter 2010-11 review of monetary policy – update

In its first quarter review of monetary policy  for 2010-11, RBI increased its policy rates with immediate effect. (See Policy doc here and Governor’s press statement here)

• Repo rate increased by 25 bps to 5.75%
• Reverse repo rate increased by 50 bps to 4.50%.
• Cash Reserve ratio maintained at 6.00%. CRR was kept unchanged because of persistent deficit liquidity situation

Before I discuss the monetary policy outlook let me point to another great RBI initiative under D. Subbarao.

RBI now will be meeting 8 times in an year instead of the current practice of 4 quarterly meetings. The new 4 meetings will be mid-quarter reviews and will be held roughly between 2 quarterly meetings.  

The quarterly reviews will be held in June, September, December and March. The actions in these reviews will be released in a press release form. The next quarterly review will be held on September 16, 2010.

Market participants have been suggesting this for a while.More frequent meetings are important and as macroeconomic outlook is changing and evolving very rapidly. Moreover, RBI is anyways taking actions before actual monetary policy recently. So, it is better to make this system official and increase transparency. As RBI says, it will take the surprise element from off-cycle monetary policy actions.

Another great step by RBI…

Now back to monetary policy discussion. Going to be a long post…..

RBI Q1 FY10 Monetary Policy – Preview and Expectations

The Reserve Bank of India (RBI) will release the Q1 review of the monetary policy and macro-economy today (July 27, 2010) at 11.30 AM . Market participants expect RBI to increase both the repo and reverse repo rates by 25 basis points (bps) each to 5.75% and 4.25% respectively.

The markets expect RBI to maintain the cash reserve ratio (CRR) at 6%, given the persistent deficit liquidity conditions.

 RBI has been increasing interest rates for three reasons:

1. Inflation and inflationary expectations are building up;
2. Growth numbers (such as IIP and GDP) have been robust;
3. To normalise interest rates. RBI lowered its policy rates aggressively during the global financial crisis two years ago. As the conditions steadily improved, RBI began to raise interest rates. Real interest rates (nominal rate minus inflation) are still negative, implying that more rate hikes may be needed. But, as the global economy still faces huge uncertainties, RBI has adopted a gradual pace towards normalising interest rates.

Since July 2 2010 rate increases, then there have been two main data releases – WPI monthly inflation for Jun 2010 and IIP for May 2010. Both were lower than market expectations, yet fairly high.

Again, the challenge for RBI will be to lower high inflation and inflationary expectations, amid global uncertainty. Let us review the conditions against which RBI decides to tweak or not tweak its monetary policy.

Indian Economy Outlook and Developments 

• Growth: IMF and PM’s EAC both have revised growth outlook upwards for India. IMF in its July 2010 World Economic Outlook update put India growth for  2010 at 9.4%, higher than 8.8% pegged in April. EAC in its 2010-11 outlook report has revised growth outlook for 2010-11 from 8.2% (in Feb-10 outlook report) to 8.5%. So, growth outlook just gets better with each outlook.  There are expectations that RBI might also revised the growth outlook upwards. In April 2010 policy, it put growth for 2010-11 as 8% with an upward bias.
• IIP for May 2010 stood at 11.5% — significantly lower than market expectations of 16%. Market players now expect IIP growth to slow down as companies take a break from the record production levels. The index levels still remain high.
• WPI monthly inflation for Jun 2010 showed trends continue to surge and was at 10.55% in June 2010. It was also lower than market expectations of around 10.8%. The inflation figure continues to be revised upwards. For April 2010, it was revised upwards from 9.59% to 11.23% and the March 2010 numbers were revised upwards from 9.9% to 11.04%. Chances are that the June numbers too will be revised upwards to around 11.5%. Hence, overall inflation is much higher than what the provisional figures show. Core inflation has surged from -0.8% in November 2009 to 7.3% in May 2010. Core inflation itself is higher than RBI’s projected March-end 2010 inflation rate of 5.5%.

  CPI inflation has declined, but still remains in the 13.6-14.5% range. Moreover, the decline is on account of the base effect, as indices continue to rise. Overall, significant inflation pressures remain.

  However, there is a positive news on the monsoon front. Rainfall, till now, has been better than last year. The cumulative seasonal rainfall for the whole country up to July 21, 2010, has so far been 14% below the long period average (LPA). Of the 36 meteorological subdivisions, rainfall has been excess in over 50, normal in over 21 and deficient in 10. Although it has been below normal for the whole country, areas such as Punjab have got excess rainfall. Hence, expectations are that supply-side pressures on food and food prices will be lower.

• Liquidity Situation: High growth, coupled with high inflation, is a strong factor for RBI to hike interest rates. There were two points that made the RBI move uncertain – liquidity position and global economic outlook (explained later). Money markets have been facing deficit liquidity since June. The situation worsened because of money outflows due to payments for the 3G and broadband wireless access spectrum auctions and tax outflows. Since then, the deficit in liquidity has hovered around Rs 50,000-70,000 crore. Money market rates have moved up because of this. Hence, markets were not sure whether RBI would increase its policy rates.

  The deficit was expected to be temporary and liquidity was expected to come back in the system from mid-July 2010 onwards. However, the deficit in liquidity persists.

  RBI extended the second liquidity adjustment facility till July 30, 2010. But as the liquidity deficit continues, it is expected that the second LAF facility will be further extended. There is an interesting point made by some market participants: why should RBI increase the repo rate under this deficit liquidity situation and make it further costlier for banks? They suggest that RBI should only be increasing its reverse repo rate and not tax the banking system further. 

• Monetary aggregates: Growth in non-food credit has surged and touched 22.1% in the fortnight ended July 2, 2010. This is much higher than RBI’s projected growth of 20% for March 2011. Much of this growth is because of payments made for 3G and Wireless spectrum auctions.

  On the other hand bank deposits have grown by 16%, lower than the growth of credit. That figure is also lower than RBI projections of 18%. Time deposits form around 87% of the total deposits and have been growing at around 13.6%. As bank deposits form the bulk of money supply (M3), it is also assumed to be growing at around 16%.

	RBI Projection for March 2011 end (YoY, in %)	Growth as on 2 Jul 2010 (YoY, in %)
Money Supply	17	16
Non-food Credit	20	22.1
Deposits	18	15
Source: RBI

Global Economy Outlook and Developments
The global economy is at a critical juncture. The European Union released the results of a stress test conducted on 91 select banks. Only seven banks failed the test – five in Spain and one each in Germany and Greece. As the results were released on late Friday, analysis and comments are still pouring in.

 European policymakers say the tests prove that things are not as bad with European banks as it was made out to be. So, markets should improve now and not be so pessimistic over Europe. However, some have called the stress tests ‘soft’ and even alleged that there is a lot of window dressing of balance sheets. Hence, a more refined analysis will be made only after markets open on Monday.

 Economic data from the US have again worsened since June. US Fed chairman Ben Bernanke recently termed the US economic outlook as highly uncertain. Some economies — such as those of the US, UK and the Euro area countries — are still hurting and an increase in interest rates looks like a remote possibility. However, growth has picked up in some economies and their central banks raised rates recently. New Zealand, Canada, Sweden and Chile are examples.

 The question being debated currently is whether economies should impose fiscal austerity plans or not. Proponents say, given the high debt levels austerity will infuse confidence in markets. However, naysayers point that there is huge stress in economies and fiscal austerity will backfire, given the similar experiences in Japan and during the Great Depression.

Conclusion
Given this background, RBI is expected to continue to increase its interest rates. But with global uncertainty still very high and economies recovering mainly because of stimulus packages, the outlook is still hazy.

US House of Representatives discuss DSGE models!

I didn’t know it would go to this level but it has.

House of Representatives  Committee on Science and Technology held a hearing on Building a Science of Economics for the Real World.

Its Chairman Brad Miller says:

A few weeks after Lehman Brothers went bust, Former Fed Chairman Alan Greenspan, the steward of our economy during the 20 years that culminated in the housing bubble’s growth, told our colleagues on the House Oversight and Government Reform Committee that his reaction to the financial crisis was one of “shocked disbelief.” He had “found a flaw,” as he put it, “in the model that [he] perceived [to be] the critical functioning structure that defines how the world works.”

Greenspan’s fallen model of the market shares many assumptions with the model that’s favored today, from academe to the world’s central banks. The macroeconomic model is called the Dynamic Stochastic General Equilibrium model mercifully called DSGE for short. According to the model’s most devoted acolytes, the model’s insights rival the perfect knowledge Paul described in the First Letter to the Corinthians; but unlike the knowledge Paul described, DSGE’s insights are available in the here and now.

To be fair, DGSE and similar macroeconomic models were first conceived as theorists’ tools. But why, then, are they being relied on as the platform upon which so much practical policy advice is formulated? And what has caused them to become, and to stay, so firmly entrenched? And, finally, the most important question of all: What do we get when we apply the various tools at our disposal to the urgent economic problems we’re facing today?

If this approach to economics is useless for the purposes of advising policy makers to lead to better economic outcomes, what are we getting out of the economic research funded through the NSF?

Besides raising these questions about the dominant model, we plan to have a look at the competition. What kinds of alternative models exist, and do we need to generate still others? Should we be using a variety of models in concert rather than relying on only one type? Should the Federal government use its funding of economic science to encourage the development of these alternative approaches?

Hmmm. Who were invited for the hearing and what did they say:

We have a distinguished panel to help us delve into these issues. Dr. Robert Solow will tell us what is in the DSGE model, where it parts from the realities of the world, and what kind of advice it tends to deliver. Dr. Sidney Winter will talk about the economic realities that DSGE and its macroeconomic cousins fail to take into account and about how to look for policy advice when there are important features of the economy that don’t lend themselves to modeling. Dr. Scott Page will provide a glimpse of a new form of model that advanced computing power has made possible, the agent-based model, and make a case for the use of many and varied models.   Dr. David Colander will explain why DSGE has achieved such a monopoly and outline a plan designed to open the floor to a broader spectrum of ideas. And Dr. V.V. Chari will state that while DSGE models are definitely capable of improvement, many of the criticisms leveled against them are inaccurate and, in any case, “there is no other game in town.”

Great stuff.

I have started to read the transcripts of these economists. Looks exciting right away.

Assorted Links

• IFMR Blog on Financial inclusion: Understand your customer
• Gulzar summarises US financial market reforms. Also see US economic situation in graphics. He also has an excellent post on US inflation scenario
• Cowen says 90% debt-gdp ratio is not a worry? On Europe bank stress tests
• He points to profile of Al Roth. It is a very good read. What a sharp economist.
• Krugamn points Keynes In Asia. Asian policymakers stimulated aggressively in this crisis taking forward lessons from SE Asian crisis.
• Nudges blog points Richard Thaler article on soccer lessons for financial regulators.Refree mistake in England Vs Germany match has got responses from everybody
• Mankiw on economics jargons
• Economix on Big Mac Index- Remininbi undervalued by 48%. Euro and Brazil Real overvalued…

Eoroarea Bank Stress Tests – Primer

All are awaiting the results of bank stress tests in Euroarea to be released tomorrow (23 July 2010). The results would be announced at 6 PM CEST (Central European Standard Time). There are lots of rumors doing the rounds (thanks to eurointelligence for most news items) and most not in the favor. Most saying all banks will pass the tests which is a joke.

I was wondering who would do these tests? What is the methodology? Which are the banks?

Approach to the Twelfth Five Year Plan

Planning Commission has started the exercise to formulate the 12th 5-year plan. Goal of the plan should be faster, sustainable and more inclusive growth.

Assorted Links

• Gulzar points to new paper on default savings options
• Cowen points to a new blog by MIT Professor Erik Brynjolfsson
• Rogoff is the latest economist to say don’t rush for any fiscal push right now. Krugman on Rogoff’s recent article. He doesn’t spare anyone. He might be taking on JohnTaylor very soon who has been saying cutting national debt = stimulus
• Krugman also builds a Fedfail Index. Needless to say the index is very high meaning Fed is failing big time
• WSJ Blog points how Avinash Dixit’s new paper came from a sitcom. Amazing really
• Casey Mulligan compares deflation in great depression vs today

Use and work with the Indian Rupee symbol immediately!

We have a new symbol for Indian Rupee.

But as mentioned it would take time for us to start using and working with the symbol as there would be changes in software code etc.

Not really. Chaitanya of Foradian Technologies alerts me that it is possible immediately. They have designed a Rupee font which you can download on your system. By typing this ` (above tab on the left side of the keyboard) and use the Rupee font on the ` symbol, you get the Rupee symbol right away.

More details and methodology here.

I have tried it and it works. Thanks a ton Chaitanya for the information and to Foradia for developing this tool.

Addendum:
I realise this tool has been available for a while and many people already have it. I thought it has been out only recently. I just checked the date of the Foradia post and it was on 16 July 2010. So almost a week old by now.

Macroeconomic Modelling for the 11th 5-year plan in India

Planning Commission has put up this amazing report on its website (very heavy nearly 24 MB). It includes the various macro models used for eleventh plan.

Break up of the Euroarea: Scenarios and Possibilities

Though this paper has been on the highly recommended reading list for a while now, I only managed to read it now. Written by Barry Eichengreen, it is a must read paper on problems in Euro area: