Archive for January 17th, 2018

Are Indian equity markets closest to a perfect competition experience and why economists should practice their own laws?

January 17, 2018

This is a nice lecture by Dr M.S. Sahoo currently the Chairperson of Insolvency and Bankruptcy Board of India. It is the annual RH Patil lecture organised by NSE. There is another RH Patil Lecture organised by CCIL which was given by Dr YV Reddy.

Dr Sahoo covers large ground in this lecture right from institutions to Dr RH Patil to new Role of economists:

Dr. Patil was one of India’s leading practitioners of Economics, particularly of Financial Economics. More importantly, he built a set of fine institutions of post-liberalisation India, yet remained largely an unsung hero.

In this memorial lecture for Dr. Patil, I wish to touch upon the following four aspects to trace the provision and promotion of economic freedom since early 1990s:
I. Dr. Patil as an institution builder;
II. Context to the Institutions built by Dr. Patil;
III. Ongoing reforms in the financial markets; and
IV. A possible new role for economists.

Unsung surely. And not just now.

I recall attending a finance conference in the financial capital where Dr R.H. Patil wad to give the last lecture. He spoke on Corporate Bonds and was a shame that the hall was empty by then. More so, as lack of corporate bond market remains a favorite topic and yet no one wanted to hear the person who had then chaired a committee to look into the matter.

Anyways, Dr Sahoo points how capital market institutions built the foundations of India’s equity markets using perfect competition ideas!:

The economists often praise the virtues of perfect competition; they theorize models assuming perfect competition, but rarely, have they seen or experienced it. The search for perfect competition has proved to be as elusive as ‘search in a dark room for a black cat which may not be there’. The institutions (screen based trading system and demutualisation of stock exchanges) built by Dr. Patil, who in a sense epitomized a practising economist, probably gave us the closest experience of a perfect competition.

So what are the characteristics of perfect competition? Let us examine.

(a) Free entry and free exit: A person is free to enter into and exit from the market – an investor can buy securities and equally freely, sell securities, a broker can register and surrender registration, a company can list and delist securities; etc. – they have unfettered freedom to get in and get out.
(b) Large number of market participants: There are numerous investors – domestic and foreign, retail and institutional, small and big – who buy and sell securities simultaneously. So also, there are numerous issuers of securities and numerous intermediaries (service providers).
(c) Perfect information: Every participant has almost perfect information. Every issuer makes a disclosure of full and accurate information about itself, its securities, and the rules governing transactions of such securities, based on which investors take informed decisions and assume responsibility for the same. Issuers also make continuous disclosures as long as their securities remain listed on stock exchanges. Intermediaries are also obliged to make disclosures. Everybody is a price taker: No participant has the market power to set the price of the securities, or even influence the price of securities. The institutions built by Dr. Patil provided the foundations of a market economy and allowed the invisible hands of the market to determine the outcomes.

There is more in the speech.

In the end, he has some advice for economists:

There is an important distinction between civil liberty and economic liberty. Civil liberty is almost entirely black and white; while economic liberty is many shades of grey. It is so because the economic liberty is the domain of both economics and law. The determination of an issue relating to economic liberty in a given context requires that all possible legal perspectives are taken into account from all possible economic angles. Let me illustrate this with a story. Four persons who had received show cause notices from the competition authority were discussing as to what caused them their predicament. The first person said he charged a price higher than others in the market and has been accused of abuse of market power. The second one said he charged a price lower than anybody else and has been accused of predatory pricing and hurting competition. The third one said he charged zero price and has been accused of creating entry barrier. The last one said he charged the very same price as everybody else and has been accused of cartelisation.


The determination of context – the determination of abuse, dominant position, relevant market, etc. – requires institutions to be adept in appreciating and using economic inputs and tools. The regulators and tribunals should have access to such inputs and tools while determining an issue under economic laws. The easiest means of access is representational services. Along with other professionals such as chartered accountants, cost and management accountants, company secretaries, and advocates, economists should be allowed to provide representational services. In addition to teaching, research, consultancy, analysis, etc. economists could consider practising economic laws. In the long run, academics should produce economic lawyers or legal economists who specialise in economic law practice. This will go a long way towards fostering economic liberty. 

Superb stuff…


Banking deserts in US are literally in deserts only…

January 17, 2018

Interesting post on NY Fed’s Liberty Street blog.


The Act that established the US Treasury Department…

January 17, 2018

On 2 Sep 1789, this Act led to establishment of US Treasury Dept:

An Act to establish the Treasury Department.(a)
Section 1. Be it enacted by the Senate and House of Representa­tives o f the United States o f America in Congress assembled,
That there shall be a Department of Treasury, in which shall be the following offi­cers, namely: a Secretary of the Treasury, to be deemed head of the department; a Comptroller, an Auditor, a Treasurer, a Register, and an Assistant to the Secretary of which assistant shall be ap­pointed by the said Secretary.
How law (or lack of law) is behind most organisations and its decisions…
These Archives hosted at St Louis Fed is a treasure. Will be posting from this often…

The Federal Reserve and central bank cooperation over the past 100 years…

January 17, 2018

Superb speech by Simon Potter of NY Fed. It is at the occasion of Centennial of the Federal Reserve’s US Dollar Account Services to the Global Official Sector. It is these account services which led to both US Dollar and Federal Reserve play begin to play a central role in world economy.

As expedient as the accounts were for wartime needs, the historical records show they were also motivated by ambitions of the Fed’s first leaders to establish the dollar as a major international currency and, for Benjamin Strong, to establish New York as a great international financial center to rival London. They had their work cut out for them.

By 1914, while the U.S. was already the world’s largest economy and trading nation, its banking system remained curiously parochial and the dollar was not a major international currency. In fact, American firms continued to finance their trade almost entirely with credits from foreign banks, a source of resentment, with Paul Warburg, the first Federal Reserve vice chairman, referring to the annual acceptance fees paid to London banks as a form of “tribute.” 

With the passage of the Federal Reserve Act in 1913, some of the constraints on the emergence of a robust dollar trade financing market were removed and the newly established U.S. central bank could take a more active role in nurturing and backstopping a nascent dollar acceptance market, which it did. These efforts included buying dollar acceptances for foreign central bank accounts at competitive discount rates and providing guarantees, for a small fee, on payments at maturity of acceptances bought for these accounts.

These actions helped to spur the dollar’s emergence as an important international currency, with dollar acceptances viewed as an attractive reserve asset by the 1920s.

The early accounts also represented tangible links of cooperation among major central banks, with much of this cooperation centered on efforts to maintain or restore the international gold standard in the aftermath of the First World War.11 The reciprocal relationships enabled central banks to buy and sell foreign exchange to influence credit conditions in each other’s markets with the aim of regulating cross-border gold movements. In this, central banks of the time viewed acting through foreign central bank correspondent accounts as preferable to acting through private intermediaries.

Now this Account Service pretty much controls world’s financial system:

h the Central Bank and International Account Services area of the New York Fed, the Federal Reserve today offers banking and custody services in dollars to just under 180 foreign central banks and monetary authorities, approximately 18 international multilateral financial institutions, and a number of ministries of finance or national governments. The suite of services offered to these account holders is a basic package of dollar-denominated and gold services in three general areas: transfer and custody services for gold and fixed income securities; dollar-based payment services; and dollar-based cash management and investment services.

Every day, New York Fed staff process on average hundreds of billions in transaction volumes on behalf of foreign official account holders. In total, approximately $3.6 trillion of dollar-denominated securities and cash deposits are held by foreign official account holders at the New York Fed, representing about half of the world’s official U.S. dollar reserves and one-third of the world’s total official FX reserves.

There is also discussion from the archival records on how the service came into being:

It was left to Governor Benjamin Strong of the New York Fed to journey to Europe in the spring of 1916 to personally negotiate the early account agreements, allowing him to forge close personal relationships with European central bankers, most famously with the Bank of England’s Montagu Norman, or as Strong would come to call him: “my dear Monty.”4 While these initial discussions in 1916 did not lead immediately to agreements, partly owing to U.S. observance of neutrality, the groundwork had been laid such that by the time the U.S. entered the War in April 1917 the arrangement with the Bank of England could be executed rapidly.

The historical records show that the establishment of this first account agreement with the Bank of England involved a minor diplomatic faux pas, known as the British Treasury bills episode. President Wilson, having won reelection in 1916 on the claim of having kept the U.S. out of the Great War and observing strict neutrality, had directed the Federal Reserve Board in Washington to issue a clear-cut warning to U.S. banks not to invest in a pending large placement of British Treasury bills in the U.S. market. The immediate and worldwide effect of the statement was to give the impression that the U.S. had “broken with Britain,” an impression which officials were soon scrambling for ways to counteract.5 The result was the Federal Reserve Board’s decision, contrary to the terms of the account negotiations and to the consternation of the New York Fed, to unilaterally announce to the public the account agreement with the Bank of England. The whole episode spoke perhaps to the Fed’s inexperience in matters of delicate international financial diplomacy. In any event, the Bank of England magnanimously let the matter slide-noting that mistakes “may arise even in the best regulated families”-and the account agreement was executed on May 3, 1917 and operationalized on June 20, 1917.

Superb stuff…Lots of global history in this speech…


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