Primer on Islamic Banking

Superb primer by Arshadur Rahman of Bank of England. It explains the basics of Islamic Banking and does a great job.

Also interesting to know BoE planning to introduce a Shari’ah compliant facility. This will faciliate UK Islamic banks hold central bank assets:

• ​Islamic banking is a relatively young but growing sector of the broader financial services industry. Numerous banks around the world offer Islamic, or Shari’ah compliant, financial products.
• Some central banks offer Shari’ah compliant liquidity facilities to Islamic banks, affording them similar flexibility to other firms in managing their liquidity. Such facilities avoid the payment or receipt of interest, which is otherwise the most common basis for operating a liquidity facility.
• The Bank is establishing a Shari’ah compliant facility, specifically a deposit facility to allow UK Islamic banks to hold central bank assets as part of their liquid assets buffer. This article explores the various ways in which this can be done, along with the model the Bank has chosen to adopt.

How religions have shaped all these banking and financing cultures and institutions..

Advertisements

Methods for pricing options in the 19th century..

Prof George Dotsis of University of Athens has a piece on how options were priced in 19th century.He builds his research from a book by an option trader: Higgins, L (1906), The put-and-call, Aberdeen: Aberdeen University Press.

As expected, traders back then had figured a way to price options without much jazz as today:

The origins of financial development: How the African slave trade continues to influence modern finance..

Interesting paper by  Ross Levine (who else), Chen Lin and Wensi Xie”

In this paper, we contribute to research on two interrelated questions: What are the historical determinants of national differences in financial development and through which mechanisms do these historical factors influence the operation of modern financial systems?

We focus on the historical African slave trade during the period from 1400 – 1900, which Nunn and Wantchekon (2011) show has had an enduring effect on social cohesion and culture across Africa. More specifically, we examine the impact of the intensity with which people were captured, enslaved, and exported from Africa on financial development today and key institutions that shape modern financial systems. With respect to the first question, Pierce and Snyder (2017a) show that the slave trade is negatively associated with firm access to credit. We contribute by showing the intensity of the slave trade across African countries is also negatively associated with household access to credit and overall financial development. We further show that the negative association between slave exports and firm access to credit varies in a theoretically predictable manner, as the association is especially pronounced among firms that depend heavily on external finance for technological reasons.

With respect to the second question, we evaluate three potential mechanisms linking the historical slave trade to modern finance. A large body of evidence indicates that information sharing institutions that reduce information asymmetries about potential borrowers, the degree of trust that individuals have in financial institutions, and the quality of legal institutions influence the operation of modern financial systems. We discover that the intensity of the African slave trade in the 1400 – 1900 period is strongly, negatively related to the quality of information sharing institutions and trust in financial institutions but is not strongly related to legal institutions. These findings are consistent with the view that two mechanisms through which the historical slave trade continues to influence modern financial systems across Africa are information sharing institutions and trust.

Need to read it carefully..

Why don’t we look at lessons from Indian banking history while resolving current NPA crisis..

It was interesting to read RBI DG’s speech on Indian banking NPA crisis. He starts pointing to the scale of the problem and then looks at examples of banking crisis in Japan (1990s)  and Europe (recently).

In the end, he asks several qs in words of William Wordsworth:

Women leading banks: A case for more or less stability?

They say if Lehman Brothers was Lehman Sisters, things would have been more stable not just at the firm but even for markets.

However, economists will always say but where is the evidence?

A group of IMF economists look at data and show that banks led by women are more stable:

Monopoly without a Monopolist: An Economic Analysis of the Bitcoin Payment System

This is the title of a Bank of Finland working paper by Gur Huberman, Jacob D. Leshno and Ciamac Moallemi.

Though fairly technical, the paper has some interesting observations:

Indian income inequality 1922-2014: From British Raj to Billionaire Raj…

Lucas Chancel and Thomas Piketty analyse the trends in this paper (HT:CafeEconomics).

Not surprisingly, the share of national income held by 1% is the highest since 1922:

The integration of economic history into economics

Prof Robert Margo of Boston Univ has a piece (detailed paper here):

Specialist economic historians in the US today behave, and are rewarded, in similar ways to other economists. Mainstream economists also publish articles on economic history. This column argues that this is the culmination of a process of integration of history and econometrics that started with the cliometrics revolution in the 1950s. If this continues however, there is a risk that the demand for economic historians with the skills to ‘get the history right’ might dry up.

…..

Professional historians interested in economic history must bridge a yawning disciplinary divide to ‘get the economics right’ but have few incentives to do so. An example is the work by professional historians on the history of capitalism, criticised by cliometricians for errors in economic logic and empirical analysis (Hilt 2017). Finding it difficult to tell the players without a score card, the general reading public are the losers.

Historians of economic thought study the evolution of economic ideas and methods of analysis. This evolution is not independent of the institutions and incentives that shape the day-to-day behaviour of professional economists. Economic history is a revealing case study.

Hmmm.

Whatever the forces, the brunt is always on the history inclined…

 

Business history of emerging markets should be seen as an alternative rather than merely adding new settings…

Nice and important paper by Profs. Gareth Austin, Carlos Dávila, and Geoffrey Jones.

It is fashionable to present economic and business history research of non-developed world very superficially. Moreover, it is just seen as complimenting the history of the developed world despite some very different contexts in the two sets of countries. Infact, the developed world differentiates its country-specific research but sums all non-developed world experience as emerging markets or some other term.

But this is not how it should be:

The interdependence of research and (monetary) policymaking

ECB chief Mario Draghi gives a nice speech on the topic. It is at Lindau Nobel Laureate Meeting.

He looks at how research has impacted policies over the years summarising many years of research and policy. In the end points t0 5 lessons:

This account of how policymakers and researchers have interacted in the past ten years shows how indebted the former are to the latter. From my point of view, one can draw five lessons for policymakers.

First, sudden shocks often make visible the flaws in our policy frameworks and challenge the explanatory power of existing theories in ways that have been previously overlooked. But analysis conducted by researchers and embraced by policymakers remains essential in designing the policy response.

Second, a policy response that has its foundation in rigorous research is less prone to being impaired by political compromise and easier to explain to the general public.

Third, Keynes is often quoted as saying, “When the facts change, I change my mind. What do you do, sir?” Well, for policymakers, it is not that simple, and research helps us to decide whether a change in the facts deserves a policy response or, as we say, we should look through it.

Fourth, when the world changes as it did ten years ago, policies, especially monetary policy, need to be adjusted. Such an adjustment, never easy, requires unprejudiced, honest assessment of the new realities with clear eyes, unencumbered by the defence of previously held paradigms that have lost any explanatory power.

Fifth, we must be aware of the gaps that still remain in our knowledge. Our mainstream macroeconomic models still have little to say, for instance, about the non-linear propagation of shocks, the distributional impacts of policies, or how endogenous firm entry and exit can affect economic performance.^[15] Policy actions undertaken in the last ten years in monetary policy and in regulation and supervision have made the world more resilient. But we should continue preparing for new challenges.

The changes that we have discussed, profound as they are, often hinge on one fundamental idea. A natural question to ask is whether such an idea sprang out as a response to a specific policy problem or was rather conceived previously in an entirely different, unrelated intellectual environment, perhaps addressing a different set of problems. It is a question that is especially relevant in economics, when previously held consensus views change. But it is a question that is unlikely to have a precise answer.

Let me rather use the 1939 words of Abraham Flexner, the first director of the Princeton Institute for Advanced Study: “Almost every discovery has a long precarious history. Someone finds a bit here, another a bit there. A third step succeeds later, and thus onward till a genius pieces the bits together and makes the decisive contribution.”^[16]

Today, I have had the privilege of addressing such people – geniuses who have pieced the bits together and made decisive contributions.

He misses the 6th and most important lesson: avoiding hubris and need for humility in both research and policymaking. We often see a lot of problems when both research and policymaking think they have solved all economic problems  and nothing can go wrong, is when all wrongs happen…

How William Baumol created cultural economics in sleep!

Prof. Victor Ginsburgh of Université Libre de Bruxelles pays a tribute to Prof Baumol who just passed away. He points to this interview Alan Krueger takes of Baumol:

William Baumol is the ‘inventor’ of the cost disease, an idea that initiated the field of cultural economics. According to Blaug (2001: 123), “cultural economics or the Economics of the Arts, as it used to be called, may be said to have been created almost de novo 30 years ago by Baumol and Bowen’s (1966) book.”

Instead of defining the disease – every cultural economist should know what it says – here, according to Baumol himself, is the story of its birth:

“John D. Rockefeller III and August Heckscher of Twentieth Century Fund had decided that it was time for the United States to do something to encourage the arts. So they decided they would have a two-pronged operation. One was a panel composed of good, solid business people who could show that the arts were not a Communist homosexual plot. Then they wanted a serious study. They talked to a number of people, and then someone told them that there was this crazy economist at Princeton who was interested in art. Well, it was the wrong art. I was interested in painting and sculpture. So they called me in, and I told them how I would go about selecting somebody to study it… And then the next day they called me and said, ‘We’d like to give you those instructions.’ I said, ‘I’m terribly busy. I can’t do it.’ And they called again, and I said, ‘Well, I’ll do it on one condition. There’s a young assistant professor here, in whose work I have great confidence. If he’s willing to do it and you’ll pay him…’ And they agreed and Bill Bowen came and took over the whole thing, as you can imagine. It was such a pleasure working with him. So we started to work on it, and he laid out all the things that had to be covered, how one should go about covering them. And then we started to get all these statistics about budgets. Then one night, it was 4:00 in the morning, I suddenly woke up and said I know why those costs are going up! I got up, wrote down a few notes, and went to sleep again. That’s literally how it happened.” (Krueger 2001: 217-18).

The productive nature of sleeping seems to recur in science: a French mathematician called Andre Lichnerowicz once said that there is no difference between a mathematician who sleeps and a mathematician who works. This is very close to what Baumol’s son, Daniel, recounted about his father: “During a long trip, he would sit in the back of the car, oblivious to the world, and as we pulled in, he would announce, ‘I just finished that article’” (New York Times 2017).

Brilliant..

Though these gifts are possessed by rare few. Most of us struggle to come with any ideas despite all eyes awake…

How Haiti Dollar is just imaginary money…

Federico Neiburg of Museu Nacional, Universidade Federal do Rio de Janeiro has a superb research piece (HT: JP Koning who else).

Haiti Dollar is just imaginary money. The currency is neither traded or exchanged but used as a unit of account. So you buy/sell anything in Haiti, you will be quoted prices in Haiti Dollars but paid in some other currency!

I examine here a singular feature of the Haitian monetary universe: the generalized use of a currency without any material existence, past or present, as a coin or banknote: the Haitian dollar. In most transactions in Haiti (price negotiations in markets, working out wages and contracts), calculations are made in the Haitian dollar, while payments are made in other currencies, principally in gourdes (HTG, the national currency), but also in US dollars, Dominican pesos, telephone cards, and other forms, such as the pieces of plastic or metal that smooth the flow of various commercial circuits of basic goods, like water and coal, among the poorest people.

The rate of conversion between the Haitian dollar and the gourde is one Haitian dollar to five gourdes. After haggling over a bag of mangoes in a street market, for example, the buyer and seller may agree on a price of three Haitian dollars: the [76]buyer pays with a fifty gourde note (ten Haitian dollars), the seller keeps three dollars for the mangoes (fifteen gourdes), and gives seven Haitian dollars in change (thirty-five gourdes, in three notes of ten and one coin of five). Or another example: a supermarket bill comes to 234 HD (Haitian dollars). The buyer pays with 1500 gourdes (300 Haitian dollars), the cashier says, “Here’s your change: sixty-six dollars” and gives the buyer 330 gourdes, keeping the 234 Haitian dollars for the purchase.

All travel tips for foreigners (in tourist guidebooks or websites aimed at ex-pats) warn about this “bizarre” way of undertaking transactions. The Haitian government, with the support of public intellectuals, has tried many times to ban use of the Haitian dollar, condemning it as just another sign of the country’s barbarity or backwardness.¹Nevertheless, people continue to calculate in Haitian dollars while they exchange other currencies.

Many dollars circulate in the monetary space of the contemporary Caribbean, including the US dollar, the Jamaican dollar, the Belize dollar, and the East Caribbean dollar—issued by the islands forming a Common Market, like Bermuda, Dominica, and Grenada. From the viewpoint of standard monetary theories, all of these are “normal” currencies: they serve as a unit of account, means of payment, medium of exchange and store of wealth. They are identified by a symbol (USD, JMD, XCD, etc.) and exist in a physical form, minted and available to be handled. The Haitian dollar also has a symbol (HD), but unlike the other Caribbean dollars, it is an imaginary money, a pure unit of account. Although basically an oral and conceptual phenomenon, the Haitian dollar is also written and objectified in supermarket receipts, restaurant menus, gas station price signs, contracts for international cooperation projects, notebooks recording debts and credits for bets or lotteries, and at banks, where we can find conversion tables like this: 1 USD:8 HD:40 HTG.²

One of my main aims, then, is to examine the entanglements (rather than oppositions) between materiality and immateriality, the reality and the conceptualization of the Haitian dollar. As we know, this tension traverses the social history of money.

Superb stuff…

Ladies of the Ticker: Pioneering Women Stockbrokers from the 1880s to the 1920s in New York..

George Robb (Prof of History at William Paterson University of New Jersey) has a nice piece:

During the late 19th century, a growing number of women were finding employment in banking and insurance, but not on Wall Street. Probably no area of American finance offered fewer job opportunities to women than stock broking. In her 1863 survey, The Employments of Women, Virginia Penny, who was usually eager to promote new fields of employment for women, noted with approval that there were no women stockbrokers in the United States. Penny argued that “women could not very well conduct the business without having to mix promiscuously with men on the street, and stop and talk to them in the most public places; and the delicacy of woman would forbid that.”

The radical feminist Victoria Woodhull did not let delicacy stand in her way when she and her sister opened a brokerage house near Wall Street in 1870, but she paid a heavy price for her audacity. The scandals which eventually drove Woodhull out of business and out of the country cast a long shadow over other women’s careers as brokers.

Histories of Wall Street rarely mention women brokers at all. They might note Victoria Woodhull’s distinction as the nation’s first female stockbroker, but they don’t discuss the subject again until they reach the 1960s. This neglect is unfortunate, as it has left generations of pioneering Wall Street women hidden from history. These extraordinary women struggled to establish themselves professionally and to overcome chauvinistic prejudice that a career in finance was unfeminine.

….

The first generation of women stockbrokers faced great resistance, but they chipped away at the old boys’ network on Wall Street that sought to exclude
and marginalize them. They carved out a niche for themselves as advisers and liaisons to women investors. They helped break barriers to women’s employment in brokerage firms, and they made it possible for women today to have greater financial opportunities.

Hmm..

What about women stock brokers in India? Is there any such history?

RBI’s new research series: Mint memos..

Today RBI announced a new research series and has a nice name to it: Mint memos. However unlike memo which is a short medium of communication and one would expect some gossip from Mint street, these are mini research papers. Quite like St Louis Fed’s Economic Synopses or Richmond Fed Economic Brief

The Reserve Bank of India announces a new series on its website called ‘Mint Street Memos’ (MSM). On navigating to the landing page of MSM, the viewer would be led to document/s that are in the form of brief reports and analysis on contemporary topics, prepared by the staff of RBI and Centre for Advanced Financial Research and Learning (CAFRAL), or drawn from one of the recent publications of the Bank with commentaries by the author/s. MSM releases will also feature salient facts, data and tables that are germane to the topic.

The views and opinions expressed in MSM series are those of the authors and do not necessarily represent the views of the RBI.

The first releases under MSM published today, cover “Demonetisation and Bank Deposit Growth” and “Financialisation of Savings into Non-Banking Financial Intermediaries”.

Hope this series continues…

 

Split within RBI MPC flags flawed inflation model…A case of too soon?

Anirban Nag has a piece reflecting on the recent MPC split. He says the core problem behind split is the inflation model which is out of sync with Indian reality.

…the split raises questions on how much trust the MPC members place in the monetary authority’s forecasting model, which has consistently overestimated price pressures. 

The RBI’s inflation assessments have come under intense scrutiny after a slew of readings fell short of projections. Prime Minister Narendra Modi’s Chief Economic Adviser Arvind Subramanian criticized forecast errors that he said are “large and systematically one-sided in overstating inflation,” and called on policy makers to take a long, hard look at June’s record-low 1.5 percent reading.

where the RBI’s model is probably flawed is that it is structured around the concept of a small, open economy, according to Rohan Chinchwadkar, assistant professor of finance and accounting at the Indian Institute of Management at Tiruchirapalli in the southern state of Tamil Nadu. That would be akin to $300 billion Singapore, while India is a $2 trillion behemoth where almost half of gross domestic product is generated by an intricate web of unregistered networks that employ more than 90 percent of workers. 

“This might be one of the causes of disagreement within the RBI,” Chinchwadkar said. “There is no clear model understanding of the impact of monetary policy and shocks on India-specific features like the informal sector and shadow economy. So the position of MPC members depends on their own judgment and risk preference.” 

The central bank’s staff published a working paper in November in collaboration with the International Monetary Fund, aiming to “sketch out a model with India-specific features to capture the dynamics relevant to an emerging market economy.” It concluded that forecasting performance is improved by using the Bayesian statistical technique which assesses the probability of something happening based on observed data. 

The current model is based on the principles of New-Keynesian economics, which evolved from classical Keynesian economics but differs in terms of how quickly prices and wages adjust. It consists of four variables: the output gap, the Phillips curve which assesses the impact of unemployment, the Taylor rule for short-term interest rates that also guides several global central banks, and interest rate parity through exchange rates.

When India moved towards the new monetary policy framework recently, it was suggested that India joins the ranks of advanced countries. Gone are the days where policy was driven by experience and discretion and now is the era of rules and models…

Now we are told that the model does not reflect Indian reality and one has to go back to the drawing board.

Investing in public infrastructure: Roads versus schools

Manoj Atolia, Bin Grace Li, Ricardo Marto and Giovanni Melina analyse this long standing debate. 

Education is a long term benefit but impact of roads is seen over a shorter term. Thus roads get preference:

Despite investment in education appearing to be a more pressing need in many developing countries, spending on roads often exceeds that on schools. This column argues that the different pace with which roads and schools contribute to economic growth is central to governments’ optimal allocation decision. Investment in schools tends to lead to a larger long-run increase in output, but the effects are more delayed than for investment in roads. This trade-off contributes to the bias towards roads, in particular when government concerns about debt sustainability and policymakers’ myopia are taken into consideration.

Overall, proper consideration of macroeconomic and fiscal concerns can explain why many governments may be reluctant to spend as much on schools. The different pace with which roads and schools contribute to economic growth is central to this optimal allocation decision. The combined dynamics of front-loaded fiscal costs of investments and slow pace of accrual of growth benefits from investing in schools—albeit larger in the long run—does not square well with a macro-fiscal regime with distortionary taxation and debt intolerance, with political myopia adding further fuel to the fire. Multilateral agencies could alleviate these concerns and incentivise policymakers in developing countries to undertake long-term investments in schools by providing tied concessional financing and grants. While tying aid to investment in schools would also address the issue of political myopia, concessional terms would mitigate concerns of debt intolerance.

 

Cultural change and intergenerational transmission: Some lessons from China’s Cultural Revolution

Gérard Roland and David Yang in their research look at how culture shapes beliefs over a long time:

Studies have shown that there is strong inertia in culture because values and beliefs are formed through intergenerational transmission. Much less is known about how culture changes, and which aspects of the changes in values and beliefs are permanent or temporary. This column examines the effects of the Cultural Revolution in China on urban elites, and reveals that the lack of access to higher education affected people’s beliefs throughout their life. Also, while the ‘lost generation’ passed down their greater mistrust in the government to their children, their changed beliefs on the roles of effort versus luck were transmitted to a much lesser degree.

….

This pattern of intragenerational persistence and intergenerational reversal suggests that when we study the endogenous formation of people’s beliefs and preferences, it is important to distinguish between those that persist over time and are transmitted across generations, and those that only have a transitory character (for example, beliefs and preferences that are determined only by direct personal experiences but are not transmitted across generations). Whether given events and experiences lead to a persistent or a transitory change across generations has critical implications for the dynamic evolution of the corresponding beliefs and preferences. We still know very little about what make some changes in beliefs and values permanent or transitory. Our research on China’s ‘lost generation’ is a first step in that direction.

Hmm..

The role of political environments in the formation of Fed policy under Burns, Greenspan, and Bernanke…

Interesting paper by  Alexander William Salter of Texas Tech University  and Daniel J. Smith of Troy University.

From a thriving bazaar to a garbage-strewn dump: Tracing the history of Bengaluru’s KR Market

A nice piece by Theja Ram on history of Bangalore’s famous K.R. Market. The initial KR stand for Krishna Rajendra Wadiyar who gave the market an uplift in 1921.

What is interesting to know is that the KR market was a battle ground earlier:

Thinking about dominance of language and currency (Kindleberger edition)…

Timothy Taylor on his blog shares a superb paper by Charles Kindleberger.

Kindleberger was one of the few economists who wrote with lots of flair and clarity. His pieces were minus all the models and math jazz but were quite rigorous in their own way and made you think about several issues.

However, the analogy which interests me most is that between the use of the dollar in international economics and the use of the English language in international intercourse more generally. Analogies are tempting, and dangerous because frequently misleading. But the dollar “talks,” and English is the “coin” of international communication. The French like neither fact, which is understandable. But to seek to use newly-created international money or a newly-created international language would be patently inefficient.

Languages are ordered hierarchically. Like sterling, French used to dominate. Like the dollar, English does now. Frenchmen must learn English; it is not vital for Anglo-Saxons to learn French.

The analogy with the language quarrel in Belgium is exact. The Flemish must learn French, but the Walloons, despite their constitutional edict of equality between the languages and the legislative edict which requires civil servants to do so, do not learn or use Dutch. The Flemish are offended and begin to insist on Flemish, exactly as France has insisted that its representatives at international conferences, even when they know English perfectly, must speak only French and insist on all speeches in English being translated into French. The transactions costs of translation, including the misunderstanding in communication and the waste of time, are even more evident than the transactions costs of converting gold to dollars and dollars to gold, when it is dollars—not gold—that are necessary to transactions.  …

It is easy to imagine what is implied in a “sabotage” of French as a working language at the United Nations. Someone—presumably an Anglo-Saxon—at a working-committee meeting, observing that all the Francophones had a good command of English, suggested that the translation into French from English and possibly from French into English be dispensed with in the interest of efficiency. The transactions (translation) costs of simultaneous but especially of consecutive translation are high in efficiency, owing to loss of time or accuracy and of intimacy in two-way communication. It is highly desirable for Americans and British to know enough French, German, Italian, Spanish, and perhaps Russian to be able to receive in those languages, or some of them, even if they transmit only in English. But world efficiency is achieved when all countries learn the same second language, just as when the different nationalities in India use English as a lingua franca. …  One’s own currency is the native language, and foreign transactions are carried on in the vehicle currency of a common second language, the dollar.

It is hard on French, which used to be the language of diplomacy, to have lost this distinction; but it is a fact. In scientific writing, as in communication between international airplane and control tower, English is the universal language, except for the rescue call “Mayday” which … would have put in French as “M’aidez.” But a common second language is efficient, rather than nationalist or imperialist. 

Fascinating.