Archive for the ‘Central Banks / Monetary Policy’ Category

How a secret meeting at a secluded resort led to creation of Federal Reserve

August 18, 2015

A nice article by Jessie Romero of Richmond Fed.

The biggest irony of Fed is how it rose from being really an unwanted organisation to the most powerful central bank in the world. Econs/experts ridicule when some politician makes a case for ending the Fed. But the bigger point is this is the history of central banking in the country. A country which was built by states uniting together has always been sceptical of centralised finance. They had two editions of central banks (1791-1911 and 1916-36) but allowed the 20 year charters of both to expire. Whereas in UK, BoE was also on a charter but it kept getting renewed. So from 1836 onwards there was no central bank in the country and hardly any talk of having one was entertained.

Given the scepticism, any such effort to form a central bank in US is likely to be a highly secretive clubby affair. This was indeed the case as the central bank was given shape in Jekyll Island in 1910. A group of financial elite got together and planned a central bank for US in a meeting so secretive that its list of members is not fully known. Also, the members actually addressed each other by first names to ensure no one notices/overhears them.

The name of Jekyll Island is also ironical given the setting as one immediately connects to the story of Dr Jekyll and Mr Hyde. Most econs present the Fed as Dr Jekyll which has done a lot of good to US economy. But then there are people from Austrian school and some politicos who feel Fed is just Mr. Hyde which has caused far more harm than is visible.

Even the name suggested for Fed was given to hide the fact that it was a central bank. The first proposed name was Reserve Association of America which was later changed to National Reserve Association and finally to Federal Reserve.

So this piece by Romero gives a broad account of how things piled up at the famous island.


Milton Friedman and monetary freedom….

August 11, 2015

George Selgin has a food for (economic) thought piece on Prof. Friedman.

Free markets people esp those in Austrian school camp usually crticise and side from the Chicago School on issues of mon economics. Whereas the A school believes in free banking without a central bank, the stance of ‘C’ school is not as clear. Friedman always favored the central bank using his money supply rule preferably by a computer. So, he was more in favor of central banks which was surprising given his free market thinking on everything else.

Prof. Selgin does not think so. He says Friedman did move towards free banking overtime as well:


RBI is not a free agent. It never has been, nor should it ever be

August 7, 2015

The debate over India’s central bank independence continues. In many ways, the term central bank independence is an oxymoron. How cam an entity which gets monpolised priveleges to circulate fiat currency be independent from the govt? Why will govt allow such an entity to be free of it? Moreover, any central bank’s legitimacy comes from the government. It is fully dependent on the govt for all the privileges accorded to it.

Economists famous for creating imaginary (and wrong) ideas, have been quite successful at creating this notion as well. By removing economic history from textbooks, they have succeeded in blinding people towards this idea of CB independence.  If history is taught, students will learn why these centralised institutions were created mainly to serve the govt. At best a central bank can be autonomous to make decisions but even here make no mistake, the govt is in full control. I mean all these guys from the west who lecture emerging markets on the need for CB autonomy, fail to look at their own countries and their histories.

TCA Raghavan has a piece on RBI and brings its history to make his point on independence talk. He calls the central bank a fly in a bottle:


Helicopter Money: What is it?

August 5, 2015

Superb post from Fergus Cumming of BoE.


Macroprudential policy: From Emperor Tiberius to BoE’s Financial Policy Committee

July 31, 2015

Sir John Cunliffe has a nice speech on the topic.

These days most central bankers are trying to pick some incident from history to justify their interventions:


Noise over Indian central bank’s Monetary Policy Committee

July 28, 2015

One keeps wondering why is there so much noise over trivial things and nothing at all about things that actually matter. On inflation front, instead of debating about fundamental questions like whether we should have MRP (Maximum retail price), we worry over really trivial things like constitution of MPC and whether the chair of the central bank will have veto power or not.  That too seeing what little impact all this has over monetary policy. Whether the chairperson has veto power or not, his/her view usually sails through. There are hardly any cases where we have seen the chair;s views voted out by the committee.

Before, we get into the issue further, what is this whole issue about? In 2011 Budget, Indian givt set up something called Financial Sector Legislative Reforms Commission, The idea was to review and rewrite all the laws/frameworks pertaining to Indian financial sector. The idea was to modernise India’s moribund financial sector and make it jazzy like the western financial world. It was a huge effort and the committee put up the report in March 2013. Comments were sought from the public which again took about two years (why this long?). All who’s who of Indian finance (in India and abroad) were part of this process. Though, on becoming policymakers views of the same advisers changed over the report.

Now, the govt has put up a revised document after incorporating suggestions on the report. One keeps wondering who would have commented on the report? Finance and Financial laws is as elite as it can get. One seriously doubts public has any idea on what is going on. All such hifi finance is by the elite, for the elite and of the elite. But anyways, the process is much better than closed door writing and implementing of such laws.

The govt notice says:


Why Hayek first missed and then moved towards Free Banking?

July 22, 2015

Prof. Geroge Selgin has a piece on this. (Update:Joseph Salerno of Mises says Prof Selgin is partly right; this is how we figure the history of thought)

One would imagine someone like Hayek would favor free banking (banking system without a central bank running their own currencies) right from the very beginning. But no. This transition/change of views happened fairly late:


Build up of forex reserves is actually dollar colonisation

July 17, 2015

It is amazing to note how history is quickly forgotten. Leave history, even current times are ignored just to fit one’s agenda. There is a huge belief that it is high forex reserves which are the safeguard for Indian economy. The same reserve building was criticised greatly pre-2008 period as RBI should only do inflation management and not intervene in forex markets, build up of forex reserves is inflationary, forex reserves distort economy as one issues MSS bills and so on. Even currently, China has the highest forex reserves in kitty and all via its current account surplus (unlike India’s forex reserves which are mainly via short term capital flows) but is unable to keep global threats away. And then post 2008-crisis, Korea could not keep off speculatiion fears away despite pretty high forex reserves as well.

In nut shell, India is safer not because of forex reserves but just because we have kept ourselves relatively closed to world economy. And then compared to world, our macros are not as bad (it is always a relative game). However, our policymakers and media prefer to sing their own tunes.

Infact, one should actually be questioning all this forex intervention business as India had opted for inflation targeting. Earlier, the view was we need to target multiple things as in an emerging economy we cannot just stand by and let certain things like exchange rate go awry. In IT, the first thing central bank does is give up exchange rate management. The forex assets begin to be piled up at banking level and not at central banks. Central banks can instead sign up swap lines with advanced countries in case there is a shock. A swap line ends up being a much cheaper option as well.

C Shivumar has a piece on how all this forex reserve build up is not really chest thumping. It is actually the opposite – it exposes you to dollar policy:


What does digitalisation mean for banking sector?

July 16, 2015

This speech by Dr Andreas Dombret of Bundesbank is for German banking sector but actually applies to any country’s banking sector.

He says simply sitting and watching will not help banks. They have to figure out ways to get more and more digital in quick time at that:


The lessons from Lords of Finance were wrong interpreted..

July 15, 2015

Lords of Finance was a stirring book. It bought alive the events of 1920s with its terrific narrative on how a few men actually bought disaster onto the world economy. These few good men were the central bankers of US, UK, Germany and France. The narrative then was these central bankers did not do enough to bail out their economies. To emphasize, they did not let go off gold standard which converted a crisis into a large scale depression.

Cometh 2008 crisis and central bankers just did the opposite. They let all hells break loose and intervened in ways never imagined before. However, the results are not really different. The same havoc continues.

Alexander Friedman, Group CEO of GAM Holding, reviews the lessons:


Could Greece adopt currency board and use Dollar as its currency?

July 14, 2015

Prof Steve Hanke’s single solution for all monetary problems is to form a currency board. Here he argues that Greece on its exit could look at currency board as an option. And it could choose Dollar as its currency:


Turning points in history – how crises have changed the tasks and practice of central banks

July 13, 2015

Jens Weidmann of Bundesbank has a speech on the topic. The conference link is here.

Weidmann looks at how thinking on central banking has changed over the years due to some or the other crisis. Also adds German experience to the history.

This bit actually sums up everything wrong with EZ central banking:

Greece is a topic that shows us in no uncertain terms that, despite the deeper integration that the crisis brought about in Europe, the euro-area member states are ultimately still responsible for their own affairs. They can decide for themselves not to service their debts, to collect taxes inadequately, and – this is something I particularly fear in the case of Greece – to lead their country’s economy into deep trouble. The Greek government has not only walked out on the previous agreements, but has been widely criticised as an unreliable negotiating partner. A little over a week ago, the assistance programme finally came to an end, and the Greek government has stopped honouring its payment obligations towards public creditors such as the IMF.

In addition, a clear majority of the Greek general public have spoken out in a referendum against contributing any further to the solvency of their country through additional consolidation measures and reforms.

What is the role of central banks in this situation?

Central banks – although they have the means – have no mandate, in my view, to safeguard the solvency of banks and governments. That kind of implicit redistribution is a matter for governments or parliaments, if at all. 

Despite the practical difficulties involved in telling illiquidity from insolvency in real time, central banks need to show where their limits lie. Besides, in Greece doubts about the solvency of banks are legitimate and rising by the day. It needs to be crystal clear that responsibility for further developments in Greece and for any decisions on transferring financial resources lies with the Greek government and the countries providing assistance – not the ECB Governing Council.

The Governing Council recently ensured that the provision of emergency liquidity assistance (ELA) was frozen, and I welcome the fact that further deposit outflows have been stemmed by the capital controls. ELA is no longer being used to finance capital flight caused by the Greek government. This certainly represents a step forward, and shifts the responsibility to where it belongs: with the governments and parliaments. In any case, the Eurosystem should not increase the liquidity provision, and capital controls need to stay in force until an appropriate support package has been agreed by all parties and the solvency of both the Greek government and the Greek banking system has been ensured.

In the event that further short-term assistance is thought to be desirable or necessary, it is up to fiscal policymakers to provide ad hoc financial support.

Ever growing expectations with regard to the contribution of central banks and the increased role they actually play are more a curse than a blessing. Undoubtedly central banks are powerful institutions, but they are well advised to stick to a narrow interpretation of their mandate if they wish to preserve their credibility and independence.

Well, would Bundesbank/Weidmann views be similar if say Germany was in Greece’s shoes?

Central banks have created huge hype and myth over their superior powers to manage and fine tune the economy. No government will really fund a central bank which does not come to the rescue of the home economy. All this talk of central bank independence has been taken too far and has become highly unrealistic. Central bankers should not forget that at the end of the day they are nothing but a part of the govt. All the powers of a central bank come from the large monopoly powers govt give to their central banks. And here we have an ECB kind of a central bank which actually refuses to help its member country. And it actually becomes like a fiscal agent which provides funds based on certain conditions. Why didnt an independent ECB actually say no to such fiscal policies at the first place?

If Greece had a central bank, things would not have gone to this extreme. Whatever the causes and consequences, they would have been faced mostly by Greece. Just like Iceland did. Eurozone has been a royal mess and high time higher authorities accept it.

Lenin and Marx: Sound Money Advocates?

July 10, 2015

Louis Rouanet of Mises Institute says atleast their words suggest so. However, in practice Lenin policies unleashed high inflation.

Most modern socialists are in favor of inflation, because it is supposed, in Keynes’s words, to “euthanize the rentiers.” It doesn’t mean however, that the “founding fathers” of socialism were in favor of inflation. In fact, the opposite is true. Karl Marx had a wide knowledge of the economic literature and even though he’s usually wrong, he was correct in his preference for a gold standard.

As for Lenin, he was in his writings opposed to inflation and saw paper money as a means used by the bourgeois capitalists to enrich themselves. Even though Marx and Lenin were not supporters of inflation, they supported sound money for the wrong reasons. But, at least, we can say that concerning money they did not succumb to naïve inflationist views.

I mean it is even difficult to imagine that Lenin of all would actually believe in sound money policies..

Staggering Cost Of ECB and Troika’s mistakes

July 9, 2015

The title of the article is Grexit: The Staggering Cost Of Central Bank Dependence. But should be titled as this post has mentioned – Staggering Cost Of ECB’s mistakes.

Prof. Charles Wypsolz in the piece point to ECB’s mistakes in the whole Greece episode. Not to forget how the whole world hyped Draghi’s magic to settle markets:

More generally, the ECB must accept its share of responsibility for the disastrous management of the Greek sovereign debt crisis. It was the ECB that refused in early 2010 a write-down of the Greek debt (Blustein 2015). Counterfactuals are never fully convincing, but a good case can be made that this decision is the reason why the Greek programs failed. An early write-down would have provided enough relief to avoid the deep and front-loaded fiscal stabilization that plunged Greece into a long lasting depression. An early debt write-off would have reduced its borrowing needs and the steep debt build-up that followed. Today’s debt could well be perfectly sustainable.


Furthermore, by joining the Troika, the ECB also chose to play a strange role. In normal programs, the IMF sits on one side of the table while the country’s authorities, the government and the central bank, occupy the other side. By being on the lenders’ side, the ECB found itself in the position of imposing and monitoring conditions. This is one aspect of the more general point made by De Grauwe (2011).

The deep reason for the Eurozone sovereign crisis is that the euro is a foreign currency for member countries. It also provides an example of how deeply politicized the ECB has become. No other central bank in the world tells its government what reforms it should conduct, nor how sharp should fiscal consolidating be. As a member of the Troika, the ECB was instructing Greece to carry out deeply redistributive policies, for which only elected politicians have a democratic mandate. In the end, it must accept the blame for poorly designed policies that have provoked a deep depression and its political consequences.

The decision to freeze ELA is taking this politicization process to a new height. In effect, the ECB is pushing Greece out of the Eurozone. Politicians may debate about the wisdom of making Greece leave. As non-elected officials, the people who sit on the Governing Board of the Eurosystem have no such mandate. A charitable interpretation is that they felt that many governments would harshly criticize keeping the flow of liquidity to Greek banks open after the Greek government in effect closed the negotiations by calling a referendum. This is true, but central bank independence is designed to prevent this kind of pressure.

All over the place. And you never know. If Draghi is replaced with some more hyped chief who could reverse the sentiment temporarily, perception might change overnight.

Further, there are issues on ECB independence (no matter how misplaced the term is one keeps hearing it):

On paper, the ECB enjoys full independence. Its Board members cannot be revoked and their long eight-year mandate cannot be renewed, so that they do not have to please member governments. Yet, they reluctantly violated the no-bailout clause to please member governments. Then, it took three years to decide on the Outright Monetary Transactions (OMT) Programme – which brought immediate relief – because some member governments opposed it. For the same reason, they started QE seven years after the Fed, probably contributing to the longest period ever of no growth in Europe. And now they are triggering Grexit, which will radically transform the Eurozone. Adopting the euro is no longer irrevocable, a fact that is bound to agitate the financial markets with unknown consequences. Greece is not the only victim; the governance of the Eurozone has been shattered.

As American counterparts would say, the governance played a huge role in setting up a flawed union. So it is a fitting tribute to them. Just that nothing much will happen to those who governed the mess and most burden to be faced by citizens. This always has been the case in global politics and economic history. Seldom do designers and policymakers face the brunt. Infact, they only grow more powerful as brilliantly etched in this book.


Case of Ireland vs Iceland: Some lessons (Did Iceland do better as it had limited support of its central bank??)

July 6, 2015

Today is the day of results of Greece referendum which could change Europe and world polity in unimaginable ways. Few imagined that we could actually stare at a Greece exit from Europe. But we have it right here. Lot is being written and lot is going to follow. Keep tuned.

Meanwhile, an interesting (and updated) take on Ireland vs Iceland. Being a member of ECB, Ireland fared better in 2008 but Iceland did better over a long run as it did not have the support of a central bank!


Understanding the central bank balance sheet – A handbook..

July 1, 2015

Garreth Rule of BoE has a nice detailed article on this.

The central bank’s balance sheet plays a critical role in the functioning of the economy. The main liabilities of the central bank (banknotes and commercial bank reserves) form the ultimate means of settlement for all transactions in the economy. Despite this critical role the central bank’s balance sheet remains an arcane concept to many observers. This handbook provides a useful framework for understanding the necessary details.

The handbook has excellent graphs and pictures to explain how central banks make changes in balance sheets.

This is another unfortunate development in eco teaching. There should be far more focus on reading balance sheets than just reading papers. Mon policy teaching barely covers balance sheets whereas they are central to understanding central banks. By looking at the balance sheet, one can figure out most of central bank operations without getting into complex math.

Really useful stuff..

Lessons from the Indian currency defence of 2013…

July 1, 2015

Prof. Ajay Shah reviews the various measures taken in India’s currency defence of 2013. He looks at the impact of these measures on various markets and says it only led to more volatility.


Who should be there on $10 note?

June 25, 2015

A huge controversy has erupted ever since US Treasury Sec made this speech. There was a view that Alexander Hamilton will be removed from the note and be replaced by a Woman (who has done commendable work).

However, Treasury Sec did not really make this comment. He said we are exploring options and want to keep Hamilton on the note:

Given the vital role women have played to build our nation, it is only right that our currency reflect their contributions.  In the past, we have honored women on our paper currency and on our coins and Congressional medals.  Great women like Martha Washington, Sacagawea, Susan B. Anthony, Helen Keller, Mary Lasker, and Rosa Parks.  These women confronted the status quo, and for them, no challenge was unsurmountable, no problem unbeatable.   But the fact is, today, a woman is nowhere to be found on any of our seven paper bills.  That is wrong, and it needs to change.
We will right that wrong, and when the new, redesigned 10 dollar note is released, it will bear the portrait of a woman.  This is historic: We have made changes to the faces on our currency only a few times since bills were first put into circulation.  And the woman whose engraved image will appear on the new 10 dollar bill will be the first to grace our paper currency in more than a century. 
Of course, changing the look of our money will not erase discrimination against women in the United States.  But it is a small step with big significance.
This is not the first time that the 10 dollar note has charted a new course for our paper currency.  Back in 1928, when Treasury Secretary Andrew Mellon put Alexander Hamilton on the 10, he did it over the objections of his advisers who argued that the bill should only carry the images of former U.S. presidents.  The Secretary rejected that view, and established the 10 as a bill that celebrates visionary Americans—Americans who helped make our nation the strongest in the world.
Alexander Hamilton certainly did that.  He was a military commander during the Revolution, an abolitionist long before the Civil War, the author of more than two-thirds of the Federalist Papers, and the driving force behind the ratification of our Constitution.  He was also the first Treasury Secretary of the United States, and all of his successors, including me, are indebted to him.  In the period following the Revolution, Hamilton laid the groundwork for our economy and America’s long term prosperity. 
Alexander Hamilton has left an enduring mark on our nation’s history.  That is why we will make sure that his image will remain a part of the $10 note. We are exploring a range of options to make sure that he continues to be honored on the 10.

Bernanke responds to this (how the world’s most powerful econ has moved to a role of a blogger is amazing, this happens in US. In India all our central bank chiefs remain part of the system for eternity). He says removing Hamilton is not right. At best we should replace Andrew Jackson from the $20 note:

Hamilton also played a leading role in creating U.S. monetary and financial institutions. He founded the nation’s first major bank, the Bank of New York; and, as Chernow points out, Hamilton’s 1791 Report on the Mint set the basis for U.S. currency arrangements, which makes his demotion from the ten dollar bill all the more ironic. Importantly, over the objections of Thomas Jefferson and James Madison, Hamilton also oversaw the chartering in 1791 of the First Bank of the United States, which was to serve as a central bank and would be a precursor of the Federal Reserve System.

In the nineteenth century, a principal public role of central banks was to control banking panics, as the Bank of England would do quite successfully. Unfortunately, in large part because of populist opposition, neither the First Bank of the United States nor its successor, the Second Bank of the United States, would have their charters renewed. President Andrew Jackson led the opposition to the Second Bank, vetoing a bill passed by Congress to continue its operations. The expiration of the Second Bank’s charter in 1836 likely worsened the very severe Panic of 1837, which was followed by a prolonged economic depression. The United States would go on to suffer numerous banking panics that would hamper its economic and financial development over the rest of the century.

Hamilton’s demotion is intended to make room to honor a deserving woman on the face of our currency. That’s a fine idea, but it shouldn’t come at Hamilton’s expense. As many have pointed out, a better solution is available: Replace Andrew Jackson, a man of many unattractive qualities and a poor president, on the twenty dollar bill. Given his views on central banking, Jackson would probably be fine with having his image dropped from a Federal Reserve note. Another, less attractive, possibility is to circulate two versions of the ten dollar bill, one of which continues to feature Hamilton.

I was in government long enough to know that decisions like this have considerable bureaucratic inertia and are accordingly hard to reverse. But the Treasury Department should do everything within its power to defend the honor of Jack Lew’s most illustrious predecessor.


Mark Thornton of Mises, a leading advocate of free banking and no central bank reacts to Bernanke’s post:

Hamilton should get some credit for the Constitution and for being a policy maker. But the Constitution was an inferior form of government compared to the Articles of Confederation and his economic policy making was all geared toward bigger government and monetary nationalism, the two problems that are arguably the greatest threats to the American people, their prosperity, and their liberty. Bernanke then goes on to present a convoluted history of National Banks and bank panics during the 19th century. However, he does provide a suggestion for resolving the $10 bill controversy. Leave good old Hamilton on the $10 and take President Andrew Jackson off the $20 bill and replace him with a women.

This is probably the only idea of Ben Bernanke (removing the anti-central banking Jackson from the $20 bill) that I can agree with. And while you are at it take the image of Thomas Jefferson off the $2 bill and replace him with Paul Krugman or Ben Bernanke.


Both suggest to remove Jackson but for different reasons. Bernanke an advocate of central banking believes Jackson should not be there. Thornton an advocate of no central banking also believes Jackson should not be there as when we have private bank money, there is no need to put govt officials pictures on the notes. It is also interesting to see how central bankers are criticised in US. Here we just pray them..

From driverless cars to driverless monetary policy..

June 24, 2015

Bank of England’s venture into blog had an interesting post on driverless cars. What does a central bank have to do with these kinds of cars? Well, a central bank is bothered about anything under the sun. But this post was on impact of insurance industry die to driverless cars. They will lose premiums on car insurance and so on.

George Selgin says we could do better by moving to driverless money as well:


Macroeco transition from philosophy/theory based subject to empirical/data based..

June 24, 2015

Noah Smith has an article on this transition.Big data followers have always suggested that soon all your micro/macro theories will be history. All people will look at is evidence. As more and more data becomes available, we will get trends real time. If the data analysis matches the theory, the theory is lucky else the theory does not matter. The broad idea is earlier the onus was on data to match the theory as former was scarce. Now it will be the reverse – the theory has to match the data.



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