Archive for the ‘Speech / Interviews’ Category

What are we learning about Artificial Intelligence in Financial Services?

November 16, 2018

Federal Reserve Governor Lael Brainard takes us through this interesting fascinating topic.

My focus today is the branch of artificial intelligence known as machine learning, which is the basis of many recent advances and commercial applications.2 Modern machine learning applies and refines, or “trains,” a series of algorithms on a large data set by optimizing iteratively as it learns in order to identify patterns and make predictions for new data.3Machine learning essentially imposes much less structure on how data is interpreted compared to conventional approaches in which programmers impose ex ante rule sets to make decisions.

The three key components of AI–algorithms, processing power, and big data–are all increasingly accessible. Due to an early commitment to open-source principles, AI algorithms from some of the largest companies are available to even nascent startups.4 As for processing power, continuing innovation by public cloud providers means that with only a laptop and a credit card, it is possible to tap into some of the world’s most powerful computing systems by paying only for usage time, without having to build out substantial hardware infrastructure. Vendors have made it easy to use these tools for even small businesses and non-technology firms, including in the financial sector. Public cloud companies provide access to pre-trained AI models via developer-friendly application programming interfaces or even “drop and drag” tools for creating sophisticated AI models.5 Most notably, the world is creating data to feed those models at an ever-increasing rate. Whereas in 2013 it was estimated that 90 percent of the world’s data had been created in the prior two years, by 2016, IBM estimated that 90 percent of global data had been created in the prior year alone.6

The pace and ubiquity of AI innovation have surprised even experts. The best AI result on a popular image recognition challenge improved from a 26 percent error rate to 3.5 percent in just four years. That is lower than the human error rate of 5 percent.7 In one study, a combination AI-human approach brought the error rate down even further–to 0.5 percent.

So it is no surprise that many financial services firms are devoting so much money, attention, and time to developing and using AI approaches. Broadly, there is particular interest in at least five capabilities.8 First, firms view AI approaches as potentially having superior ability for pattern recognition, such as identifying relationships among variables that are not intuitive or not revealed by more traditional modeling. Second, firms see potential cost efficiencies where AI approaches may be able to arrive at outcomes more cheaply with no reduction in performance. Third, AI approaches might have greater accuracy in processing because of their greater automation compared to approaches that have more human input and higher “operator error.” Fourth, firms may see better predictive power with AI compared to more traditional approaches–for instance, in improving investment performance or expanding credit access. Finally, AI approaches are better than conventional approaches at accommodating very large and less-structured data sets and processing those data more efficiently and effectively. Some machine learning approaches can be “let loose” on data sets to identify patterns or develop predictions without the need to specify a functional form ex ante.

What do those capabilities mean in terms of how we bank? The Financial Stability Board highlighted four areas where AI could impact banking.9 First, customer-facing uses could combine expanded consumer data sets with new algorithms to assess credit quality or price insurance policies. And chatbots could provide help and even financial advice to consumers, saving them the waiting time to speak with a live operator. Second, there is the potential for strengthening back-office operations, such as advanced models for capital optimization, model risk management, stress testing, and market impact analysis. Third, AI approaches could be applied to trading and investment strategies, from identifying new signals on price movements to using past trading behavior to anticipate a client’s next order. Finally, there are likely to be AI advancements in compliance and risk mitigation by banks. AI solutions are already being used by some firms in areas like fraud detection, capital optimization, and portfolio management.


One believes that sooner than later we will either have technologists in top management at central banks (even banks) or the top management will have to undergo rigorous tech training. This is no more science fiction but day light reality.


Why we should be interested in the history of currencies

November 15, 2018

Swiss National Bank issued a press release about Ernst Baltensperger’s history of the Swiss franc to appear in Italian. The book was written in 2012 and is available in German and French editions. Sigh! Will have to wait for English edition.

Anyways, further research took me to this wonderful speech by Ernst titled: Why we should be interested in the history of currencies.


IMF building case for Central Bank Digital Currencies (and mentions hundis too!)

November 15, 2018

Christine Lagarde in this speech discusses discusses pros and cons of issuing a central bank digital currency.

But before discussing CBDC, it was really surprising to see IMF chief mentioning hundis:

Let me begin with the big issue on the table today—the changing nature of money. When commerce was local, centered around the town square, money in the form of tokens—metal coins—was sufficient. And it was efficient.

The exchange of coins from one hand to another settled transactions. So long as the coins were valid—determined by glancing, scratching, or even biting into them—it did not matter which hands held them. But as commerce moved to ships, like those that passed through Singapore, and covered increasingly greater distances, carrying coins became expensive, risky, and cumbersome.

Chinese paper money—introduced in the 9th century—helped, but not enough. Innovation produced bills of exchange—pieces of paper allowing merchants with a bank account in their home city to draw money from a bank at their destination.

The Arabs called these Sakks, the origin of our word “check” today. These checks, and the banks that went along with them, spread around the world, spearheaded by the Italian bankers and merchants of the Renaissance. Other examples are the Chinese Shansi and Indian Hundi bills.

Suddenly, it mattered whom you dealt with. Was this Persian merchant the rightful owner of that bill? Was the bill trustworthy? Was that Shanxi bank going to accept it? Trust became essential—and the state became the guarantor of that trust, by offering liquidity backstops, and supervision.

Why is this brief tour of history relevant? Because the fintech revolution questions the two forms of money we just discussed—coins and commercial bank deposits. And it questions the role of the state in providing money.

Hundis has long been forgotten by researchers in India barring those history folks. Nice to see Lagarde mentioning hundis along with Sakks and Shansi..

Now to CBDC:


Policy dilemmas and the role of the central bank in advising government (Lessons for India?)

November 9, 2018

Karnit Flug, the outgoing Governor of Bank of Israel gave her farewell speech.

In Israel, the Governor plays an official role as an advisor to the government. This often leads to questions over independence:

A natural question that arises in this respect is why at the Central Bank? Should the economic advisor to the government be the Governor of the Central Bank?

This question was debated within the bank of Israel, among some of the people sitting here today. While we were discussing the new Bank of Israel Law, Stan was initially of the view that the role of an economic advisor to the government puts the bank in a constantly contentious position Vis a Vis the government and may undermine the banks’ independence in its core responsibility. I was the Director of the Research Department at that time, and argued in favor of maintaining the role of economic advisor in the law, which was eventually what was decided. Several years later, when I became Governor, I met Stan (in Basel, at a BIS meeting) following one of the heated debates I had with the government, and told him that now I understand and sympathize with his initial view against having the role of the economic advisor. Stan surprised me when he said that looking from the outside, he is even more convinced of the importance of this role of the Bank of Israel.

 This question was also posed to an independent evaluation committee which was invited to evaluate the BOI’s research department back in 2012. In their report, they said, and I quote: “We came to the Bank very skeptical of any central bank having the responsibility of being an advisor, much less the advisor, to the government on economic policy”. Following a thorough discussion with many relevant stakeholders within and outside the bank, they concluded: “Absent fundamental changes in other Israeli institutions, we agree that the Bank must continue to play the critical role of advisor to the government policy”

 Indeed, the argument against the CB’s role in economic policy advice because it enhances the friction between the Bank and the government and thus may undermine the Bank’s independence in its core responsibilities is not unique to the role of economic advisor.  In fact, this debate resembles the discussion regarding the question that is debated extensively among central bankers as to how wide should our responsibilities and mandates be defined. I have heard the argument that in some issues the decisions reflect political priorities as opposed to pure economic welfare maximization decisions, and therefore should be left to the politicians, or that they may undermine the central banks’ credibility or independence. These are valid arguments, and certainly, my tenure as governor has demonstrated that providing a well-grounded position on some sensitive or publically debated policy issues does raise the level of friction with the government.

 However, when we think about designing institutions, we should not think in the abstract, and we never start from scratch. We should take the starting point into account, and asses what is the likelihood that a change will get us closer to some “ideal institutional design” (if such exists). Given that this role has been defined in the original BOI law from 1954 as one of the main responsibilities of the BOI and its Governor, the basic infrastructure of knowledge and highly professional staff, and reputation has been built at the BOI to serve this responsibility. I also believe that the credibility of the central bank is enhanced, not damaged, by the quality research and policy recommendations it provides. In that regard, it may even contribute to the public support of an independent central bank. 

And as to friction between the central bank and the political system, during my term it was in fact most intense around issues related to the core activity of the Bank of Israel in supporting financial stability. The quest for enhancing competition in the provision of financial services, which we all share, led to heated debate as to the scope, the speed and the specifics of the financial sector reform. It centered around our insistence on ensuring that the reform does not undermine financial stability that was sometimes taken for granted by our partners in the design of the reform. In the past, the friction was most intense regarding the disinflation process, and Jacob Frankel who sits here, can certainty testify to that.

So, we’ve had frictions in the past and will probably have them in the future, and we should be able to withstand them. We should provide a quiet, behind closed doors policy advice in some cases, and contribute to a better-informed public debate on key policy questions. I believe that within the current political context, where policies tend, more than in the past, to focus more on short term benefits and ignore longer term risks and costs, it is essential that an independent well regarded institution provides solid policy analysis and advice, and helps explain this to the public.  So, I believe that retaining the economic advisory role by the Central Bank in the 2010 BOI law has served the country well.

Official or non-official, central bankers are advisers to the government. Frictions between central banks and government should be celebrated as it gives different viewpoints. But these frictions are best held behind closed doors as Governor Flug says.

This is how it used to be in India/RBI as well. Reading volumes of RBI History, one goes through several of these frictions. Pity and tragic that these frictions are coming out in open and bit too regularly at that…

The birth of inter-war central banks – building a new monetary order

November 5, 2018

Bank of Greece (their central bank) organised a fascinating looking conference on its 90th anniversary. The conference theme was: The birth of inter-war central banks – building a new monetary order.

It is really nice to review central banking history from an inter-war period angle as quite a few banks emerged during the period: South Africa, Greece, India, New Zealand etc. Interesting to see Prof Balachandran, the main author of the 2nd RBI History Volume, presenting a paper titled: Central banking and colonial control: India, c. 1914-39. Looking forward to reading all the papers especially the one by Prof Balachandran.

The welcoming remarks by Yannis Stournaras, Governor of Bank of Greece, gives a preview of their history. It is not very different from Indian story:

It is my great pleasure to welcome you to this international conference, devoted to the Birth of inter-war central banks, organised by the Bank of Greece, itself one of the offspring of this institutionally fertile period.

It was 1926 when the Greek government first approached the Financial Committee of the League of Nations, seeking its help to settle old debts and raise a new loan on international markets. The money was needed quite urgently. After a decade of wars, which had culminated in the abortive Asia Minor campaign and the forced population exchange of 1922, the Greek economy needed an injection of capital to heal its wounds, settle its refugees and build up its economic infrastructure. Yet its international credit standing lay in tatters; wartime obligations remained unsettled; expenditures far outstripped public revenues; inflation was soaring, and the drachma had lost more than 90% of its value.

The League of Nations, relying heavily on input from the Bank of England and the Treasury, promptly dispatched a group of experts to study the Greek situation and report back to Geneva. Their report was published in 1927. Along the inevitable admonitions about fiscal prudence and administrative reform, the foreign experts highlighted the absence of a modern central bank: an institution charged solely with the conduct of monetary policy, free from political or business interference. The sole note-issuing authority at the time was the National Bank of Greece (or Ethniki, as most in this audience know her). But Ethniki also happened to be the country’s largest commercial bank, with strong ties to business and politics. If Greece were to re-join the gold standard and thus return to the fold of ‘stable’ countries, the National Bank would have to give up its commercial operations and focus exclusively on central banking – or so the League argued, at least.

The report was not well received. Neither by Greek politicians, who lamented foreign interference in the country’s domestic affairs; nor by the National Bank itself, which faced the prospect of giving up its most profitable line of business. After several months of acrimonious negotiations, a compromise was finally struck: the National Bank would maintain its commercial activities and cede responsibility for monetary policy – along with all corresponding assets and liabilities – to a new institution, which would simply be called the Bank of Greece.

And so it was. With a League of Nations Protocol as its birth certificate, the new bank began its operations in the spring of 1928. The product of an unpalatable deal to obtain much needed foreign credit, the bank was greeted with scepticism, if not outright animosity at first. 

Keynes and others had suggested to convert then Imperial Bank into a central bank. But the idea was not well received. This led to formation of a new entity which was called Reserve Bank of India.

Then Great Depression happened and Greece like others got into trouble challenging the new central bank.


For the Greek experience was hardly unique: the 1920s and 1930s witnessed the creation of a string of new central banks, across several countries. More often than not, their birth was midwifed by ‘money doctors’ from the Bank of England, the Banque de France or the Federal Reserve: people such as Niemeyer, Siepmann or Strakosh, whose names litter the archives of many inter-war central banks, including that of the Bank of Greece. Some of the new institutions were established to exorcise wartime inflation and restore access to credit; others were born out of the dissolution of empires, or the weakening of ties to imperial colonies; all of them reflected an attempt to ‘return to normalcy’, by rebuilding an international monetary order and restoring cooperation in the aftermath of a devastating world war.

This ‘return to normalcy’ proved an illusion. The Great Depression soon challenged the viability of this order and forced many of the new-born institutions to re-evaluate their priorities and their relationship to the state and with each other. The questions facing each one were similar; the answers they gave – less so. Over the next two days, fifteen prominent scholars from eleven countries will present their work on different institutional or national experiences in the inter-war years; I thank them for being here and look forward to listening to their contributions.

I would also like to thank the Centre for Culture, Research and Documentation of the Bank of Greece, and its Director, Mr. Panagiotis Panagakis. Our economic historian and Scientific Advisor to the Historical Archive, Mr. Andreas Kakridis, who is the heart and soul of the conference. The staff at my Office, our valuable Communication Section, the security officers, as well as numerous other colleagues at the Bank of Greece, without whom this conference would not be possible.

The Bank of Greece is committed to promoting historical research, particularly research in economic history. Yet the past is most interesting when it informs our understanding of the present and future. Policy reactions to the recent financial crisis were shaped by perceptions – and often misperceptions – of the past, particularly the inter-war years. In this context, I am also pleased to welcome several of my esteemed colleagues from other European central banks, who are joining us for this conference. Their presence honours us and underlines the connection to the present and future of central banking. We will have much more time to talk about this later today, during our panel discussion.

But first, let us turn our gaze to the past and start our journey through the inter-war years. I wish everyone a fruitful conference and look forward to stimulating discussions!

Really nice to read all this. Good to see Bank of Greece willing to learn from history and making others learn too….

Trust and ethics in finance and why Friedman’s quote on “…business should only make profits” is misrepresented

November 1, 2018

Andrew Bailey, chief executive of Financial Conduct Authority in this speech speaks about lack of trust and ethics in finance. He reviews the experience since 1930s when the idea of making money at all costs was not there. This has changed overtime:

I want to illustrate this trend of declining trust by spending a little time on the history of senior executive remuneration in the US.

My starting point is the period from the end of the Second World War until at least the early 1970s. What is striking is the absence of emphasis on pay for performance, and the rejection of excessive executive remuneration. At the time, there was a broad cultural aversion to high pay. Fear of moral outrage kept executive salaries in check, pointing to a social norm. This social norm may have held, at least in the US, until the mid 1980s. 

In essence, the system that operated from the Great Depression until the 1980s relied on the legacy of the 1930s and an almost unstated code in society that the remuneration of senior executives should not increase beyond a quite limited multiple of average pay on the basis that to breach this relationship would be viewed as ostentatious and breaking a norm that acted as a glue in society more broadly. I would go further and argue that this formed the basis of trust, with an expectation of future behaviour and a common value or ethic.

Things changed from around the early 1980s. You can label it the ‘Greed is Good’ era if you can remember the first Wall Street film with Michael Douglas. It is also often labelled as the era in which so-called agency theory came to prominence, in which corporate governance was used to change the policies under which a manager (agent) operates, and thereby emphasise the interests of the owner (principal). This led to a rapid increase in senior executive pay as the limits of the previous social norm were replaced by an approach which used remuneration to incentivise performance.

He says Friedman’s quote was an intellectual shift but people have just picked parts of the quote:

One of the intellectual origins of this shift away from the traditional post-Depression approach came in September 1970, in an article written in the New York Times by Milton Friedman. It went under the title: ‘The Social Responsibility of Business is to Increase its Profits’. Here is a key quote:

‘In a free-enterprise, private-property system, a corporate executive is an employee of the owners of the business. He has direct responsibility to his employers. That responsibility is to conduct the business in accordance with their desires, which generally will be to make as much money as possible while conforming to the basic rules of the society, both those embodied in law and those embodied in ethical custom’.

Friedman started by setting out the essence of agency theory. Some people who know the piece tend to stop there. But let’s go on, because the interesting part for me is when he wrote that the responsibility to make as much money as possible should conform with the basic rules of society, as embodied in the law, and ‘in ethical custom’. Here to my mind we have the essence of the issue around trust and ethics.


I mean similarly few ideas are stretched and misrepresented: Adam Smith’s invisible hand, Keynes as a crusader for more government….

True finance and three lies of finance..

October 24, 2018

Interesting lecture by Mark Carney of Bank of England.

He talks about how the GFC has led to changes in the financial system for the good. But there can be no progress if we don;t know the three lies of finance:

  • Lie I: “This Time Is Different”
  • Lie II: “Markets Always Clear”
  • Lie III: “Markets Are Moral”


He says we should work towards true finance. Call it truer finance actually:


Revisiting role of a central bank: For monetary stability or financial stability or both?

October 17, 2018

Nice overview Speech by Sabine Lautenschläger of ECB:

….going back in time, the relationship between the different functions of central banks have generated quasi-existential questions.

What a central bank is, can be defined by what it does.1 And the “what it does” part mostly revolves around the question of whether a central bank cares about two types of stability.

The first is monetary stability: the creation of a monetary regime that can ensure price stability. The second is financial stability which, when central banking was born, was essentially the same as “bank stability”. So, throughout history, the most popular definitions of “central bank” have revolved around their role in ensuring monetary stability, financial stability or both.


Tyler Cowen interviewing Paul Krugman…

October 12, 2018

Here it is:

After winning the Nobel, Paul Krugman found himself at the “end of ambition,” with no more achievements left to unlock. That could be a depressing place, but Krugman avoids complacency by doing what he’s always done: following his curiosity and working intensely at whatever grabs him most strongly.

Tyler sat down with Krugman at his office in New York to discuss what’s grabbing him at the moment, including antitrust, Supreme Court term limits, the best ways to fight inequality, why he’s a YIMBY, inflation targets, congestion taxes, trade (both global and interstellar), his favorite living science fiction writer, immigration policy, how to write well for a smart audience, new directions for economic research, and more.


The importance of disseminating economic news/knowledge effectively (so that fake ones can be avoided)

October 10, 2018

An interesting speech by Salvatore Rossi of Bank of Italy.

The thesis of this lecture is that nowadays serious manufacturers of information, and scholars in particular, have what has become an impelling and absolute duty to disseminate their knowledge. This should be their main concern. In all fields. Before it is too late. Especially here in Italy. Especially when it comes to economics.


 Let me give you an example of an inaccurate and misleading myth about the Italian economy, which would benefit greatly from a fair account of the facts, that is, from good popularization. According to this myth, the Italian economy could be prosperous and happy if only Europe, out of Teutonic foolishness, and the market, out of occasional political antipathy, did not impose a financial straitjacket on it. In this oversimplified narrative, there are grains of truth and mountains of lies. 

The issues are much more entangled and complicated, and it is up to those who have spent a long time studying these problems to make this clearly

For now, let’s clarify one thing: the main problem with the Italian economy is that, when something is produced (industrial equipment, a legal
opinion, a history lesson), it is not done efficiently enough. In other words, resources are wasted and it costs more to achieve a given level of quality.
On average, of course. The differences between one firm and another, between one lawyer and another, between one professor and another, are enormous,
but overall the Italian economy suffers from a competitive disadvantage and growth gap when compared with other economies. And it has done so for at
least the past 20 years. Italy knows how to do all manner of things, but it does them, overall, less frequently and less well than it could.


He discusses why disseminating information in economics is particularly difficult. This allows a lot of mistaken and misrepresented ideas to develop and spread to people.

We citizens are not used to paying attention to the sources of the news that rains down on us every day when we leaf through a newspaper, consult the digital
devices that most of us have, or look at dear old television. The media is full of tables and charts about various economic facts and almost never indicate sources and methodologies. Even if they were indicated we would not pay them any heed as we normally have very little time to devote to one particular news item. But if the fact is non-existent or measured badly we will receive an incorrect impression which, however mild and fleeting, can leave traces in our psyche and affect our behaviour.

It is even worse when we are faced not with non-existent or poorly measured facts, but with mistaken or misrepresented theories. Any statement about the way
in which economies work, the laws they obey, the ways in which they pursue the goal of well-being that a society sets itself must correspond to a theory that
has been empirically and robustly validated. Otherwise, especially if emotionally persuasive, this might induce the recipients to behave in a way that is contrary to their own interests.


In short, what was in the past only desirable – that economists communicate reliable and proven economic theories and data more, and more effectively – is imperative and urgent in these times of omnipresent bad or inaccurate economic information, used for political purposes. It is not only the good name of the economic profession that is at stake here. It is the very functioning of our democratic societies.

Useful speech and coming from a central banker, makes it more interesting.

Whether and should we include financial stability in monetary policy? Three views…

October 10, 2018

Peter Praet of ECB has this useful summary of thinking about including financial stability in mon policy:

To prevent the emergence of such bad outcomes, a sound, system-wide approach to financial regulation is of the essence. But what is the role of monetary policy? Can monetary policy be conducted in a way that reduces the likelihood of financial instability? The long-running debate on these issues within academic and policy-making circles can be broadly broken down into three different viewpoints.[3]

  • The first is the “pre-crisis consensus” view, which argues that monetary policy should maintain a relatively narrow mandate of price stability, leaving financial stability to prudential authorities. Under this view, the monetary authority should only take financial stability concerns into account in so far as they affect the outlook for price stability and economic activity.
  • The second view is to “lean–against–the–wind”, i.e. that as price stability may not be sufficient for financial stability, central banks should lean against the emergence of financial imbalances by tightening the monetary policy stance over and above the level necessary to bring inflation back to target over a policy horizon that is generally understood to be around two years.
  • The third view is that “financial stability is price stability”. Proponents of this view advocate a more radical change in the objective of monetary policy, arguing that financial stability and price stability are so intertwined that one cannot distinguish between the two.[4]Under this view, both standard and non-standard monetary policies are in the first place attempts at stabilizing the financial system, addressing malfunctioning financial markets and smoothing the monetary transmission process.

Hmm…Nice way to summarise the many views on the contentious issue.

He then says these interplays depend on the following:

While all these viewpoints recognise the important interplay between financial stability and monetary policy in pursuit of price stability, their relevance ultimately depends on (i) the weight to be attached to the “risk-taking” channel of monetary policy, (ii) the strength of the macroprudential framework and (iii) the policy strategy of the monetary authority, especially as regards its policy horizon.

He discusses all these and then looks at how ECB fares on this front:

Our monetary policy measures have proven effective in sustaining a resilient recovery and addressing the risks to price stability. This in turn provides a strong contribution to financial sector resilience. Looking ahead, significant monetary policy stimulus is still needed to support the gradual build-up of price pressures for inflation to return to levels below, but close to, 2% in a durable fashion.

At this stage of the cycle, careful monitoring of the risk-taking channel of monetary policy is important. While there is no evidence of excessive misalignment across asset classes in the euro area right now, there are signs that valuations are stretched in specific market segments. Macroprudential instruments are best placed to counteract the emergence of specific financial imbalances in an efficient and targeted manner. Macroprudential policy and monetary policy thus complement one another in pursuit of their respective objectives.


Ideological Profile of Eugene Fama

October 3, 2018

Nice bit here by Econ Journal Watch:

This profile resumes the Econ Journal Watch projectexploring the ideological sensibilities of the economics laureates. Eugene Fama describes himself as a libertarian, and by his late twenties seems to have been well on the way towards such views. Like many Chicago economists, he firmed up those views during the 1960s and 1970s. He has not been outspoken, but he has lent his name to at least ten petitions, and events from 2008 called him into public discourse. He kindly provided answers to our questionnaire about his own ideological orientation over the course of his lifetime.

Ideological profiles are as important as citing works of prominent econs. Here is a whole list of profiles of the winners of the economics prize.

Modern Monetary Theory: How I came to MMT and what I include in MMT

October 2, 2018

This is a follow up of earlier post on rise of MMT.

L Randall Wray the key proponent of the theory gives this insightful speech on his struggles with MMT and push it all this way. He rejects the rockstar status but also all the nonsense he receives rejecting MMT:

I was asked to give a short presentation at the MMT conference. What follows is the text version of my remarks, some of which I had to skip over in the interests of time. Many readers might want to skip to the bullet points near the end, which summarize what I include in MMT.

I’d also like to quickly respond to some comments that were made at the very last session of the conference—having to do with “approachability” of the “original” creators of MMT. Like Bill Mitchell, I am uncomfortable with any discussion of “rockstars” or “heroes”. I find this quite embarrassing. As Bill said, we’re just doing our job. We are happy (or, more accurately pleasantly surprised) that so many people have found our work interesting and useful. I’m happy (even if uncomfortable) to sign books and to answer questions at such events. I don’t mind emailed questions, however please understand that I receive hundreds of emails every day, and the vast majority of the questions I get have been answered hundreds, thousands, even tens of thousands of times by the developers of MMT. A quick reading of my Primer or search of NEP (and Bill’s blog and Warren’s blogs) will reveal answers to most questions. So please do some homework first.

I receive a lot of “questions” that are really just a thinly disguised pretense to argue with MMT—I don’t have much patience with those. Almost every day I also receive a 2000+ word email laying out the writer’s original thesis on how the economy works and asking me to defend MMT against that alternative vision. I am not going to engage in a debate via email. If you have an alternative, gather together a small group and work for 25 years to produce scholarly articles, popular blogs, and media attention—as we have done for MMT—and then I’ll pay attention. That said, here you go:


I am excluding his story on struggles which one should read on the website. It is so important to figure the narrative and one should not miss it.

At the end he discusses 10 key points of what to include in MMT:

Let me finish with 10 bullet points of what I include in MMT:

1. What is money: An IOU denominated in a socially sanctioned money of account. In almost all known cases, it is the authority—the state—that chooses the money of account. This comes from Knapp, Innes, Keynes, Geoff Ingham, and Minsky.

2. Taxes or other obligations (fees, fines, tribute, tithes) drive the currency. The ability to impose such obligations is an important aspect of sovereignty; today states alone monopolize this power. This comes from Knapp, Innes, Minsky, and Mosler.

3. Anyone can issue money; the problem is to get it accepted. Anyone can write an IOU denominated in the recognized money of account; but acceptance can be hard to get unless you have the state backing you up. This is Minsky.

4. The word “redemption” is used in two ways—accepting your own IOUs in payment and promising to convert your IOUs to something else (such as gold, foreign currency, or the state’s IOUs).

The first is fundamental and true of all IOUs. All our gold bugs mistakenly focus on the second meaning—which does not apply to the currencies issued by most modern nations, and indeed does not apply to most of the currencies issued throughout history. This comes from Innes and Knapp, and is reinforced by Hudson’s and Grubb’s work, as well as by  Margaret Atwood’s great book: Payback: Debt and the shadow side of wealth.

5. Sovereign debt is different. There is no chance of involuntary default so long as the state only promises to accept its currency in payment. It could voluntarily repudiate its debt, but this is rare and has not been done by any modern sovereign nation.

6. Functional Finance: finance should be “functional” (to achieve the public purpose), not “sound” (to achieve some arbitrary “balance” between spending and revenues). Most importantly, monetary and fiscal policy should be formulated to achieve full employment with price stability. This is credited to Abba Lerner, who was introduced into MMT by Mat Forstater.

In its original formulation it is too simplistic, summarized as two principles: increase government spending (or reduce taxes) and increase the money supply if there is unemployment (do the reverse if there is inflation). The first of these is fiscal policy and the second is monetary policy. A steering wheel metaphor is often invoked, using policy to keep the economy on course. A modern economy is far too complex to steer as if you were driving a car. If unemployment exists it is not enough to say that you can just reduce the interest rate, raise government spending, or reduce taxes. The first might even increase unemployment. The second two could cause unacceptable inflation, increase inequality, or induce financial instability long before they solved the unemployment problem. I agree that government can always afford to spend more. But the spending has to be carefully targeted to achieve the desired result. I’d credit all my Institutionalist influences for that, including Minsky.

7. For that reason, the JG is a critical component of MMT. It anchors the currency and ensures that achieving full employment will enhance both price and financial stability. This comes from Minsky’s earliest work on the ELR, from Bill Mitchell’s work on bufferstocks and Warren Mosler’s work on monopoly price setting.

8. And also for that reason, we need Minsky’s analysis of financial instability. Here I don’t really mean the financial instability hypothesis. I mean his whole body of work and especially the research line that began with his dissertation written under Schumpeter up through his work on Money Manager Capitalism at the Levy Institute before he died.

9. The government’s debt is our financial asset. This follows from the sectoral balances approach of Wynne Godley. We have to get our macro accounting correct. Minsky always used to tell students: go home and do the balances sheets because what you are saying is nonsense. Fortunately, I had learned T-accounts from John Ranlett in Sacramento (who also taught Stephanie Kelton from his own, great, money and banking textbook—it is all there, including the impact of budget deficits on bank reserves). Godley taught us about stock-flow consistency and he insisted that all mainstream macroeconomics is incoherent.

10. Rejection of the typical view of the central bank as independent and potent. Monetary policy is weak and its impact is at best uncertain—it might even be mistaking the brake pedal for the gas pedal. The central bank is the government’s bank so can never be independent. Its main independence is limited to setting the overnight rate target, and it is probably a mistake to let it do even that. Permanent Zirp (zero interest rate policy) is probably a better policy since it reduces the compounding of debt and the tendency for the rentier class to take over more of the economy. I credit Keynes, Minsky, Hudson, Mosler, Eric Tymoigne, and Scott Fullwiler for much of the work on this.

Lots of important points. These just turn most of the current macroeconomics upside down..

Lessons from financial crisis in UK: Don’t leave it too late, simulate

October 1, 2018

Alex Brazier of Bank of England in this useful set of colourful slides tells us how UK financial system has fared since the 2008 crisis.

He mentions how the crisis started from non-banks/shadow banks and then gulfed the banking system. One slide says: Shadow Banks didn’t contain problems but spread them. Then discusses how the changes have led to more capitalisation and less leverage in the system.

But then as one cannot take anything for granted, one should simulate risks as much as possible. Hence the title: Don’t leave it too late, simulate. This is not to be mistaken with stimulate. However, even best of simulation models fail in panic and crisis modes.

For all you know, RBI would be struck with the same problem. So far, it was looking at banking problem alone. With IL&FS, it would be wondering whether the troubles in the shadow banking system are big enough to upset the cart of the entire financial system.

Major economic policy debates in India from 1950s to today…

September 28, 2018

Dr YV Reddy in this speech covers some of the key policy debates in India.

He divides each decade based on a dominant policy/debate theme:

  • 1950s: Mahalanobis versus Vakil-Brahamanda Model
  • 1960s: The Devaluation of 1966
  • 1970s: Equity and Efficiency?
  • 1980s: The IMF Loan
  • 1990s: Growth and Poverty?
  • 2000s: Opening Up the External Capital Account
Nice bit.  The speech is a useful way to start a discussion on economic policy in India. Should be made part of course curriculum.
Most of us are clueless about these battles of ideas. For instance, the Mahalanobis versus Vakil-Brahamanda Model was:


10 years of Nudge: Interviews of Richard Thaler and Cass Sunstein

September 27, 2018

One never really tires reading about behavioral stuff.

As nudge the book completed 10 years, here are interviews of the authors: Prof Thaler’s and Cass Sunstein’s.

Sunstein on what kept the duo going? They just loved each other’s company and laughed together. As simple and effective as that:

Like Kahneman and Tversky, you and Richard Thaler have had a rich professional partnership and friendship. Why do you think you worked so well together? And what have been a couple of your favorite moments from your collaboration?

We had, and continue to have, a lot of fun! We laugh together a lot. That is maybe the secret sauce. We also have complementary backgrounds. My focus is on law and public policy, with a keen interest in behavioral economics. He’s the most important figure behind behavioral economics, with a keen interest in law and public policy. That’s a perfect mix, I think.

One favorite moment was a lunch in which Thaler arrived, all excited about an idea he had, called “choice architecture.” I was skeptical and asked a ton of questions. I worried: Our book is about libertarian paternalism, which is clear and crisp (I thought!)—what’s this choice architecture stuff? By the end of the lunch, he persuaded me, and we were off to the races. (I remember this as if it were yesterday.)

Another favorite moment was a workshop we did at the University of Chicago Law School, involving a paper we wrote together with Christine Jolls (now at Yale). Thaler was the main presenter. I have never seen such hostility in a workshop. People were very angry at us. It got ugly. No one who was there will ever forget it. But it’s a favorite moment, still, because Thaler kept his cool throughout, and keep asking, in response to rude questions, about what the evidence actually said.

In general: we had lunch together a lot, just the two of us, at a little Hyde Park restaurant. Even if we never produced anything, those would be precious memories. (We talked just last night, and that was great, too.)

🙂 More power to both of them…

Prof Thaler:


Iceland’s crisis, its successful stabilization program, and the role of the IMF

September 19, 2018

Nice lecture (must read) by Poul M. Thomsen of IMF summing the aftermath of the Iceland crisis.

The lecture is titled as: Ragnarök: Iceland’s Crisis, its Successful Stabilization Program, and the Role of the IMF.  In Norse mythology, Ragnarök is a series of future events, including a great battle, foretold to ultimately result in the death of a number of major figures, the occurrence of various natural disasters, and the subsequent submersion of the world in water.

Upfront, some humility is needed:

To me, it seems entirely appropriate that I should mark the tenth anniversary of Lehman’s collapse with you here in Iceland, in a country that was one of the first in the path of the financial tsunami that followed.

I will not get into why Iceland had become so vulnerable—why the banking system had been allowed to explode in size relative to the Icelandic economy during a very short period, relying on a funding model of aggressive foreign borrowing. Much has already been said about this, and it is clear that there is ample blame to go around—in Iceland and abroad.

Indeed, if I was to get into this, I would have to admit that we at the IMF also have to be humble. Among several things that we in retrospect might want to have done differently, we had for a while moved Iceland from the standard 12‑month cycle for our surveillance missions to a 24‑month cycle, reflecting a benign view on vulnerabilities. The same was the case for Cyprus, another small country that would soon be engulfed in a deep crisis.

Instead, he focuses on the policies to ease the crisis:


Exploring the agora and learning some economic history from Greeks…

September 11, 2018

Nothing better than seeing a German visiting Greece and reviewing latter’s economy. Also drawing econ history lessons from Greece which have obviously been forgotten.

Jens Weidmann of Bundesbank does both these tasks in this speech. He first mentions Agora:

Greece is often said to be the cradle of Western civilisation, and rightly so. One could say that the Greeks invented the way we think. Or, in the words of the English poet Percy Shelley: “We are all Greeks. Our laws, our literature, our religion, our arts have their root in Greece.”1 The lasting impact becomes obvious when one considers the many words of Greek origin in our modern-day languages: words like “policy”, “democracy”, “economy”, but also “idea”, “theory” and “dialogue”.

Austrian thinker Karl Popper observed once – and I quote: “The war of ideas is a Greek invention. It is one of the most important inventions ever made. Indeed, the possibility of fighting with words and ideas instead of fighting with swords is the very basis of our civilization, and especially of all its legal and parliamentary institutions.”2

How could this kind of discourse have been invented? A key step may have been that ancient Greeks created a public meeting place in the very heart of the city-state: the “agora”. Here, citizens exchanged views, discussed politics and celebrated cultural events. The best-known example of an ancient agora is situated not far from here.

Just a few years ago, Joachim Gauck, then Federal President of Germany, said in a speech that Europe would need an agora in order to develop a common European civic spirit.3 So this idea of a forum for public discourse is still with us today. And, indeed, a culture of open debate and a lively democracy are hallmarks of present-day Greece.

Yet the ancient agora not only allowed an exchange of views, but, more tangibly, also defined the marketplace of a city (as it still does in modern Greece). Here, merchants and craftsmen sold their products. In this respect, it set an essential foundation for prosperity.

The link between the economic and political spheres also provides the blueprint for my speech this evening. In particular, I am looking forward to sharing some thoughts on the Greek economy and my view on European integration with this distinguished audience.


He then reviews Greek situation which despite some progress has a long way to go. He brings agora back in discussion:

As a matter of fact, European policymakers learned from past mistakes and did things better. However, the achievements seen so far are not enough. There is consensus among experts that additional reforms are needed to further reduce the euro area’s vulnerability to crises. Yet it is not clear which path to choose going forward. For some time now, an intensive debate has been taking place on the future structure of the monetary union. A number of concepts and proposals are on the table. They differ over the weight they each accord to risk sharing and joint liability on the one hand, and to individual responsibility, a rules-based regime and the avoidance of false incentives on the other.

Either way, however, it is crucial for the stability of monetary union that the liability principle is complied with. In a nutshell, it stipulates that whoever decides on an action must also bear the consequences of that decision – by reaping the benefits or suffering any disadvantage or loss. It would be neither fair nor sustainable if decisions could be made at the expense of others. Wrong incentives would be created.

For example, insurance can encourage the policyholder to take on more risks. This is the essence of moral hazard. And again, the ancient Greeks provide us with an illustrative example since they may have been the first to come up with a commercial insurance scheme.

Back then, unpredictable weather conditions and piracy rendered maritime trade a highly dangerous venture. But the ingenious Greeks invented rather complex contracts for a loan which could be used for equipping or repairing a ship and which would not have to be repaid if the ship was lost on its journey. If the ship made a successful return, the creditor received its principal plus massive interest on top, reflecting the risks involved and the insurance premium. However, if the loan exceeded the value of the ship, there was an incentive for the ship-owner to simply keep the loan and make off with it.

Thanks to a speech ascribed to the Athenian orator Demosthenes, we know of a certain Hegestratos.6 He is said to have planned to sink his own ship during the journey – with all passengers and cargo on board. Unfortunately for him, he was caught in the act, jumped overboard and was not seen again. Nevertheless, the incident, which may have been the first case of insurance scam in history, led to a complicated legal dispute between an alleged co-conspirator and a creditor.

Fast-forward more than 2,300 years, the Maastricht framework was based on a clear understanding of the liability principle. Member states would remain autonomous in terms of their economic and fiscal policies. The flip-side then was the “no bail-out” clause. Both actions and liability were located at the national level and, thus, aligned.

Today, many Europeans call for greater risk sharing. If such a joint liability were established, corresponding sovereignty rights would need to be transferred to the European level, too. Otherwise, the set-up could contribute to a possible resurgence of unsound developments. However, my impression is that the willingness to cede sovereignty rights to Brussels is rather limited in most of the euro area member states. For the time being, therefore, reforms must fit within the existing Maastricht framework.

But that does not wholly rule out elements of joint liability. I concede, for example, that a common deposit insurance could contribute to a more stable financial system, as it would reduce the risk of bank runs.

However, the balance between actions and liability requires that risks that arose under national responsibility cannot be mutualised. They would have to be reduced before the scheme is established. If not, a common deposit insurance would lead to a redistribution of inherited risks.

Hmmm.. Nice way to link history with current developments.

State Government Market Borrowings in India – Issues and Prospects

September 3, 2018

Nice speech by Mr BP Kanungo of RBI.

He reviews the market borrowings in India by State Governments.


Monetary policy as a study of nocturnal activity

August 29, 2018

Jerome Powell gave this recent speech at Jackson Hole Symposium.

In conventional models of the economy, major economic quantities such as inflation, unemployment, and the growth rate of gross domestic product (GDP) fluctuate around values that are considered “normal,” or “natural,” or “desired.” The FOMC has chosen a 2 percent inflation objective as one of these desired values. The other values are not directly observed, nor can they be chosen by anyone. Instead, these values result from myriad interactions throughout the economy. In the FOMC’s quarterly Summary of Economic Projections (SEP), participants state their individual views on the longer-run normal values for the growth rate of GDP, the unemployment rate, and the federal funds rate.

These fundamental structural features of the economy are also known by more familiar names such as the “natural rate of unemployment” and “potential output growth.” The longer-run federal funds rate minus long-run inflation is the “neutral real interest rate.” At the Fed and elsewhere, analysts talk about these values so often that they have acquired shorthand names. For example, u* (pronounced “u star”) is the natural rate of unemployment, r* (“r star”) is the neutral real rate of interest, and Π* (“pi star”) is the inflation objective. According to the conventional thinking, policymakers should navigate by these stars. In that sense, they are very much akin to celestial stars.

For example, the famous Taylor rule calls for setting the federal funds rate based on where inflation and unemployment stand in relation to the stars. If inflation is higher than Π*, raise the real federal funds rate relative to r*. The higher real interest rate will, through various channels, tend to moderate spending by businesses and households, which will reduce upward pressure on prices and wages as the economy cools off. In contrast, if the unemployment rate is above u*, lower the real federal funds rate relative to r*, which will stimulate spending and raise employment.

Navigating by the stars can sound straightforward. Guiding policy by the stars in practice, however, has been quite challenging of late because our best assessments of the location of the stars have been changing significantly.

Hmm.. Nice way to show what mon policy does..:-)

He points how policy in previous years has erred in estimating the positions of these stars:

Around 1965, the United States entered a period of high and volatile inflation that ended with inflation in double digits in the early 1980s. Multiple factors, including monetary policy errors, contributed to the Great Inflation. Many researchers have concluded that a key mistake was that monetary policymakers placed too much emphasis on imprecise–and, as it turns out, overly optimistic–real-time estimates of the natural rate of unemployment.6

Figure 3 compares the CBO’s current view of the natural rate of unemployment in that era with an estimate by Athanasios Orphanides and John Williams of the rate as policymakers perceived it in real time. From 1965 to the early 1980s, this real-time estimate of u* was well below where hindsight now places it. The unemployment rate over this period was generally well above the real-time natural rate, and contemporary documents reveal that policymakers were wary of pushing the unemployment rate even further above u* (figure 4, top panel).7 With the benefit of hindsight, we now think that, except for a few years in the mid-1970s, the labor market was tight and contributing to inflation’s rise (figure 4, lower panel).

It is now clear that the FOMC had placed too much emphasis on its imprecise estimates of u* and too little emphasis on evidence of rising inflation expectations. The Great Inflation did, however, prompt an “expectations revolution” in macroeconomic thinking, with one overwhelmingly important lesson for monetary policymakers: Anchoring longer-term inflation expectations is a vital precondition for reaching all other monetary policy goals.8

Hmm… In 1990s they avoided similar mistake:

The second half of the 1990s confronted policymakers with a situation that was in some ways the flipside of that in the Great Inflation. In mid-1996, the unemployment rate was below the natural rate as perceived in real time, and many FOMC participants and others were forecasting growth above the economy’s potential. Sentiment was building on the FOMC to raise the federal funds rate to head off the risk of rising inflation.9 But Chairman Greenspan had a hunch that the United States was experiencing the wonders of a “new economy” in which improved productivity growth would allow faster output growth and lower unemployment, without serious inflation risks. Greenspan argued that the FOMC should hold off on rate increases.

Over the next two years, thanks to his considerable fortitude, Greenspan prevailed, and the FOMC raised the federal funds rate only once from mid-1996 through late 1998.10 Starting in 1996, the economy boomed and the unemployment rate fell, but, contrary to conventional wisdom at the time, inflation fell.11

Once again, shifting stars help explain the performance of inflation, which many had seen as a puzzle. Whereas during the Great Inflation period the real-time natural rate of unemployment had been well below our current-day assessment, in the new-economy period, this relation was reversed (figure 3). The labor market looked to be tight and getting tighter in real time, but in retrospect, we estimate that there was slack in the labor market in 1996 and early 1997, and the labor market only tightened appreciably through 1998 (figure 4). Greenspan was also right that the potential growth rate had shifted up. With hindsight, we recognize today that higher potential growth could accommodate the very strong growth that actually materialized, let alone the moderate growth policymakers were forecasting.12

The FOMC thus avoided the Great-Inflation-era mistake of overemphasizing imprecise estimates of the stars. Under Chairman Greenspan’s leadership, the Committee converged on a risk-management strategy that can be distilled into a simple request: Let’s wait one more meeting; if there are clearer signs of inflation, we will commence tightening.13 Meeting after meeting, the Committee held off on rate increases while believing that signs of rising inflation would soon appear. And meeting after meeting, inflation gradually declined.

This wait and watch approach is also called the Brainard principle as Powell tells us later in the speech.

Here is Anantha Nageshwaran calling the speech as Hole in Jackson Hole, where he says Powell is basically contradicting himself.



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