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March 25, 2010

Latest Posts from Economist's View

Latest Posts from Economist's View

China Says It Will Not Adjust Exchange Rate

Posted: 25 Mar 2010 12:27 AM PDT

China's not budging:

China Says It Will Not Adjust Policy on the Exchange Rate, by Sewell Chan, NY Times: Despite mounting pressure in Congress for the Obama administration to declare China a currency manipulator, the Chinese government is giving no indication that it will change its exchange rate policy.
After meeting with officials at the Treasury and Commerce Departments on Wednesday, China's deputy commerce minister, Zhong Shan, told reporters, "The Chinese government will not succumb to foreign pressures to adjust our exchange rate."
Mr. Zhong reiterated a statement this month by the Chinese premier, Wen Jiabao, who said he did not believe the currency, the renminbi, was undervalued. ...
Mr. Zhong said that "the basic stability of the renminbi" was generally beneficial, because "a great surge in the value of the renminbi would hurt the economies of developing countries, especially the least-developed countries." ...
China's position has raised the ire of members of both parties in Congress, who say that the exchange-rate problem is holding back job growth in the United States. Two senators, Lindsey Graham, Republican of South Carolina, and Charles E. Schumer, Democrat of New York, have introduced legislation that would effectively compel the Treasury to cite the Chinese currency for "misalignment." The Treasury has not found China to be manipulating its currency since 1994...
With unemployment near 10 percent in the United States, Congress has seemingly run out of patience with that argument.
"We're fed up," Mr. Graham said on Tuesday. "China's mercantilist policies are hurting the rest of the world, not just America. It helped create the global recession that we're in. The Chinese want to be treated as a developing country, but they're a global giant, the leading exporter in the world."
The Senate bill would let the Commerce Department retaliate against currency misalignment by imposing duties or tariffs. "The only thing that will make China move is tough legislation," Mr. Schumer said.
The two senators pointed to a new study by the Economic Policy Institute, a labor-backed research organization, saying the growing trade deficit between China and the United States resulted in the elimination or displacement of 2.4 million American jobs between 2001 and 2008. ...

Krugman on this topic: Taking On China, Chinese New Year, World Out of Balance, The Chinese Disconnect, More.

links for 2010-03-24

Posted: 24 Mar 2010 11:06 PM PDT

"Recovery Depends on Main Street"

Posted: 24 Mar 2010 04:26 PM PDT

Robert Reich is not very encouraged by the fact that global companies, Wall Street, and the wealthy appear to be doing better:

Recovery depends on Main Street, by Robert Reich, Commentary, Financial Times: Can the American economy recover if only its big global companies, Wall Street and high-income Americans are doing better, but its small businesses and middle and lower-income Americans are not? The short answer is no. ...
US companies have lots of cash... But this cash is not going into new investment. ... None of this is stopping supply-side fanatics from arguing government needs to cut taxes on big corporations to spur the recovery. Their argument is absurd. Big companies do not know what to do with all the cash they have as it is. They are not investing it in new plant or jobs. So why should the government cut their taxes and enlarge their cash hoards even more?
The picture on Main Street is the opposite. Small businesses are not selling much as they have to rely on American consumers and Americans still are not buying much.
Small businesses are also finding it hard to get credit. ... While big companies are finding it easy to borrow in the bond markets, smaller companies depend on bank credit, whose supply remains limited. ... This is a problem because companies with fewer than 100 employees accounted for almost half of net job growth during the last two recoveries...
Unemployment or fear of it continues to haunt the population. That is a major reason why consumer confidence is still dropping. There is also the extra need to save as boomers face retirement. Given all this, it is sensible for Americans to continue holding back from the malls, but this means a painfully slow recovery. ...

The economy shows signs of improvement largely because the government is spending huge sums and the Fed is essentially printing even more money. But where will demand come from when the stimulus is over and the Fed tightens? That question hangs over the economy like a dense cloud. Until there is an answer, a sustainable recovery for any other than America's largest corporations, Wall Street and the wealthy is a mirage.

I think it's an open question as to whether we are headed for a self-sustaining recovery, or whether we stay at the bottom of the valley for awhile waiting for the economy to take-off. With unemployment as high as it is, with labor markets as weak as they are, and with Congress seeming to forget about the unemployed as it pats itself on the back (or hurls insults) over health care reform and moves onto financial reform, it's fairly certain that labor markets will remain weak -- weaker than they would be if Congress would give them the attention they deserve -- for some time to come.

Rules versus Discretion in Financial Regulation

Posted: 24 Mar 2010 11:18 AM PDT

Mike Konczal says we need rules regulating leverage, discretionary authority isn't enough:

Putting Stronger Limits into the Dodd Bill, by Mike Konczal: ...Current regulators and industry leaders will tell us that the financial capital markets are up to The Swanson Code, the "I'll know trouble when I see it" system; however we want there to be clear rules...
Ryan Avent and Kevin Drum both look at the Dodd Bill and are left a little worried about financial reform. ... Here's one thing that is probably worrying them. This is language from the final House Bill, HR 4173 (giant pdf, page 44):
(3) LEVERAGE LIMITATION.—The Board shall require each financial holding company subject to stricter standards to maintain a debt to equity ratio of no more than 15 to 1, and the Board shall issue regulations containing procedures and timelines for how a financial holding company subject to stricter standards with a debt to equity ratio of more than 15 to 1 at the time such company becomes a financial holding company subject to stricter standards shall reduce such ratio.
Here's the equivalent language from the Dodd Bill (giant pdf, starting page 25):
(2) DUTIES.—The Council shall, in accordance with this title….(H) make recommendations to the Board of Governors concerning the establishment of heightened prudential standards for risk-based capital, leverage, liquidity, contingent capital, resolution plans and credit exposure reports, concentration limits, enhanced public disclosures, and overall risk management for nonbank financial companies and large, interconnected bank holding companies supervised by the Board of Governors
In both bills, regulators have discretion in how to set limits, as determined by internal risk managers. In the House Bill though, there's a strict limit: no systemically risky firm can have leverage greater than 15-to-1. In the Senate, the FSOC will make recommendations to the Federal Reserve. The Federal Reserve will do like, whatever it wants – it could follow the recommendations. Or it could not.
This solution in the House Bill is a satisficing solution – there are almost certainly firms that could handle being leveraged 16-to-1. However we don't trust the regulators to be able to detect that firm and also not bend the rules for firms that couldn't handle that leverage. So we write down a clear rule.
And these clear rules are exactly what the lobbyists are going to go after. ...

In this case, I like rules rather than discretion. One reason is to limit the damage that the next financial shock can do, with less leverage, there is less to unwind, and less overall damage. Strict limits on leverage help to set bounds on the damage that a financial shock can cause. But another reason -- making resolution authority credible -- is only indirectly related to leverage.

One of the things almost everyone agrees on is the need for resolution authority for large, systemically important banks. As Ben Bernanke recently said:

... because government oversight alone will never be sufficient to anticipate all risks, increasing market discipline is an essential piece of any strategy for combating too-big-to-fail. To create real market discipline for the largest firms, market participants must be convinced that if one of these firms is unable to meet its obligations, its shareholders, creditors, and counterparties will not be protected from losses by government action. To make such a threat credible, we need a new legal framework that will allow the government to wind down a failing, systemically critical firm without doing serious damage to the broader financial system. In other words, we need an alternative for resolving failing firms that is neither a disorderly bankruptcy nor a bailout. ...

But this must be a credible, time-consistent threat. That is, when the time comes to actually implement this policy and use the resolution authority, will the government actually do it, or will fears of what might happen to the financial system lead government regulators to the more familiar route of bank bailouts? I think this is a real problem (and one of the reasons over and above traditional worries about maintaining competitive markets why I'd like to see size come under more scrutiny -- how large do banks need to be in order to provide the needed financial services at the lowest cost?). But this is less likely to be a problem if the bank's leverage ratio is lower. With lower leverage, the fear of causing a wider panic when using resolution authority to "wind down" a bank that is in trouble is also lower, making such action easier to take.

Neither of the reasons given above for limiting leverage -- limiting the damage a financial shock can do and making resolution authority credible -- require rules rather than discretion to be accomplished. Discretionary authority can always choose to mimic the strict rule limiting leverage, so in theory discretion ought to be at least as good as a rule. But discretion has it's own problems, regulatory and ideological capture among them, and in this case I have more faith in a rule.

The Legal Challenge to Health Care Legislation

Posted: 24 Mar 2010 09:07 AM PDT

Politico's The Arena asks:

State AG's lawsuit against health care: Do they have a case?

Dean Baker responds:

What happened to the Republicans' opposition to frivolous lawsuits?

From what I've read, there are two points to make. First, it would be crazy to rule that the individual mandate (or any other component of the legislation) is unconstitutional. Second, we have four crazy justices on the Supreme Court.

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