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August 7, 2012

Latest Posts from Economist's View

Latest Posts from Economist's View

Posted: 31 Jul 2012 12:42 AM PDT
Tim Duy:
Quick Euro Update, by Tim Duy: Mostly quiet on the Euro front today, but there are some bits and pieces worth chewing over. To recap, ECB President Mario Draghi raised expectations that a big plan was in the works to save the Euro. In short, Draghi's commitment to do everything necessary to save the Euro was interpretted to mean that the ECB was prepared to act as a lender of last resort to bring down yields in struggling periphery nations.
There is an alternative explanation. Draghi was simply making some off-the-cuff remarks, saying things he thought he largely said before, and not intending to illicit the subsequent market response. If so, market participants may be set up for a phenomenal dissapointment this week.
With that in mind, Spiegel says that Draghi dropped a bomb on other ECB members:
It was an illustrious meeting that British Prime Minister David Cameron was hosting on the evening before the opening of the Olympic Games in London...
...It was meant to be a day of glamour, but then Mario Draghi, the president of the European Central Bank (ECB), made a seemingly trivial remark -- but one that ensured that the 200 prominent guests were swiftly brought back to gloomy reality. His organization, he promised, would do "whatever it takes to preserve the euro."
The audience treated the remark as just another platitude coming from a politician. But International financial traders understood it as an announcement that the ECB was about to buy up Italian and Spanish government bonds in a big way. So they did what they always do when central banks suggest they might soon be firing up the money-printing presses: They clicked on the "buy" button...
...Meanwhile, experts at the central banks of the euro zone's 17 member states had no idea what to do with the news. Draghi's remark was not the result of any resolutions, and even members of the ECB Governing Council admitted that they had heard nothing of such plans until then.
This doesn't sound like Draghi has much time to build a concensus. Interestingly, Spiegel claims that the pressure on Draghi is becoming unbearable:
A deep-seated feeling of mistrust has taken hold at Frankfurt's Eurotower, the ECB's headquarters, and even Draghi, who is normally seen as the epitome of level-headedness among central bankers, has recently shown signs of nervousness. At a dinner in early July, the ECB chief and his fellow governors were discussing the question of whether the ECB's loans to Ireland's government-owned "bad bank" were consistent with the bank's current bylaws.
It was a debate among experts, like many before it, but then something unusual happened: Draghi raised his voice. Such questions, he snapped at his opponents, could not always be discussed in exclusively legal terms...
...The ECB president has become thin-skinned and easily irritated by criticism, especially when it comes from Germany.
Sounds like ECB is coming apart at the seems, much like Europe itself. The story that Draghi was interested in downplaying "legal concerns" is particularly interesting. It suggests that he increasingly does not believe he can save the Euro in the context of strict interpretations of the ECB's mandate.
As far as the timing of any action, I caught this in a Reuters report:
Both the ECB and the Fed are set to meet this week. The Fed will start a two-day meeting on Tuesday, with many economists believing the central bank will wait until September to provide more stimulus to a faltering U.S. economic recovery. The ECB's policy-setting meeting on Thursday is receiving more of the markets' attention after the bank's chief, Mario Draghi, pledged last week to do everything to save the euro.
But translating his words into action are particularly important given the threat the long-running euro zone crisis poses to the global economy.
Bold action by the ECB is at least five weeks away, insiders told Reuters.
I would really appreciate a little expansion on that last line. The longer timeline would not be surprising if the Spiegel report is correct and Draghi failed to build consensus before he spoke.
Finally, on the issue of convertibility and default risk, Joseph Cotterill at FT Alphaville says:
The ECB could now see a risk to its monetary policy — conducted in euros — from market pricing of peripheral bonds which assumes they won't eventually be paid back in euros. And it could now act on this risk. However it might do this and with whatever facilities, it feels conceptually different to the actions which the market largely expects, which are versions of credit easing or liquidity for sovereign debt (the SMP).
FT Alphaville sees this as more about convertibility than default risk, different than I suggested yesterday. I think though that we both agree this may be crucial to understanding Draghi's policy intentions. Cotterill also cites research on quantifying this risk, and thus what the ECB is prepared to do. maybe less than the market expects. I think following FT Alphaville on this subject (and many more, of course) is well worth the time.
Bottom Line: Seems like a lot of uncertainty heading into this ECB meeting, despite financial market participant's understandably crystal-clear interpretation of Draghi's now famous remarks.
Posted: 31 Jul 2012 12:33 AM PDT
We are, as they say, live (this is a different title, the title they chose doesn't do a very good job of conveying what the article is about):
Starving the Beast in Recessions
Unwavering Republican commitment to lower taxes and smaller government -- policies favored by wealthy campaign backers -- makes it impossible for Congress to do more to help middle and lower class households struggling with the recession.
Posted: 31 Jul 2012 12:24 AM PDT
From the archives (September 2009), for no particular reason:
New Old Keynesians: There is no grand, unifying theoretical structure in economics. We do not have one model that rules them all. Instead, what we have are models that are good at answering some questions - the ones they were built to answer - and not so good at answering others.
If I want to think about inflation in the very long run, the classical model and the quantity theory is a very good guide. But the model is not very good at looking at the short-run. For questions about how output and other variables move over the business cycle and for advice on what to do about it, I find the Keynesian model in its modern form (i.e. the New Keynesian model) to be much more informative than other models that are presently available.
But the New Keynesian model has its limits. It was built to capture "ordinary" business cycles driven by price sluggishness of the sort that can be captured by the Calvo model model of price rigidity. The standard versions of this model do not explain how financial collapse of the type we just witnessed come about, hence they have little to say about what to do about them (which makes me suspicious of the results touted by people using multipliers derived from DSGE models based upon ordinary price rigidities). For these types of disturbances, we need some other type of model, but it is not clear what model is needed. There is no generally accepted model of financial catastrophe that captures the variety of financial market failures we have seen in the past.
But what model do we use? Do we go back to old Keynes, to the 1978 model that Robert Gordon likes, do we take some of the variations of the New Keynesian model that include effects such as financial accelerators and try to enhance those, is that the right direction to proceed? Are the Austrians right? Do we focus on Minsky? Or do we need a model that we haven't discovered yet?
We don't know, and until we do, I will continue to use the model I think gives the best answer to the question being asked. The reason that many of us looked backward to the IS-LM model to help us understand the present crisis is that none of the current models were capable of explaining what we were going through. The models were largely constructed to analyze policy is the context of a Great Moderation, i.e. within a fairly stable environment. They had little to say about financial meltdown. My first reaction was to ask if the New Keynesian model had any derivative forms that would allow us to gain insight into the crisis and what to do about it and, while there were some attempts in that direction, the work was somewhat isolated and had not gone through the type of thorough analysis needed to develop robust policy prescriptions. There was something to learn from these models, but they really weren't up to the task of delivering specific answers. That may come, but we aren't there yet.
So, if nothing in the present is adequate, you begin to look to the past. The Keynesian model was constructed to look at exactly the kinds of questions we needed to answer, and as long as you are aware of the limitations of this framework - the ones that modern theory has discovered - it does provide you with a means of thinking about how economies operate when they are running at less than full employment. This model had already worried about fiscal policy at the zero interest rate bound, it had already thought about Says law, the paradox of thrift, monetary versus fiscal policy, changing interest and investment elasticities in a  crisis, etc., etc., etc. We were in the middle of a crisis and didn't have time to wait for new theory to be developed, we needed answers, answers that the elegant models that had been constructed over the last few decades simply could not provide. The Keyneisan model did provide answers. We knew the answers had limitations - we were aware of the theoretical developments in modern macro and what they implied about the old Keynesian model - but it also provided guidance at a time when guidance was needed, and it did so within a theoretical structure that was built to be useful at times like we were facing. I wish we had better answers, but we didn't, so we did the best we could. And the best we could involved at least asking what the Keynesian model would tell us, and then asking if that advice has any relevance today. Sometimes it didn't, but that was no reason to ignore the answers when it did.
[So, depending on the question being asked, I am a New Keynesian, an Old Keynesian, a Classicist, etc. But as noted here, if you are going to take guidance from the older models it is essential that you understand their limitations -- these models should not be used without a thorough knowledge of the pitfalls involved and where they can and cannot be avoided -- the kind of knowledge someone like Paul Krugman surely has at hand.]
Posted: 31 Jul 2012 12:06 AM PDT
Posted: 30 Jul 2012 09:50 AM PDT
James Kwak is pessimistic about the deficit debate:
The One-Sided Deficit Debate, by James Kwak: Michael Hiltzik ... wrote a column lamenting the domination of the government deficit debate by the wealthy. He clearly has a point. The fact that Simpson-Bowles—which uses its mandate of deficit reduction to call for . . . lower tax rates?—has become widely perceived as a centrist starting-point for discussion is clear evidence of how far to the right the inside-the-Beltway discourse has shifted, both over time and relative to the preferences of the population as a whole.
What's more, the "consensus" of the self-styled "centrists" is what now makes the Bush tax cuts of 2001 and 2003 seem positively reasonable. With Simpson-Bowles and Domenici-Rivlin both calling for tax rates below those established in 2001, George W. Bush now looks like a moderate; even many Democrats now endorse the Bush tax cuts for families making up to $250,000 per year, which is still a lot of money (for most people, at least).
But some of the blame for this state of affairs must rest with Democrats, liberals, and their usual mouthpieces as well. For over a year now, the refrain of the left-leaning intellectual class has been that the only thing that matters is increasing growth and reducing unemployment, and any discussion of deficits and the national debt plays into the hands of the Republicans. It may be true that jobs should be the top priority right now, but the fact remains that many Americans think that deficits matter (and most of those left-leaning intellectuals would concede that they matter in the long term). Those Americans are currently getting a menu of proposals with Simpson-Bowles in the right, Paul Ryan and Mitt Romney on the far right, and Fox News on the extreme right. There is no explanation of how to deal with our long-term debt problem in a way that preserves government services and social insurance programs and protects the poor and the middle class.
One of my objectives with White House Burning was to help fill that gap, beginning with an explanation of what the federal government does and why it matters and continuing with a proposal for how to fill the long-term budget gap without gutting Social Security, Medicare, and Medicaid. But Simon and I don't carry a lot of weight with the Serious People who like talking about deficits and shared sacrifice and belt-tightening (not as much as American hero Jamie Dimon, apparently). As long as those people have the floor to themselves, nothing is going to change.

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