Thursday, 29 April 2010
Monday, 26 April 2010
- Hot money into China is being sterilized, but at the expense of the very imbalances that set the stage for the financial crisis.
- Can greater domestic consumption in China save the world? Nope.
- The backroom soap opera that is life among the German wikipedians (via The Browser)
- Do people work less in the US when the World Cup is going on?
Wednesday, 21 April 2010
If that weren't bad enough, the IMF is also taking criticism for things that are entirely imaginary. For example, this morning's FT features a comment piece by Kevin Gallagher, entitled "Would the real IMF please stand up?," in which the author takes the IMF to task for endorsing capital controls in a February report, and then changing its mind in an April report. I am toying with the idea of writing Gallagar a letter later today that will read thusly:
"Dearest Mr. Gallagher,
Prior to criticizing the IMF in an internationally-respected newspaper, it would assist your cause if you actually read the $#%*ing reports.
Let us break down Gallagher's argument into its component pieces. He begins with the following statement:
"In a landmark report in February the IMF broke its longstanding fixation on capital account liberalisation. In a staff position note the IMF found that temporary controls on capital inflows have been effective and should be an essential part of a nation’s macroeconomic toolkit."
Two problems. First, the position note states explicitly - on the title page - that the views expressed are those of the authors of the note, and not of the IMF or its Executive Board. Surely, Gallagher at least read the title page. Second, the note does not come even close to stating that capital controls are an essential part of the toolkit. The Feb report:
"A key conclusion is that, if the economy is operating near potential, if the level of reserves is adequate, if the exchange rate is not undervalued, and if the flows are likely to be transitory, then use of capital controls—in addition to both prudential and macroeconomic policy—is justified as part of the policy toolkit to manage inflows."
So yea, controls are a justified option so long as you meet a laundry list of other criteria first. Despite what Gallagher suggests, this is a qualified endorsement:
"A significant caveat, however, to the use of capital controls by individual countries, relates to the potential for adverse multilateral consequences. In the present circumstances, global recovery is dependent on macroeconomic policy adjustment in EMEs, which could be undercut by capital controls, notably in cases where currencies are undervalued. Widespread adoption of controls by EMEs could exacerbate global imbalances and slow other needed reforms"
By contrast, Gallagher argues that the April IMF report is "driven more by ideology than rigorous research. The GSFR says capital controls are inefficient, but fails to acknowledge that controls, when designed properly, are seen as second-best instruments to make markets more efficient by correcting distortions." This is, in a word, poppycock. An excerpt from the April report:
"When the available policy options and prudential measures do not appear to be sufficient or cannot provide a timely response to an abrupt or large increase in capital inflows, capital controls may be a useful element in the policy toolkit. However, if the inflows are not temporary, but are driven by more fundamental factors, policymakers should adjust their macroeconomic policies to address the root causes, instead of mitigating the effects of inflows or attempting to limit them through various measures."
There's plenty more in there. Indeed, a careful reading of both reports suggests no difference in the IMF's view of capital controls, which is approving but qualified.
In sum, Gallagher has managed to get himself all worked up over something which is entirely the figment of his own imagination. He provides links, in his own article, to reports that he clearly has not read. And he got published in the FT, to boot.
It really pulls at my heart strings to think of the poor IMF staffers who are subject to such constant abuse. I mean, what good is all that tax-free income if you have to spend it on anti-depressants and alcoholic escapism?
Monday, 19 April 2010
The issue at hand is the increase in capital flows from rich countries to “receiving” economies, and how that will affect the latter. Starting in 2003, but really expanding from 2007-present, the Liquidity-Time Explosion (that’s my term, not the IMF’s) resulted in large outflows of capital from the G4 (US, UK, then later Japan and the Euro-area). This was the result of interest rates in those economies hitting rock bottom, or close to it. Cheap money in the G4 (if one can get any) is logically channelled from the low-interest rate environment to economies that have higher rates of return.
The receiving economies are mainly emerging markets in Asia, emerging Europe, Latin America, the Middle East and Africa. To be clear, capital inflows can be a very good thing for these countries as it helps fund domestic investment and long-term growth. It especially makes sense for capital to be flowing to countries that have rosy growth prospects, which is the case for many emerging markets.
However, the IMF looks at the rapid rate of asset price growth in some emerging markets recently and asks the following, crucial question: “Are capital flows into receiving economies primarily driven by the countries’ strong economic fundamentals and, therefore, likely to remain stable over the medium to long term, or are they primarily driven by the abundant global liquidity?”
Looking at the data, the IMF concludes that, yes, global liquidity is playing a significant role. But the effect is not uniform: the type of exchange rate regime in the receiving economy plays an important role in determining how it is affected: “… the higher the flexibility of the exchange rate, the lower the spillover of global liquidity and the more the cushioning impact of domestic asset returns.”
So countries with fixed exchange rates should expect to have seen a significant impact on domestic asset valuations. And wouldn’t you know it! Just last week, fixed-exchange-rate China announced almost 12% growth in their economy last year and almost 12% growth in their housing market last month alone. That’s not to say that China doesn’t have huge growth potential, but you’ve really got to wonder.
So what are the implications of this Liquidity-Time Explosion, anyway? As the IMF paper explains, benefits aside, surges in capital flows can lead to large swings in the exchange rate (which can be de-stabilizing), or it can lead to a boom in domestic credit creation, possibly resulting in inflation, asset bubbles, and a general overheating of the economy.
Indeed, historically speaking, financial crises in emerging markets are usually preceded by a surge in capital inflows from abroad - often linked to factors identified in the previous paragraph. The recent work by Reinhart and Rogoff provided further evidence for that trend. The capital inflows are particularly de-stabilizing if they are short-term debt and denominated in a foreign currency.
Aware of all of this, the IMF paper explores the various policy options available for receiving countries, including an in-depth look at capital controls. Explore that if you wish. In macro-terms, I think it’s important to recognize that this situation exists and that it is a source of vulnerability. Remember that the capital is flowing out of the G4 due to low interest rates – if those rates go up, the capital inflows to emerging markets could slow down or even reverse. It is here that policy coordination in bodies like the G20 will prove to be crucial.
But even policy coordination cannot insure against the fact that Shit Happens – there are outlying events, black swans, fat tails of all kinds that can rapidly change the situation in any given economy. We have seen two examples of that recently with Iceland’s volcano and the tragic plane crash in Poland. This uncertainty about the future means that economies on the receiving end need to insulate themselves from potential shocks, while sending countries need to be aware of the knock-on effects of their policies. What seems clear, however, is that the status quo has potential for disaster.
Friday, 16 April 2010
- Argentina: stepping closer to a return to international bond markets for the first time since their default in 2001.
- As seen from space: Iceland's ash-spewing volcano, Eyjafjallajokulluafj. (I only made up the last four letters). The parallels between this and Iceland's banking problems are pretty ripe: Iceland explodes; Iceland blows smoke at the UK; Iceland causes economic chaos.... feel free to add your own!
- Property bubble? What property bubble?
- Could self-interest make China's economy go green?
Wednesday, 14 April 2010
Since I apparently live in some podunk backwater of civilization, my copy of The Economist arrives about 4-5 days after it hits the news stands. (This, incidentally, is better than my copy of the Financial Times, which does not arrive at all). Since it takes me at least another 4-5 days to plow through the material, I'm usually quite far behind the news cycle by the time I've finished reading the thing. Luckily, the news-magazine is full of analysis, background and special features that stay relevant well after the headlines have faded.
However. What I'm starting to notice is that some of the opinion pieces in my local & national newspapers start sounding verrrrry familiar to things I've just read in The Economist, one week late. It's almost as if it there is a lag while the op-ed contributers further down the news chain plough through their own copies while desperately looking for intelligent-sounding things to say.
I will pursue this and collect further evidence to support my theory. In the meantime, if you're curious as to what the local Bugle-Herald-Tribune-Observer will be writing next week, I have good news. You no longer need a time machine.
(*liberal in the classic, J. S. Mill sense of favouring individual liberty while still recognizing the useful role of the state in many areas. Not liberal in the Paul Krugman sense.)
Tuesday, 13 April 2010
Monday, 12 April 2010
China held to the same exchange rate peg to the dollar for ten years up to 2005. Under a fixed exchange rate, a country only develops increasing trade surpluses as a result of improving price competitiveness. Of course, for your average American voter familiar with floating currencies, the whole idea of a fixed exchange rate smells of manipulation, but in fact it is easier to "manipulate" a floating exchange rate than a fixed one.
The US will deliberately pursue a policy of a loose monetary policy, partly in order for the dollar to weaken and US exports to grow at the expense of others. Many Europeans would like their central banks to follow a similar path.
This US policy was precisely the kind of beggar-thy-neighbour currency manipulation the IMF was set up to avoid. Instead the IMF is questioning whether a pegged exchange rate is manipulative. Welcome to doublespeak.
This is either very confused logic or a fabulous piece of contrarianism (and I am the one who is confused).
A fixed exchange rate is by definition a form of manipulation - although not necessarily in the negative sense that is being used here. You are choosing a price for your currency, relative to others. China has chosen a price for their currency that is widely considered to be cheaper than it would be under a floating system - this gives China's exporters a competitive advantage.
Pursaud is suggesting that a flexible/floating exchange rate can be manipulated as well. The central bank sets interests rate low - which makes money cheap - and therefore US goods become more appealing. This is therefore "manipulation." I see a few problems with this logic:
1) If the US suddenly starts exporting a lot more, the importers will need US dollars to buy the goods and services in question. If the demand for the dollar goes up, a floating exchange rate will allow the price (exchange rate) to adjust as well. This is precisely what is not being allowed to happen with the Chinese yuan.
2) Pursaud argues that "Many Europeans would like their central banks to follow a similar path". So what? This is the beauty of an independent central bank: politicians wishing something doesn't make it so. You cannot easily manipulate what you do not control.
3) Pursaud accuses the US of using loose monetary policy to manipulate their currency to stimulate exports. Trouble is, the US had loose monetary policy for most of the last decade - the same period in which they ran up a huge trade deficit. When Americans have access to cheap money, they spend it on shit from other countries. How can you accuse the same set of policies of going about creating both a current account deficit and a current account surplus? Doublespeak, indeed.
The currently "loose" monetary policy in the US is first and foremost an attempt to prevent the economy from going down the toilet. For such policies to continue after recovery is underway risks stoking inflation - that is something I doubt the Fed will allow.
I want to make clear that I agree with the tone of Pursaud's article - he is right that the popular press is overly-focused on China. This is not simply a case of China the big, bad currency manipulator; Americans need to start saving more money and producing more stuff to create more balance in the global economy. But in his attempt to drive this point home, Pusaud seems to have become lost along the way.
Wednesday, 7 April 2010
- Nigerian President Goodluck Jonathan continues to clean house: following an earlier decision to replace the cabinet (entirely), Jonathan has now sacked the head of the national oil company. Despite the herculean efforts of the Economic and Financial Crimes Commission, Nigeria is almost a parody of corruption. It remains to be seen whether Jonathan's purges are a step in the right direction, or just more of the same. The BBC is skeptical.
- A brief history of Afghanistan & Waziristan and just what the hell the Taliban is fighting for (not much, it turns out). It has videos and photos and such.
- Average flag 1: weighted by colour (or: the Netherlands)
- Average flag 2: weighted by population
Thursday, 1 April 2010
- Arsenal rallies, with a touch of luck, to a 2-2 draw in Champions League play against a dominant Barca, but at huge cost. With an injury list this long, the young Gunners will need to show something special to stay in the Premier League title race.
- Update: Our friend Patrick has a guest blog over at WSJ Real Time Economics on the gains from reviving world trade negotiations
But what is globalization, anyway? Economic globalization, in a classic definition, is described by Stanley Fischer as: "the ongoing process of greater interdependence among nations [and] is reflected in the increasing amount of cross-border trade in goods and services, the increasing volume of financial flows, and the increasing flows of labour." For the most part, this definition holds true. However, it's the "for the most part" bit that Paul Romer takes issue with in a recent NBER paper. I can't find an un-gated version, so I'll lay out the basic argument here.
Let's start with the fundamental assumption in economics that more world trade = good, due to comparative advantage. We then add another basic argument: that the life expectancy of the vast majority of mankind depends upon ideas: techniques, therapies, and treatments developed in the health sciences. Capiche?
Now consider this scenario: you have pill X and pillY. A rich-world worker can produce 10X and 10Y pills per hour, using the latest formulas; a worker in a poor country can only produce 3x pills or 5Y pills per hour, and uses and older, generic formula that is less effective. In a typical textbook trade model, the rich-world has a comparative advantage and should export their (more effective) pills to the poor world. However:
Romer breaks down the concept of ideas into two pieces: technology and rules. Technologies are ideas about how to rearrange inanimate objects. Rules are ideas about how people should interact.
"Trade in pills is an obvious sign of inefficiency. The efficient form of trade would have the workers in the poor country making pills that use the same formulas as the workers in the rich country. If the rules in these two countries give workers in the poor country access to the formulas for the pills at no charge, we would have large gains from globalization and no conventional trade in goods or services.
Just to make sure that I am not cited by the thought police, this does not show that trade restrictions are good. Nor does it show that intellectual property rights are bad (or good). It does show that we need a richer vocabulary, one that can allow for the possibility that such ideas as the formula for a pharmaceutical can also flow across a border. If flows of conventional goods and services are the only things we see and describe, we will miss the deeper forces and sometimes get the sign wrong. More conventional trade can be a sign of something wrong: inefficiently low cross-border flows of ideas."
To illustrate: in the 1990s, the Chinese airline industry was one of the most dangerous in the world. While they were using similar airline technologies as other parts of the world, they did not have a common airline language/phrasebook, and this led to confusion. Starting the mid-1990s, Boeing (which had invested in the technology) began offering free training (changing the rules) for airline personel and airtraffic controllers; the number of crashes plummetted. The rules need to fit the technology.
By contrast, Romer points out that private firms have frequently failed to introduce modern water technologies, with clear health benefits, to countries where there weren't effective rules for regulating private monopolies. In this case, it may be too expensive or difficult for private firms to try to change the rules, and so the technology isn't spread.
What is the take-home message?
"How we think is influenced by what we teach, and what we teach about the gains from globalization may do more harm than good. It encourages two types of errors. It suggests that technologies cannot be copied and that rules are easy to copy. In each case, it would be more accurate to say that incentives matter. Rules matter because they change both the incentives for flows of technologies and the productivity of technologies that are available locally. "So when it comes to economic development, we need to break free from the traditional understanding of economic globalization to consider the transfer of ideas and how they can be implemented effectively. I'm confident that people who work in this field have known this for years - perhaps it's time that academics caught up?