Wednesday, December 1, 2010

Hegemony and Bank Bailouts

. Wednesday, December 1, 2010

Back in October I argued that Ben Bernanke, as a scholar of the Great Depression, may have emphasized the global economy over the domestic economy since 2008. In other words, perhaps he had not followed the advice of Sumner, Williamson, and others to engage in quantitative easing on a massive scale because he did not want to encourage competitive devaluations. As I wrote then:

Scott Sumner and Paul Krugman don't agree on much, but they do agree that the Fed isn't doing enough. Some have expressed bemusement that "Helicopter Ben" Bernanke, student of the Great Depression, hasn't done more to prevent the worsening of the recession. ...

I have no reason to think this is true, but perhaps Bernanke is influenced by another scholar of the Depression - Charles Kindleberger. Kindleberger argued that the Great Depression became a cataclysmic international event because of the unwillingness of the U.S. and inability of the U.K. to supply public goods to stabilize the international system. Those public goods include maintenance of a system of stable exchange rates and open markets. ...

In other words, perhaps Bernanke is acting as the world's central banker. If Bernanke believes that a U.S.-led currency war would have adverse consequences for the global economy, then perhaps he is willing to prolong the U.S. recovery in order to prevent a large global downturn. Such a deterioration of the global economy would also affect the negatively affect the U.S. of course. So while, ceteris paribus, a dollar devaluation would help the U.S., ceteris is not paribus. A U.S. devaluation would prompt a series of actions in Frankfurt, Tokyo, and Beijing. The resulting exchange rate instability would spook financial markets and hamper trade. Cries for protectionism would grow louder, and the net effect would be sharply negative.

Now we see that the Fed's global actions have not been limited to refusing to engage in competitive devaluations. The Fed also provided emergency funding to many of the world's largest banks:

Foreign banks were among the biggest beneficiaries of the $3,300bn in emergency credit provided by the Federal Reserve during the crisis, according to new data on the extraordinary efforts of the US authorities to save the global financial system.

The revelation of the scale of overseas lenders’ borrowing underlines the global nature of the turmoil and the crucial role of the Fed as the lender of last resort for the world’s banking sector. ...

The biggest cumulative borrower from the Term Auction Facility was Barclays, which bought the US operations of Lehman Brothers out of bankruptcy in September 2008.

Barclays borrowed a cumulative $232bn from the TAF through various subsidiaries. ...

Bank of Scotland and RBS of the UK, Société Générale of France, Dresdner Bank and Bayerische Landesbank of Germany, and Dexia of Belgium were all among the top 10 users of TAF. The second-largest user was Bank of America, which bought Merrill Lynch during the crisis, and borrowed a cumulative $212bn. The biggest seller of commercial paper to the Fed’s Commercial Paper Funding Facility, which bought illiquid short-term loans, was UBS of Switzerland, then insurer AIG. Five of the top 10 CPFF users were European banks.

This is a major revelation, indicating that the U.S. government was prepared to secure the stability of financial firms regardless of national origin. This provides further evidence that the Fed's behavior cannot be understand out of a global context. If you are a follower of Kindleberger, as I am, you have to think of the Fed's actions as a very good thing. So of course the domestic politics of this are going to be ugly, stupid, nativist, and parochial. In other words, the recent political chatter over whether the Fed should have a single mandate or a dual mandate is misguided. Regardless of the domestic de jure mandate, the Fed has a de facto global mandate. It needs to be able to fulfill it, or else we risk a return to the 1930s.


Hegemony and Bank Bailouts




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