Saturday, December 31, 2011

We Won An Award!

. Saturday, December 31, 2011

Well, not "we". Thomas did. And not an "award" per se, in that there's no cash or statue or anything. But Thomas was just given a prestigious "Albie", named in memory of the great Albert Hirschman (whether A. H. would approve or not), by Dan Drezner, for his article "The Reductionist Gamble". In Drezner's words:

The Albies are awarded to the best writing in global political economy for the past calendar year. The writing can be in a book, journal article, think tank report, or blog post -- the key is that the article makes you reconsider the way the world works.
Thomas's article was listed second in the "no particular order" list, but it was the only article published in a top academic journal on his list -- there was a think tank paper and a UP book as well -- so in terms of importance for the discipline of IPE it in some sense stands alone. Last year, I believe, no academic IPE pieces made Drezner's list.

In my opinion this article should be on every IPE syllabus from the advanced undergrad level on up.

The link Drezner provided to the article is gated; an ungated pdf is here. The logical extension of that article is to forge a new IPE paradigm. Or, as I believe, to try to re-unify the open economy politics paradigm with the "complex interdependence" focus from IPE's early days, using more rigorous empirical tools. I think that's the track that Thomas is currently pursuing in his work, and it's the primary epistemological motivation for my dissertation as well.

So, congrats Thomas!

Thursday, December 29, 2011

There Is No Such Thing As a Free Market

. Thursday, December 29, 2011

Matt Yglesias starts with a cute little point about trade politics -- the Marvel corporation has defined the X-Men as mutants rather than humans so as to exploit the difference in tariffs between human dolls and non-human "toys" -- but then, I think, misses an opportunity to explain something more significant about how the world works:

It's remarkable, incidentally, the extent to which the politics of "trade deals" have gotten away from the fundamental issues of free trade as seen in an economics textbook. What we have here is a federal 12% sales tax on dolls, but only if the dolls are made in foreign countries, and a different -- arbitrarily lower -- 6.8% federal sales tax on toys, but again only if the toys are made in foreign countries. There's no good reason to have special higher sales taxes on toys made in foreign countries, and there's certainly no good reason to tax dolls and non-doll toys at different rates. It's nuts and it could and should be addressed by a unilateral acts of congress. The amount of revenue that would be lost to the federal government by repealing these taxes would be tiny, and it's trivial to think of better ways to raise the money. And yet this core -- and quite simple -- trade policy issue is a world away from the incredible complexity of the trade deals of the past decade.
This goes back to what I was driving at in my old post arguing that "The Problem with Economics Is the Economists". The standard welfare case for trade assumes that through specialization in comparative advantage each country can consume more via trade than they can via autarky. That's where economics stops, unless they go on to mutter about something about "distributional consequences blah blah politics blah". In other words, economics books don't spend much time noticing that those employed in the sector/factor that does not have a comparative advantage all get put out of business.

In reality the distributional consequences drive everything. The length and specificity of trade agreements is mind-boggling. The "schedules" of tariffs from the last completed WTO negotiating round (the Uruguay round) is over 30,000 pages, and it's full of thousands of cases like the dolls/toys distinction Yglesias is describing. Each one has a highly-motivated domestic interest group behind it, who will fight to keep in each and every provision that benefits them even tangentially. As there is generally no countervailing force, Congress will listen to whoever is talking to them.

The reason why Congress does not, and will not, step in to change these rules is because there is no political reason why they should. Maybe it's "nuts" and maybe it isn't, but there is some group in this country for whom each of the rules represents the difference between profit and loss. For example, if Marvel can sell X-Men as "toys" rather than "dolls", then they get an immediate competitive advantage over DC Comics, who has to factor in the higher tariff rate when it produces Batman dolls. So Marvel will lobby Congress not to change the tariff schedule. Because, as Yglesias notes, the issue is really pretty trivial for almost everyone in the country (except for Marvel) the likelihood of it being changed is pretty low.

Issues which are generally of very high salience to a small group and low salience to a larger group are high susceptible to capture by the small group. There's a ton of political economy research developing this point (Mancur Olson made a prominent career out of it), but it doesn't seem to have captured the public's mind. Or the mind of many economists.

Here is what it means: there is no such thing as a free market, anywhere or in anything. The reason why is because of politics. To the extent that economics ignores this, economics is irrelevant.

Wednesday, December 28, 2011

Who Wants to Be a President?

. Wednesday, December 28, 2011

Never heard of this happening before:
Moldova risks a prolonged political stalemate that may further slow down reforms in one of Europe's poorest nations as the only candidate for president said on Wednesday he was pulling out of this month's election.  
The withdrawal of parliament speaker Marian Lupu means the presidential election, which takes place in parliament rather than by popular vote, might be delayed if no other candidate steps in. The vote is currently scheduled for January 15.  
Ex-Soviet Moldova has been without a president for over two years as no group in parliament has been able to muster the necessary 61 votes out of 101.
I know nearly nothing about Moldova so I have no idea what's motivating this. The article suggests that the Parliament is sufficiently fractured that no candidate will get 61 votes, and if a candidate fails to do so then the Parliament is dissolved and a new special election is held. Right now Lupu is acting president, so not running for president might actually mean that he can remain president longer than he otherwise would. Interesting.

Tuesday, December 20, 2011

Political Survival in Syria

. Tuesday, December 20, 2011

I've got my issues with selectorate theory, but I think this take from BdM & Smith on Assad is pretty right.

The IMF Isn't Technocratic Either


The title of a recent post at The New Republic is "How the IMF Got It's Keynesian Groove Back". I don't want to pick on author, Jared Vary, too much as he appears to be an intern at TNR, but I see this line of reasoning proffered from more credentialed folks all the time and it drives me crazy. It basically goes like this: originally, the IMF was a fairly kind, generous, technocratic "Keynesian" institution, which was corrupted over time by a "Chicago school" ideology that made crises worse rather than better by insisting on harsh austerity. After the IMF botched up 1990s crises, they started to return to their postwar Keynesian roots.

This type of narrative relies on a view of the IMF that is, I think, inherently flawed. IMF actions have varied along with the geopolitical issues of the time. More specifically, it has always taken actions that the major Western powers, particularly the U.S., wanted. (The U.S. is the only single country with an effective veto, since it has always controlled over 15% of the voting rights and actions must be approved with an 85% majority.) These preferences were not consistent across countries or time, and there is no reason to expect that they would be. During the Bretton Woods period, the IMF was used to used to balance the fixed exchange rate system that embedded the U.S. at the center of the international economic system. In the 1970s and 1980s, the IMF was used as a sort of bailout device for commercial banks in the U.S. and Europe, which owned too much emerging market debt. Harsh conditionality was tied to these loans because the purpose of them was to help the banks, not the indebted countries. In the 1990s the IMF behaved differently depending on the geopolitical context. Loans to countries undergoing post-communist traditions had fewer conditionalities attached to them than loans to East Asian countries or the Latin American countries in the 1980s.

The above paragraph draws from a fairly long string of research on these questions. While the ideational view has some support from folks like Chwieroth, materialist explanations of the IMF's behavior are more prevalent in the literature. Strom Thacker wrote about the "high politics" of IMF lending, and showed how countries that "move toward the political space of the U.S." -- for example by voting with the U.S. in the U.N. -- have a greater chance of receiving loans. Oatley and Yackee extend this further, showing that countries with a lot of indebtedness to U.S. financial firms receive larger IMF loans, as do countries that are allied with the U.S. Randall Stone finds that conditionality is enforced less on countries that are important to the U.S., and can offer the U.S. something valuable in return. Finally, Grigore Pop-Eleches argues that the size of IMF loans and type of conditionalities attached to them varies according to geopolitical, rather than economic, concerns. Indebted Latin American countries in the 1980s had more strings attached than transitioning Eastern European countries, because the major Western powers had an interest in a smooth transition away from communism towards capitalism, and towards greater integration of the European continent.

The point of all of this is to say keep reiterating that there is no technocracy. Institutions like the IMF are inherently political, and act accordingly. The constituent members of these institutions are also political, and will use the institution to suit their ends when they are capable of doing so. Often this will involve issue-linkages and quid pro quo arrangements, so it may not always be transparent, but that doesn't mean it isn't happening.

Update: See also this previous post from Thomas.

Monday, December 19, 2011

Hitchens and Iraq

. Monday, December 19, 2011

Two events this week -- the withdrawal of U.S. troops from Iraq and the death of Christopher Hitchens -- have brought to mind something that has always bothered me in conversations about the Iraq war: the fact that the "pro-war" side is often made to answer for the crimes of the other side. In the case of Hitchens, a general criticism is that he never changed his mind on Iraq despite the fact that hundreds of thousands of Iraqi civilians were killed, maimed, or forced to flee the country. Quite often he is accused of having blood on his hands. Here's one good example.

There are, in my mind, two possible answers to this. The first is to turn the logic on its head. If it is true that removing Hussein from power unleashed a "quagmire" in Iraq that could only be resolved when the power vacuum had been filled, then this was inevitable. Hussein was not going to live forever, and there would likely have been a protracted power struggle involving mass amounts of civilians deaths whenever he passed on. In which case the presence of large numbers of American troops may have had something of a pacifying effect; as bad as Iraq was, it wasn't Rwanda or Sudan. It may be true that the presence of foreign occupiers was what was driving the violence, but there are good reasons to think that that is not the case. There were different strong factions within the country, from the Kurds to the Sadrists to the Baathists and others, with fundamentally different interests and a strong desire to control the mechanism of the state to improve their own standing. There were a number of regional powers that would have been happy to encourage violence and instability in Iraq both as a method of proxy warfare and to prevent a strong Iraq from materializing and threatening their interests in the future. It simply is not clear that there was any realistic counterfactual scenario in which there was not large-scale bloodshed in Iraq.

And could you imagine how Hussein would have responded to an Arab Spring in his country?

The second is to flip the logic entirely. The groups most responsible for the violence in Iraq are the groups that Hitchens wanted to fight. The people Hitchens wanted to defend from these groups were the civilians being victimized by them. The level of violence that occurred in Iraq following the invasion can thus taken as vindication for Hitchens: these groups will use violence against civilians or governments whenever it is tactically advantageous to do so, and therefore they should be obliterated. Carrying that out will have costs, but failing to do so will have even greater costs, and for a longer period of time.

Many of the other criticisms of Hitchens' support for the war -- "blood for oil", "imperialism", your typical warmed-over '60s Marxist rhetoric -- have also turned out to be vapid. (Although I do recall Hitchens making the argument that if we were going to fight for any materialist reason, securing the supplies of energy that fuel the global economy was a pretty good one.) And as Nick Cohen once wrote of anti-war protests in London, it was pretty odd to see a bunch of leftists marching in opposition of a war against a fascist regime. It is true that the Bush administration made many excruciating mistakes, such as not getting the electricity back on quickly, or protecting the National Museum. Probably the biggest one was appoint Bremer as Viceroy, and then letting him screw up everything he possibly could. But these were actually less inevitable than the counterfactual that the internal politics of Iraq would have remained peaceful in the absence of invasion. And now there is some real hope that a stable state that is responsive to its citizens will emerge. That would have been exceptionally unlikely in any other state of the world.

Perhaps these reasons are not sufficient for supporting the war in retrospect. But too many people are too glib about it now. It's not enough to simply say it was a "mistake" and let it go at that.

Sunday, December 18, 2011

(Do Not) RIP, Kim Jong Il

. Sunday, December 18, 2011

And another one. Be interesting to see how this plays out.

(Video above has some strong language.)

Update: Havel on Kim Jon Il, from 2004. (Via half of Twitter.)

RIP, Vaclav Havel


He was one of my favorite figures of the 20th century. His advice to dissidents living under oppression was to live as if you were free. His essay "The Power of the Powerless" is a landmark achievement in 20th century normative political thought. Here is one good brief remembrance.

It is perhaps fitting that he died in such proximity to Christopher Hitchens, who was one of Havel's biggest fans. The two were acquainted I believe, and both belonged to what now appears to be the only revolutionary opposition movement to have truly emerged from 20th century geopolitics: an opposition to socialist totalitarianism. To that end they were on the same side in the Balkans and in Iraq. Hitchens appreciated Havel for his literary ability -- and not just Havel; Hitchens once wrote that he most admired Obama for his book about his father -- and his understanding of how language is itself political.

It is a shame that Hitchens was not able to write an appreciation of Havel. (Just as it is a shame that he will not be able to write the obituaries of folks like Kissinger and Ratzinger.) But there are plenty of others. Havel's life was well-lived.


Update: Drezner has a good post on Havel and Hitchens.

Friday, December 16, 2011

RIP, Christopher Hitchens

. Friday, December 16, 2011

Tuesday, December 13, 2011

There Is No Technocracy QOTD

. Tuesday, December 13, 2011

From Daniel Davies, talking about the new EU deal:

The ‘technocrats’ (which is apparently what they want to be called, although frankly I am seeing a lot of ideology and not much technical ability) want to reorganise the whole of Europe on neoliberal lines.

Monday, December 12, 2011


. Monday, December 12, 2011

Andrew Gelman:

If some dude scratched my car, I wouldn’t be so quick to jump to the conclusion that he’s a rapist.
But would you think he was an atheist?


Apologies for the light posting. Hopefully we'll be back to normal soon.

Wednesday, December 7, 2011

Arbitrage Opportunity of the Day

. Wednesday, December 7, 2011

Tyler Cowen points to a discussion of the possibility of physicists discovering the Higgs Boson Particle, and notes that InTrade has the odds of discovery prior to Jan. 1, 2014 as 88%. Which is true. But InTrade also has the odds of discovery prior to Jan. 1, 2015 as 60%. (The market for discovery prior to Jan. 1, 2016 appears to not be trading.) This makes no sense. It's illegal for folks in the U.S. to use sites like InTrade, but readers in foreign countries have a chance to make some money.

Tuesday, December 6, 2011

(There Can Be No) Flight to Safety Uh-Oh GOTD

. Tuesday, December 6, 2011

Yikes. Clear here for bigger image. Discussion here, including this:
Historically, a Triffin Dilemma — and that’s kinda what this is — leads to funky innovations in the shadow banking system and all the complications that such innovations bring. Will the whispers of new kinds of financial alchemy get louder?

You can see in the chart that before the crisis, US Treasuries were an important but minority amount of the world’s stock of safe haven assets. Treasuries are now the vast majority of such assets. But this is because of the extraordinary decline in the other kinds of assets and because of quantitative easing by the Fed, not because the outstanding stock of Treasuries has increased by so much.
Perhaps the outstanding stock of Treasuries should increase.

Via Counterparties.

Friday, December 2, 2011


. Friday, December 2, 2011

3QuarksDaily is hosting a contest for best blog writing in politics and social sciences, to be judged by Stephen Walt. Nominations are open until end-of-day on December 3. In a characteristic fit of pugnaciousness, I'm very tempted to self-nominate one my posts blasting Walt. Like this one. Or this one. Or this one. Of course, we've run many other very good posts here that have nothing to do with Walt, and it'd be an honor if you kind folks nominated us for consideration.

Thursday, December 1, 2011

The Arab Spring and the Global Economy, or, The Geopolitics of NGDP Targeting

. Thursday, December 1, 2011

Matt Yglesias has a post on the difficulties with getting Egypt's economy going post-revolution:

To give a broad overview of Egypt's problems, the countries of the developing world are now falling into roughly three groups. First, you have India and China who are driving global economic growth and whose rising middle classes and need for production inputs are increasing global demand for all kinds of primary commodities. Second, you have countries -- including much of Africa and Latin America -- who are growing rapidly by exporting primary commodities at new higher prices. Third, you have countries that aren't commodity exporters and that are growing slower than China/India so average people's incomes can't keep up with rising commodity prices. ...

The self-sufficiency stuff indicates that Freedom and Justice has correctly identified Egypt's main problem as increasingly unfavorable terms of trade in a resource-constrained world. But is self-sufficiency a realistic strategy? It might be if Egypt's food gap is caused by decades of corrupt mismanagement leading to devastatingly low agricultural yields. But on a per hectare basis, Egypt's cereal farming is already extraordinarily productive.

Egypt's problem, obviously, is that the country is mostly a giant desert. Giant desert + long narrow strip of incredibly fertile land = cradle of civilization, but it's not a great long-term growth strategy.
This reminded me to write a post that I've been intending to put down for awhile, and that concerns the dilemma facing small open economies that import a lot of basic necessities. Put simply, it runs like this: there remains no viable development model that does not involve somewhat-open engagement with the global economy. This is a new phenomenon in global economic history. In prior periods you could expand growth by expanding your empire. Post-WWII, overt imperialism of the sort that dominated geopolitics before became impossible. Developing countries, many of which were former colonies, believed that their terms of trade were disadvantageous from the perspective of development, so they tried policies that protected local producers from the global market. This generally failed pretty much everywhere it was tried, and the countries that shifted from import-substituting industrialization towards export-led industrialization performed very well in the last half of the twentieth century.

But these countries generally had political systems that rewarded development. Many of them were democratic, or if they were autocratic the rulers were at least dedicated to development and felt that their political futures were tied to increased economic growth. Kleptocratic autocracies, on the other hand, actually had incentives to not develop. Instead, political survival was dependent on maintaining elite support, which was more easily done by distributing rents. So these countries didn't develop, and their terms of trade didn't improve, even if their economies were relatively open.

What happens when you are a small open economy? You are susceptible to movements in global asset prices. What drives global asset prices? A number of things, but one of them is movements in the global monetary system. What institution has the greatest effect on movements in the global monetary system? The U.S. Federal Reserve. So if you are a small open economy, what the Fed does has an impact on your real standards of living. What has the Fed been doing?

Here's a timeline of Fed actions during the crisis. That fist tick up is related to the Fed's first round of quantitative easing, which began in January, 2009. The second round of quantitative easing was announced on November 3, 2010, but had been expected for some time (from at least October 1, when NY Fed President Dudley called for QE2). Commodity prices spiked again, and the Arab Spring began literally a few months after.

In other words, there's a fairly strong case to be made that nominal GDP (NGDP) targeting -- backed by large purchases of financial assets by the Fed -- of the sort favored by Scott Sumner and other "market monetarists" (or whatever they're being called) has the potential to export instability to the rest of the world. This isn't just economic instability; it can lead to political instability. In Libya, it could have led to mass slaughter or even genocide and eventually necessitated U.S./NATO military intervention. Thinking in these terms offers a different perspective than other accounts of the role of the Fed, but also of the revolutions in the Middle East and North Africa. Here are just a few important potential implications:

1. This can help us explain why the Arab Spring happened when it did. Mubarak, Ghadafi, and other Arab autocrats had been in power for decades... why did the revolutions all happen at the same time?  Why now? Many have focused on path dependence and contagion effects, but there's another answer: there was a huge external shock to their political economies, which originated with Fed actions.

2. This should give us some pause when advocating for policies that will boost U.S. demand in the short run. The out-sized influence of the U.S. on the global economy, particularly in the realm of the monetary system, means that any decision we make will have far-reaching ripple effects. We could find ourselves in an environment where the political dynamics in the U.S. provide incentives for policymakers to goose the U.S. economy, which then in turn sends other parts of the world reeling. The Federal Reserve should keep this in mind, as should pundits and others who call for rapid extreme easing until NGDP growth returns to trend. To a large extent, the U.S. Fed controls the global monetary system, particularly for small, open, developing, resource-dependent economies. It can use that power for good or ill. It needs to be aware of the effects of its actions.

3. Academics and pundits must stop thinking in a closed-economy context when we live in an open-economy world. We can't only consider the impact of policy choices within the U.S., since what happens in the U.S. drives what happens everywhere else.

(Note: I was first made away of this line of thinking by another IPE scholar, who has been working on a more rigorous analysis. If I hear any more about that I'll pass it along.)

Wednesday, November 30, 2011

Political Economy in Fiction QOTD

. Wednesday, November 30, 2011

L. Frank Baum's book The Wonderful Wizard of Oz, which appeared in 1900, is widely recognized to be a parable for the Populist campaign of William Jennings Bryan, who twice ran for president on the Free Silver platform -- vowing to replace the gold standard with a bimetallic system that would allow the free creation of silver money alongside gold. ... According to the Populist reading, the Wicked Witches of the East and West represent the East and West Coast bankers (promoters of and benefactors from the tight money supply), the Scarecrow represented the farmers (who didn't have the brains to avoid the debt trap), the Tin Woodsman was the industrial proletariat (who didn't have the heart to act in solidarity with the farmers), the Cowardly Lion represented the political class (who didn't have the courage to intervene). ... "Oz" is of course the standard abbreviation for "ounce." (52)
That comes from David Graber's book Debt: The First 5,000 Years, an anthropological take on the evolution of the role of money and credit in the economy. Via Daniel Little who has an interesting take on the book and also adds this:
(This is roughly as startling to me as an interpretation of Star Wars as an extended allegory on Reaganism (intervention in Nicaragua, scary military officers in the background, etc.). This doesn't quite work, though, since Star Wars appeared in 1977, three years before Reagan's first election as president.)

Kindleberger Smiles


The banks announced that they would reduce by roughly half the cost of an existing program under which banks in foreign countries can borrow dollars from their own central banks, which in turn get those dollars from the Fed. The banks also said that loans will be available until February 2013, extending a previous endpoint of August 2012. 
“The purpose of these actions is to ease strains in financial markets and thereby mitigate the effects of such strains on the supply of credit to households and businesses and so help foster economic activity,” the banks said in a statement. The participants in addition to the Fed were the Bank of England, the European Central Bank, the Bank of Japan, the Bank of Canada and the Swiss National Bank.
More here. The title refers to the previous post.

Monday, November 28, 2011

More US Debt Needed?

. Monday, November 28, 2011

So says David Andolfatto (via Mark Thoma):

I believe that the decline in real rates on U.S. treasuries reflects a steady change in how agents and agencies around the world want to structure their wealth portfolios. There has been a massive substitution away from many asset classes into U.S. treasuries; and it is this fundamental market force that is driving real interest rates lower. 
The phenomenon began in the early 1990s, with the collapse of the Japanese stock market. Then Mexico in 1994, the Asian crisis 1997-98, Russia in 1998, and Brazil in 1999; see Bernanke (2005). Investors became rationally pessimistic about the returns to investing in these countries, as well as similar countries that had not yet experienced crisis. The natural effect of this would be capital outflows from these countries into relative safe havens, like the United States.

The basic thesis here is very much related to what Ricardo Caballero calls a "global asset shortage."
I wrote about this over a year ago, in response to a similar argument by Brad DeLong. You can read that post for more details, but the gist is that Kindleberger argued that in a crisis a hegemon is needed to stabilize the international system by providing five public goods: a market for distress (unsalable) goods, lender of last resort and provider of liquidity into the global financial system, a stable system of exchange rates, macroeconomic coordination, and countercyclical lending.

But what if there's a 6th? What if the hegemon should also create large amounts of highly-rated financial assets that firms can keep on their books without worrying about default?

In a sense, such a role is already encapsulated in Kindleberger's five. It would, in a sense, provide a market for distress goods, which in this case is speculative finance. If these assets are heavily-traded enough an increase in their supply could also constitute a form of liquidity. And they could be used to fund a program of countercyclical lending, by borrowing funds from skittish investors and channeling them to needy borrowers.

As Mark Blyth and Matthias Matthijs argue in a recent issue of Foreign Affairs, Germany is either incapable or unwilling to play this role in Europe. (I'd argue both.) In which case the U.S. should step in and be more aggressive. The Federal Reserve has taken some steps in that direction, opening up swap lines with most major central banks worldwide, and lending directly to foreign banks. But many of those programs have ended. It's not clear that the Fed is doing much to stabilize Europe now. Meanwhile, the federal government has no appetite for such a role.

Put all this together and it's hard to escape the belief that things are going to get worse before they get better. The U.S. may be relatively insulated from a European collapse, but that doesn't mean we're perfectly insulated. And plenty of other places are much more exposed. As the systems level, then, unless the U.S. steps up instability is likely to worsen.

Tuesday, November 22, 2011

Is Job Creation Really Impossible?

. Tuesday, November 22, 2011

This is a strong conclusion to a good post from Krugman:

My point, then, is that this claim — and the lionization of high earners as people who make a vast contribution to society [via job creation] — is not, in fact, something that comes out of the free-market economic principles these people claim to believe in. Even if you believe that the top 1% or better yet the top 0.1% are actually earning the money they make, what they contribute is what they get, and they deserve no special solicitude.
Here are his assumptions earlier in the post: "Yet textbook economics says that in a competitive economy, the contribution any individual (or for that matter any factor of production) makes to the economy at the margin is what that individual earns — period." The upshot being that the entire idea of a "job creator" is misguided. All of the value that factors of production add to the economy is recouped by those factors of production, and none "trickles down" to anyone else.

Correct me if I'm wrong, but doesn't the relevant "textbook economics" assume not only a competitive market but also constant returns to scale and no spillover effects? How often do we think all three of these things hold? Doesn't a Keynesian view of the world explicitly claim that in a depression there are often scale returns to be captured, as well as positive spillover effects from investment? How else could the Obama administration (like all administrations) claim that it has "saved or created" so many thousands of jobs via fiscal policy?

Monday, November 21, 2011

I Would Not Have Guessed This China-US FOTD

. Monday, November 21, 2011

Another way to gauge China's problem is that its gross domestic product (GDP) quintupled over the decade through 2010, while its stock market doubled - so that market capitalization has fallen sharply relative to GDP. 

Via. I don't agree with everything else in the article, but this is another data point indicating that the rise of China may not yet be as impressive as many have thought.

Also this (which I would have guessed): "U.S. Leadership Approval Ratings Top China's in Asia". (ht: Phil Arena.)

Sunday, November 20, 2011

Short Note on the Importance of History and Governance

. Sunday, November 20, 2011

This post by Yglesias, linked by a lot of folks, has a lot of good in it. But it's missing one thing: a conception of politics. Why is it that San Franciscans transfer so much money to Kentuckians? After all, California could surely use the cash to shore up local balance sheets. The answer is because Kentuckians (and Mississippians and Georgians and Iowans and Alabamans and etc.) get to elect the government that ultimately controls San Franciscans. And this privilege was gained -- well lost, technically, but such are the ironies of history* -- as the result of a brutal civil war.

If we're thinking in terms of parallels, Europe has had the civil wars. They just haven't had a winner. So they don't have a federal government, so they don't have a legitimate method of transfers, so they have fiscals crises in their periphery.

*Some well-regarded conservative -- I believe it's Walter Williams, tho I can't recall with certainty -- is often quoted as saying that the best thing that happened to Africans was the Atlantic slave trade, because despite its ills the children and grandchildren of slaves grew up in America rather than colonial or post-colonial Africa. Even given the abominable record of the US w/r/t minorities, this view contends that the lot of Africans is better here than there. Perhaps this is another irony of history. Perhaps it's completely specious. Whether one thinks that claim contains truth or not, it would be hard to argue that the American South did not benefit, in the long run, by losing their bid for independence. Without it, they could not rely on the transfers from rich San Franciscans to poor Alabamans.

Saturday, November 19, 2011

Why Is the US Doing So Well?

. Saturday, November 19, 2011

So asks Ezra Klein:
Not in absolute terms, of course. Unemployment remains high. Growth remains anemic. Markets remain shaky. But Europe has been doing something very close to imploding for months now. So just as our financial crisis sent Europe into a tailspin three years ago, you might expect that the possibility of a partial or complete break-up of the Eurozone would have American businesses taking a chainsaw to their workforces and households stuffing their paychecks under the mattress in the expectation that 2012 will be a lot like 2009. And yet none of that is happening.
He then runs down some data and has some quotes from macroeconomists. I think the answer is given by this interactive graph from the BBC. In short, Europe is much more highly exposed to weakness in the US (Above picture) than the US is exposed to weakness from Europe. Click on a few of those European countries; almost none of them expose the US. The ones that do -- mostly the UK -- are in decent enough shape. Even the biggest exposures, from France and Germany, are much smaller than exposures of European countries to the US, and of course the US has a much larger economy and banking system than any one of those countries.

Thomas, Sarah, Andy, and I have some joint research that we've posted about before that visualizes the same data in a different way. Ours includes more countries as well as cross-time developments, shown in an animation. (We posted it nine months ago, so the BBC is way behind.) The point is the same: the world is much more susceptible to contagion emanating from the US than the US is to contagion from the rest of the world. This includes even Europe.

In other words, it's not enough to simply say that interlinkages in the global economy are important, and conclude from that developments in the EU will automatically determine the US's economic performance. The patterns of interdependence are even more important, and these give us reasons to be optimistic that the US may be relatively okay even if Europe goes belly-up.

The World is Hierarchical


Will links to a WAPO piece on the apparent US resilience to EU difficulties. As Ezra summarizes, "Nevertheless, the fact remains that the American economy has been curiously resilient over the past few months. Things are getting better when you could imagine them getting worse."

This isn't curious; this is how the global economy functions. Financial and economic shocks that originate in the United States have global consequences, while shocks that originate in other parts of the system have consequences that are primarily local.* Empirical research conducted over the past ten years finds clear and consistent evidence of this asymmetry Consider the asymmetric impact of news—unexpected economic outcomes--on asset prices. When US economic performance is stronger than expected or if US monetary policy tightens unexpectedly, interest rates rise in the UK and euro areas and the dollar appreciates. Stronger-than-expected US growth raises foreign equity prices during US recessions, and reduces them during expansions. In contrast, foreign economic news has little impact on markets in the US and elsewhere. German economic news has little impact on euro-dollar exchange rate; euro-area news has little impact on US bond yields. British news has no impact on US equity prices.

Similar asymmetries characterize spillovers through financial linkages. Changes in American interest rates affect interest rates in Australia, Canada, and the euro area. US equity market movements affect equity prices in overseas markets. Yet, US interest rates, exchange rates, and equity prices are affected modestly if at all by foreign developments. For instance, one study finds that the share of euro area variance in equity and bond prices accounted for by US market developments is three times as large as the impact of euro market movements impact on US bond and equity prices. Others find robust evidence that real interest rates in the United States affect real interest rates in the euro area but no evidence that euro rates affect rates in the US.

There is a broader point, here. Although we typically realize that the global economy is defined by connectedness, we pay little attention to the structure of connectedness. And even when we give some thought to this structure, we rarely consider how the structure shapes performance. We seem willing to accept Friedman's claim that the world is flat. Well, the world isn't flat. The world is hierarchical. This hierarchical structure shapes performance in ways that are important and remain under-appreciated. We need to pay it greater attention.

*For an entry to this research, see Bayoumi, Tamim, and Andrew Swiston. 2010. "The Ties that Bind: Measuring International Bond Spillovers Using Inflation-Indexed Bond Yields." IMF Staff Papers 57 (2):366–406. (An ungated pre-pub version here).

Weekend Links


-- A long, excellent interview with Patrick Thaddeus Jackson at Theory Talks (a generally excellent site; it's easy to lose hours in there), concerning IR and the philosophy of science. I haven't yet had the chance to read PTJ's newest book, but it's in the pile and I look forward to it.

-- The Economist enlists Larry Summers and Donald Kohn in a role-play, asking them to deal with the imminent collapse of a major bank using the new tools provided by Dodd-Frank.

-- Matthias Matthijs and Mark Blyth read Kindleberger in Berlin. I hope to have more to say about this later.

-- Is it surprising that the US's financial troubles had a larger effect on Europe than Europe's financial troubles have had on the US? Not to me, as regular readers would expect.

-- Weber, "Science as a Vocation". I find it somewhat odd that "Politics as a Vocation" ends up on many social science syllabi while "Science" does not, given that social scientists want to be scientists not politicians. Or maybe my experience has been unique.

-- "The Women's Petition Against Coffee, 1674". One of my favorite historical documents, brought to memory by this article on rising global coffee pries.

-- The Piedmont (which includes my town) has a local currency, in operation since 2002. I've never seen it used.    

Friday, November 18, 2011

Review: Exorbitant Privilege

. Friday, November 18, 2011

I read Barry Eichengreen's Exorbitant Privilege last night, whose subject is found in the subtitle "the Rise and Fall of the Dollar and the Future of the International Monetary System". From this, one might expect the bulk of the book to be a current discussion of the imminent fall of the dollar as the world's reserve currency, as well as predictions regarding what sort of system will replace it. This expectation is not well met.

As always, Eichengreen does best when he sticks to a narrative of economic history. There are two predominant strands here: chapters two and three, tracing the origins of the US as an international currency, from before the Revolutionary War until the collapse of the Bretton Woods system of fixed exchange rates in the 1970s; and chapter four, which recounts the series of economic and monetary integration regimes in Europe that culminated in the introduction of the European monetary union in 1999. Those two histories make up roughly the first two-thirds of this short book, the rest of which is dedicated to a discussion of the subprime crisis and other contemporary events.

The problem with the book is that there is no conceptual frame shaping Eichengreen's discussion. From the subtitle and many of the chapter titles (the euro's "Rivalry" with the dollar; the greenback's "Monopoly No More"; the specter of a "Dollar Crash") you might expect Eichengreen to be pessimistic about the future role of the dollar in the international monetary system. In the introduction Eichengreen sets the book up in this way, arguing on page 6 that "The conventional wisdom about the historical processes resulting in the current state of affairs – that incumbency is an overwhelming advantage in the competition for reserve currency status – is wrong". But the core of the book actually makes the opposite case: the role of the dollar as the pre-eminent global currency is likely to remain for the foreseeable future, both because of the attributes of the US as the world's largest economy, and because of the deficiencies of the only conceivable challengers.

Concerning the latter, Eichengreen spends the majority of the time on the EU. He also discusses Japan (no desire for the yen to be a reserve currency), China (no capability for the yuan to be without major reforms which would likely be destabilizing), other currencies like the Brazilian real and Indian rupee (not big enough, or global enough, economies or financial systems), and the IMF "special drawing rights" (SDRs, which among other criticisms are only used as accounting devices, and are not accepted by any private actors as a medium of exchange), but dismisses them in short order. He dedicates a long chapter to European postwar monetary history, some of which may be interesting to those approaching this subject for the first time, but all of which has been dealt with in more detail, and with more theoretical and empirical care, elsewhere.

Without making too much of a case, Eichengreen seems to suggest that the subprime crisis may be a catalyst for a shift in the global monetary architecture. His discussion of the crisis is not strong, either as a standalone discussion or as a means of linking it to the potential for a change in the global reserve currency. For example, near the beginning of this chapter he claims "At the root of the crisis lay financial irregularities unchecked by adequate regulation" (p. 98). At this point most observers acknowledge that this was the manifestation of the crisis, perhaps even the proximate cause, but not the root cause. Eichengreen seems to understand this a bit later on, when he discussions macroeconomic imbalances in the global system, the global savings glut, the US domestic political economy that led to low national savings and persistent budget deficits, loose Fed policy and the "Greenspan put", etc. All of these are deeper causes than the inability of banks or regulators to judge the extent of risk embedded in asset-backed securities, which, in this context, appear to be more leaf than root.

The end of Eichengreen's discussion of the crisis leads him to marvel that the strength of the dollar was reinforced as a result of the crisis, not weakened. This may also surprise a reader not already aware of this phenomenon, since all of the book until that point has set the stage for a rapid move away from the dollar following a crisis, similar in speed and precedent to the rise of the dollar in the immediate aftermath of World War I. The rest of the book is dedicated to a discussion of why that is unlikely to happen.

As a part of that explication Eichengreen reverses what he wrote earlier about the incumbency advantage. In the first chapter he wrote that arguing that the status quo is durable precisely because it is the status quo is "wrong". But later, on pages 124-126, he argues that the "advantage of incumbency" is "not to be dismissed". Then he hedges again, writing of China on p. 146:

That said, Chinese policymakers are serious about transforming Shanghai into an international financial center by 2020. Doing so will require deeper and more liquid markets. It will require liberalizing the access of foreign investors to those markets, which in turn imply other changes in the country's tried-and-true growth model. Liberalizing the access of foreign investors to China's financial markets will in turn require a more flexible exchange rate to accommodate a larger volume of capital inflows and outflows. While these are not changes that can occur overnight, it is worth recalling how the United States moved in less than 10 ears from a position where the dollar played no international role to one where it was the leading international currency. There is precedent, in other words, for the schedule that the Chinese authorities aspire to meet.
This should lead us to a comparison of the the world in the 2010s to that of the 1910s, and the relative positions of the US and China within those worlds. In the earlier period the largest economy (the US) was not the issuer of the global reserve currency as it is now. Despite that, it took at least one World War, and the subsequent collapse of the global economy during the interwar period, for the dollar to supplant the pound sterling. To reach undisputed dollar pre-eminence took another World War. The rapid shift in the dollar was therefore a consequence of the rapid shifts in the organization of global security and economic apparatus. As bad as the subprime crisis has been, it has not been anywhere near that scale.

Perhaps because Eichengreen does not have a clear conceptual framework with which to make sense of his history, his views about the future are wishy-washy: the "fall of the dollar" mentioned in the subtitle is not inevitable, nor even likely; then again, the rise of the dollar was rapid, and China's economic rise is rapid, so who knows?

A better approach, I think, would be to try to understand monetary dynamics in a network context. Eichengreen considers this briefly, in footnote 50 on page 151, only to dismiss it just as briefly. This is a shame. If he better understood network dynamics he might not write things like this, from page 8:
There may have been only one country with sufficiently deep financial markets in the second half of the twentieth century, but not because this exclusivity is an intrinsic feature of the global financial system.
But what if it is? What if the distribution of financial liquidity is power-law distributed? What if this introduces scale-free dynamics into the global financial network? This would imply that there is only room for one reserve currency at a time, and that currency is likely to remain in place until there is such a large shock that the network itself is destroyed, at which point a new network is constructed with a new currency at the center of it.

Such a shock occurred from 1914-1945. It has not occurred since, which is why the dollar's pre-eminence has survived less-major shocks like the collapse of Bretton Woods, the rise of emerging market economies, the monetary unification of Europe, the end of the Cold War, and the subprime crisis. Such a history might lead us to expect more stasis than change in the coming years, barring a systemic collapse on a level not seen since the interwar period.

Eichengreen does not spend much time in this short book on theoretical explanations for the nature of the global monetary system, instead choosing to trace several historical developments. This is fine, but it leaves us with more description than explanation, and so teaches us little about what to expect from the future.

Wednesday, November 16, 2011

On Crises

. Wednesday, November 16, 2011

Was on a panel this evening with Karl Smith and a couple other UNC folks that focused on the EU debt crisis. The event was hosted by the UNC economics club (I think). I am happy to report that we solved the crisis, or at least figured out what to do to prevent the next one.

Karl's contributions got me wondering about some things, so I wandered over to Modeled Behavior to get a better sense of his point of view. He is rather critical of the ECB, by the way, because he thinks it should be playing a LOR role and is very annoyed that it refuses to do so. He seemed unsure about whether the ECB's refusal is sincere (willing to blow up the system to avoid higher inflation in the short run and moral hazard problem in the long run) or strategic (credible commitment to no LOR in order to force reform in the PIIGS, then step in as LOR). I tried to convince him it was sincere. He seemed to remain hopeful that it was strategic. Obviously, if it is strategic, the ECB would want us to think it sincere, so it makes sense that we are unsure.

As I was scrolling through Modeled Behavior, however, I got distracted by this quote from Larry Summers that I had not seen before:
“In four years of reflection and rather intense involvement with this financial crisis, not a single aspect of dynamic stochastic general equilibrium has seemed worth even a passing thought,” Summers said, adding: “I think the profession is not entirely innocent.” Still, Summers said, the complaint that economists should have seen the crisis coming represents “a confusion” on the part of critics. Identifying financial bubbles and knowing when they will burst, he claimed, “is to ask more of the profession than it can reasonably expect to discover.”
Karl comments:
The problem here is that we have had hundreds of years of market evolution under a capitalist system where bubbles can and did occur. No solution has emerged. This is despite the fact that evolutionary systems can evolve solutions to problems that no one understands or indeed is even aware exist. This tells me that there is at least a reasonable chance that bubbles are the result not of mistaken expectations but of some combination of market and government failure. Its not crazy to suggest that we will be able to see this.

All of this makes me wonder: how many hundreds of years must elapse before we conclude that "bubbles" and the resulting market corrections are a part of the underlying distribution of asset price movements? It seems that everyone who looks (from Benoit Mandelbrot on) finds that (asset) price movements are power law distributed; most are rather small, some are extremely large (see also Didier Sornette). Thus, large market corrections are not market failures, because they are an expected outcome of typical market behavior. We don't need to develop special explanations for them because they result from the same processes that cause smaller movements. We can't see this because there isn't anything to see. The dynamic process is what Per Bak dubbed "self organized criticality": a steady input drives the system to a critical state, and in this critical state the system generates outputs of varying magnitude. Consequently, most of the time markets don't crash. Sometimes they do. End of story.

There is an associated story here that I have been puzzling over for a while: humanity's need to make sense of big events in concrete and personal terms. Those damn bankers and their crazy complex mortgage backed securities. Those crazy corrupt Greeks. That Allen Greenspan with his low interest rates. Thus we substitute description for explanation and don't seem to care much about (or even recognize) the distinction. We also seem to have this compelling need to figure out who is to blame (in fact, the last question on the list at this evening's panel was precisely that--who is to blame for the EU debt crisis?). Explanations based on the underlying distribution fail entirely to satisfy us (though we do seem to accept them when it comes to earthquakes).

I don't know if this reflects some cognitive bias (as individuals we only believe what we can observe) or some social science thing (social scientists prefer actor-centered explanations) or some manifestation of how negative shocks enter into the political system, shape legislative hearings, and thus enter the public consciousness through media reports of the political reaction which can only be about concrete things like Greenspan and greedy bankers. Or maybe it is a product of our belief that we should be able to control our world and the reluctance to accept that sometimes we cannot separate things we want (financial systems) from things we don't want (market crashes).

Because I don't really have a conclusion, let me exit on the following. Rather than waste time trying to explain something that doesn't need explanation, we could focus on how to respond to these events when they occur. Given that we will confront them because we cannot prevent them, what can we do to minimize their negative consequences for the financial sector and real economies? California and Japan employ earthquake resistant construction techniques rather than try to prevent large earthquakes. Maybe that strategy could be usefully applied to thinking about financial crises. 

Which I think brings me back to Karl's point about the utter failure of the ECB to respond effectively to the EU crisis. The system needs someone to be LOR; if the ECB refuses to play this role, perhaps the Federal Reserve must.

New Research


Gold Sterilization and the Recession of 1937-38 
Douglas A. Irwin
NBER Working Paper No. 17595 
The Recession of 1937-38 is often cited as illustrating the dangers of withdrawing fiscal and monetary stimulus too early in a weak recovery. Yet our understanding of this severe downturn is incomplete: existing studies find that changes in fiscal policy were small in comparison to the magnitude of the downturn and that higher reserve requirements were not binding on banks. This paper focuses on a neglected change in monetary policy, the sterilization of gold inflows during 1937, and finds that it exerted a powerful contractionary force during this period. The transmission of this monetary shock to the real economy appears to have worked through lower asset (equity) prices and higher interest rates.

The Determinants and Long-term Projections of Saving Rates in Developing Asia  
Charles Yuji Horioka, Akiko Terada-Hagiwara 
NBER Working Paper No. 17581
In this paper, we present data on trends over time in domestic saving rates in twelve economies in developing Asia during the 1966-2007 period and analyze the determinants of these trends. We find that domestic saving rates in developing Asia have, in general, been high and rising but that there have been substantial differences from economy to economy and that the main determinants of these trends appear to have been the age structure of the population (especially the aged dependency ratio), income levels, and the level of financial sector development. We then project future trends in domestic saving rates in developing Asia for the 2011-2030 period based on our estimation results and find that the domestic saving rate in developing Asia as a whole will remain roughly constant during the next two decades despite rapid population aging in some economies in developing Asia because population aging will occur much later in other economies and because the negative impact of population aging on the domestic saving rate will be largely offset by the positive impact of higher income levels.

Governance and Prison Gangs 
David Skarbek 
American Political Science Review, Vol. 105. 
How can people who lack access to effective government institutions establish property rights and facilitate exchange? The illegal narcotics trade in Los Angeles has flourished despite its inability to rely on state-based formal institutions of governance. An alternative system of governance has emerged from an unexpected source—behind bars. The Mexican Mafia prison gang can extort drug dealers on the street because they wield substantial control over inmates in the county jail system and because drug dealers anticipate future incarceration. The gang's ability to extract resources creates incentives for them to provide governance institutions that mitigate market failures among Hispanic drug-dealing street gangs, including enforcing deals, protecting property rights, and adjudicating disputes. Evidence collected from federal indictments and other legal documents related to the Mexican Mafia prison gang and numerous street gangs supports this claim.

Unpacking the Black Box of Causality: Learning about Causal Mechanisms from Experimental and Observational Studies 
Kosuke Imai, Luke Keele, Dustin Tingley, and Teppei Yamamoto 
American Political Science Review, Vol. 105.  
Identifying causal mechanisms is a fundamental goal of social science. Researchers seek to study not only whether one variable affects another but also how such a causal relationship arises. Yet commonly used statistical methods for identifying causal mechanisms rely upon untestable assumptions and are often inappropriate even under those assumptions. Randomizing treatment and intermediate variables is also insufficient. Despite these difficulties, the study of causal mechanisms is too important to abandon. We make three contributions to improve research on causal mechanisms. First, we present a minimum set of assumptions required under standard designs of experimental and observational studies and develop a general algorithm for estimating causal mediation effects. Second, we provide a method for assessing the sensitivity of conclusions to potential violations of a key assumption. Third, we offer alternative research designs for identifying causal mechanisms under weaker assumptions. The proposed approach is illustrated using media framing experiments and incumbency advantage studies.

Tuesday, November 15, 2011

Is This Really True? QOTD

. Tuesday, November 15, 2011

From an article on the multidisciplinary influence of Kahneman and Tversky:

Political scientists use prospect theory to model foreign-policy decision making. Some international-relations scholars argue that cognitive biases favor hawkish policies, making wars more likely to begin and more difficult to end. (Kahneman shares that view.)
That's the only part of the article discussion IR (no hypen needed) or other political science. I'll admit that I don't follow the FP decision-making lit very closely, but this doesn't ring true to me. Yes, the classic Kahneman/Tversky prospect theory article was on my Intro to IR Theory first-year syllabus, but it was tucked into the "Other Approaches" week at the end of the semester. I have to say that I've come across few major IR articles that have explicitly adopted a behavioralist frame.

Perhaps others can fill in the gaps in my education. I welcome comment.

The GSG Redux


Matt Yglesias has a concise post on one of my favorite topics, the Global Savings Glut. It is short, so let me provide the core argument here.

Remember the “global savings glut” of the mid-aughts? This was Ben Bernanke’s explanation for the large U.S. current account deficit as of 2005. It’s also an important part of the backdrop for the housing boom and the financial crisis. What happened is that in the late-1990s, many East Asian countries suffered from a classic financial panic. The international investment community, once bullish on places like Thailand and South Korea, suddenly turned pessimistic. Currencies collapsed, and borrowers were left awash in debt. The IMF stepped in to prevent the global financial system from falling apart, but in exchange for liquidity assistance, it imposed tough austerity conditions on the states in need of rescue.
He then notes that the ECB and German policymakers have embraced this logic.
The IMF qua IMF seems to have decided that this was a mistake, and under Dominique Strauss-Kahn and now Christine Lagarde has largely been pushing a non-austere agenda. But Angela Merkel, European Commissioner Olli Rehn, and the European Central Bank seem to be re-inventing the late-’90s IMF prescription for economic recovery. They’re afraid of creating a situation in which poor economic management isn’t adequately punished, so they’re determined to make sure that troubled European states enact unpopular austerity packages
He concludes that if this succeeds, it has two implications for the global financial system:
1. Increased demand globally for safe dollar-denominated assets.
2. Therefore, larger US budget deficits or new financial engineering to meet the demand.

Lots to react to here, so let me focus on three things. First, the biggest saver in East Asia post 1997 is China. China's savings were precautionary rather than a direct response to IMF austerity.

Second, Italy isn't China. And neither are Greece, Spain, Portugal, and Ireland. By which I mean that China is an authoritarian state that intervenes directly to extract resources without being constrained by broadly inclusive political institutions. Italy is a parliamentary democracy with a multi-party system. It has struggled with fiscal policy since the late 1960s, largely because of its multi-party parliamentary system. Ditto for Greece, Portugal, and Spain though obviously the timing is a bit different. Hence, no switch that the Italians (or the others) can turn on to become a high savings society.

Finally, it is precisely because there is no switch that would transform Club Med into high savings societies that current sovereign debt problems were anticipated twenty years ago (see convergence criteria) and pose severe challenges to the viability of the EU as a monetary union.

So, although Yglesias point is correct in theory, the likelihood that this problem arises in practice, assuming revolutionary movements overthrow current democratic regimes in southern Europe, is rather limited because democracies are rather different than autocracies.

Global Political Economy QOTD



Whatever else [austerity] does, it should certainly succeed in persuading European governments that stockpiling foreign exchange isn’t just for Asians anymore. If the world succeeds in coming out through the other side of this crisis, you should expect to see even more countries joining the perpetual surplus brigades leading to even more demand for safe dollar denominated financial assets. That, in turn, means either big U.S. budget deficits or else some bold new innovations in financial engineering to meet the demand.
The rest of the post is well worth reading. I'm not sure this is the right way to think about the next 10 years, but it's certainly one way to do it. And it's a scary way to do it, since we don't seem to be good at channeling the global savings glut into productive uses.

Sunday, November 13, 2011

Eurozone Crisis FOTD

. Sunday, November 13, 2011

Will Slovenia be the first eurozone country to default? It's in big trouble, as Slovenian economist Luka Gubo writes to Mish:

1. Slovenian debt to GDP ratio has doubled since 2009 (one of highest growing on the planet) 
2. Our banking system is on the brink of collapse. Biggest bank (Nova Ljubljanska Banka - NLB) is owned by the government and almost all the money it has lent is sub-prime (much worse than in US up to 2007/08) or it was lent politically to chosen people who now can't pay the debt back. NLB has 15% bad loans (payments being late more than 90-day) and the number is getting higher. 
3. Our housing market is frozen. Prices are not falling because no one is buying or selling. Most of the construction companies are bankrupt and they owe lots of money to banks. (percentage of loans that payments are late in construction sector is mind boggling 25%! - and is even growing!) 
4. Government has recapitalized NLB with 250 million €. It will probably do it again with 400 million. I have calculated that if the bank was for sale it would be sold for no more than 400 million €! So taxpayers have already 250M and will pay another 400M for what? For saving some banker's ass because of his bad decisions? (And they call the bank "Slovenian silver"!) 
5. There is no interest in Slovenia to leave EU. Moreover, it may be better for incompetent bureaucrats from EU to run the monetary system because things would be much worse if run by incompetent Slovenian bureaucrats.  
6. Slovenian banks will need to borrow at least 5 billion € in 2012 and get about 1 billion € of fresh capital. Do you know someone who will give them the money? I truly hope it will not be the taxpayer.
7. When the banks start selling real estate, the market will collapse 20-30% in a year or two. That will further deteriorate bank balance sheets and the problems will be much worse. 
8. Our labor market is totally inflexible and unemployment rate is getting higher (currently at 11.5%). 
So if someone says to you that Slovenia is healthy just tell him the facts. Slovenia is not healthy. It has a brain-tumor that is getting worse.

Friday, November 11, 2011

Keep It Simple

. Friday, November 11, 2011

Hey! Megan McArdle! Maybe the OECD governments that negotiated the Basel accords assigned a zero risk-weight for OECD sovereign debt because they wanted to incentive banks to buy their debt at low interest rates. And maybe banks complied because they assumed that they'd get bailed out by somebody if those bets ever went bad.

It wasn't about mistakes made while "risk engineering". It was simple political economy.

Moral Hazard FOTD


Banks that took bailout money acted more riskily.

Ran Duchin and Denis Sosyura of the University of Michigan looked at the U.S.’ Capital Purchase Program. ... 
Duchin and Sosyua looked at a sample of 529 public firms that were eligible for CPP and slotted them into categories based on whether they applied, whether they were approved and whether they ultimately took the money. They controlled for non-random selection (via measures of the banks’ financial condition, performance, size and crisis exposure); for changes in national and regional economic conditions; and finally for potential distinctions in credit demand. 
They then viewed the banks’ CPP participation status in comparison with their subsequent risk appetite as demonstrated by (1) their consumer mortgage credit approvals or denials (viewed on a risk-profile controlled, application-by-application basis); (2) their participation in syndicated corporate loans for riskier credits and; (3) the risk profile of their investment asset portfolios. What did they find? ... 
Moving from this granular level to a bank-wide basis, the authors found that the CPP banks increased asset risk (using ROA & earnings volatility as proxies) while decreasing their leverage (perhaps because they knew that regulators would be keeping an eye on this metric in addition to the capitalization ratio.)
Here's the paper. This part of the abstract is very important:
Our difference-in-difference analysis indicates that after the bailout, bailed banks approve riskier loans and shift investment portfolios toward riskier securities. However, this shift in risk occurs mostly within the same asset class and, therefore, has little effect on the closely-monitored capitalization levels. Consequently, bailed banks appear safer according to the capitalization requirements, but show a significant increase in market-based measures of risk. Overall, our evidence suggests that banks’ response to capital requirements may erode their efficacy in risk regulation.
So of course global -- and many domestic -- regulations focus on capital and leverage ratios.

Thursday, November 10, 2011

Lira Lessons from Argentina

. Thursday, November 10, 2011

The Economist's 'J.O.' on what it would mean to leave the euro:

Creating a new currency is not that difficult. A determined country could simply pass a law saying that all financial dealings should henceforth be conducted in the new lira (or drachma, or escudo, or whatever). Colleagues who have covered Argentina tell of how, in August 2001, the province of Buenos Aires issued $90m of IOUs to employees as part of their pay packets. These bills, known as patacones, were soon widely accepted in exchange for goods and services. McDonalds even offered a special “Patacombo” menu in exchange for a $5 denomination IOU. Argentina broke its "irrevocable" currency peg to the US dollar a few months later.
That's not how I read the history. How I read the history is that McDonalds was one of the only companies that would take patacones, and even then only if you had exact change. Other companies hoarded pesos (or USD) and moved them out of the country if they were able. Withdrawals of pesos from banks was strictly limited under corralito so patacones had some use, but there was a general shortage of goods and services in the economy so no currencies (besides the USD) could truly be said to be "widely accepted". As I read the history, the workers who suddenly found themselves paid in patacones surrounded government buildings in Buenos Aires in protest and demanded they be paid in pesos. The use of patacones, while perhaps the only option for a provincial government that couldn't pay its debts any other way, was a disaster and the currency was only in substantial use for a short time.

It's possible I've got my history wrong, and J.O. certainly is not arguing that issuing a new currency is painless. But I don't think it's quite as simple as (s)he says.

Wednesday, November 9, 2011

We Are Not in the 1930s

. Wednesday, November 9, 2011

It's easy to draw parallels between these days and the 1930s, especially for an IPE scholar. Drezner does it here, I've done it before, and so has practically anybody with any sense of the international or temporal dimensions of political economy. Here's DeLong:

I have been complaining for some time now that Reinhart and Rogoff think that the time is always 1931 and that we are always Austria--that the great fiscal crisis is about to erupt and send us lurching down toward Great Depression II. Well, right now guess what? The time is 1931, and we are Austria. The Federal Reserve needs to buy up every single European bond owned by every single American financial institution for cash before the increase in eurorisk leads American finance to tighten credit again and send us down into the double dip. The Federal Reserve Needs to do so now.

Is this 1931? Here's a partial list of similarities: an system of prosperous globalization is threatening to unravel as Europe's fixed exchange rate regime crumbles; macroeconomic imbalances presage a significant financial crisis; European governments respond to large fiscal burdens by attempting to devalue internally through austerity rather than devaluing externally through the exchange rate; movements towards trade protectionism and beggar-thy-neighbor policies (outside of Europe); etc.

But I don't think we're in the 1930s. I think the world is different now than it was then in a number of important ways, and that leaves me more optimistic than I otherwise might be.

First, I think the international economic system has been transformed from the way it was during the interwar period in a number of key areas. Unlike then, international politics is now highly institutionalized. We have a series of durable trade relationships that have been legally formalized, but which provide flexibility for national governments to address pressing short-run concerns. We have a credible international organization that monitors trade and provides a mechanism for dispute adjudication. Europe has a common trade market that is likely to remain even if the monetary union dissolves. A collapse in world trade -- and thus global output -- equivalent to that in the 1930s thus seems highly unlikely.

Perhaps more importantly, the present international monetary system is not dedicated to the orthodoxy of currency values fixed to a specific quantity of a sparkly metal. This has allowed central banks, especially the central bank of the global reserve currency, to inject liquidity into the global financial system at key points over the past few years. Even the ECB, which has rightly come under criticism for not doing enough to manage the crisis despite having no legal authority to take the necessary measures, has pursued a far more expansionary policy than it would if it were trying to maintain a gold standard. Indeed it has almost certainly already acted beyond the parameters set out for it under the Lisbon Treaty. In at least some key respects, the US Fed has followed Kindleberger's advice and acted as the World's Central Bank, a role left unfulfilled in the 1930s. While the monetary authorities may not have been expansionary enough, they have done much more than anyone did during the 1930s.

Countries within the eurozone, while not bound by "Golden Fetters", are certainly bound by Euro Shackles. This load is may be too great to bear for some, but there is little doubt that at the regional level this yoke is easier and the burden lighter than the gold standard restraint of the 1930s.

There are other reasons to expect better results than the 1930s. Unlike then, Europe is not the central pivot point in the global economy. Major exporters such as China are not financially exposed to Europe, and have stockpiled foreign exchange reserves sufficiently large to keep their economy moving forward, even if the pace slows somewhat. Even the US is not exposed to European financial markets in sufficiently large way likely to be exceptionally destabilizing, especially when compared to Europe's exposure to the US in 2008 or the US's exposure to Europe in the 1930s. While contagion is a real concern, it's not much of a concern in a European crisis as it was during the US crisis. If you don't live in Europe, that is.

Finally, unlike the 1930s, nearly all of the world's major economies are consolidated democracies. While this can place some unfortunate, even tragic, constraints on short-term policymaking, in the medium run geopolitical and economic stability is likely to benefit from democratic solidarity. Factor in close security ties and the sort of security dilemmas (including economic security dilemmas) that were operating in the 1930s just don't seem to apply today.

None of which is meant to imply that the current troubles are not serious. I remain concerned that the coordinating institutions that now exist do not have sufficient authority to operate effectively. The biggest problem in Europe over the past two years has not been macroeconomic fundamentals, or a currency zone that is not optimal, or even a central bank -- solely concerned with price stability -- that fiddles while Rome burns. The biggest problem is the deficit in governance by which the Euro-level coordinating institutions cannot act without unanimous approval of member states, many of which have preferences that are diametrically opposed. At the global level the problem is both better and worse. Better because the shackles are much looser than in Europe; worse because the coordinating mechanisms are weaker than in Europe. The only game in Governance Town seems to be the G-20, which has been... underwhelming in their policy responses since 2008. The IMF seems to be caught in limbo over the euro-crisis. But in the 1930s there wasn't even a G-20. There wasn't an IMF. There wasn't a central bank at the center of the monetary system willing to take the globally-minded actions that the Fed has taken. There wasn't a US Treasury Security like Geithner who, for all his faults, can never be accused of underestimating the downside risk of financial contagion.

It's difficult to draw perfect parallels to the current situation in Europe. But if I had to pick one, it would be closer to Latin America in the 1980-1990s than Europe in the 1930s. I expect the harshest effects to remain at the regional level. The US, Japan, China, Brazil, India, and other major economies will be affected, but not severely.

The next few years, like the last few years, will be a test of the resiliency of the global economic and political architecture. So far we've done fairly well all things considered. Hopefully that will continue.  

Handicapping the Eurozone


Intrade has a break-up prior to Dec 31, 2011 at 7.4%. A break-up prior to Dec 31, 2012? 52.5%

Global Imbalances FOTD


By “Northern European,” I mean the 6 countries on the list above that lie between Switzerland and Norway. They have a $455 billion [current account] surplus, as compared to China’s $303 billion.
More here.

Tuesday, November 8, 2011

New Research

. Tuesday, November 8, 2011

Are these results surprising? Not to me. And given the high barriers to entry for bargaining, we should expect to see regulations benefit large firms with a history of lobbying activity.

The Dynamics of Firm Lobbying
William R. Kerr, William F. Lincoln, Prachi Mishra 
NBER Working Paper No. 17577 
We study the determinants of the dynamics of firm lobbying behavior using a panel data set covering 1998-2006. Our data exhibit three striking facts: (i) few firms lobby, (ii) lobbying status is strongly associated with firm size, and (iii) lobbying status is highly persistent over time. Estimating a model of a firm's decision to engage in lobbying, we find significant evidence that up-front costs associated with entering the political process help explain all three facts. We then exploit a natural experiment in the expiration in legislation surrounding the H-1B visa cap for high-skilled immigrant workers to study how these costs affect firms' responses to policy changes. We find that companies primarily adjusted on the intensive margin: the firms that began to lobby for immigration were those who were sensitive to H-1B policy changes and who were already advocating for other issues, rather than firms that became involved in lobbying anew. For a firm already lobbying, the response is determined by the importance of the issue to the firm's business rather than the scale of the firm's prior lobbying efforts. These results support the existence of significant barriers to entry in the lobbying process.
This next one seems very inventive, in a "create your own science" kind of way. Has anyone else done anything like it?
Testing the Global Financial Transparency Regime
J. C. Sharman 
International Studies Quarterly Vol. 55 No. 4 
How can we tell whether rules that apply in theory actually do so in practice? Realists argue that the gap between what formal rules proscribe and their effectiveness may be particularly wide at the international level. Furthermore, dominant states may impose costly standards on others that they themselves choose not to implement. To test these propositions, the article assesses the effectiveness of international soft law standards prohibiting anonymous participation in the global financial system by seeking to break these standards. The findings indicate that the prohibition on anonymous corporations is relatively ineffective and is flouted much more in G7 countries than in tax havens. The article contributes to and extends the work of realist scholars in international political economy, both in their skepticism of formal rules and focus on the effects of power. Evidence is drawn from the author’s solicitations and purchases of anonymous shell companies from 45 corporate service providers in 22 countries.

The IPE work on exchange rate regimes continues to improve.
Fear of Floating and de Facto Exchange Rate Pegs with Multiple Key Currencies Thomas Pl├╝mper and Eric Neumayer 
International Studies Quarterly Vol. 55 No. 4

This paper adopts and develops the “fear of floating” theory to explain the decision to implement a de facto peg, the choice of anchor currency among multiple key currencies, and the role of central bank independence for these choices. We argue that since exchange rate depreciations are passed-through into higher prices of imported goods, avoiding the import of inflation provides an important motive to de facto peg the exchange rate in import-dependent countries. This study shows that the choice of anchor currency is determined by the degree of dependence of the potentially pegging country on imports from the key currency country and on imports from the key currency area, consisting of all countries which have already pegged to this key currency. The fear of floating approach also predicts that countries with more independent central banks are more likely to de facto peg their exchange rate since independent central banks are more averse to inflation than governments and can de facto peg a country’s exchange rate independently of the government.
And, lastly, an extension of Kydd's 2003 by UNC's Mark Crescenzi and co-authors:
A Supply Side Theory of Mediation
Mark J.C. Crescenzi, Kelly M. Kadera, Sara McLaughlin Mitchell, and Clayton L. Thyne 
International Studies Quarterly Vol. 55 No. 4 
We develop and test a theory of the supply side of third-party conflict management. Building on Kydd’s (2003) model of mediation, which shows that bias enhances mediator credibility, we offer three complementary mechanisms that may enable mediator credibility. First, democratic mediators face costs for deception in the conflict management process. Second, a vibrant global democratic community supports the norms of unbiased and nonviolent conflict management, again increasing the costs of deception for potential mediators. Third, as disputants’ ties to international organizations increase, the mediator’s costs for dishonesty in the conflict management process rise because these institutions provide more frequent and accurate information about the disputants’ capabilities and resolve. These factors, along with sources of bias, increase the availability of credible mediators and their efforts to manage interstate conflicts. Empirical analyses of data on contentious issues from 1816 to 2001 lend mixed support for our arguments. Third-party conflict management occurs more frequently and is more successful if a potential mediator is a democracy, as the average global democracy level increases, and as the disputants’ number of shared International Organization (IO) memberships rises. We also find that powerful states serve as mediators more often and are typically successful. Other factors such as trade ties, alliances, issue salience, and distance influence decisions to mediate and mediation success. Taken together, our study provides evidence in support of Kydd’s bias argument while offering several mechanisms for unbiased mediators to become credible and successful mediators.

International Political Economy at the University of North Carolina: 2011




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