Author: Simon Johnson

Who’s In Charge Here? Not The G20

By Simon Johnson

Most accounts of the ministerial meeting last weekend of the Group of 20 — 19 nations plus the European Union that represent the world’s wealthiest economies —implied that it continued to perform sterling service – heading off currency wars, keeping explicit protectionism under control and deftly managing the process of reforming governance at the International Monetary Fund.

Post-financial crisis, middle-income countries continue to rise in economic importance, and the recent shift in global leadership from the Group of 7 (the United States, Canada, Britain, Italy, France, Germany and Japan) to the G-20 is commonly supposed to accommodate the growing claims of “emerging markets” on the world stage.

This interpretation is correct as far as it goes, but it also misses the main story, which is that emerging markets have two primary goals that are increasingly at odds with each other. These goals – to hold large stocks of American dollars and to stave off a flow of capital from abroad – add up to wanting to retain the emerging markets’ recently achieved status of collective net creditors (i.e., being owed more than they owe). Unfortunately, this contributes to the serious vulnerability of the world economy as we head into the next credit cycle. Continue reading “Who’s In Charge Here? Not The G20” →

An Early Stress Test For The Financial Stability Oversight Council

By Simon Johnson

How much damage to the financial system should we expect from what is now commonly called the foreclosure morass, the still-developing scandal involving document robo-signing (and robo-dockets), completely messed up mortgage paperwork and high-profile inquiries into accusations of systematic and deliberate misbehavior by banks?

The damage to banks’ reputation is immeasurable. They have undermined property rights – the ability to establish clear title is a founding idea of the American republic. They have mistreated customers in a completely unacceptable manner. If anyone doubted the need for a new consumer protection agency dealing with financial products – and the importance of having a clear-thinking reformer like Elizabeth Warren at its head – they are presumably silenced by recent events. (If you need to get up to speed on the basics of this issue, see this series of posts by Mike Konczal.)

But what is the cost in terms of additional likely losses to big banks? The likely size and nature of these are leading to exactly the kind of systemic risks that the Financial Stability Oversight Council was recently established to anticipate and deal with. Continue reading “An Early Stress Test For The Financial Stability Oversight Council” →

There Are No Fiscal Conservatives In The United States

By Simon Johnson

In most industrialized countries, attention now shifts to some form of “fiscal austerity” – meaning the need to bring budget deficits under control.  In the UK, for example, there is an active debate between those on the right of the political spectrum (who want more cuts sooner) and those to the left (who would rather delay cuts as much as possible).  There is a similar discussion across the European continent – although the precise terms of the debate depend on exactly which party was most profligate during the long boom of the 2000s.

The United States stands out as quite different.  No one is yet seriously proposing to address our underlying budget issues.  There are certainly people who claim to be “fiscal conservatives” – some of the right and some on the left – but none can yet be taken seriously.  The implications are very bad for our fiscal future. Continue reading “There Are No Fiscal Conservatives In The United States” →

Will The Volcker Rule Really Be Enforced?

By Simon Johnson

The Financial Stability Oversight Council has put out a request for comments on the Volcker Rule – if you write to them soon, they may actually listen.

One big issue is whether there will be high frequency monitoring of trades by big banks – potentially enabling regulators to know if the “no proprietary trading” rule is being violated. The default approach is probably to have a hands-off, light touch – pretty much continuing our recent and not-so-distinguished traditions with regard to supervising banks.

I go through the issues in more detail – including who seems to be on what side within the government – in a Bloomberg column that appeared this evening.

Thoughts On The Macroeconomic Impact of Goldman Sachs

By Peter Boone and Simon Johnson

The influential Goldman Sachs economist Jan Hatzius has a new research note out (with Sven Jari Stehn), “Thoughts on the Macroeconomic Impact of Basel III,” arguing that the move to raise capital standards for banks will put a serious crimp in growth in the United States – knocking 1.5 to 2 percent off gross domestic product in the next few years. Their findings are questionable, but in any case we should broaden the discussion to consider exactly how banks like Goldman Sachs affect our macroeconomic dynamics going forward – particularly if they are able to effectively lobby against higher capital. Growth based on risky banking has a tendency to prove illusory.

There are three issues. First, what is the short-term impact of raising capital requirements? Second, how should capital be increased? And third, and perhaps most important, do we really need global banks like Goldman Sachs to operate in their recent “high risk – highly variable returns” mode?

In their note, which is not in the public domain, Mr. Hatzius and Mr. Stehn are willing to acknowledge that raising capital standards can help make banks safer and that this is good for sustained growth over a sufficiently long period of time (think a decade or more), as the Bank for International Settlements suggests. But they make the case that raising capital – at least in the form that this is likely to take place – can slow growth over the next several years. Continue reading “Thoughts On The Macroeconomic Impact of Goldman Sachs” →

Why China Is Unwilling to Revalue the Yuan

The following guest post was contributed by Ian Lamont, an MIT Sloan Fellow. He was previously the managing editor of the Industry Standard, and has also researched China’s state-run media and communications policies.

For years, China has been subject to enormous external pressure to increase the value of its currency, or let it float on the open market. While doing so might relieve pressure on foreign economies by boosting their exports and reducing trade deficits, it runs counter to Beijing’s domestic priorities, which involve doing everything it can to preserve economic growth and domestic stability, and by extension, its hold on political power.

All countries exploit the dynamics between their political and economic systems. But China’s situation is exceptional. For three decades, the government of the People’s Republic of China has perpetuated a grand political dream, claiming a single-party political mandate from the Communist ideals espoused by Mao Zedong, while simultaneously drawing power from the capitalist canon. Beijing has been able to pull it off, largely through the promise of spreading wealth and opportunities to even the poorest of villages and maintaining benefits for cadres and workers in state-owned enterprises which cannot easily be absorbed into the capitalist system. A high rate of GDP growth is required year after year to maintain this state of affairs.

A sudden change in the value of the Yuan could have the effect of throwing a wrench into the works, potentially setting off a chain reaction of factory closures and layoffs across the interconnected networks that drive China’s export-oriented economy. In the short term, China might be able manipulate legislation, the banking sector, and welfare levers to prop up key industries or regions. But in the long term, it is uncertain if these steps would be enough to preserve social stability or continued loyalty to the Communist Party.  Continue reading “Why China Is Unwilling to Revalue the Yuan” →

TARP Is Gone – But May Soon Be Back

The Troubled Asset Relief Program, or TARP, is over – more specifically, its legal authority expires on Sunday, so it cannot be used for new “bailout” activities (although legacy programs, with money already disbursed, could last 5 to 10 years.)

The first draft of its history, looking back over the past two years, may be this: TARP was an essential piece of a necessary evil – that is, it saved the American financial system from collapse — but it was implemented in a way that was excessively favorable to the very bankers who had presided over the collapse. And this sets up exactly the wrong incentives as we head into the next credit cycle. Continue reading “TARP Is Gone – But May Soon Be Back” →

After The Recession: What Next For the Fed?

By Simon Johnson

The Federal Reserve was created in 1913 to help limit the impact of financial panics. It took a while for the Fed to achieve that goal, but after World War II – with a great deal of help from other parts of the federal government – the Fed hit its stride. Today the Fed has not only lost that touch but, given the way our political and financial system currently operates, its own policies exacerbate the cycle of overexuberance and incautious lending that will bring on the next major crisis (and presumably another severe recession).

Sudden loss of confidence in the financial system was not uncommon toward the end of the 19th century, and while the private sector was able to stave off complete disaster largely by itself, the tide turned in 1907. In that instance J.P. Morgan could stand firm only because, behind the scenes, his team received a large loan from the United States Treasury (on this formative episode, see The Panic of 1907: Lessons Learned From the Market’s Perfect Storm by Robert F. Bruner and Sean D. Carr). Leaders of the banking system realized they needed help moving forward, and there was general agreement that the widespread collapse of financial intermediaries was not in the broader social interest. The question of the day naturally became: How much government oversight would bankers have to accept in return for the creation of a modern central bank? Continue reading “After The Recession: What Next For the Fed?” →

Elizabeth Warren: The Right Appointment At The Right Time

By Simon Johnson

The case for appointing Elizabeth Warren to set up the new Consumer Financial Protection Bureau (CFPB) was, at the end of the day, overwhelming.  She had the original idea, she helped build political support, and her own credentials have been only strengthened by her work as head of the Congressional Oversight Panel for TARP.  On Friday, the president will reportedly appoint Professor Warren as an assistant to the president and special adviser to the Treasury Secretary, with the task of setting up and initially running the CFPB.

Some of Ms. Warren’s supporters think this move is something of a half-measure – they would have preferred a conventional nomination, with all the fanfare of a classic confirmation battle in the Senate.  There is something to be said for that, but the interim appointment route is by far the best way forward for three reasons. Continue reading “Elizabeth Warren: The Right Appointment At The Right Time” →

Basel III: The Fatal Flaw

By Simon Johnson

The international discussion among government officials regarding bank reform is, at an informal level, going better than you might think.  Top people in the “official sector” are increasingly willing to confront the banking lobby and even refute its more egregious claims, particularly the completely erroneous notion that making banks safer – by requiring them to hold more capital – would actually hurt the broader economy and undermine growth.

Unfortunately, the structured intergovernmental process that actually changes the rules around banks – known as Basel III (or “Basel 3”) – was rushed to an unsatisfactory conclusion last weekend.  The US and other countries with major financial centers will need to add substantial additional capital requirements at national levels if these new rules are to be at all effective. Continue reading “Basel III: The Fatal Flaw” →

Brady Bonds For The Eurozone, Starting With Ireland

By Peter Boone and Simon Johnson. This post comprises the opening paragraphs of a longer article available for free and without advertizing at Project Syndicate.

Today’s conventional view of the eurozone is that the crisis is over – the intense, often existential concern earlier this year about the common currency’s future has been assuaged, and everything now is back under control.

This is completely at odds with the facts. European bond markets are again delivering a chilling message to global policymakers. With bonds of “peripheral” eurozone nations continuing to fall in value, the risk of Irish, Greek, and Portuguese sovereign defaults is higher than ever.

This comes despite the combined bailout package that the European Union, International Monetary Fund, and European Central Bank created for Greece in May, and despite the ECB’s continuing program of buying peripheral EU countries’ bonds. Heading into its annual meetings in a few weeks (followed by the G-20 summit in Seoul in November), the IMF is bowing to pressure to drop ever-larger sums into the EU with ever-fewer conditions.

Indeed, official rhetoric has turned once again to trying to persuade markets to ignore reality. Patrick Honohan, the governor of Ireland’s central bank, has labeled the interest rates on Irish government bonds “ridiculous” (meaning ridiculously high), and IMF researchers argue that default in Ireland and Greece is “unnecessary, undesirable, and unlikely.”

…..

Read the rest of this article, with links to sources, at Project Syndicate: click here (or just use this address: http://www.project-syndicate.org/commentary/johnson12/English).  It’s free and no advertizing is involved; more about Project Syndicate here.

Republican Nightmare: Putting Elizabeth Warren to Work Now

By Simon Johnson

President Obama is finally looking for bold, creative, and clever ways to change the way the US economy operates – preferably with measures that will take effect by the November midterms and change the tone of the broader political debate.  His tax proposals this week have some symbolic value, but in the broader sense all of these fiscal suggestions are tinkering at the margins.

What could he possibly do that would grab people’s attention, mobilize his political base, and put his opponents on the defensive?  There is an easy answer: Appoint Elizabeth Warren to start running the Consumer Financial Protection Bureau (CFPB) immediately.

And the brilliant part of this idea – as explained by Shahien Nasiripour at the Huffington Post (see also David Dayen’s Thursday coverage)– is that the Dodd-Frank financial reform legislation allows the person charged with setting up this new agency to be an outright appointment, rather than a nomination subject to Senate confirmation. Continue reading “Republican Nightmare: Putting Elizabeth Warren to Work Now” →

What Is President Obama’s Fiscal Message?

By Simon Johnson

President Obama is finally attempting to cut through some of the disinformation and confusion that surrounds US fiscal policy in general and taxes in particular.  His suggestion this week is: let’s (effectively) raise taxes on relatively high income people – by letting the Bush tax cuts expire for those people – while introducing temporary tax breaks that will more directly stimulate business investment and presumably hiring. 

Any way you cut it, the numbers involved are not big enough to impact unemployment significantly by November, but these ideas – and the Republican rival suggestions currently on the table – are more about symbols, messages, and midterm votes than about accelerating the economic recovery.  Seen in those terms, the president is still missing a key argument in both economic and political terms. Continue reading “What Is President Obama’s Fiscal Message?” →