Author: Simon Johnson

The Two-Track Economy

The quick way to talk about how any economy is doing is in terms of “growth”. This is just what it sounds – a measure of how much the total value of production in a country has increased in the last month, quarter, or year.

Thinking in terms of total production – more precisely, this is usually Gross Domestic Product, GDP – never tells you everything that you want to know, but it usually gives you a sense of the near term dynamics: are business prospects expanding or contracting; is unemployment going to rise further; and will people’s wages outpace or fall behind inflation?

Seen in these terms, the balance of opinion on the near term outlook for the U.S. today has definitely shifted towards being more positive. A number of prominent analysts have revised upwards their growth expectation for the second half of this year considerably – for example, the ever influential Goldman Sachs was recently expecting 1 percent growth (annualized), now they guess it will be closer to 3 percent.

“Potential” growth in the U.S. is generally considered to be between 2 and 3 percent per annum – this is how fast the economy can usually grow without causing inflation to increase. So the Goldman swing in opinion is equivalent to switching from saying the second half of this year will be “miserable” to saying there will be a fairly strong recovery.

But at this stage in our economic boom-bust cycle, is it still helpful to think in terms of one aggregate measure of output? Or are we seeing the emergence of a two-track economy: one bouncing back in a relatively healthy fashion, and the other really struggling? Continue reading “The Two-Track Economy” →

Has Anyone Taken Responsibility For Anything? (Weekend Comment Competition)

With the anniversary of the Lehman-AIG-rest of the world debacle fast approaching, it seems fair to ask: Who accepts any blame for creating our excessively crisis-prone system?

Friends and contacts who work in the financial sector freely discuss their participation in activities they now regret. But where is the mea culpa, of any kind, from a public figure – our “leadership”?

I suggest we divide the competition into three classes.

Policymakers who now admit that any of their actions or inactions contributed to the Great Credit Bubble. Blaming China gets a person negative points; this may hurt Fed officials.
Private sector executives who concede they made mistakes or misjudged the situation so as to lose a lot of Other People’s Money. Blaming Hank Paulson also earns negative points (too obvious). Continue reading “Has Anyone Taken Responsibility For Anything? (Weekend Comment Competition)” →

Waiting For The Federal Reserve’s Next Apology

In November 2002, Ben Bernanke apologized – for the Fed’s role in causing the Great Depression of the 1930s. “I would like to say to Milton [Friedman] and Anna [Schwartz]: Regarding the Great Depression. You’re right, we did it. We’re very sorry. But thanks to you, we won’t do it again” (conclusion of this speech).

Bernanke’s point, of course, is that the Fed tightened monetary policy inappropriately – and allowed banks to fail – in 1929-33. And much has been made of his strong focus, over the past year, on avoiding a repeat of those or closely related mistakes (including here).

But today we need a different kind of apology, or at least a statement of responsibility, from Ben Bernanke and the Fed. Continue reading “Waiting For The Federal Reserve’s Next Apology” →

Can the Federal Reserve Protect Consumers?

Ben Bernanke, chairman of the Federal Reserve, insists that the Fed can protect consumers effectively against defective or dangerous financial products. He and his allies are therefore signaling opposition to – and even defiance of – key parts of the Treasury’s plan for regulatory reform, which involve setting up a new Consumer Financial Protection Agency.

The Fed is a well-regarded institution in general and Bernanke is currently riding a wave of personal popularity and prestige, but are these claims vis-à-vis consumers plausible?

Not really. Continue reading “Can the Federal Reserve Protect Consumers?” →

Richard Parsons’s Portfolio

According to Bloomberg, Richard Parsons – the chair of Citigroup since February – now owns stock in the company worth, at yesterday’s close, about $350,000 (96,298 shares at $3.69). For such a well-established and highly remunerated corporate executive, we can reasonably refer to such an amount as “chump change.” In May, Forbes estimated Mr. Parsons’ net worth as a little under $100m.

I have no particular complaint about Mr. Parsons; he is an experienced banker, with the very best political connections. But I would point out that while Wall Street likes to talk big about people having “skin in the game,” when it comes to putting their personal net worth on the line, many finance executives prefer a different kind of arrangement. Specifically, they are attracted to compensation structures in which they have a lot of upside but very little downside.

If you had such a deal, how would this affect your relative interest in risk-taking and careful supervision of subordinates? Continue reading “Richard Parsons’s Portfolio” →

China Rising, Rent-Seeking Version

The usual concern about the US-China balance of economic and political power is couched in terms of our relative international payments positions. We’ve run a large current account deficit in recent years (imports above exports); they still have – by some measures – the largest current account surplus (exports above imports) even seen in a major country. They accumulate foreign assets, i.e., claims on other countries, such as the US. We issue a great deal of debt that is bought by foreigners, including China.

There are some legitimate concerns in this framing of the problem – no country can increase its net foreign debt (relative to GDP) indefinitely without facing consequences. And the Obama administration, ever since the Geithner-Clinton flipflop on China’s exchange rate policy early in 2009, seems quite captivated by this way of thinking: Will they buy our debt? Can we control our budget deficit? What happens if China dumps its dollars?.

The reason real to worry about China, however, has very little to do with external balances, China’s dollar holdings, or even capital flows. It’s about productivity and rent-seeking. Continue reading “China Rising, Rent-Seeking Version” →

Credit Conditions In The Absence Of Consumer Protection

Even some of our most sophisticated commentators doubt a link between consumer protection and any macroeconomic outcomes. Consumer protection, in this view, is microeconomics and quite different from macroeconomic issues (such as the speed and nature of our economic recovery).

Officially measured interest rates are down from their height in the Great Panic of 2008-09 and the financial markets, broadly defined, continue to stabilize. But are retail credit conditions, i.e., the terms on which you can borrow, getting easier or tougher?

On credit cards, there’s no question: it’s getting more expensive to borrow, particularly because new fees and charge are appearing. Of course, lenders have the right to alter the terms on which they provide credit. We could just note that this tightening of credit does not help the recovery and flies in the face of everything the Fed is trying to do – although it fits with Treasury’s broader strategy of allowing banks to recapitalize themselves at the expense of customers.

But there is an additional question: will these changes in lending conditions be reflected in the disclosed Annual Percentage Rate (APR)? Historically, the rules around the APR – overseen by the Federal Reserve – have not forced lenders to include all charges in this calculation. Why is this OK? Continue reading “Credit Conditions In The Absence Of Consumer Protection” →

How To Blow A Bubble

Matt Taibbi has rightly directed our attention towards the talent, organization, and power that together produce damaging (for us) yet profitable (for a few) bubbles. Most of Taibbi’s best points are about market microstructure – not the technological variety usually studied in mainstream finance, but more the politics of how you construct a multi-billion dollar opportunity so that you can get in, pull others after you, and then get out before it all collapses. (This is also, by the way, how things work in Pakistan.)

In addition, of course, all good bubble-blowing needs ideology. Someone needs to persuade policymakers and the investing public that we are looking at a change in fundamentals, rather than an unsustainable and dangerous surge in the price of some assets.

It used to be that the Federal Reserve was the bubble-maker-in-chief. In the Big Housing Boom/Bust, Alan Greenspan was ably assisted by Ben Bernanke – culminating in the latter’s argument to cut interest rates to zero in August 2003 and to state that interest rates would be held low for “a considerable period”. (David Wessel’s new book is very good on this period and the Bernanke-Greenspan relationship.)

Now it seems the ideological initiative may be shifting towards Goldman Sachs. Continue reading “How To Blow A Bubble” →

Larry Summers, Economic Recovery, And Ben Bernanke

In a memo to Congress on Tuesday, Larry Summers – the head of the White House National Economic Council – laid out his view of where we are and what is likely to happen next in our economic recovery.

His tone was more upbeat than we’ve heard in recent utterances, although he has been heading in this direction for a while – contrast this April speech with this appearance in July.

What is beginning to turn the economy around? Summers claims great effects from the fiscal stimulus Recovery Act, but much of that money has not yet been spent.

He also puts weight on “an aggressive effort to tackle the foreclosure crisis.” There have been sensible steps in that direction, but so far the effects have been decidedly modest.

The main explanation has to be that the administration prevented the financial system from collapsing. In an economy as large and diverse as that of the United States – with much more government spending than at the time of the Great Depression – as long as the entire provision of credit does not disintegrate, we will recover.

Summers refers to “A Financial Stabilization Plan”, but this is ex post grandiosity. In fact, the government simply demonstrated unflinching support for all big financial firms as currently constituted. We the taxpayer effectively guaranteed all these firms debts, unconditionally. Once the market figured out that the Treasury, Federal Reserve and other officials could pull this off, the panic was over.

But this victory brings also real danger. Continue reading “Larry Summers, Economic Recovery, And Ben Bernanke” →

John Dugan: Consumer Advocate Or Bank Defender?

In a quote potentially for the ages, John C. Dugan, Comptroller of the Currency since 2005, told the Senate Banking Committee yesterday, enforcement of consumer protection laws “should stay with the bank regulators, where it works well.”

This is a bold statement. Does Mr. Dugan have any evidence to support the idea that consumer protection vis-à-vis financial products currently works well? A close reading of his written testimony to the Senate Banking committee reveals none.

In fact, his whole testimony sounds like it comes from a parallel universe – one that did not just experience the biggest banking crisis in world history. Continue reading “John Dugan: Consumer Advocate Or Bank Defender?” →

Why Don’t The Community Banks Get It?

The continuing ability of Big Finance to play our elected representatives, and thus the taxpayer, should surprise no one. This is about organized money against relative diffuse public interests. It’s Mancur Olson’s Logic of Collective Action meets sophisticated media managers with experience in emerging market crises – they know that as long as you can look confident and pump in money, everything turns around and people forget (and then you can re-run the show).

More puzzling is the reluctance of other well-organized interest groups to act against Big Finance. In particular, powerful business groups – like Independent Community Bankers of America – understand very well what happened and the way in which are largest banks were responsible. Yet they refuse to push for regulatory reform, either in broad terms or with regard to consumer protection (e.g., see their policy statements; recent testimony).

Their reasoning is fascinating but completely wrong. Continue reading “Why Don’t The Community Banks Get It?” →

Who Is Too Big To Fail? (Weekend Comment Competition)

In 2004, Brookings published “Too Big To Fail: The Hazards of Bank Bailouts” by Gary Stern and Ron Feldman (paperback edition 2009). There is a great deal of sensible thinking in this book, as well as much that now seems prescient – particularly as they have been presenting and publicly debating these ideas at least since 2000.

Some of it also seems a bit dated, but in an interesting way that tells us a great deal about how far we have come.

On the basis of their qualitative assessment, reading of the regulatory tea leaves, and a deep understanding of the available data, Stern and Feldman construct several lists of banks that may be considered (in 2004) Too Big To Fail. The most interesting names and numbers are in Box 4-1 (scroll to p.39 in this Google Books link) (update: or look at this pdf version), entitled Organizations Potentially Considered Large Complex Banking Organizations.

Here’s this weekend’s competition. Continue reading “Who Is Too Big To Fail? (Weekend Comment Competition)” →

What Is Josef Ackermann’s Point?

Writing in the Financial Times yesterday, Josef Ackermann – CEO of Deutsche Bank – argued that larger banks are not more dangerous to the health of financial system (and thus to taxpayers) than smaller banks. According to him, system danger arises primarily from the degree to which banks are “interconnected”.

Inadvertently, Mr. Ackermann makes a strong case for banking system reform. You can break this down into five parts. Continue reading “What Is Josef Ackermann’s Point?” →

The Case for Capital Controls, Again

If you are in charge of monetary policy in an up-and-coming Asian economy (say India, China, or Korea), you have a problem.

The world’s financial markets have decided that Asia is rebounding more quickly than most other parts of the world, and capital is rushing to get into those countries before asset prices rise too much.

The monetary policy authorities know this and – given what we have all seen over the past few years (or is that two decades?) – they are rightly worried about new “bubbles” of various kinds that can destabilize their financial systems and undermine their economies.

What should these central banks do? If you fear that your economy is growing too fast, and thus inflation is on the rise, responsible central bank mantra dictates that you should raise interest rates. The same mantra was, in the era of Alan Greenspan, less clear on whether interest rates should be increased to forestall unsustainable financial bubbles. With the puncturing of the Great American Bubble, including the fall of Greenspan as an icon, most central bankers are quietly quite willing to tighten monetary policy if they see real estate prices take off like a rocket.

But this is exactly where the problem lies. Continue reading “The Case for Capital Controls, Again” →

Traditional Chicago Economics Under Pressure: Beyond The Thaler-Posner Debate

Richard Posner is against the proposed new Consumer Financial Protection Agency (CFPA). This is, of course, not a surprise. Posner has always been an articulate advocate of the view most often associated with economics at the University of Chicago: market-based outcomes are invariably better than the alternatives, and anything that interferes with consumer choice is a bad idea.

Posner wraps this opposition to the CFPA into an odd attack (near the end of his WSJ op ed) on the personal decision-making abilities of Richard Thaler – a leading economist on consumer choice, misperceptions, and mistakes. (More on Thaler here.)

Thaler, also of the University of Chicago, hit back hard yesterday. He is right that Posner mischaracterizes the CFPA proposal, and points out that his agenda – and that of Cass Sunstein, formerly of Chicago and now a czar in the adminstration – is simply to provide consumers with a framework for better decisions. He implies that Posner defends defective baby cribs and their equivalent.

I would go further. Continue reading “Traditional Chicago Economics Under Pressure: Beyond The Thaler-Posner Debate” →