Author: Simon Johnson

Was It The Hedge Funds? (Diane Rehm Show at 11am)

Hedge funds have been nominated as a prime culprit in the current financial disaster.  European governments, in particular, seem keen to impose greater regulation on hedge funds, including more transparency and compliance requirements.  In fact, this is will be one of the main deliverables they seek at the G20 summit on April 2nd.

I’m not opposed to stronger regulation, and hedge funds have obviously disappointed investors – especially with their illiquidity under pressure.  But are hedge funds really responsible for the depth of the crisis?  They were present at the scene of the crime, in terms of buying and trading what we now call “toxic assets,” but surely their role was minor relative to supposedly “regulated” US and European banks. Continue reading “Was It The Hedge Funds? (Diane Rehm Show at 11am)” →

Defending A Peg: Lessons for the US Banking Authorities

You’ve seen it a thousand times.  A country’s exchange rate used to make sense, but now it is hopelessly overvalued.  And, consequently, your pegged exchange rate now looks like a one way bet.  Every Financial Times subscriber starts to think about how to either get out of your currency or, if they are feeling aggressive, how to more actively speculate that the exchange rate will soon depreciate.

And the beauty of this situation – from a speculator’s point of view – is that the relevant authorities will never move quickly or decisively to the inevitable end point.  Sooner or later, the currency will be devalued and, if the country’s citizens are lucky, sensible economic policies (and perhaps external financial support) will be put in place to support the new exchange rate.  But, for a surprisingly long time, the government will make statements along the lines of, “we will defend our exchange rate,” “we have plenty of reserves,” “we will never devalue,” or – my favorite – “the fundamentals are fine.”

This analogy sprang to mind when I read this morning’s joint statement by Treasury, the FDIC, OCC, OTS, and the Fed. Continue reading “Defending A Peg: Lessons for the US Banking Authorities” →

The Choice: Save Europe Now Or Later?

In major every crisis you have a choice.  You cannot choose between inaction and action, because ultimately you will be forced to act.  You do not really choose between bailout and no bailout, because very soon you find that all the reasonable options involve some sort of bailout for some people (and not for others).  And, try as you might, there is no way to choose to let your neighbors fail completely – because that failure has such awful consequences for their citizens and, in all likelihood, for your banks, that you finally come across with the money.

But you do have a choice on when to come to help your neighbors and your friends, and you can definitely choose the form of this assistance.  if you come in earlier and in a more systematic fashion, the cost for everyone is lower and the chances of a fast recovery are stronger.

The sensible decision might seems obvious from a distance or in retrospect, but it’s this exact choice that the richer and more stable countries in Western Europe are now struggling with. Continue reading “The Choice: Save Europe Now Or Later?” →

Bank Nationalization: A Viewer’s Guide

At the end of last week, Senators Dodd and Schumer signalled that financial elite solidarity has broken; “nationalization” is no longer taboo.  The consensus is dead (check with Barney Frank), crazy ideas abound, and long live what new policy approach?  Here’s five sets of issues to guide your viewing this week as we slip and slide sideways into our future. Continue reading “Bank Nationalization: A Viewer’s Guide” →

From Here To A Lost Decade

Why don’t all recessions seem to teeter on the brink of turning into a “lost decade” as President Obama described, accurately, our current predicament?

In a standard recession, some people (or firms or governments) cut back on their spending.  But others either maintain their spending or actually buy more.  A recession is typically a good time to invest in relationships and buy longer-lasting assets; for example, it’s a good time for private universities (with endowments) to hire faculty, build labs, and acquire the land for new buildings.  Anyone with a long time horizon, deep pockets, and access to cash ordinarily thinks in these terms.

But instead of this kind of countercyclical private sector investment behavior, Drew Faust, the President of Harvard this week sent a downbeat message to her stakeholders, Continue reading “From Here To A Lost Decade” →

Dublin (and Vienna) Calling

If you think credit default swap (CDS) spreads are informative with regard to developing pressure points and issues that policymakers should focus on (or will likely spend hectic weekends dealing with), you should look at the latest CDS spreads for European banks.  The Irish story we have already flagged.  I’m also concerned that developments in East-Central Europe are starting to affect the prospects for West European banks, most notably in Austria. Continue reading “Dublin (and Vienna) Calling” →

President Obama’s Housing Plan

There is an old saying among experienced economic policymakers, “in a major crisis, do not err on the side of being insufficiently bold.”  And we know that President Obama’s economic team are avowed proponents of this approach.

The housing plan unveiled yesterday is impressively comprehensive – I go through some of the details in a post this morning on The New Republic’s Site.  But is it bold enough?  Continue reading “President Obama’s Housing Plan” →

Reprivatization After Paulson

The worst possible way to nationalize would be to assume responsibility for the liabilities of banks, at the same time as not putting in place adequate oversight and failing to ensure that the taxpayer gets any upside.  Even worse, we could install managers with a proven track record of incompetence.  Anyone who proposed such a scheme today – as we collectively kick the tires of plausible alternative approaches – would be dismissed as an ridiculous crank.

Yet it is exactly this kind of nationalization that we – or, more specifically, Hank Paulson – already did. Continue reading “Reprivatization After Paulson” →

Every Consensus Must End

The prevailing consensus on any economic policy is a fascinating beast.  For years it can stay put, seemingly immovable, and even – in some cases – becoming enshrined in legislation or central bank statute.  One day it begins to shake, ever so slightly; under the pressure of events, a wider range of serious opinion develops.  And then, all of a sudden, the consensus breaks and you are running hard to keep up.

We saw this last year with regard to discretionary fiscal policy – fiscal stimulus – in the US.  Eighteen months ago, very few mainstream economists or other policy analysts would have suggested that the US respond to the threat of recession with a large spending increase/tax cut.  The consensus – based on long years of experience and research – was that discretionary fiscal policy generates as many problems as it solves.  To argue against this consensus was to bang your head against a brick wall, while also being regarded as not completely serious.  Continue reading “Every Consensus Must End” →

The G7 Are Asleep At The Wheel. Why?

The global crisis approaches another major twist in its downward spiral.  A key barometer of financial and fiscal pressure – the credit default swap (CDS) spread – has widened sharply for Irish government debt over the past few days; the markets think that the risk of a sovereign default is rising sharply.  Immediate action is needed to forestall a dramatic deterioration of growth prospects across Europe and around the world. Continue reading “The G7 Are Asleep At The Wheel. Why?” →

Bill Moyers Journal Tonight: American Banking Oligarchs

A lot of people seem to be worrying about American bank oligarchs and how to break their political power.  Bill Moyers has obviously been thinking about these issues for a long time, and he invited me to come by yesterday to talk more about how we got into this situation and how we might – if we are very lucky – get out with our economy more or less intact.   Continue reading “Bill Moyers Journal Tonight: American Banking Oligarchs” →

The G7 Needs To Act, This Weekend, On Ireland

Look at the latest Credit Default Swap spreads for European sovereigns (these are the data from yesterday’s close).  As we’ve discussed here before, CDS are not a perfect measure of default probability but they tell you where things are going – and changes within an asset class (like European sovereigns) are often informative.

European CDS have been relatively stable – albeit at dangerously high levels – for the past month or so.  But now Ireland has moved up sharply (the green line in the chart).  We’ve covered Ireland’s problems here before (banking, fiscal and – big time – real estate); type “Ireland” into our Search box for more.

My point today is simple: a key warning sign just moved from orange to red. 

Continue reading “The G7 Needs To Act, This Weekend, On Ireland” →