Institutional Economics: ‘Light Reading It’s Not’

Gruen says the infrastructure spending is justified because it adds to productive capacity.

But this is true only if the benefits from that spending exceed its costs. If they don’t (think national broadband network or pink batts), then the community loses twice: from the waste, as scarce capital is diverted from better uses; and from the distortions caused by the higher taxes needed to cover the projects’ costs.

As a result, far from expanding productive capacity, projects such as these cause it to shrink. This used to be part of Treasury religion; it is startling that there is no mention of it in Gruen’s speech.

posted on 19 December 2009 by skirchner in Economics, Fiscal Policy

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(Not So) Outrageous Predictions for 2010

Saxo Bank has released its outrageous predictions for 2010, which are actually not outrageous at all. But how did they go with their outrageous predictions for 2009? My comments in square brackets.

1) There will be severe social unrest in Iran as lower oil prices mean that the government will not be able to uphold the supply of basic necessities. [IE: yes, but not because of oil, half marks]

2) Crude will trade at $25 as demand slows due to the worst global economic contraction since the great Depression. [IE: WTI bottomed out at $33.22 in mid-January].

3) S&P will hit 500 in 2009 because of falling earnings, vaporizing housing equity and increased cost of funds in the corporate sector. [IE: S&P 500 made lows at the even more ominous sounding level of 666].

4) The EU is likely to crack down on excessive government budget deficits in several member states, and Italy could live up to previous threats and leave the ERM completely. [IE: if only!]

5) The AUDJPY will drop to 40. The decline in the commodities markets will affect the Australian economy. [IE: AUD-JPY actually bottomed in October 2008. Lows for 2009 were 55.55. Australian economy outperformed ROW]

6) EURUSD will fall to 0.95 and then go to 1.30 as European bank balances are under tremendous pressure because of exposure to the faltering Eastern European markets and intra‐European economic tensions. [IE: EUR-USD made lows at 1.2459 and highs at 1.5144 YTD, but half marks for European bank stress].

7) Chinese GDP growth drops to zero. The export driven sectors in the Chinese economy will be hurt significantly by the free‐fall economic activity in the Global Trade and especially of the US. [IE: growth forecast wrong, no marks for stating the obvious implications of global recession already in evidence]

8) Pre‐In’s First Out. Several of the Eastern European currencies currently pegged or semi‐pegged to the EUR will be under increasing pressure due to capital outflows in 2009. [IE: Full marks, although fixed exchange rates spell macro trouble by definition]

9) Reuters/ Jefferies CRB Index to drop to 30% to 150. The Commodity bubble is bursting, with speculative excesses so large they have skewed the demand and supply statistics. [IE: see comments on Australia]

10) 2009 will see the first Asian currencies to be pegged to CNY. Asian economies will increasingly look towards China to find new trade partners and scale down their hitherto US‐centric agenda. [IE: wrong on first part, second part hardly unique to 2009]

So score 2/10 for Saxo in 2009, which is a whole lot better than Nouriel Roubini.

posted on 17 December 2009 by skirchner in Economics, Financial Markets

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3.75 is the New 4.75

So says Deputy Governor Ric Battellino of the RBA’s official cash rate. Battellino’s speech once again highlights the fact that the RBA calibrates changes in the official cash rate to changes in actual borrowing rates. Battellino also notes that:

The margin on variable housing loans is much the same today as it was at the start of the crisis.

All this makes the whole political pantomime of bank-bashing rather pointless. It is also the case that the RBA will probably discount the implications of tighter bank capital regulation for retail borrowing rates in its future setting of the official cash rate. The equilibrium official cash rate may shift even lower as a result.

posted on 16 December 2009 by skirchner in Economics, Financial Markets, Monetary Policy

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Big Government Fails Treasury’s ‘Wellbeing’ Test

I have an op-ed in today’s Australian taking Treasury Secretary Ken Henry to task for resigning Australia to a permanent expansion in the size of government. I argue that the expansion in the size of government since Gough Whitlam fails the criteria set by the Treasury’s ‘wellbeing’ framework for public policy.

Note that the Oz has an unfortunate habit of leaving out quotation marks. There should be quote marks around ‘25 per cent as the maximum tolerable proportion of taxation’. The quote is from a letter Keynes wrote to Colin Clark.

posted on 15 December 2009 by skirchner in Economics, Fiscal Policy

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Crowding-Out in a Small Open Economy (That Would Be Us!)

Tony Makin makes the case for a crowding-out effect from fiscal stimulus via the exchange rate and net exports. Last week’s September quarter balance of payments implied a 1.8 percentage point subtraction from growth on the part of net exports, which is consistent with this story. Indeed, despite a positive contribution in the first half of 2009, export volumes made no contribution to measured GDP growth for the year-ended in June. A 13.1% decline in import volumes, by contrast, made a 3.3 percentage point contribution to growth over the same period.

Remarkably, the Australian dollar-US dollar exchange rate bottomed out in October 2008, the same month as the first stimulus package, before rising 57% from its lows around 0.6000 to its recent highs around 0.9400.

I made a similar case for crowding-out via the exchange rate and net exports in this op-ed following the May Budget.

posted on 15 December 2009 by skirchner in Economics, Financial Markets, Fiscal Policy

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How the US Government Funds Mortgage Fraud

The Centre for Public Integrity and the Washington Post investigate Ginnie Mae:

The trouble signs surrounding Lend America had been building for years. A top executive was convicted of mortgage fraud but still helped run the company. Home loans made by its headquarters were defaulting at an extremely high rate. Federal prosecutors alleged in a civil suit that the company falsified loan documents and committed fraud.

Yet despite these red flags, a little-known federal agency continued giving its blessing to Lend America, allowing it to do business in the name of the U.S. government. The Government National Mortgage Association, known as Ginnie Mae, authorized the firm to bundle its mortgages into securities and sell them to investors around the world—all backed by U.S. taxpayer money.

posted on 14 December 2009 by skirchner in Economics, Financial Markets

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Markets in Everything: Autographed P J O’Rourke Promotional Banners

CIS is auctioning three 3m x 1.5m promotional banners autographed by P J O’Rourke as part of his Australia and New Zealand tour earlier this year. Images of the banners and bidding instructions can be found here.

UPDATE (14 December 16:35 AEDT):

The highest bids received to date for the personally autographed PJ O’Rourke banners are as follows:

Banner 2 $300.00 “Government does not cause affluence. Citizens of totalitarian countries have plenty of government and nothing of anything else.“

Banner 3 $120.00 “The free market is a bathroom scale. You may hate what you see when you step on the scale. ‘Jeeze, 230 pounds!‘ But you can’t pass a law making yourself weigh 185.“

No bids have been received for banner 1 as yet. “Bringing the government in to run Wall Street is like saying, ‘Dad burned the dinner, let’s get the dog to cook.‘“

If you would like to place a bid, please visit the link below and follow the instructions. Note: If you are outbid, you will receive notification so that you have the opportunity to place a counter-bid.

posted on 11 December 2009 by skirchner in CIS

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Will Australian FDI Policy Be Any More Comprehensible in Chinese?

Treasurer Wayne Swan has announced an expansion of the Foreign Investment Review Board and a review of the communication of FDI policy in a speech to the Global Foundation. The government’s first initiative will be to:

release an easy-to-read version of the foreign investment review framework for prospective investors, which will be made available in other languages, including Chinese, Japanese and Bahasa.

One would of thought that such documentation already existed. The problem is that Australian FDI policy is not going to be any less confusing in a foreign language than it already is in English. No amount of explanation can eliminate the fundamental source of confusion and uncertainty, which is the sweeping discretion available to the Minister and FIRB under the Foreign Acquisitions and Takeovers Act.

The debacle of the Patrick Colmer speech demonstrated that the basic communication problem stems from the government’s lack of a clear policy framework for the exercise of this discretion. Foreign investors cannot be expected to understand a policy that the government itself cannot articulate.

UPDATE:The Patrick Colmer saga continues:

JOURNALIST:

Do you endorse the guidelines put out by Colmer from the FIRB two weeks ago?

TREASURER:

Mr Colmer didn’t put out any guidelines two weeks ago, and you know that.

JOURNALIST:

About the 15, 50 per cent and the…

TREASURER:

Mr Colmer was asked a theoretical question to which he gave a theoretical answer, which I believe has been taken out of context.

Maybe the Chinese translation will be clearer.

posted on 10 December 2009 by skirchner in Economics, Foreign Investment

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Why Do Banks Pay Political Protection Money?

With the government, the opposition and the media all heavily engaged in gratuitous bank-bashing, few people have given much attention to the implications of tighter capital adequacy regulation for the cost of borrowing to consumers. RBA Governor Glenn Stevens was remarkably frank about the implications of increased regulation in a speech this week:

on the assumption that most of these regulatory changes go ahead, one effect will presumably be to make the process of financial intermediation more costly. The intention, after all, is that lenders will operate with more capital against the risks they are taking. But capital is not free; shareholders have to be induced to supply it, and it will have to be paid for. High-quality liquid assets typically carry lower yields too, so mandating higher liquidity will have some (modest) cost as well. Admittedly it can be argued that shareholders of financial institutions will have a less risky investment and so should be prepared to accept lower returns. But customers of financial institutions – depositors and borrowers – will also pay via higher spreads between what lenders pay for funds and what they charge for loans. That is, they will pay more ex ante to use a safer financial system, as opposed to taxpayers having to pay large costs ex post to re-capitalise a riskier system that runs into trouble.

Stevens’ posited trade-off between a safer financial system that is more expensive and one that is cheaper and riskier may only hold up to a point. His assumption that a more tightly regulated financial system is less likely to be bailed-out by taxpayers may not hold at all. As Stevens notes, careful attention needs to be given to whether the additional costs imposed by increased regulation will yield the desired benefits.

The increase in funding costs being passed on by the banks to their borrowers as a result of the financial crisis is not something we can do much about ex post, especially given that Australia is a price-taker in global capital markets. But we can do something about the future of bank capital regulation. Bashing the banks, while giving the government a free pass to tighten the regulation of capital without due attention to costs and benefits is perverse.

Perhaps even more perverse is the way the banks continue to fund the politicians who are actively seeking to damage their franchise. The AEC’s web site shows that the big four banks are all major donors to political parties (see, eg, Westpac’s return). No doubt the banks fear things would be even worse if they didn’t pay their political protection money, but it’s hard to see how.

posted on 09 December 2009 by skirchner in Economics, Financial Markets, Politics

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How to Reduce the Budget Deficit, Without Really Trying

The Australian economy just got bigger, thanks to the adoption of the new national accounting standard SNA08. The revised data raise the level of nominal GDP by 4.4% for 2007-08. As the government was quick to point out, this reduces the estimated budget deficit for 2009-10 from 4.7% to 4.5% of GDP, as well as the expected net debt to GDP ratio.

posted on 09 December 2009 by skirchner in Economics, Fiscal Policy

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Clive Hamilton as Reactionary Conservative

True socialists don’t support reactionary conservatives like Clive Hamilton:

it’s a sign of the decline of Left politics that a reactionary, pro-censorship sexual moraliser who hates the idea of working people enjoying a higher material standard of living could ever be considered left-wing…

It’s time that left-wingers stood up for their beliefs, rejected reactionaries like Hamilton and once again proudly said that we support industrial civilisation, the modern world, and more freedom and more material wealth for the working class. Any left-winger voting in the Higgins by-election this Saturday would do well to put Hamilton where he belongs: at the bottom of their preferences.

posted on 03 December 2009 by skirchner in Politics

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Abbott and McKibbin Need to Talk

Michael Stutchbury makes the case for Liberal leader Tony Abbott to adopt Warwick McKibbin’s hybrid ETS-cabon tax as a counter to Labor’s ETS. Former opposition leader Malcolm Turnbull was once sold on the McKibbin model when in government, but couldn’t be bothered making the case from opposition.

posted on 03 December 2009 by skirchner in Economics, Politics

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Turning Off Turnbull

With Malcolm Turnbull’s political career seemingly all but over, his only significant legacy may be bad lighting:

The importation of General Lighting Service (GLS) Electric Filament Lamps will be prohibited under the Customs (Prohibited Imports) Regulations 1956 (the Regulations) from 1 February 2009…

The maximum penalty for importing these goods without import approval is a fine not exceeding $110,000 or 5 times the value of the goods, whichever is the greater.

Meanwhile, Tony Abbott is already breaking left-wing hearts.

posted on 02 December 2009 by skirchner in Economics, Politics

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Once a Leaker, Always a Leaker

The following observation from a London-based hedge fund trader is perhaps representative of offshore perceptions of monetary policy in Australia:

The RBA hiked rates again overnight, in line with leaks yesterday but contrary to some speculation at the height of the Dubai panic.

I don’t think there were any leaks on this occasion. Friday’s Reuters poll had all but one respondent expecting a 25 bp tightening, despite Dubai. But it shows that the perception that the RBA is a leaker is well entrenched in financial markets.

posted on 01 December 2009 by skirchner in Economics, Financial Markets, Monetary Policy

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Australian House Prices Up 10% YTD

RP Data-Rismark have released the capital city hedonic house price index for October, showing house prices up 10% YTD.

Here’s what $1.85 million buys you in the Sydney suburb of Paddington:

posted on 30 November 2009 by skirchner in Economics, House Prices

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Who Would Want to Own an ETS?

Michael Stutchbury quotes Warwick McKibbin on the likely consequences of Labor’s emissions trading scheme:

Economist and Reserve Bank of Australia board member Warwick McKibbin warns the Carbon Pollution Reduction Scheme is “fundamentally unstable”, the price of permits will be “inherently volatile” and the Copenhagen agenda is in “total disarray”. “The political fallout from this is going to lead to changes,“ he says.

The Coalition should let Kevin Rudd have full ownership of the fallout.

posted on 28 November 2009 by skirchner in Economics, Financial Markets, Politics

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Tony Abbott Offers Support for a Carbon Tax

Tony Abbott offers support for a carbon tax as an alternative to an ETS in today’s Australian:

many respected economists think a carbon tax would be more certain, less complex and far less open to manipulation than traded carbon permits.

In government, Malcolm Turnbull showed considerable interest in Warwick McKibbin’s proposal for a hybrid ETS-carbon tax. This story from February 2007 (‘Turnbull gives tick to McKibbin carbon trading model‘) quotes McKibbin as saying that Turnbull ‘understands it completely’, which makes Turnbull’s subsequent support for Labor’s ETS all the more inexcusable.

The Liberals who support Labor’s ETS do so largely because they are too lazy to argue for the alternative policy approaches they know to be better. I have heard several Liberal frontbenchers maintain that any policy with the word ‘tax’ in it won’t gain political support. They support an ETS only because they want to neutralise climate change as a political issue, not because they believe it to be the best policy. This is a monumental failure of leadership.

An obvious way forward for the Liberal Party, and for the Coalition, would be to commission McKibbin to design a hybrid scheme to take to the next election as an alternative to Labor’s ETS.

UPDATE: Joe Hockey goes begging for ideas on Twitter:

Hey team re The ETS. Give me your views please on the policy and political debate. I really want your feedback.

As David Cameron once said, too many tweets make a twat.

posted on 26 November 2009 by skirchner in Economics, Financial Markets, Politics

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Not Enough Houses

RBA Deputy Governor Ric Battellino, on why the housing investment share of GDP will have to rise.

posted on 25 November 2009 by skirchner in Economics, House Prices

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‘Bubbles’ in Everything

Chinese garlic.

posted on 25 November 2009 by skirchner in Economics

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Too Many Malthusians

Brendan O’Neill, on why Malthusians are always wrong.

posted on 24 November 2009 by skirchner in Economics

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HSBC to Retail Gold Bugs: Get Your Own Damn Vault, Ours is Full

Gold is all about capital gain (or loss, as the case may be). After storage and insurance costs, gold has a negative yield. These costs may be about to go up, with retail gold bugs being booted out of gold storage facilities to make way for institutional investors. From the WSJ:

Amid gold’s rise—it has gained 32% this year and reached a record on Monday—investors have been loading up on bullion and coins. One big problem now is where to store it. The solution from HSBC, owner of one of the biggest vaults in the U.S.: somewhere else.

HSBC has told retail clients to remove their small holdings from its fortress beneath its tower on New York City’s Fifth Avenue. The bank has decided retail customers aren’t profitable enough and is demanding those clients remove their gold to make room for more lucrative institutional customers…

HSBC’s decision has created a logistical nightmare for both the investors and the security teams in charge of relocating the gold, silver and platinum to new vaults across the country…

HSBC is telling clients to either move their metal, or prepare for it to be delivered to their doorsteps. In a July letter, seen by The Wall Street Journal, HSBC said the precious metal “will be returned to the address of record… at your expense,“ unless instructed otherwise. HSBC recommended clients move their holdings to Brink’s Global Services USA Inc., which has a vault in Brooklyn, N.Y.

posted on 24 November 2009 by skirchner in Economics, Financial Markets, Gold

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NZ Labour Loses its Way on Inflation

The Wall Street Journal has been running a series of articles on the impact of US dollar weakness on Asia-Pacific economies. In today’s edition, I write about New Zealand Labour’s abandonment of the consensus on inflation targeting:

Mr. Goff’s criticism of this dynamic misses the important benefits inflation targeting and its effects on the exchange rate bring to New Zealand. The dollar’s fluctuations help insulate the economy from external shocks, not least during the recent global financial crisis. When demand weakens in the rest of the world, the New Zealand dollar depreciates, making New Zealand’s exports more competitive. When external demand is strong, the currency rises, moderating export prices in New Zealand-dollar terms and restraining import price inflation. New Zealand’s floating exchange rate thus smoothes external demand and economic activity, making the central bank’s job of controlling inflation much easier.

Many exporters resent the role of the exchange rate in moderating New Zealand’s economic cycle, viewing their competitiveness as being sacrificed on the altar of inflation control. But the idea that New Zealand can ignore inflation and grow faster through easy money and a lower exchange rate is a short-sighted view, no matter how tempting. It ignores the fact that higher domestic prices resulting from inflation would ultimately undermine rather than promote international competitiveness. Economic growth and export success must ultimately be built on real factors such as productivity growth, not easy money and exchange rate depreciation.

Sinclair Davidson made similar arguments in relation to the Australian dollar in an earlier op-ed in the series.

posted on 22 November 2009 by skirchner in Economics, Financial Markets, Monetary Policy

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The End of Inflation Targeting?

The leader of the opposition New Zealand Labour Party, Phil Goff, has announced the abandonment of his party’s support for inflation targeting by the Reserve Bank of New Zealand.

It was a Labour government that introduced the Reserve Bank of New Zealand Act in 1989, making New Zealand a global pioneer in the practice of inflation targeting.

I have long suspected that the global trend towards increased central bank independence and inflation targeting would eventually be reversed. As I noted in my Bubble Poppers monograph, even the central banking community is increasingly divided on the issue.

If the bipartisan consensus in favour of inflation targeting can be shattered in New Zealand, it can happen anywhere.

posted on 19 November 2009 by skirchner in Economics, Financial Markets, Monetary Policy

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Gold Price a Stock Rather than a Flow Equilibrium

With the nominal US dollar gold price posting record highs, I have an op-ed in today’s Age discussing the role of central banks and exchange rates in the determination of the gold price. Gold is a stock rather than a flow equilibrium and central banks command a large share of global stocks. However, exchange rates also have a large influence on the local currency returns to gold:

US dollar weakness has a positive valuation effect on the US dollar gold price, in the same way that it makes oil more expensive in US dollar terms. While a rising US dollar gold price is seen as symptomatic of a declining US dollar, this is true of US dollar commodity prices more generally.

Like other commodities, gold’s gains look less impressive in terms of currencies other than the US dollar. The Australian dollar exchange rate is positively correlated with the US dollar gold price, so that gains in US dollar terms are usually offset by Australian dollar appreciation. For an Australian investor, gold may be a good hedge against Australian dollar weakness, but actually increases exposure to US dollar weakness.

posted on 17 November 2009 by skirchner in Economics, Financial Markets, Gold

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Capital Gains Tax Myths and Realities

The CIS have released my Policy Monograph on Reforming Capital Gains Tax: The Myths and Realities Behind Australia’s Most Misunderstood Tax. There is an op-ed version in today’s Australian.

The 2004 Productivity Commission inquiry into first home ownership noted that ‘changes to the capital gains tax regime coupled with longstanding negative-gearing arrangements were seen to have contributed to higher prices through encouraging greater investment in housing’, but the commission did not model the effects of the tax changes. If increased investment is putting upward pressure on prices, this is an argument for easing supply-side constraints, not for discouraging investment with a CGT. CGT is a tax on transactions that would reduce turnover in owner-occupied housing and lead to a less efficient allocation of that stock.

Some mistakenly see a CGT on the family home as a way of soaking the rich. Yet a CGT on owner-occupied housing would most likely be accompanied by tax deductibility for mortgage interest payments, as in the US, offsetting any increase in revenue from a CGT.

In conjunction with negative gearing, the Ralph reforms were blamed for the housing boom in Australia in the early part of this decade. In reality, the boom was caused by the inability of housing supply to respond flexibly to the increased debt-servicing capacity of households in a low inflation, low interest rate environment.

The boom in house prices also occurred in the context of a bear market in equities between 2001 and 2003. It is not surprising demand for housing increased when prices of a competing asset class were declining. House price inflation was a global phenomenon, arguing against country-specific factors as the main cause.

Rather than increasing the tax burden on housing, policymakers need to tackle the impediments to new housing supply to improve affordability.

posted on 11 November 2009 by skirchner in Economics, Financial Markets, Fiscal Policy, House Prices

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Nouriel Roubini versus the Dow

An illustrated history of Nouriel’s money-losing calls of 2009.

posted on 10 November 2009 by skirchner in Economics, Financial Markets

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Tens of Billions Lost

RBA Board member Warwick McKibbin, on the resource cost of fiscal stimulus:

RESERVE Bank director Warwick McKibbin has publicly questioned whether the Rudd government dumped him from the Prime Minister’s science council as payback for saying its fiscal stimulus package was “too big”.

Speaking yesterday after Wayne Swan said the RBA was “entirely comfortable with our fiscal policy”, Professor McKibbin said he had no doubt history would show that the Rudd government had overdone the stimulus.

Professor McKibbin also revealed that part of the motivation behind establishing a new council of eminent economists to debate policy issues was to encourage academics to speak out.

“I think when people look through the entrails of this, they will find billions, if not tens of billions, that was just lost,“ he told The Australian.

A few weeks after he suggested that the second part of the stimulus package was too large while giving evidence at a Senate inquiry in May, he was dumped from a government advisory role on the Prime Minister’s Science and Innovation Council, Professor McKibbin said.

posted on 08 November 2009 by skirchner in Economics, Financial Markets, Fiscal Policy, Politics

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‘I Have Been Corrupted, A Little’: How Spin-Resistant Are Economics Bloggers?

The US Treasury has been running high level briefing sessions for economic bloggers. Officialdom has obviously recognised that bloggers are an influential voice and need to be managed like old media. Fortunately, economics bloggers are proving a little more spin-resistant than Treasury perhaps expected. Here is what Naked Capitalism thought about the briefing:

It wasn’t obvious what the objective of the meeting was (aside the obvious idea that if they were nice to us we might reciprocate. Unfortunately, some of us are not housebroken).

And Steve Waldman:

The second thing I’d like to discuss is corruption. Not, I hasten to add, the corruption of senior Treasury officials, but my own. As a slime mold with a cable modem, it was very flattering to be invited to a meeting at the US Treasury. A tour guide came through with two visitors before the meeting began, and chattily announced that the table I was sitting at had belonged to FDR. It very clearly was not the purpose of the meeting for policymakers to pick our brains. The e-mail invitation we received came from the Treasury’s department of Public Affairs. Treasury’s goal in meeting with us was to inform the public discussion of their past and continuing policies. (Note that I use the word “inform” in the sense outlined in a previous post. It is not about true or false, but about shaping behavior.)

Nevertheless, vanity outshines reason, and I could not help but hope that someone in the bowels of power had read my effluent and decided I should be part of the brain trust. The mere invitation made me more favorably disposed to policymakers. Further, sitting across a table transforms a television talking head into a human being, and cordial conversation with a human being creates a relationship. Most corrupt acts don’t take the form of clearly immoral choices. People fight those. Corruption thrives where there is a tension between institutional and interpersonal ethics. There is “the right thing” in abstract, but there are also very human impulses towards empathy, kindness, and reciprocity that result from relationships with flesh and blood people. That, aside from “cognitive capture”, is why we should be wary of senior Treasury officials spending too much time with Jamie Dimon. It is also why bloggers might think twice about sharing a conference table with masters of the universe, public or private. Although the format of our meeting did not lend itself to forging deep relationships, I was flattered and grateful for the meeting and left with more sympathy for the people I spoke to than I came in with. In other words, I have been corrupted, a little.

In Australia, it is worth noting that most of the running on the issue of RBA media backgrounding has been from new media like Business Spectator and bloggers, although old media have since picked-up the story too. Spin control becomes a lot more difficult when dealing with a proliferation of unregulated media with no stake in the status quo.

posted on 06 November 2009 by skirchner in Economics, Financial Markets, Politics

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The Future of the US Dollar

I have an op-ed in the business section of today’s Australian on the future of the US dollar (no link, but full text below the fold). Many commentators mistakenly view the market-clearing price of the US dollar on foreign exchange markets as a reflection on the US dollar’s future role in the international financial system. As I argue in my op-ed, the US dollar’s role is entirely a function of the role of US capital markets in the international financial system. It makes the often neglected point that a declining US dollar actually improves the net international investment position of the United States.

I would also highly recommend Richard Cooper’s PIIE Policy Brief on The Future of the Dollar. Cooper is particularly good in explaining why it is China that is financially dependent on the US, not the other way around.

posted on 05 November 2009 by skirchner in

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The Efficient Market Fantasy of Justin Fox

Eugene Fama reviews The Myth of the Rational Market, by Justin Fox:

The book is fun reading, but its main premise is fantasy. Most investing is done by active managers who don’t believe markets are efficient. For example, despite my taunts of the last 45 years about the poor performance of active managers, about 80% of mutual fund wealth is actively managed. Hedge funds, private equity, and other alternative asset classes, which have attracted big fund inflows in recent years, are built on the proposition that markets are inefficient. The recent problems of commercial and investment banks trace mostly to their trading desks and their proprietary portfolios, and these are always built on the assumption that markets are inefficient. Indeed, if banks and investment banks took market efficiency more seriously, they might have avoided lots of their recent problems. Finally, MBA students who aspire to high paying positions in the financial industry have a tough time finding a job if they accept the EMH.

I continue to believe the EMH is a solid view of the world for almost all practical purposes. But it’s pretty clear I’m in the minority. If the EMH took over the investment world, I missed it.

The Fox book is an example of a general phenomenon. Finance, financial markets, and financial institutions are in disrepute. The popular story is that together, they caused the current recession. I think one can take an entirely different position: financial markets and financial institutions were casualties rather than the cause of the recession.

posted on 04 November 2009 by skirchner in Economics, Financial Markets

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The Revenge of the Three Amigos

An insight into how Australia is perceived abroad, care of Holman Jenkins in the WSJ:

What most infuriated their hosts, though, was Telstra’s abandonment of its traditional deference to policy makers. The company took regulators to court over mandates requiring it to lease its network to competitors at knockdown rates. Mr. Burgess bashed civil servants and politicians by name, in a fashion apparently deemed unbecoming a corporate citizen in Australia…

Australia lacks America’s bottomless think-tank and K Street resources for publicizing policy differences. Its parliamentary government puts all the policy levers, including a ready resort to secrecy, in the ruling party’s hands. Australia is a small nation, with a small elite that tends to place limits on burn-the-bridges debate.

posted on 04 November 2009 by skirchner in Economics, Politics

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Steve Keen’s Accidental Demonstration of the Efficient Market Hypothesis

Following the release of the ABS house price data for the September quarter, Steve Keen concedes defeat in his bet with Rory Robertson and will be hiking from Canberra to the top of Australia’s highest mountain wearing a teeshirt that reads ‘I was hopelessly wrong on house prices, ask me how.’ Keen’s answer is to blame the gub’nent:

“I didn’t know the government was going to be stupid enough to bring in the first home buyer’s boost”.

While I would agree that the increased first home-owners grant has inflated house prices, transferring wealth from taxpayers to incumbent property owners, it would be an exaggeration to say that this prevented a decline in house prices of the magnitude Keen has been predicting. Moreover, any forecast needs to discount the likely actions of policymakers.

Steve Keen has inadvertently supplied yet another observation in favour of the efficient market hypothesis, much like Robert Shiller’s suggestion in 1996 that investors should stay out of the stock market for the following decade. The EMH maintains only that we cannot predict future innovations in asset prices. It is ironic that both Keen and Shiller have demonstrated the truth of this proposition in the course of trying to refute it.

Perhaps the teeshirt should read, ‘The EMH was right on asset prices, just don’t ask me how’.

posted on 03 November 2009 by skirchner in Economics, Financial Markets, House Prices

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The RBA and the Media Revisited

I featured in a Lateline Business story last night on Reserve Bank media backgrounding in relation to monetary policy. Lateline Business supervising producer Richard Lindell deserves considerable credit for pursuing this story in the face of both official and unofficial stonewalling. Credit is also due to Alan Kohler, Adam Carr and Christopher Joye, who have all spoken out on this issue. Some of the people who originally agreed to appear on camera for the story were prevented from doing so by their employers. As I said to Richard Lindell, ‘now you know why market economists don’t criticise fiscal stimulus.’

A 2001 AFR Magazine profile of then RBA Governor Ian Macfarlane by Peter Hartcher quoted a former RBA official as saying:

The Bank uses newspapers to manage expectations. It’s a game the Bank manages very well. Senior people talk to a small handful of the economics writers from the major papers on a strictly non-attributable basis.

The quote was re-produced in Stephen Bell’s 2004 book on the Reserve Bank, Australia’s Money Mandarins (see my review). Journalists and academics should be the standard-bearers for due process, procedural fairness and public accountability. Yet many commentators view the RBA’s manipulation of the media as simply a clever use of power.

The practice is a legacy of a less transparent era at the Reserve Bank. With so many open channels of communication now available to the Bank, there is no longer any excuse for it to continue.

There is more on Reserve Bank governance here.

posted on 02 November 2009 by skirchner in Economics, Financial Markets, Monetary Policy

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