Research Programs

Monetary Policy and Financial Structure

Monetary Policy and Financial Structure

This program explores the structure of markets and institutions operating in the financial sector. Research builds on the work of the late Distinguished Scholar Hyman P. Minsky—notably, his financial instability hypothesis—and explores the institutional, regulatory, and market arrangements that contribute to financial instability. Research also examines policies—such as changes to the regulatory structure and the development of new types of institutions—necessary to contain instability.

Recent research has concentrated on the structure of financial markets and institutions, with the aim of determining whether financial systems are still subject to the risk of failing. Issues explored include the extent to which domestic and global economic events (such as the crises in Asia and Latin America) coincide with the types of instabilities Minsky describes, and involve analyses of his policy recommendations for alleviating instability and other economic problems.

Other subjects covered include the distributional effects of monetary policy, central banking and structural issues related to the European Monetary Union, and the role of finance in small business investment.

 



Program Publications

  • Working Paper No. 892 | June 2017
    Standing on the Shoulders of Minsky

    Since the death of Hyman Minsky in 1996, much has been written about financialization. This paper explores the issues that Minsky examined in the last decade of his life and considers their relationship to that financialization literature. Part I addresses Minsky’s penetrating observations regarding what he called money manager capitalism. Part II outlines the powerful analytical framework that Minsky used to organize his thinking and that we can use to extend his work. Part III shows how Minsky’s observations and framework represent a major contribution to the study of financialization. Part IV highlights two keys to Minsky’s success: his treatment of economics as a grand adventure and his willingness to step beyond the world of theory. Part V concludes by providing a short recap, acknowledging formidable challenges facing scholars with a Minsky perspective, and calling attention to the glimmer of hope that offers a way forward.

    Download:
    Associated Program:
    Author(s):
    Charles J. Whalen
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  • Working Paper No. 890 | May 2017
    Linking the State and Credit Theories of Money through a Financial Approach to Money

    The paper presents a financial approach to monetary analysis that links the credit and state theories of money. A premise of the functional approach to money is that “money is what money does.” In this approach, monetary and mercantile mechanics are conflated, which leads to the conclusion that unconvertible monetary instruments are worthless. The financial approach to money strictly separates the two mechanics and argues that major monetary disruptions occurred when the two were conflated. Monetary instruments have always been promissory notes. As such, their financial characteristics are central to their value and liquidity. One of the main financial requirements of any monetary instrument is that it be redeemable at any time. As long as this is the case, the fair value of an unconvertible monetary instrument is its face value. While the functional approach does not recognize the centrality of redemption, the paper shows that redemption plays a critical role in the state and credit views of money. Payments due to issuer and/or convertibility on demand are central to the possibility of par circulation. The paper shows that this has major implications for monetary analysis, both in terms of understanding monetary history and in terms of performing monetary analysis.

  • Working Paper No. 889 | May 2017

    This paper investigates the determinants of nominal yields of government bonds in the eurozone. The pooled mean group (PMG) technique of cointegration is applied on both monthly and quarterly datasets to examine the major drivers of nominal yields of long-term government bonds in a set of 11 eurozone countries. Furthermore, autoregressive distributive lag (ARDL) methods are used to address the same question for individual countries. The results show that short-term interest rates are the most important determinants of long-term government bonds’ nominal yields, which supports Keynes’s (1930) view that short-term interest rates and other monetary policy measures have a decisive influence on long-term interest rates on government bonds.

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    Associated Program(s):
    Author(s):
    Tanweer Akram Anupam Das
    Related Topic(s):
    Region(s):
    Europe

  • Conference Proceedings | April 2017

    A conference organized by the Levy Economics Institute of Bard College with support from the Ford Foundation

    The 2016 Minsky Conference addressed whether what appears to be a global economic slowdown will jeopardize the implementation and efficiency of Dodd-Frank regulatory reforms, the transition of monetary policy away from zero interest rates, and the “new” normal of fiscal policy, as well as the use of fiscal policies aimed at achieving sustainable growth and full employment. The proceedings include the conference program, transcripts of keynote speakers’ remarks, synopses of the panel sessions, and biographies of the participants.

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    Associated Program(s):
    Author(s):
    Barbara Ross Michael Stephens
    Region(s):
    United States

  • Working Paper No. 886 | March 2017

    This paper investigates the (lack of any lasting) impact of John Maynard Keynes’s General Theory on economic policymaking in Germany. The analysis highlights the interplay between economic history and the history of ideas in shaping policymaking in postwar (West) Germany. The paper argues that Germany learned the wrong lessons from its own history and misread the true sources of its postwar success. Monetary mythology and the Bundesbank, with its distinctive anti-inflationary bias, feature prominently in this collective odyssey. The analysis shows that the crisis of the euro today is largely the consequence of Germany’s peculiar anti-Keynesianism.

  • Working Paper No. 881 | January 2017

    This paper investigates the long-term determinants of Indian government bonds’ (IGB) nominal yields. It examines whether John Maynard Keynes’s supposition that short-term interest rates are the key driver of long-term government bond yields holds over the long-run horizon, after controlling for various key economic factors such as inflationary pressure and measures of economic activity. It also appraises whether the government finance variable—the ratio of government debt to nominal income—has an adverse effect on government bond yields over a long-run horizon. The models estimated here show that in India, short-term interest rates are the key driver of long-term government bond yields over the long run. However, the ratio of government debt and nominal income does not have any discernible adverse effect on yields over a long-run horizon. These findings will help policymakers in India (and elsewhere) to use information on the current trend in short-term interest rates, the federal fiscal balance, and other key macro variables to form their long-term outlook on IGB yields, and to understand the implications of the government’s fiscal stance on the government bond market.

    Download:
    Associated Program(s):
    Author(s):
    Tanweer Akram Anupam Das
    Related Topic(s):
    Region(s):
    Asia

  • In the Media | December 2016
    By Vidhu Shekhar
    Swarajya, December 30, 2016. All Rights Reserved.

    With the end of demonetisation in sight, and partial remonetisation underway, it may be a good time to reassess the much-maligned economics of demonetisation.

    Over this 50-day period, several economists have denounced demonetisation as poor economics, so much so that reading them has made us feel like we were experiencing mass famine. This, despite the fact that even the hard, early days were nearly-incident-free in spite of the enormity of the scale of operations....

    Read more: http://swarajyamag.com/economy/assessing-demonetisation-minsk-provides-the-link-that-traditional-economics-misses  
  • Working Paper No. 878 | December 2016
    A Post-Keynesian/Evolutionist Critique

    This paper provides a critical analysis of expansionary austerity theory (EAT). The focus is on the theoretical weaknesses of EAT—the extreme circumstances and fragile assumptions under which expansionary consolidations might actually take place. The paper presents a simple theoretical model that takes inspiration from both the post-Keynesian and evolutionary/institutionalist traditions. First, it demonstrates that well-designed austerity measures hardly trigger short-run economic expansions in the context of expected long-lasting consolidation plans (i.e., when adjustment plans deal with remarkably high debt-to-GDP ratios), when the so-called “financial channel” is not operative (i.e., in the context of monetarily sovereign economies), or when the degree of export responsiveness to internal devaluation is low. Even in the context of non–monetarily sovereign countries (e.g., members of the eurozone), austerity’s effectiveness crucially depends on its highly disputable capacity to immediately stabilize fiscal variables.

    The paper then analyzes some possible long-run economic dynamics, emphasizing the high degree of instability that characterizes austerity-based adjustments plans. Path-dependency and cumulativeness make the short-run impulse effects of fiscal consolidation of paramount importance to (hopefully) obtaining any appreciable medium-to-long-run benefit. Should these effects be contractionary at the onset, the short-run costs of austerity measures can breed an endless spiral of recession and ballooning debt in the long run. If so, in the case of non–monetarily sovereign countries debt forgiveness may emerge as the ultimate solution to restore economic soundness. Alternatively, institutional innovations like those adopted since mid-2012 by the European Central Bank are required to stabilize the economy, even though they are unlikely to restore rapid growth in the absence of more active fiscal stimuli.

  • Working Paper No. 877 | November 2016

    Against the background of modern-day monetary proposals, ranging from a return to the gold standard to the wholesale abolition of currency, this paper seeks to draw implications from David Ricardo’s Proposals for an Economical and Secure Currency for plans to reform the operation of central banks and extraordinary monetary policy. Although 200 years old, the “Ingot plan,” proposed during a period in which gold convertibility was suspended, appears to be applicable to modern monetary conditions and suggests possible avenues of reform.

  • Working Paper No. 876 | October 2016
    The Fed’s Unjustified Rationale

    In December 2015, the Federal Reserve Board (FRB) initiated the process of “normalization,” with the objective of gradually raising the federal funds rate back to “normal”—i.e., levels that are “neither expansionary nor contrary” and are consistent with the established 2 percent longer-run goal for the annual Personal Consumption Expenditures index and the estimated natural rate of unemployment. This paper argues that the urgency and rationale behind the rate hikes are not theoretically sound or empirically justified. Despite policymakers’ celebration of “substantial” labor market progress, we are still short some 20 million jobs. Further, there is no reason to believe that the current exceptionally low inflation rates are transitory. Quite the contrary: without significant fiscal efforts to restore the bargaining power of labor, inflation rates are expected to remain below the Federal Open Market Committee’s long-term goal for years to come. Also, there is little empirical evidence or theoretical support for the FRB’s suggestion that higher interest rates are necessary to counter “excessive” risk-taking or provide a more stable financial environment.

  • Working Paper No. 875 | September 2016
    A Global Cap to Build an Effective Postcrisis Banking Supervision Framework

    The global financial crisis shattered the conventional wisdom about how financial markets work and how to regulate them. Authorities intervened to stop the panic—short-term pragmatism that spoke volumes about the robustness of mainstream economics. However, their very success in taming the collapse reduced efforts to radically change the “big bank” business model and lessened the possibility of serious banking reform—meaning that a strong and possibly even bigger financial crisis is inevitable in the future. We think an overall alternative is needed and at hand: Minsky’s theories on investment, financial stability, the growing weight of the financial sector, and the role of the state. Building on this legacy, it is possible to analyze which aspects of the post-2008 reforms actually work. In this respect, we argue that the only effective solution is to impose a global cap on the absolute size of banks.

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    Associated Program(s):
    Author(s):
    Giuseppe Mastromatteo Lorenzo Esposito
    Related Topic(s):

  • In the Media | August 2016
    Manhattan Neighborhood Network, August 25, 2016. All Rights Reserved.

    "Radical Imagination" host Jim Vrettos talks to Senior Scholar L. Randall Wray about what the US economy might look like under a Stein, Clinton, Trump, or Johnson administration.

    Full video of the interview is available here.
  • In the Media | August 2016
    By Jeff Spross
    The Week, August 22, 2016. All Rights Reserved.

    The election isn't here yet, but it's looking more and more likely Hillary Clinton will trounce Donald Trump in November. Speculation over who she might appoint as advisors and agency heads has already commenced. And like anyone else, I have got my own opinions about who Clinton should pick, particularly when it comes to the economics positions….

    Read more: http://theweek.com/articles/643874/hillary-clintons-economic-dream-team
     
  • In the Media | July 2016
    The Economist, July 28, 2016. All Rights Reserved.

    From the start of his academic career in the 1950s until 1996, when he died, Hyman Minsky laboured in relative obscurity. His research about financial crises and their causes attracted a few devoted admirers but little mainstream attention: this newspaper cited him only once while he was alive, and it was but a brief mention. So it remained until 2007, when the subprime-mortgage crisis erupted in America. Suddenly, it seemed that everyone was turning to his writings as they tried to make sense of the mayhem....

    Read more: http://www.economist.com/news/economics-brief/21702740-second-article-our-series-seminal-economic-ideas-looks-hyman-minskys />
  • In the Media | July 2016
    Andrea Terzi
    Public Debt Project, July 14, 2016. All Rights Reserved.

    Twice in the second half of the twentieth century, in the midst of a robust economy, economists optimistically talked about the taming and even “the death of the business cycle” based on the belief that advances in macroeconomics had reached a point of perfection. Yet, both times, the economy underwent serious turbulence and the policies that seemed to have “solved the problem” proved inadequate to the challenges presented by unexpected realities. In the 1970s, the “neo-classical synthesis,” with its faith in forecasting and macroeconomic “fine tuning,” succumbed to stagflation and a new theory, the Monetarist paradigm, came to prominence....

    Read more: http://privatedebtproject.org/view-articles.php?Connecting-the-Dots-Debt-Savings-and-the-Need-for-a-Fiscal-Growth-Policy-21
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    Author(s):
  • Working Paper No. 869 | June 2016
    Phases of Financialization within the 20th Century in the United States

    This paper explores from a historical perspective the process of financialization over the course of the 20th century. We identify four phases of financialization: the first, from the 1900s to 1933 (early financialization); the second, from 1933 to 1940 (transitory phase); the third, between 1945 and 1973 (definancialization); and the fourth period begins in the early 1970s and leads to the Great Recession (complex financialization). Our findings indicate that the main features of the current phase of financialization were already in place in the first period. We closely examine institutions within these distinct financial regimes and focus on the relative size of the financial sector, the respective regulation regime of each period, and the intensity of the shareholder value orientation, as well as the level of financial innovations implemented. Although financialization is a recent term, the process is far from novel. We conclude that its effects can be studied better with reference to economic history.

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    Associated Program(s):
    Author(s):
    Apostolos Fasianos Diego Guevara Christos Pierros
    Related Topic(s):
    Region(s):
    United States

  • Working Paper No. 868 | June 2016
    The ECB’s Belated Conversion?

    This paper investigates the European Central Bank’s (ECB) monetary policies. It identifies an antigrowth bias in the bank’s monetary policy approach: the ECB is quick to hike, but slow to ease. Similarly, while other players and institutional deficiencies share responsibility for the euro’s failure, the bank has generally done “too little, too late” with regard to managing the euro crisis, preventing protracted stagnation, and containing deflation threats. The bank remains attached to the euro area’s official competitive wage–repression strategy, which is in conflict with the ECB’s price stability mandate and undermines its more recent, unconventional monetary policy initiatives designed to restore price stability. The ECB needs a “Euro Treasury” partner to overcome the euro regime’s most serious flaw: the divorce between central bank and treasury institutions.

  • Working Paper No. 867 | May 2016

    This paper examines the issue of the Greek public debt from different perspectives. We provide a historical discussion of the accumulation of Greece’s public debt since the 1960s and the role of public debt in the recent crisis. We show that the austerity imposed since 2010 has been unsuccessful in stabilizing the debt while at the same time taking a heavy toll on the Greek economy and society. The experience of the last six years shows that the country’s public debt is clearly unsustainable, and therefore a bold restructuring is needed. An insistence on the current policies is not justifiable either on pragmatic or on moral or any other grounds. The experience of Germany in the early post–World War II period provides some useful hints for the way forward. A solution to the Greek public debt problem is a necessary but not sufficient condition for the solution of the Greek and wider European crisis. A broader agenda that deals with the malaises of the Greek economy and the structural imbalances of the eurozone is of vital importance.

  • In the Media | May 2016
    Bloomberg, May 12, 2015. All Rights Reserved.

    Senior Scholar L. Randall Wray discusses the US national debt and inflation with Bloomberg’s Joe Weisenthal on “What’d You Miss?” 

    Full video of the interview is available here.
  • In the Media | May 2016
    By Michelle Jamrisko
    Bloomberg, May 11, 2016. All Rights Reserved.

    Donald Trump’s about-face on the relevance of a ballooning U.S. debt continues his campaign’s hallmark of zigging and zagging on policy issues, landing him now on economic proposals favored by economists to the left of Bernie Sanders.

    The billionaire businessman has advocated for the federal government to take advantage of cheap interest rates by boosting spending on initiatives such as rebuilding infrastructure -- a position shared by traditional Keynesian economists and skewered by budget hawks who say his numbers won’t add up. Now, Trump’s post-Keynesian approach is throwing out budget balancing, and declaring American immunity to a default....

    Read more: http://www.bloomberg.com/politics/articles/2016-05-11/trump-is-now-running-to-the-left-of-sanders-on-federal-debt  
  • In the Media | May 2016
    Reviewed by William J. Bernstein
    Seeking Alpha, May 5, 2016. All Rights Reserved.

    A few decades ago, Paul Samuelson wrote a letter to Robert Shiller and John Campbell, in which he discussed the notion that while the stock market was “micro efficient,” it was also “macro inefficient,” by which he meant that although profitable security choices were swiftly arbitraged away, the stock market as a whole irrationally swung between extremes of valuation.

    Hyman Minsky would have made a similar point about the economy: While it is highly efficient, it is also unstable….

    Read more: http://seekingalpha.com/article/3971589-book-review-minsky-matters 
  • Working Paper No. 864 | April 2016

    In this paper we analyze options for the European Central Bank (ECB) to achieve its single mandate of price stability. Viable options for price stability are described, analyzed, and tabulated with regard to both short- and long-term stability and volatility. We introduce an additional tool for promoting price stability and conclude that public purpose is best served by the selection of an alternative buffer stock policy that is directly managed by the ECB.

  • In the Media | April 2016
    By Peter Eavis
    The New York Times, April 14, 2016. All Rights Reserved.

    Bank regulators on Wednesday sent a message that big banks are still too big and too complex. They rejected special plans, called living wills, that the banks have to submit to show they can go through an orderly bankruptcy.

    The thinking behind the regulators’ call for living wills is that if a large bank crash is orderly, there will be no need to save it and no need for taxpayer bailouts....

    Read more:
    http://www.nytimes.com/2016/04/15/upshot/how-regulators-mess-with-bankers-minds-and-why-thats-good.html  
  • In the Media | April 2016
    Von Tom Fairless
    Finanz Nachrichten, 14 April 2016. Alle Rechte vorbehalten.

    Für das Instrument der negativen Zinsen gibt es nach Aussage des EZB-Vizepräsidenten Vitor Constancio "klare Grenzen". Die Schwelle, an der die Leute anfangen, Geld abzuziehen, um die Negativzinsen zu umgehen, scheine aber noch weit weg zu sein, sagte Constancio in einer Rede beim Bard College in New York....

    Weiterlesen: http://www.finanznachrichten.de/nachrichten-2016-04/37060417-ezb-constancio-instrument-der-negativzinsen-hat-grenzen-015.htm
    Associated Program(s):
    Region(s):
    United States, Europe
  • In the Media | April 2016
    Foreign Affairs, April 14, 2016. All Rights Reserved.

    Speech by Vítor Constâncio, Vice-President of the ECB, at the 25th Annual Hyman P. Minsky Conference on the State of the U.S. and World Economies at the Levy Economics Institute of Bard College, Blithewood, Annandale-on-Hudson, New York, 13 April 2016 

    Ladies and Gentlemen,

    I want to start by thanking the Levy Institute for inviting me again to address this important conference honouring Hyman Minsky, the economist that the Great Recession justifiably brought into the limelight. His work provides crucial insights not only identifying the key mechanisms by which periods of financial calm sow the seeds for ensuing crises, but also the specific challenges that economies face in recovering from such crises....

    Read more: http://foreignaffairs.co.nz/2016/04/14/speech-vitor-constancio-international-headwinds-and-the-effectiveness-of-monetary-policy/
    Associated Program(s):
    Region(s):
    United States, Europe
  • In the Media | April 2016
    By Alessandro Speciale and Matthew Boesler
    The Washington Post, April 14, 2016. All Rights Reserved.

    European Central Bank Vice President Vitor Constancio on Wednesday said there was only so much that negative interest rates can do to boost the economy and defended the central bank’s strategy as positive for the euro area as a whole.

    It is “important to recall that there are clear limits to the use of negative deposit facility rates as a policy instrument,” he said in a speech at the Levy Economics Institute of Bard College in New York state. “Tier systems that simply pass direct costs at the margin can mitigate this concern but cannot dispel it altogether.” ...

    Read more: http://washpost.bloomberg.com/Story?docId=1376-O5LE8T6TTDS101-597LUN1M75BN1J81FK32I14G7R
  • In the Media | April 2016
    By Richard Leong
    Reuters, April 14, 2016. All Rights Reserved.

    Negative deposit rates are not required as a monetary fix for the United States at the moment, in contrast with the euro zone, which is struggling with deflation risk, a top European Central Bank official said on Wednesday.

    The U.S. economy, while far from robust, has been growing at a steady pace, and has seen some improvement in price growth since hitting a post-crisis low earlier this year.

    Read more: http://uk.reuters.com/article/uk-ecb-policy-constancio-negativerates-idUKKCN0XA2Q4
  • In the Media | April 2016
    Bloomberg, 14 Nisan 2016. Her Hakkı Saklıdır.

    Avrupa Merkez Bankası (AMB) Başkan Yardımcısı Vitor Constancio Çarşamba günü yaptığı açıklamada, negatif faiz oranının ekonomiyi destekleme konusunda yapabileceklerinin sınırlı olduğunu söyleyerek AMB'nin stratejisinin euro bölgesinin tamamı için olumlu olduğunu söyledi.

    Constancio, New York eyaletinde Bard College'de Levy Economics Institute'de yaptığı konuşmada, "Negatif mevduat faiz oranını bir politika aracı olarak kullanmanın açık sınıları olduğunu hatırlamak önemli, kademeli faiz sistemi bu endişeyi azaltabilir ama tamamen yok edemez" dedi....

    Daha fazla oku: http://www.bloomberght.com/haberler/haber/1872569-ambconstancio-negatif-faiz-politikasinin-limitleri-var
  • In the Media | April 2016
    By Richard Leong
    Yahoo! Finance, April 13, 2016. All Rights Reserved.

    Negative deposit rates are not required as a monetary fix for the United States at the moment, in contrast with the euro zone, which is struggling with deflation risk, a top European Central Bank official said on Wednesday.

    Read more: http://finance.yahoo.com/news/negative-rates-not-needed-u-225239865.html
  • In the Media | April 2016
    By Richard Leong
    Reuters, April 13, 2016. All Rights Reserved.

    Negative deposit rates are not required as a monetary fix for the United States at the moment, in contrast with the euro zone, which is struggling with deflation risk, a top European Central Bank official said on Wednesday.

    The U.S. economy, while far from robust, has been growing at a steady pace, and has seen some improvement in price growth since hitting a post-crisis low earlier this year....

    Read more: http://www.reuters.com/article/ecb-policy-constancio-negativerates-idUSL2N17G2GK
  • In the Media | April 2016
    Finanzen 100, 13 April 2016. Alle Rechte vorbehalten.

    Die vielumstrittenen Negativzinsen der EZB haben klare Grenzen der Wirksamkeit. Obwohl der EZB-Vizepräsident Vítor Constâncio die Strategie der Notenbank am Mittwochabend als positiv für die Eurozone verteidigt hat, gab er zu, dass negative Zinsen die Konjunktur nur beschränkt ankurbeln können....

    Weiterlesen: http://www.finanzen100.de/finanznachrichten/wirtschaft/geldpolitik-ezb-vizepraesident-negativzinsen-sind-kein-allheilmittel_H609679858_263944/
  • In the Media | April 2016
    By Alessandro Speciale and Matthew Boesler
    Bloomberg, April 13, 2016. All Rights Reserved.

    European Central Bank Vice President Vitor Constancio on Wednesday said there was only so much that negative interest rates can do to boost the economy and defended the central bank’s strategy as positive for the euro area as a whole.

    It is “important to recall that there are clear limits to the use of negative deposit facility rates as a policy instrument,” he said in a speech at the Levy Economics Institute of Bard College in New York state. “Tier systems that simply pass direct costs at the margin can mitigate this concern but cannot dispel it altogether.” ...

    Read more: http://www.bloomberg.com/news/articles/2016-04-13/ecb-s-constancio-says-negative-rate-policy-has-clear-limits
  • In the Media | April 2016
    By Richard Leong
    The Fiscal Times, April 13, 2016. All Rights Reserved.

    Negative deposit rates are not required as a monetary fix for the United States at the moment, in contrast with the euro zone, which is struggling with deflation risk, a top European Central Bank official said on Wednesday....

    Read more: http://www.thefiscaltimes.com/latestnews/2016/04/13/Negative-rates-not-needed-US-now-ECBs-Constancio
  • Working Paper No. 863 | March 2016

    US government indebtedness and fiscal deficits increased notably following the global financial crisis. Yet long-term interest rates and US Treasury yields have remained remarkably low. Why have long-term interest rates stayed low despite the elevated government indebtedness? What are the drivers of long-term interest rates in the United States? John Maynard Keynes holds that the central bank’s actions are the main determinants of long-term interest rates. A simple model is presented where the central bank’s actions are the key drivers of long-term interest rates through short-term interest rates and various monetary policy measures. The empirical findings reveal that short-term interest rates, after controlling for other crucial variables such as the rate of inflation, the rate of economic activity, fiscal deficits, government debts, and so forth, are the most important determinants of long-term interest rates in the United States. Public finance variables, such as government fiscal balances or government indebtedness, as a share of nominal GDP appear not to have any discernable effect on long-term interest rates.

  • Public Policy Brief No. 141 | March 2016
    To the extent that policymakers have learned anything at all from the Great Depression and the policy responses of the 1930s, the lessons appear to have been the wrong ones. In this public policy brief, Director of Research Jan Kregel explains why there is still a great deal we have to learn from the New Deal. He illuminates one of the New Deal’s principal objectives—quelling the fear and uncertainty of mass unemployment—and the pragmatic, experimental process through which the tool for achieving this objective—directed government expenditure—came to be embraced.

    In the search for a blueprint from the 1930s, Kregel suggests that too much attention has been paid to the measures deployed to shore up the banking system, and that the approaches underlying the emergency financial policy measures of the recent period and those of the 1930s were actually quite similar. The more meaningful divergence between the 1930s and the post-2008 policy response, he argues, can be uncovered by comparing the actions that were taken (or not taken, as the case may be) to address the real sector of the economy following the resolution of the respective financial crises. 

  • Working Paper No. 862 | March 2016

    Japan has experienced stagnation, deflation, and low interest rates for decades. It is caught in a liquidity trap. This paper examines Japan’s liquidity trap in light of the structure and performance of the country’s economy since the onset of stagnation. It also analyzes the country’s liquidity trap in terms of the different strands in the theoretical literature. It is argued that insights from a Keynesian perspective are still quite relevant. The Keynesian perspective is useful not just for understanding Japan’s liquidity trap but also for formulating and implementing policies that can overcome the liquidity trap and foster renewed economic growth and prosperity. Paul Krugman (1998a, b) and Ben Bernanke (2000; 2002) identify low inflation and deflation risks as the cause of a liquidity trap. Hence, they advocate a credible commitment by the central bank to sustained monetary easing as the key to reigniting inflation, creating an exit from a liquidity trap through low interest rates and quantitative easing. In contrast, for John Maynard Keynes (2007 [1936]) the possibility of a liquidity trap arises from a sharp rise in investors’ liquidity preference and the fear of capital losses due to uncertainty about the direction of interest rates. His analysis calls for an integrated strategy for overcoming a liquidity trap. This strategy consists of vigorous fiscal policy and employment creation to induce a higher expected marginal efficiency of capital, while the central bank stabilizes the yield curve and reduces interest rate volatility to mitigate investors’ expectations of capital loss. In light of Japan’s experience, Keynes’s analysis and proposal for generating effective demand might well be a more appropriate remedy for the country’s liquidity trap.

    Download:
    Associated Program(s):
    Author(s):
    Tanweer Akram
    Related Topic(s):
    Region(s):
    Asia

  • In the Media | March 2016
    In an American election season that’s turned into a bonfire of the orthodoxies, one taboo survives pretty much intact: Budget deficits are dangerous.

    A school of dissident economists wants to toss that one onto the flames, too....

    Read more:
    http://www.bloomberg.com/news/articles/2016-03-13/ignored-for-years-a-radical-economic-theory-is-gaining-converts
     
  • Working Paper No. 861 | March 2016

    Money, in this paper, is defined as a power relationship of a specific kind, a stratified social debt relationship, measured in a unit of account determined by some authority. A brief historical examination reveals its evolving nature in the process of social provisioning. Money not only predates markets and real exchange as understood in mainstream economics but also emerges as a social mechanism of distribution, usually by some authority of power (be it an ancient religious authority, a king, a colonial power, a modern nation state, or a monetary union). Money, it can be said, is a “creature of the state” that has played a key role in the transfer of real resources between parties and the distribution of economic surplus.

    In modern capitalist economies, the currency is also a simple public monopoly. As long as money has existed, someone has tried to tamper with its value. A history of counterfeiting, as well as that of independence from colonial and economic rule, is another way of telling the history of “money as a creature of the state.” This historical understanding of the origins and nature of money illuminates the economic possibilities under different institutional monetary arrangements in the modern world. We consider the so-called modern “sovereign” and “nonsovereign” monetary regimes (including freely floating currencies, currency pegs, currency boards, dollarized nations, and monetary unions) to examine the available policy space in each case for pursuing domestic policy objectives.

  • Policy Note 2016/1 | January 2016
    A complementary currency circulates within an economy alongside the primary currency without attempting to replace it. The Swiss WIR, implemented in 1934 as a response to the discouraging liquidity and growth prospects of the Great Depression, is the oldest and most significant complementary financial system now in circulation. The evidence provided by the long, successful operation of the WIR offers an opportunity to reconsider the creation of a similar system in Greece.

    The complementary currency is a proven macroeconomic stabilizer—a spontaneous money creator with the capacity to sustain and increase an economy’s aggregate demand during downturns. A complementary financial system that supports regional development and employment-targeted programs would be a U-turn toward restoring people’s purchasing power and rebuilding Greece’s desperate economy.

  • In the Media | January 2016
    By Sheyna Steiner
    Federal Reserve Blog, January 27, 2016. All Rights Reserved.

    After raising interest rates in December for the first time since the financial crisis and Great Recession, the Federal Reserve has gone into a January freeze. The central bank on Wednesday announced no change in interest rates, meaning the target for the Fed's benchmark federal funds rate will remain between 0.25% and 0.50%, the range set last month.

    For consumers, the outcome of this week's meeting means more of the same. Savers will continue to suffer low interest rates on savings while debtors continue to enjoy extremely low borrowing costs....

    Read more: http://www.bankrate.com/financing/federal-reserve/the-fed-puts-rates-on-ice/
  • In the Media | January 2016
    By William J. Bernstein
    CFA Institute, January 20, 2016. All Rights Reserved.

    A few decades ago, Paul Samuelson wrote a letter to Robert Shiller and John Campbell in which he discussed the notion that while the stock market was “micro efficient,” it was also “macro inefficient,” by which he meant that although profitable security choices were swiftly arbitraged away, the stock market as a whole irrationally swung between extremes of valuation.

    Hyman Minsky would have made a similar point about the economy: While it is highly efficient, it is also unstable....

    Read more: http://www.cfapubs.org/doi/full/10.2469/br.v11.n1.2
  • In the Media | December 2015
    By Joseph P. Joyce
    EconoMonitor, December 14, 2015. All Rights Reserved.

    The seventh edition of Manias, Panics, and Crashes has recently been published by Palgrave Macmillan. Charles Kindleberger of MIT wrote the first edition, which appeared in 1978, and followed it with three more editions. Robert Aliber of the Booth School of Business at the University of Chicago took over the editing and rewriting of the fifth edition, which came out in 2005. (Aliber is also the author of another well-known book on international finance, The New International Money Game.) The continuing popularity of Manias, Panics and Crashes shows that financial crises continue to be a matter of widespread concern.

    Kindleberger built upon the work of Hyman Minsky, a faculty member at Washington University in St. Louis. Minsky was a proponent of what he called the “financial instability hypothesis,” which posited that financial markets are inherently unstable. Periods of financial booms are followed by busts, and governmental intervention can delay but not eliminate crises. Minsky’s work received a great deal of attention during the global financial crisis (see here and here; for a summary of Minsky’s work, see Why Minsky Matters by L. Randall Wray of the University of Missouri-Kansas City and the Levy Economics Institute)….

    Read more: http://www.economonitor.com/blog/2015/12/the-enduring-relevance-of-manias-panics-and-crashes/
  • One-Pager No. 51 | December 2015
    Until market participants across the euro area face a single risk-free yield curve rather than a diverse collection of quasi-risk-free sovereign rates, financial market integration will not be complete. Unfortunately, the institution that would normally provide the requisite benchmark asset—a federal treasury issuing risk-free debt—does not exist in the euro area, and there are daunting political obstacles to creating such an institution.

    There is, however, another way forward. The financial instrument that could provide the foundation for a single market already exists on the balance sheet of the European Central Bank (ECB): legally, the ECB could issue “debt certificates” (DCs) across the maturity spectrum and in sufficient amounts to create a yield curve. Moreover, reforming ECB operations along these lines may hold the key to addressing another of the euro area’s critical dysfunctions. Under current conditions, the Maastricht Treaty’s fiscal rules create a vicious cycle by contributing to a deflationary economic environment, which slows the process of debt adjustment, requiring further deflationary budget tightening. By changing national debt dynamics and thereby enabling a revision of the fiscal rules, the DC proposal could short-circuit this cycle of futility.

  • Working Paper No. 855 | November 2015
    Debt, Central Banks, and Functional Finance

    The scientific reassessment of the economic role of the state after the crisis has renewed interest in Abba Lerner’s theory of functional finance (FF). A thorough discussion of this concept is helpful in reconsidering the debate on the nature of money and the origin of the business cycle and crises. It also allows a reevaluation of many policy issues, such as the Barro–Ricardo equivalence, the cause of inflation, and the role of monetary policy.

    FF, throwing a different light on these issues, can provide a sound foundation for discussing income, fiscal, and monetary policy rules in the right context of flexibility in the management of national budgets, assessing what kind of policies should be awarded priority, and the effectiveness of tackling the crisis with the different part of public budget. It also allows us to understand ways of increasing efficiency through public investment while reducing the total operational costs of firms. In the specific context of the eurozone, FF is useful for assessing the institutional framework of the euro and how to improve it in the face of protracted low growth, deflation, and weak public finances.

  • In the Media | November 2015
    By Edward Chancellor
    Reuters, November 27, 2015. All Rights Reserved.

    Forget the living canon of great economists – Paul Krugman, Joe Stiglitz, Larry Summers and the rest. Hyman Minsky was the only contemporary thinker to have predicted with uncanny precision the global financial crisis. This is no small achievement since Minsky died more than a decade before Lehman Brothers filed for bankruptcy. Minsky’s unorthodox vision of capitalism, with its emphasis on the central role of finance and the system’s inherent tendency to crash, was vindicated by the subprime crisis.

    In a new book, “Why Minsky Matters: An Introduction to the Work of a Maverick Economist,” L. Randall Wray suggests that he would have approved of policymakers’ initial response to the crisis precipitated by Lehman’s collapse in the fall of 2008. However, by now, Minsky would be fretting that another “Minsky moment” is not far away and pondering what lies ahead....

    Read more: http://blogs.reuters.com/breakingviews/2015/11/27/review-another-minsky-moment-may-be-on-the-way/ 
  • Public Policy Brief No. 140 | November 2015

    Mario Tonveronachi, University of Siena, builds on his earlier proposal (The ECB and the Single European Financial Market) to advance financial market integration in Europe through the creation of a single benchmark yield curve based on debt certificates (DCs) issued by the European Central Bank (ECB). In this policy brief, Tonveronachi discusses potential changes to the ECB’s operations and their implications for member-state fiscal rules. He argues that his DC proposal would maintain debt discipline while mitigating the restrictive, counterproductive fiscal stance required today, simultaneously expanding national fiscal space while ensuring debt sustainability under the Maastricht limits, and offering a path out of the self-defeating policy regime currently in place.

  • Conference Proceedings | November 2015

    A conference organized by the Levy Economics Institute of Bard College with support from the Ford Foundation

    The 2015 Minsky Conference addressed, among other issues, the design, flaws, and current status of the Dodd-Frank Wall Street Reform Act, including implementation of the operating procedures necessary to curtail systemic risk and prevent future crises; the insistence on fiscal austerity exemplified by the recent pronouncements of the new Congress; the sustainability of the US economic recovery; monetary policy revisions and central bank independence; the deflationary pressures associated with the ongoing eurozone debt crisis and their implications for the global economy; strategies for promoting an inclusive economy and a more equitable income distribution; and regulatory challenges for emerging market economies. The proceedings include the conference program, transcripts of keynote speakers’ remarks, synopses of the panel sessions, and biographies of the participants.

    Download:
    Associated Program(s):
    Author(s):
    Barbara Ross Michael Stephens
    Region(s):
    United States, Europe

  • Working Paper No. 853 | November 2015
    The Case of Colombia

    In recent years, Colombia has grown relatively rapidly, but it has been a biased growth. The energy sector (the “locomotora minero-energetica,” to use the rhetorical expression of President Juan Manuel Santos) grew much faster than the rest of the economy, while the manufacturing sector registered a negative rate of growth. These are classic symptoms of the well-known “Dutch disease,” but our purpose here is not to establish whether or not the Dutch disease exists, but rather to shed some light on the financial viability of several, simultaneous dynamics: (1) the existence of a traditional Dutch disease being due to a large increase in mining exports and a significant exchange rate appreciation; (2) a massive increase in foreign direct investment, particularly in the mining sector; (3) a rather passive monetary policy, aimed at increasing purchasing power via exchange rate appreciation; (4) and more recently, a large distribution of dividends from Colombia to the rest of the world and the accumulation of mounting financial liabilities. The paper shows that these dynamics constitute a potential danger for the stability of the Colombian economy. Some policy recommendations are also discussed.

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    Associated Program(s):
    Author(s):
    Alberto Botta Antoine Godin Marco Missaglia
    Related Topic(s):
    Region(s):
    Latin America

  • Book Series | November 2015
    Edited by Rainer Kattel, Jan Kregel, and Mario Tonveronachi

    Have past and more recent regulatory changes contributed to increased financial stability in the European Union (EU), or have they improved the efficiency of individual banks and national financial systems within the EU? Edited by Rainer Kattel, Tallinn University of Technology, Director of Research Jan Kregel, and Mario Tonveronachi, University of Siena, this volume offers a comparative overview of how financial regulations have evolved in various European countries since the introduction of the single European market in 1986. The collection includes a number of country studies (France, Germany, Italy, Spain, Estonia, Hungary, Slovenia) that analyze the domestic financial regulatory structure at the beginning of the period, how the EU directives have been introduced into domestic legislation, and their impact on the financial structure of the economy. Other contributions examine regulatory changes in the UK and Nordic countries, and in postcrisis America.

    Published by: Routledge

  • Book Series | November 2015
    By L. Randall Wray

    Perhaps no economist was more vindicated by the global financial crisis than Hyman P. Minsky (1919–1996). Although a handful of economists raised alarms as early as 2000, Minsky’s warnings began a half century earlier, with writings that set out a compelling theory of financial instability. Yet even today he remains largely outside mainstream economics; few people have a good grasp of his writings, and fewer still understand their full importance. Why Minsky Matters makes the maverick economist’s critically valuable insights accessible to general readers for the first time. Author L. Randall Wray shows that by understanding Minsky we will not only see the next crisis coming but we might be able to act quickly enough to prevent it.

    As Wray explains, Minsky’s most important idea is that “stability is destabilizing”: to the degree that the economy achieves what looks to be robust and stable growth, it is setting up the conditions in which a crash becomes ever more likely. Before the financial crisis, mainstream economists pointed to much evidence that the economy was more stable, but their predictions were completely wrong because they disregarded Minsky’s insight. Wray also introduces Minsky’s significant work on money and banking, poverty and unemployment, and the evolution of capitalism, as well as his proposals for reforming the financial system and promoting economic stability.

    A much-needed introduction to an economist whose ideas are more relevant than ever, Why Minsky Matters is essential reading for anyone who wants to understand why economic crises are becoming more frequent and severe—and what we can do about it.

    Published by: Princeton

  • Working Paper No. 852 | October 2015

    Long-term interest rates in advanced economies have been low since the global financial crisis. However, in the United States the Federal Reserve could begin to hike its policy rate, the federal funds target rate, before the end of the year. In the United Kingdom, the Bank of England could follow suit. What is the outlook for global long-term interest rates? What are the risks around interest rates? What can policymakers do to cure the malady of low interest rates? It is argued that global interest rates are likely to stay low in the remainder of this year and the first half of next year due to a combination of domestic and international factors, even if a few central banks gradually begin to tighten monetary policy. The cure for this malady lies in proactive fiscal policy and measures to support job growth. Boosting effective demand and promoting higher wages and real disposable income would help lift inflation rates close to their targets and raise long-term interest rates.

  • Policy Note 2015/6 | October 2015

    The recapitalization of Greek banks is perhaps the most critical problem for the Greek state today. Despite direct cash infusions to Greek banks that have so far exceeded €45 billion, with corresponding guarantees of around €130 billion, credit expansion has failed to pick up. There are two obvious reasons for this failure: first, the massive exodus of deposits since 2010; and second, the continuous recession—mainly the product of strongly deflationary policies dictated by international lenders.

    Following the 2012–13 recapitalization, creditors allowed the old, now minority, shareholders and incumbent management (regardless of culpability) to retain effective control of the banks—a decision that did not conform to accepted international practices. Sitting on a ticking time bomb of nonperforming loans (NPLs), Greek banks, rather than adopting the measures necessary to restructure their portfolios, cut back sharply on lending, while the country’s economy continued to shrink.

    The obvious way to rehabilitate Greek banking following the new round of recapitalization scheduled for later this year is the establishment of a “bad bank” that can assume responsibility for the NPL workouts, manage the loans, and in some cases hold them to maturity and turn them around. This would allow Greek banks to make new and carefully underwritten loans, resulting in a much-needed expansion of the credit supply. Sound bank recapitalization with concurrent avoidance of any creditor bail-in could help the Greek banking sector return to financial health—and would be an effective first step in returning the country to the path of growth.

  • Working Paper No. 851 | October 2015
    A Stock-flow Consistent Model

    This paper presents a stock-flow consistent model+ of full-reserve banking. It is found that in a steady state, full-reserve banking can accommodate a zero-growth economy and provide both full employment and zero inflation. Furthermore, a money creation experiment is conducted with the model. An increase in central bank reserves translates into a two-thirds increase in demand deposits. Money creation through government spending leads to a temporary increase in real GDP and inflation. Surprisingly, it also leads to a permanent reduction in consolidated government debt. The claims that full-reserve banking would precipitate a credit crunch or excessively volatile interest rates are found to be baseless.

  • Working Paper No. 849 | October 2015
    A Micro- and Macroprudential Perspective

    Bank leverage ratios have made an impressive and largely unopposed return; they are mostly used alongside risk-weighted capital requirements. The reasons for this return are manifold, and they are not limited to the fact that bank equity levels in the wake of the global financial crisis (GFC) were exceptionally thin, necessitating a string of costly bailouts. A number of other factors have been equally important; these include, among others, the world’s revulsion with debt following the GFC and the eurozone crisis, and the universal acceptance of Hyman Minsky’s insights into the nature of the financial system and its role in the real economy. The best examples of the causal link between excessive debt, asset bubbles, and financial instability are the Spanish and Irish banking crises, which resulted from nothing more sophisticated than straightforward real estate loans. Bank leverage ratios are primarily seen as a microprudential measure that intends to increase bank resilience. Yet in today’s environment of excessive liquidity due to very low interest rates and quantitative easing, bank leverage ratios should also be viewed as a key part of the macroprudential framework. In this context, this paper discusses the role of leverage ratios as both microprudential and macroprudential measures. As such, it explains the role of the leverage cycle in causing financial instability and sheds light on the impact of leverage restraints on good bank governance and allocative efficiency.

  • Working Paper No. 848 | October 2015
    A Case Study of the Canadian Economy, 1935–75

    Historically high levels of private and public debt coupled with already very low short-term interest rates appear to limit the options for stimulative monetary policy in many advanced economies today. One option that has not yet been considered is monetary financing by central banks to boost demand and/or relieve debt burdens. We find little empirical evidence to support the standard objection to such policies: that they will lead to uncontrollable inflation. Theoretical models of inflationary monetary financing rest upon inaccurate conceptions of the modern endogenous money creation process. This paper presents a counter-example in the activities of the Bank of Canada during the period 1935–75, when, working with the government, it engaged in significant direct or indirect monetary financing to support fiscal expansion, economic growth, and industrialization. An institutional case study of the period, complemented by a general-to-specific econometric analysis, finds no support for a relationship between monetary financing and inflation. The findings lend support to recent calls for explicit monetary financing to boost highly indebted economies and a more general rethink of the dominant New Macroeconomic Consensus policy framework that prohibits monetary financing.

  • Working Paper No. 847 | October 2015
    A Post-Keynesian Interpretation of the Spanish Crisis

    The Spanish crisis is generally portrayed as resulting from excessive spending by households, associated with a housing bubble and/or excessive welfare spending beyond the economic possibilities of the country. We put forward a different hypothesis. We argue that the Spanish crisis resulted, in the main, from a widening deficit position in the nonfinancial corporate sector—the most important explanatory factor behind the country’s rising external imbalance—and a declining trend in profitability under a regime of financial liberalization and loose and unregulated lending practices. This paper argues that the central cause of the crisis is related to the nonfinancial corporate sector’s increasingly fragile financial position, which originated from the financial convergence that followed adoption of the euro.

    Download:
    Associated Program(s):
    Author(s):
    Esteban Pérez Caldentey Matías Vernengo
    Related Topic(s):
    Region(s):
    Europe

  • In the Media | September 2015
    By James M. Larkin and Zach Goldhammer
    The Nation, September 30, 2015. All Rights Reserved.

    To close out our series on work, produced in partnership with Open Source with Christopher Lydon and The Nation, we’re looking ahead to the big proposals and spiritual realignments that might spell a major change for working- and middle-class people who feel as though the recession never ended.

    For proof of the problems we face, look no further than this chart, produced by one of our big thinkers this week, the Bulgarian-American economist Pavlina Tcherneva….

    Read more: http://www.thenation.com/article/is-it-time-for-a-new-new-deal/
  • Working Paper No. 845 | September 2015
    Assessing the ECB’s Crisis Management Performance and Potential for Crisis Resolution
    This study assesses the European Central Bank’s (ECB) crisis management performance and potential for crisis resolution. The study investigates the institutional and functional constraints that delineate the ECB’s scope for policy action under crisis conditions, and how the bank has actually used its leeway since 2007—or might do so in the future. The study finds that the ECB may well stand out positively when compared to other important euro-area or national authorities involved in managing the euro crisis, but that in general the bank did “too little, too late” to prevent the euro area from slipping into recession and protracted stagnation. The study also finds that expectations regarding the ECB’s latest policy initiatives may be excessively optimistic, and that proposals featuring the central bank as the euro’s savior through even more radical employment of its balance sheet are misplaced hopes. Ultimately, the euro’s travails can only be ended and the euro crisis resolved by shifting the emphasis toward fiscal policy; specifically, by partnering the ECB with a “Euro Treasury” that would serve as a vehicle for the central funding of public investment through the issuance of common Euro Treasury debt securities. 

  • Book Series | September 2015
    By L. Randall Wray

    In a completely revised second edition, Senior Scholar L. Randall Wray presents the key principles of Modern Money Theory, exploring macro accounting, monetary and fiscal policy, currency regimes, and exchange rates in developed and developing nations. Wray examines how misunderstandings about the nature of money caused the recent global financial meltdown, and provides fresh ideas about how leaders should approach economic policy. This updated edition also includes new chapters on tax policies and inflation.

    Published by: Palgrave Macmillan

  • Conference Proceedings | August 2015

    A conference coorganized by the Levy Economics Institute of Bard College and Economia Civile with support from the Ford Foundation, the Friedrich-Ebert-Stiftung, and Marinopoulos AE

    Athens, Greece
    November 21–22, 2014

    This conference was organized as part of the Levy Institute’s international research agenda and in conjunction with the Ford Foundation Project on Financial Instability, which draws on Hyman Minsky’s extensive work on the structure of financial systems to ensure stability, and on the role of government in achieving a growing and equitable economy.

    Among the key topics addressed: systemic instability in the eurozone; proposals for banking union; regulation and supervision of financial institutions; monetary, fiscal, and trade policy in Europe, and the spillover effects for the US and global economies; the impact of austerity policies on US and European markets; and the sustainability of government deficits and debt.

  • Policy Note 2015/5 | August 2015
    An Assessment in the Context of the IMF Rulings for Greece

    Developing countries, led by China and other BRICS members (Brazil, Russia, India, and South Africa), have been successfully organizing alternative sources of credit flows, aiming for financial stability, growth, and development. With their goals of avoiding International Monetary Fund loan conditionality and the dominance of the US dollar in global finance, these new BRICS-led institutions represent a much-needed renovation of the global financial architecture. The nascent institutions will provide an alternative to the prevailing Bretton Woods institutions, loans from which are usually laden with prescriptions for austerity—with often disastrous consequences for output and employment. We refer here to the most recent example in Europe, with Greece currently facing the diktat of the troika to accept austerity as a precondition for further financial assistance.

    It is rather disappointing that Western financial institutions and the EU are in no mood to provide Greece with any options short of complying with these disciplinary measures. Limitations, such as the above, in the prevailing global financial architecture bring to the fore the need for new institutions as alternative sources of funds. The launch of financial institutions by the BRICS—when combined with the BRICS clearing arrangement in local currencies proposed in this policy note—may chart a course for achieving an improved global financial order. Avoiding the use of the dollar as a currency to settle payments would help mitigate the impact of exchange rate fluctuations on transactions within the BRICS. Moreover, using the proposed clearing account arrangement to settle trade imbalances would help in generating additional demand within the BRICS, which would have an overall expansionary impact on the world economy as a whole.

  • Working Paper No. 842 | July 2015
    The Euro Treasury Plan

    The euro crisis remains unresolved and the euro currency union incomplete and extraordinarily vulnerable. The euro regime’s essential flaw and ultimate source of vulnerability is the decoupling of central bank and treasury institutions in the euro currency union. We propose a “Euro Treasury” scheme to properly fix the regime and resolve the euro crisis. This scheme would establish a rudimentary fiscal union that is not a transfer union. The core idea is to create a Euro Treasury as a vehicle to pool future eurozone public investment spending and to have it funded by proper eurozone treasury securities. The Euro Treasury could fulfill a number of additional purposes while operating mainly on the basis of a strict rule. The plan would also provide a much-needed fiscal boost to recovery and foster a more benign intra-area rebalancing.

  • Working Paper No. 839 | June 2015
    The Unit of Account, Inflation, Leverage, and Financial Fragility

    We hope to model financial fragility and money in a way that captures much of what is crucial in Hyman Minsky’s financial fragility hypothesis. This approach to modeling Minsky may be unique in the formal Minskyan literature. Namely, we adopt a model in which a psychological variable we call financial prudence (P) declines over time following a financial crash, driving a cyclical buildup of leverage in household balance sheets. High leverage or a low safe-asset ratio in turn induces high financial fragility (FF). In turn, the pathways of FF and capacity utilization (u) determine the probabilistic risk of a crash in any time interval. When they occur, these crashes entail discrete downward jumps in stock prices and financial sector assets and liabilities. To the endogenous government liabilities in Hannsgen (2014), we add common stock and bank loans and deposits. In two alternative versions of the wage-price module in the model (wage–Phillips curve and chartalist, respectively), the rate of wage inflation depends on either unemployment or the wage-setting policies of the government sector. At any given time t, goods prices also depend on endogenous markup and labor productivity variables. Goods inflation affects aggregate demand through its impact on the value of assets and debts. Bank rates depend on an endogenous markup of their own. Furthermore, in light of the limited carbon budget of humankind over a 50-year horizon, goods production in this model consumes fossil fuels and generates greenhouse gases.

    The government produces at a rate given by a reaction function that pulls government activity toward levels prescribed by a fiscal policy rule. Subcategories of government spending affect the pace of technical progress and prudence in lending practices. The intended ultimate purpose of the model is to examine the effects of fiscal policy reaction functions, including one with dual unemployment rate and public production targets, testing their effects on numerically computed solution pathways. Analytical results in the penultimate section show that (1) the model has no equilibrium (steady state) for reasons related to Minsky’s argument that modern capitalist economies possess a property that he called “the instability of stability,” and (2) solution pathways exist and are unique, given vectors of initial conditions and parameter values and realizations of the Poisson model of financial crises.

  • In the Media | May 2015
    Congress Launches New Attacks on America's Central Bank
    The Economist, May 16, 2015. All Rights Reserved.

    During a financial panic, said Walter Bagehot, a former editor of The Economist, a central bank should help the deserving and let the reckless go under. Bagehot reckoned that the monetary guardians should follow fourrules: lend freely, but only to solvent firms, against good collateral and at high rates. Many American politicians complain that the Federal Reserve is all too happy to lend, but that it ignores Bagehot's other dictums. On May 13th two senators of very different hues—Elizabeth Warren, a darling of the left, and David Vitter, a southern conservative—joined forces to introduce a bill that would restrict the Fed's ability to lend during the next financial panic. Does that make sense?

    Emergency lending under Section 13(3) of the Federal Reserve Act was one of the most controversial policy responses to the financial crisis. In a letter to Janet Yellen, the chair of the Fed, Ms Warren and Mr Vitter say that from 2007 to 2009 the Fed provided over $13 trillion to support financial institutions. The loans were cheap. A study from 2013 by the Levy Institute, a nonpartisan think-tank, found that many of them were "below or at the market rates" (sometimes less than 1%). Many of the banks that benefited were insolvent at the time. And much of the $13 trillion went to just three banks (Citigroup, Merrill Lynch and Morgan Stanley), leading many to suspect that the Fed was indulging favoured firms.

    Critics focus on details but miss the big picture, counters the Fed. Elizabeth Duke, a former governor, says that the Fed targeted its lending programmes at the right markets, such that it helped to stop the crisis from getting even worse. Jerome Powell, a current governor, points out that "every single loan we made was repaid in full,on time, with interest."

    But whether the Fed should be able to offert his kind of financial support at all is a different question. Choosing certain firms or markets to receive credit over others is inherently problematic, says a recent paper from the Federal Reserve Bank of Richmond. The prospect of easy money encourages firms to take excessive risks. And according to a paper by Alexander Mehra, then of Harvard Law School, the Fed "exceeded the bounds of its statutory authority" when it bought privately issued securities as well as making loans.

    The Dodd-Frank Act, passed in 2010, was supposed to ensure that the Fed never again made such large, open-ended commitments. Congress told the Fed's board to ensure that emergency lending propped up the financial system as a whole, not individual firms. However, say Ms Warren and Mr Vitter, the Fed has not implemented the new rules in the spirit of the law. The new bill proposes a number of Bagehot-like changes: to toughen up the definition of insolvency, such that the Fed lends only to viable firms; to offer any lending programme to many different institutions; and to ensure that when the Fed does lend, it charges punitive rates.

    This battle is not the only one the Fed faces. On May 12th Richard Shelby, a Republican senator and chair of the Senate Banking Committee, introduced his own bill, which he hopes will rein in the Fed's powers in different ways. It would increase the threshold at which a financial institution became "systemically important" (and thus subject to tougher regulatory scrutiny) from assets of $50 billion to $500 billion. Mr Shelby also wants to shake up the structure of the Federal Reserve System, including changing how the president of the New York Fed, which oversees big banks, is appointed. They may have different complaints, but lots of America's lawmakers agree that the Fed must change.

    From the print edition: Finance and economics
  • Working Paper No. 837 | May 2015
    A Keynes-Schumpeter-Minsky Synthesis

    This paper discusses the role that finance plays in promoting the capital development of the economy, with particular emphasis on the current situation of the United States and the United Kingdom. We define both “finance” and “capital development” very broadly. We begin with the observation that the financial system evolved over the postwar period, from one in which closely regulated and chartered commercial banks were dominant to one in which financial markets dominate the system. Over this period, the financial system grew rapidly relative to the nonfinancial sector, rising from about 10 percent of value added and a 10 percent share of corporate profits to 20 percent of value added and 40 percent of corporate profits in the United States. To a large degree, this was because finance, instead of financing the capital development of the economy, was financing itself. At the same time, the capital development of the economy suffered perceptibly. If we apply a broad definition—to include technological advances, rising labor productivity, public and private infrastructure, innovations, and the advance of human knowledge—the rate of growth of capacity has slowed.

    The past quarter century witnessed the greatest explosion of financial innovation the world had ever seen. Financial fragility grew until the economy collapsed into the global financial crisis. At the same time, we saw that much (or even most) of the financial innovation was directed outside the sphere of production—to complex financial instruments related to securitized mortgages, to commodities futures, and to a range of other financial derivatives. Unlike J. A. Schumpeter, Hyman Minsky did not see the banker merely as the ephor of capitalism, but as its key source of instability. Furthermore, due to “financialisation of the real economy,” the picture is not simply one of runaway finance and an investment-starved real economy, but one where the real economy itself has retreated from funding investment opportunities and is instead either hoarding cash or using corporate profits for speculative investments such as share buybacks. As we will argue, financialization is rooted in predation; in Matt Taibbi’s famous phrase, Wall Street behaves like a giant, blood-sucking “vampire squid.”

    In this paper we will investigate financial reforms as well as other government policy that is necessary to promote the capital development of the economy, paying particular attention to increasing funding of the innovation process. For that reason, we will look not only to Minsky’s ideas on the financial system, but also to Schumpeter’s views on financing innovation.

  • One-Pager No. 49 | May 2015
    Shadow Banking and Federal Reserve Governance in the Global Financial Crisis

    The 2008 Federal Open Market Committee (FOMC) transcripts provide a rare portrait of how policymakers responded to the unfolding of the world’s largest financial crisis since the Great Depression. The transcripts reveal an FOMC that lacked a satisfactory understanding of a shadow banking system that had grown to enormous proportions—an FOMC that neither comprehended the extent to which the fate of regulated member banks had become intertwined and interlinked with the shadow banking system, nor had considered in advance the implications of a serious crisis. As a consequence, the Fed had to make policy on the fly as it tried to prevent a complete collapse of the financial system.

  • This monograph is part of the Levy Institute’s Research and Policy Dialogue Project on Improving Governance of the Government Safety Net in Financial Crisis, a two-year project funded by the Ford Foundation.

    This is the fourth in a series of reports summarizing the findings of the Research and Policy Dialogue Project on Improving Governance of the Government Safety Net in Financial Crisis, directed by Senior Scholar L. Randall Wray. This project explores alternative methods of providing a government safety net in times of crisis. In the global financial crisis that began in 2007, the United States used two primary responses: a stimulus package approved and budgeted by Congress, and a complex and unprecedented response by the Federal Reserve. The project examines the benefits and drawbacks of each method, focusing on questions of accountability, democratic governance and transparency, and mission consistency.

    The project has also explored the possibility of reform that might place more responsibility for provision of a safety net on Congress, with a smaller role to be played by the Fed, enhancing accountability while allowing the Fed to focus more closely on its proper mission. Given the rise of shadow banking—a financial system that operates largely outside the reach of bank regulators and supervisors—the Fed faces a complicated problem. It might be necessary to reform finance, through downsizing and a return to what Hyman Minsky called “prudent banking,” before we can reform the Fed.

    This report describes the overall scope of the project and summarizes key findings from the three previous reports, as well as additional research undertaken in 2014.  

  • Working Paper No. 834 | March 2015

    John Maynard Keynes held that the central bank’s actions determine long-term interest rates through short-term interest rates and various monetary policy measures. His conjectures about the determinants of long-term interest rates were made in the context of advanced capitalist economies, and were based on his views on ontological uncertainty and the formation of investors’ expectations. Are these conjectures valid in emerging markets, such as India? This paper empirically investigates the determinants of changes in Indian government bonds’ nominal yields. Changes in short-term interest rates, after controlling for other crucial variables such as changes in the rates of inflation and economic activity, take a lead role in driving changes in the nominal yields of Indian government bonds. This vindicates Keynes’s theories, and suggests that his views on long-term interest rates are also applicable to emerging markets. Higher fiscal deficits do not appear to raise government bond yields in India. It is further argued that Keynes’s conjectures about investors’ outlooks, views, and expectations are fairly robust in a world of ontological uncertainty.

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    Associated Program(s):
    Author(s):
    Tanweer Akram Anupam Das
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    Region(s):
    Asia

  • Policy Note 2015/1 | February 2015
    Financial Fragility and the Survival of the Single Currency
    Given the continuing divergence between progress in the monetary field and political integration in the euro area, the German interest in imposing austerity may be seen as representing an attempt to achieve, de facto, accelerated progress toward political union; progress that has long been regarded by Germany as a precondition for the success of monetary unification in the form of the common currency. Yet no matter how necessary these austerity policies may appear in the context of the slow and incomplete political integration in Europe, they are ultimately unsustainable. In the absence of further progress in political unification, writes Senior Scholar Jan Kregel, the survival and stability of the euro paradoxically require either sustained economic stagnation or the maintenance of what Hyman Minsky would have recognized as a Ponzi scheme. Neither of these alternatives is economically or politically sustainable. 

  • One-Pager No. 48 | February 2015
    The developed world’s policy response to the recent financial crisis has produced complaints from Brazil of “currency wars” and calls from India for increased policy coordination and cooperation. Chinese officials have echoed the “exorbitant privilege” noted by de Gaulle in the 1960s, and Russia has joined China as a proponent of replacing the dollar with Special Drawing Rights. However, none of the proposed remedies are adequate to achieve the emerging market economies’ objective of joining the ranks of industrialized, developed countries. 

  • Public Policy Brief No. 139 | February 2015
    Back to the Future
    Emerging market economies are taking an ill-targeted and far too limited approach to addressing their ongoing problems with the international financial system, according to Senior Scholar Jan Kregel. In this policy brief, he explains why only a wholesale reform of the international financial architecture can adequately address these countries’ concerns. As a blueprint for reform, Kregel recommends a radical proposal advanced in the 1940s, most notably by John Maynard Keynes.   Keynes was among those who were developing proposals for shaping the international financial system in the immediate postwar period. His clearing union plan, itself inspired by Hjalmar Schacht’s system of bilateral clearing agreements, would have effectively eliminated the need for an international reserve currency. Under Keynes’s clearing union, trade and other international payments would be automatically facilitated through a global clearinghouse, using debits and credits denominated in a notional unit of account. The unit of account would have a fixed conversion rate to national currencies and could not be bought, sold, or traded—meaning no market for foreign currency would be required. Clearinghouse credits could only be used to offset debits by buying imports, and if not used within a specified period of time, the credits would be extinguished, giving export surplus countries an incentive to spend them. As Kregel points out, this would help support global demand and enable a shared adjustment burden.   Though Keynes’s proposal was not specifically designed for emerging market economies, Kregel recommends combining this plan with current ideas for regionally governed institutions—to create, in other words, “regional clearing unions,” building on existing swaps arrangements. Under such a system, emerging market economies would be able to pursue their development needs without reliance on the prevailing international financial architecture, in which their concerns are, at best, diluted. 

  • Working Paper No. 833 | February 2015
    A Blueprint for Reform
    If emerging markets are to achieve their objective of joining the ranks of industrialized, developed countries, they must use their economic and political influence to support radical change in the international financial system. This working paper recommends John Maynard Keynes’s “clearing union” as a blueprint for reform of the international financial architecture that could address emerging market grievances more effectively than current approaches.
      Keynes’s proposal for the postwar international system sought to remedy some of the same problems currently facing emerging market economies. It was based on the idea that financial stability was predicated on a balance between imports and exports over time, with any divergence from balance providing automatic financing of the debit countries by the creditor countries via a global clearinghouse or settlement system for trade and payments on current account. This eliminated national currency payments for imports and exports; countries received credits or debits in a notional unit of account fixed to national currency. Since the unit of account could not be traded, bought, or sold, it would not be an international reserve currency. The credits with the clearinghouse could only be used to offset debits by buying imports, and if not used for this purpose they would eventually be extinguished; hence the burden of adjustment would be shared equally—credit generated by surpluses would have to be used to buy imports from the countries with debit balances. Emerging market economies could improve upon current schemes for regionally governed financial institutions by using this proposal as a template for the creation of regional clearing unions using a notional unit of account. 

  • Working Paper No. 832 | February 2015
    The Contributions of John F. Henry
    This paper explores the rise of money and class society in ancient Greece, drawing historical and theoretical parallels to the case of ancient Egypt. In doing so, the paper examines the historical applicability of the chartalist and metallist theories of money. It will be shown that the origins and the evolution of money were closely intertwined with the rise and consolidation of class society and inequality. Money, class society, and inequality came into being simultaneously, so it seems, mutually reinforcing the development of one another. Rather than a medium of exchange in commerce, money emerged as an “egalitarian token” at the time when the substance of social relations was undergoing a fundamental transformation from egalitarian to class societies. In this context, money served to preserve the façade of social and economic harmony and equality, while inequality was growing and solidifying. Rather than “invented” by private traders, money was first issued by ancient Greek states and proto-states as they aimed to establish and consolidate their political and economic power. Rather than a medium of exchange in commerce, money first served as a “means of recompense” administered by the Greek city-states as they strived to implement the civic conception of social justice. While the origins of money are to be found in the origins of inequality, a well-functioning democratic society has the power to subvert the inequality-inducing characteristic of money via the use of money for public purpose, following the principles of Modern Money Theory (MMT). When used according to the principles of MMT, the inequality-inducing characteristic of money could be undermined, while the current trends in rising income and wealth disparities could be contained and reversed. 

  • Working Paper No. 831 | January 2015
    The Market Creating and Shaping Roles of State Investment Banks

    Recent decades witnessed a trend whereby private markets retreated from financing the real economy, while, simultaneously, the real economy itself became increasingly financialized. This trend resulted in public finance becoming more important for investments in capital development, technical change, and innovation. Within this context, this paper focuses on the roles played by a particular source of public finance: state investment banks (SIBs). It develops a conceptual typology of the different roles that SIBs play in the economy, which together show the market creation/shaping process of SIBs rather than their mere “market fixing” roles. This paper discusses four types of investments, both theoretically and empirically: countercyclical, developmental, venture capitalist, and challenge led. To develop the typology, we first discuss how standard market failure theory justifies the roles of SIBs, the diagnostics and evaluation toolbox associated with it, and resulting criticisms centered on notions of “government failures.” We then show the limitations of this approach based on insights from Keynes, Schumpeter, Minsky, and Polanyi, as well as other authors from the evolutionary economics tradition, which help us move toward a framework for public investments that is more about market creating/shaping than market fixing. As frameworks lead to evaluation tools, we use this new lens to discuss the increasingly targeted investments that SIBs are making, and to shed new light on the usual criticisms that are made about such directed activity (e.g., crowding out and picking winners). The paper ends with a proposal of directions for future research.

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    Author(s):
    Mariana Mazzucato Caetano C.R. Penna
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  • Working Paper No. 829 | January 2015

    Before the global financial crisis, the assistance of a lender of last resort was traditionally thought to be limited to commercial banks. During the crisis, however, the Federal Reserve created a number of facilities to support brokers and dealers, money market mutual funds, the commercial paper market, the mortgage-backed securities market, the triparty repo market, et cetera. In this paper, we argue that the elimination of specialized banking through the eventual repeal of the Glass-Steagall Act (GSA) has played an important role in the leakage of the public subsidy intended for commercial banks to nonbank financial institutions. In a specialized financial system, which the GSA had helped create, the use of the lender-of-last-resort safety net could be more comfortably limited to commercial banks.

    However, the elimination of GSA restrictions on bank-permissible activities has contributed to the rise of a financial system where the lines between regulated and protected banks and the so-called shadow banking system have become blurred. The existence of the shadow banking universe, which is directly or indirectly guaranteed by banks, has made it practically impossible to confine the safety to the regulated banking system. In this context, reforming the lender-of-last-resort institution requires fundamental changes within the financial system itself.

  • Working Paper No. 828 | January 2015
    The Indian Case

    Financialization creates space for the financial sector in economies, and in doing so helps to raise the share of financial assets in the portfolios held by market participants. Largely driven by deregulation, the process works to make financial assets relatively attractive as compared to other assets, by offering both better returns and potential capital gains. Both the trend toward a more financialized economy and the expected returns on financial investments have provided incentives to corporate managers to invest larger sums in financial assets, resulting in growth of the share of financial assets relative to other assets held in portfolios. Assets held in the financial sector, however, failed to generate asset growth for the corporates. The need to obtain resources by borrowing in order to meet current liabilities reflects a pattern of Ponzi finance on their part. This paper traces the above pattern in corporate holdings of assets and its implications, with emphasis on the Indian economy.

  • Working Paper No. 827 | January 2015
    Early Work on Endogenous Money and the Prudent Banker

    In this paper, I examine whether Hyman P. Minsky adopted an endogenous money approach in his early work—at the time that he was first developing his financial instability approach. In an earlier piece (Wray 1992), I closely examined Minsky’s published writings to support the argument that, from his earliest articles in 1957 to his 1986 book (as well as a handout he wrote in 1987 on “securitization”), he consistently held an endogenous money view. I’ll refer briefly to that published work. However, I will devote most of the discussion here to unpublished early manuscripts in the Minsky archive (Minsky 1959, 1960, 1970). These manuscripts demonstrate that in his early career Minsky had already developed a deep understanding of the nature of banking. In some respects, these unpublished pieces are better than his published work from that period (or even later periods) because he had stripped away some institutional details to focus more directly on the fundamentals. It will be clear from what follows that Minsky’s approach deviated substantially from the postwar “Keynesian” and “monetarist” viewpoints that started from a “deposit multiplier.” The 1970 paper, in particular, delineates how Minsky’s approach differs from the “Keynesian” view as presented in mainstream textbooks. Further, Minsky’s understanding of banking in those years appears to be much deeper than that displayed three or four decades later by much of the post-Keynesian endogenous-money literature.

  • Working Paper No. 825 | January 2015
    What Should BNDES Do?

    The 2007–8 global financial crisis has shown the failure of private finance to efficiently allocate capital to finance real capital development. The resilience and stability of Brazil’s financial system has received attention, since it navigated relatively smoothly through the Great Recession and the collapse of the shadow banking system. This raises the question of whether it is possible that the alternative approaches followed by some developing countries might provide an indication of more stable regulatory approaches generally. There has been much discussion about how to support private long-term finance in order to meet Brazil’s growing infrastructure and investment needs. One of the essential functions of the financial system is to provide the long-term funding needed for long-lived and expensive capital assets. However, one of the main difficulties of the current private financial system is its failure to provide long-term financing, as the short-termism in Brazil’s financial market is a major obstacle to financing long-term assets. In its current form, the National Economic and Social Development Bank (BNDES) is the main source of long-term funding in the country. However, BNDES has been subject to a range of criticisms, such as crowding out private sector bank lending, and it is said to be hampering the development of the local capital market. This paper argues that, rather than following the traditional approach to justify the existence of public banks—and BNDES in particular, based on market failures—finding an effective answer to this question requires a theory of financial instability.

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    Author(s):
    Felipe Rezende
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  • Working Paper No. 824 | January 2015
    A New Framework for Envisioning and Evaluating a Mission-oriented Public Sector

    Today, countries around the world are seeking “smart” innovation-led growth, and hoping that this growth is also more “inclusive” and “sustainable” than in the past. This paper argues that such a feat requires rethinking the role of government and public policy in the economy—not only funding the “rate” of innovation, but also envisioning its “direction.” It requires a new justification of government intervention that goes beyond the usual one of “fixing market failures.” It also requires the shaping and creating of markets. And to render such growth more “inclusive,” it requires attention to the ensuing distribution of “risks and rewards.”

    To approach the innovation challenge of the future, we must redirect the discussion, away from the worry about “picking winners” and “crowding out” toward four key questions for the future:

    1. Directions: how can public policy be understood in terms of setting the direction and route of change; that is, shaping and creating markets rather than just fixing them? What can be learned from the ways in which directions were set in the past, and how can we stimulate more democratic debate about such directionality?
    2. Evaluation: how can an alternative conceptualization of the role of the public sector in the economy (alternative to MFT) translate into new indicators and assessment tools for evaluating public policies beyond the microeconomic cost/benefit analysis? How does this alter the crowding in/out narrative?
    3. Organizational change: how should public organizations be structured so they accommodate the risk-taking and explorative capacity, and the capabilities needed to envision and manage contemporary challenges?
    4. Risks and Rewards: how can this alternative conceptualization be implemented so that it frames investment tools so that they not only socialize risk, but also have the potential to socialize the rewards that enable “smart growth” to also be “inclusive growth”?

  • Working Paper No. 822 | December 2014

    An understanding of, and an intervention into, the present capitalist reality requires that we put together the insights of Karl Marx on labor, as well as those of Hyman Minsky on finance. The best way to do this is within a longer-term perspective, looking at the different stages through which capitalism evolves. In other words, what is needed is a Schumpeterian-like, nonmechanical view about long waves, where Minsky’s financial Keynesianism is integrated with Marx’s focus on capitalist relations of production. Both are essential elements in understanding neoliberalism’s ascent and collapse. Minsky provided crucial elements in understanding the capitalist “new economy.” This refers to his perceptive diagnosis of “money manager capitalism,” the new form of capitalism that came from the womb of the Keynesian era itself. It collapsed a first time with the dot-com crisis, and a second time, and more seriously, with the subprime crisis. The focus is on the long-term changes in capitalism, and especially on what L. Randall Wray appropriately calls Minsky’s “stages approach.” Our aim is to show that this theme has a deep connection with the topic of the socialization of investment, central in the conclusions of the latter’s 1975 book on Keynes.

  • Working Paper No. 821 | December 2014
    The Advantages of Owning the Magic Porridge Pot

    Over the past two decades there has been a revival of Georg Friedrich Knapp’s “state money” approach, also known as chartalism. The modern version has come to be called Modern Money Theory. Much of the recent research has delved into three main areas: mining previous work, applying the theory to analysis of current sovereign monetary operations, and exploring the policy space open to sovereign currency issuers. This paper focuses on “outside” money—the currency issued by the sovereign—and the advantages that accrue to nations that make full use of the policy space provided by outside money.

  • Policy Note 2014/6 | December 2014
    Criticisms of the Federal Reserve’s “unconventional” monetary policy response to the Great Recession have been of two types. On the one hand, the tripling in the size of the Fed’s balance sheet has led to forecasts of rampant inflation in the belief that the massive increase in excess reserves might be spent on goods and services. And even worse, this would represent an attempt by government to inflate away its high levels of debt created to support the solvency of financial institutions after the September 2008 collapse of asset prices. On the other hand, it is argued that the near-zero short-term interest rate policy and measures to flatten the yield curve (quantitative easing plus "Operation Twist") distort the allocation and pricing in the credit and capital markets and will underwrite another asset price bubble, even as deflation prevails in product markets.   Both lines of criticism have led to calls for a return to a more conventional policy stance, and yet there is widespread agreement that this would have a negative impact on the economy, at least in the short-term. However, since the analyses behind both lines of criticism are mistaken, it is probable that the analyses of the impact of the risks of return to more normal policies are also in error.  

  • Book Series | November 2014
    Edited by Dimitri B. Papadimitriou
    Levy Institute Senior Scholar Jan A. Kregel is a prominent Post-Keynesian economist. This study combines lessons drawn from events and experiences of developing countries and examines them in relation to his ideas on economics and development.

    This collection brings together distinguished scholars who have been influenced by Kregel's prodigious contributions to the fields of economic theory and policy. The chapters cover and extend many topics analyzed in Kregel's published work, including monetary economic theory and policy; aspects of the Cambridge (UK and US) controversies; Sraffa's critique on neoclassical value and distribution theory; Post-Keynesianism; employment policy; obstacles in financing development; trade and development theories; causes and lessons from the financial crises in East Asia, Latin America, and Europe; Minskyan-Kregel theories of financial instability; and global governance. Combining rigorous scholarly assessment of the issues, the contributors seek to offer solutions to the debates on economic theory and the problem of continuing high unemployment, to identify the factors that determine economic expansion, and to analyze the impact of financial crises on systemic stability, markets, institutions, and international regulations on domestic and global economic performance.

    The scope and comprehensive analyses found in this volume will be of interest to economists and scholars of economics, finance, and development.

    Published by: Palgrave Macmillan
  • Working Paper No. 820 | November 2014
    Challenges for the Art of Monetary Policymaking in Emerging Economies

    This paper examines the emerging challenges to the art of monetary policymaking using the case study of the Reserve Bank of India (RBI) in light of developments in the Indian economy during the last decade (2003–04 to 2013–14). The paper uses Hyman P. Minsky’s financial instability hypothesis as the conceptual framework for evaluating the endogenous nature of financial instability and its potential impact on monetary policymaking, and addresses the need to pursue regulatory policy as a tool that is complementary to monetary policy in light of the agenda of reforms put forward by Minsky. It further reviews the extensions to the Minskyan hypothesis in the areas of setting fiscal policy, managing cross-border capital flows, and developing financial institutional infrastructure. The lessons learned from the interplay of policy choices in these areas and their impact on monetary policymaking at the RBI are presented.

  • Conference Proceedings | November 2014
    A conference organized by the Levy Economics Institute with support from the Ford Foundation

    In the context of a sluggish economic recovery and global uncertainty, with growth and employment well below normal levels, the 2014 Minsky Conference addressed both financial reform and prosperity, drawing from Hyman Minsky’s work on financial instability and his proposal for achieving full employment. Panels focused on the design of a new, more robust, and stable financial architecture; fiscal austerity and the sustainability of the US and European economic recovery; central bank independence and financial reform; the larger implications of the eurozone debt crisis for the global economic system; the impact of the return to more traditional US monetary policy on emerging markets and developing economies; improving governance of the social safety net; the institutional shape of the future financial system; strategies for promoting an inclusive economy and more equitable income distribution; and regulatory challenges for emerging-market economies. The proceedings include the conference program, transcripts of keynote speakers’ remarks, synopses of the panel sessions, and biographies of the participants. 
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    Associated Program(s):
    Author(s):
    Barbara Ross Michael Stephens
    Region(s):
    United States, Europe

  • Policy Note 2014/5 | November 2014

    The Fed’s zero interest policy rate (ZIRP) and quantitative easing (QE) policies failed to restore growth to the US economy as expected (i.e., increased investment spending à la John Maynard Keynes or from an expanded money supply à la Ben Bernanke / Milton Friedman). Senior Scholar Jan Kregel analyzes some of the arguments as to why these policies failed to deliver economic recovery. He notes a common misunderstanding of Keynes’s liquidity preference theory in the debate, whereby it is incorrectly linked to the recent implementation of ZIRP. Kregel also argues that Keynes’s would have implemented QE policies quite differently, by setting the bid and ask rate and letting the market determine the volume of transactions. This policy note both clarifies Keynes’s theoretical insights regarding unconventional monetary policies and provides a substantive analysis of some of the reasons why central bank policies have failed to achieve their stated goals.

  • In the Media | October 2014
    By Ronald Find
    Global Finance, October 29, 2014. All Rights Reserved.

    Governors of the world’s central banks face difficult choices as they are increasingly tasked with promoting financial stability and providing a boost to growth. Not all central bankers—or other stakeholders—believe this is, or should be, their role. What’s more, the tools at their disposal may have limited effects and unforeseen consequences, leaving the bankers between a rock and a hard place. . . .

    Read more: https://www.gfmag.com/magazine/october-2014/central-banks-where-do-they-go-here
  • Book Series | October 2014
    By Jan A. Kregel. Edited by Rainer Kattel. Foreword by G. C. Harcourt.
    This volume is the first collection of essays by Jan Kregel focusing on the role of finance in development and growth, and it demonstrates the extraordinary depth and breadth of this economist’s work. Considered the “best all-round general economist alive” (Harcourt), Kregel is a senior scholar and director of the monetary policy and financial structure program at the Levy Economics Institute, and professor of development finance at Tallinn University of Technology. These essays reflect his deep understanding of the nature of money and finance and of the institutions associated with them, and of the indissoluble relationship between these institutions and the real economy—whether in developed or developing economies. Kregel has expanded Hyman Minsky’s original premise that in capitalist economies stability engenders instability, and Kregel’s key works on financial instability, its causes and effects, as well as his discussions of the global financial crisis and Great Recession, are included here.   Published by: Anthem Press
  • Working Paper No. 818 | October 2014

    During the past two decades of economic stagnation and persistent deflation in Japan, chronic fiscal deficits have led to elevated and rising ratios of government debt to nominal GDP. Nevertheless, long-term Japanese government bonds’ (JGBs) nominal yields initially declined and have stayed remarkably low and stable since then. This is contrary to the received wisdom of the existing literature, which holds that higher government deficits and indebtedness shall exert upward pressures on government bonds’ nominal yields. This paper seeks to understand the determinants of JGBs’ nominal yields. It examines the relationship between JGBs’ nominal yields and short-term interest rates and other relevant factors, such as low inflation and persistent deflationary pressures and tepid growth. Low short-term interest rates, induced by monetary policy, have been the main reason for JGBs’ low nominal yields. It is also argued that Japan has monetary sovereignty, which gives the government of Japan the ability to meet its debt obligations. It enables the Bank of Japan to exert downward pressure on JGBs’ nominal yields by allowing it to keep short-term interest rates low and to use other tools of monetary policy. The argument that current short-term interest rates and monetary policy are the primary drivers of long-term interest rates follows Keynes’s (1930) insights.

  • Working Paper No. 817 | September 2014
    The Reemergence of Liquidity Preference and Animal Spirits in the Post-Keynesian Theory of Capital Markets

    Since the beginning of the fall of monetarism in the mid-1980s, mainstream macroeconomics has incorporated many of the principles of post-Keynesian endogenous money theory. This paper argues that the most important critical component of post-Keynesian monetary theory today is its rejection of the “natural rate of interest.” By examining the hidden assumptions of the loanable funds doctrine as it was modified in light of the idea of a natural rate of interest—specifically, its implicit reliance on an “efficient markets hypothesis” view of capital markets—this paper seeks to show that the mainstream view of capital markets is completely at odds with the world of fundamental uncertainty addressed by post-Keynesian economists, a world in which Keynesian liquidity preference and animal spirits rule the roost. This perspective also allows us to shed new light on the debate that has sprung up around the work of Hyman Minsky, calling into question to what extent he rejected the loanable funds view of financial markets. When Minsky’s theories are examined against the backdrop of the natural rate of interest version of the loanable funds theory, it quickly becomes clear that Minsky does not fall into the loanable funds camp.

  • Public Policy Brief No. 135 | August 2014
    Contrary to German chancellor Angela Merkel’s recent claim, the euro crisis is not nearly over but remains unresolved, leaving the eurozone extraordinarily vulnerable to renewed stresses. In fact, as the reforms agreed to so far have failed to turn the flawed and dysfunctional euro regime into a viable one, the current calm in financial markets is deceiving, and unlikely to last.   The euro regime’s essential flaw and ultimate source of vulnerability is the decoupling of central bank and treasury institutions in the euro currency union. In this public policy brief, Research Associate Jörg Bibow proposes a Euro Treasury scheme to properly fix the regime and resolve the euro crisis. The Euro Treasury would establish the treasury–central bank axis of power that exists at the center of control in sovereign states. Since the eurozone is not actually a sovereign state, the proposed treasury is specifically designed not to be a transfer union; no mutualization of existing national public debts is involved either. The Euro Treasury would be the means to pool future eurozone public investment spending, funded by proper eurozone treasury securities, and benefits and contributions would be shared across the currency union based on members’ GDP shares. The Euro Treasury would not only heal the euro’s potentially fatal birth defects but also provide the needed stimulus to end the crisis in the eurozone.

  • Conference Proceedings | August 2014
    This conference was organized as part of the Levy Institute’s international research agenda and in conjunction with the Ford Foundation Project on Financial Instability, which draws on Hyman Minsky’s extensive work on the structure of financial systems to ensure stability, and the role of government in achieving a growing and equitable economy.
      Among the key topics addressed: the challenges to global growth and employment posed by the continuing eurozone debt crisis; the impact of austerity on output and employment; the ramifications of the credit crunch for economic and financial markets; the larger implications of government deficits and debt crises for US and European economic policies; and central bank independence and financial reform. 

  • A Proposal for Rural Reinvestment and Urban Entrepreneurship
    The crisis in Greece is persistent and ongoing. After six years of deepening recession, real GDP has shrunk by more than 25 percent, with total unemployment now standing at 27.2 percent. Clearly, reviving growth and creating jobs should be at the top of the policy agenda.

    But banks remain undercapitalized, and lending has been restricted to only the most creditworthy businesses and households. Many start-ups and small- and medium-size enterprises (SMEs) have almost no access to development loans, and for those to whom credit can be extended, it is at disproportionally high interest rates.

    The success of micro-lending institutions in developing nations (such as the Grameen Bank in Bangladesh) has highlighted the positive economic performance of community-based credit, and such lending models have proven to be an important poverty policy alternative in areas where transfer payments are limited. Community or co-operative financial institutions (CFIs) can fill the gap when existing institutions cannot adequately perform critical functions of the financial system for SMEs, entrepreneurs, and low-income residents seeking modest financing and other banking services.

    We propose expanding the reach and services of CFIs within Greece, drawing upon lessons from the US experience of community development banking and various co-operative banking models in Europe. The primary goals of this nationwide system would be to make credit available, process payments, and offer savings opportunities to communities not well served by the major commercial Greek banks.

    Our blueprint includes suggestions on the banks’ organization and a framework within which they would be chartered, regulated, and supervised by a newly created central co-operative bank. It also looks at the possible impact that such a network could have, especially in terms of start-ups, SMEs, and rural redevelopment (agrotourism)—all of which are critical to Greece’s exit from recession. 

  • Working Paper No. 802 | May 2014
    Policy Challenges for Central Banks

    Central banks responded with exceptional liquidity support during the financial crisis to prevent a systemic meltdown. They broadened their tool kit and extended liquidity support to nonbanks and key financial markets. Many want central banks to embrace this expanded role as “market maker of last resort” going forward. This would provide a liquidity backstop for systemically important markets and the shadow banking system that is deeply integrated with these markets. But how much liquidity support can central banks provide to the shadow banking system without risking their balance sheets? I discuss the expanding role of the shadow banking sector and the key drivers behind its growing importance. There are close parallels between the growth of shadow banking before the recent financial crisis and earlier financial crises, with rapid growth in near monies as a common feature. This ebb and flow of shadow-banking-type liabilities are indeed an ingrained part of our advanced financial system. We need to reflect and consider whether official sector liquidity should be mobilized to stem a future breakdown in private shadow banking markets. Central banks should be especially concerned about providing liquidity support to financial markets without any form of structural reform. It would indeed be ironic if central banks were to declare victory in the fight against too-big-to-fail institutions, just to end up bankrolling too-big-to-fail financial markets.

  • Working Paper No. 801 | May 2014
    Debt, Finance, and Distributive Politics under a Kalecki-Goodwin-Minsky SFC Framework

    This paper describes the political economy of shadow banking and how it relates to the dramatic institutional changes experienced by global capitalism over past 100 years. We suggest that the dynamics of shadow banking rest on the distributive tension between workers and firms. Politics wedge the operation of the shadow financial system as government policy internalizes, guides, and participates in dealings mediated by financial intermediaries. We propose a broad theoretical overview to formalize a stock-flow consistent (SFC) political economy model of shadow banking (stylized around the operation of money market mutual funds, or MMMFs). Preliminary simulations suggest that distributive dynamics indeed drive and provide a nest for the dynamics of shadow banking.

  • In the Media | May 2014
    By Barry Elias
    MoneyNews, May 8, 2014. All Rights Reserved.

    Future rises in income inequality will lead to a prolonged period of anemic economic growth and high unemployment.

    Income for the bottom 90 percent of households has stagnated during the past 35 years. Strong economic activity in the 1990s and 2000s was largely generated by consumption that was financed by borrowing. The resulting high levels of debt relative to income precipitated the financial and economic crisis.

    Since 2008, the bottom 90 percent of households have deleveraged, thereby reducing their debt-to-disposable-income ratio. This ratio for the top 10 percent has remained relatively stable. Should this deleveraging trend continue, by 2017, economic growth will be 1.7 percentage points lower than the post-recession period, and unemployment will rise 1.3 percentage points to 7.6 percent, according to the Levy Economics Institute.

    Future economic growth is unlikely to arise from the activities of the top 10 percent of households. Their consumption levels tend to remain relatively stable, and their investments are driven by short-term arbitrage opportunities of financial assets — not long-term direct investment in businesses that generate strong employment and income growth.

    Coupled with weak foreign demand and restrictive government fiscal policy, future economic growth may be driven by domestic deficits. This burden will fall primarily on the bottom 90 percent in the private sector and exacerbate income disparity. However, as debt-to-income levels rise, a financial and economic crisis becomes more probable.

    The only viable solution to this economic conundrum is greater income equality.
  • Working Paper No. 799 | May 2014
    A Financial View

    This paper develops the framework of analysis of monetary systems put together by authors such as Macleod, Keynes, Innes, and Knapp. This framework does not focus on the functions performed by an object but rather on its financial characteristics. Anything issued by anybody can be a monetary instrument and any type of material can be used to make a monetary instrument, as these are unimportant determinants of what a monetary instrument is. What matters is the existence of specific financial characteristics. These characteristics lead to a stable nominal value (parity) in the proper financial environment. This framework of analysis leads the researcher to study how the fair value of a monetary instrument changes and how that change differs from changes in the value of the unit of account. It also provides a road map to understanding monetary history and why monetary instruments are held.

  • In the Media | April 2014
    By Robert Feinberg
    MoneyNews, April 30, 2014. All Rights Reserved.

    Jason Furman, the brilliant economist who chairs the Council of Economic Advisers, spoke recently at the 23rd Annual Hyman Minsky Conference, sponsored by the Levy Economics Institute of Bard College. 

    The title of Furman's presentation was "Whatever Happened to the Great Moderation?" He argued that with the right economic policies, as advocated by the administration, this mythical Great Moderation could be restored. 

    I suspect a priori that the Great Moderation was a result of official policies that suppressed normal adjustments that should have taken place in the economy, for example, by neglecting prudential and consumer protection regulation of "too big to fail" banks, so that when the 2008 episode of the permanent financial crisis erupted, it was much more costly and disruptive than it would otherwise have been. 

    Ironically, after having written this sentence, I found that a similar suggestion had been made by a famous economist — none other than Hyman Minsky. The very informative Wikipedia entry on the Great Moderation also contains a reference to a 2003 speech by University of Chicago economist Robert Lucas as president of the American Economic Association celebrating the idea that the profession had practically solved "the central problem depression prevention." 

    Furman defined the Great Moderation as the reduction in the volatility of a wide range of economic variables, and to the associated increase in the longevity of economic expansions and reduction in the frequency and severity of economic contractions. Among the economists cited as having contributed research on this subject are former Federal Reserve Chairman Ben Bernanke (2004) and Douglas Elmendorf (2006), currently director of the Congressional Budget Office. 

    Furman dated the beginning of the debate over the Great Moderation to the early 1990s. To his credit, Furman took time out to question, as I do, whether "there ever was a 'Great Moderation,' let alone that it has returned and rendered further policy steps unnecessary."

    Furman dismissed the idea that policy responses are not needed, because recessions serve a purpose and little can be done, on the ground that while this might be true in "normal times," these times are characterized by a large shortfall in output, and policy responses are needed. He seems not to have considered that maybe these are "normal times," and that the slow growth and shortfall in output are due to previous misguided policies. 

    Instead, he offered some new misguided policies, a lot of them, under what he calls "The Unfinished Agenda for Economic Stability." This is ironic, because it seems that Minsky himself was highly skeptical that "economic stability" could be achieved by policy. 

    It almost becomes amusing to consider the grab bag of measures Furman offers as holding out hope of averting or coping with future downturns. He claimed that Obamacare will have a counter-cyclical effect, a notion that is heatedly disputed, and he also pointed to increased progressivity in taxation. Reducing inequality is highly speculative as a counter-cyclical measure, but maybe they can start with salaries of reckless bank executives and their feckless regulators. 

    Finally, Furman pointed to implementation of Dodd-Frank and Housing and Finance Reform, which are laughable, because neither is likely to happen, and they might not produce the effects he expects even if they do. 

    As a political document, the speech represents how desperate the administration is to establish a positive legacy as President Obama's popularity declines.

    (Archived video can be found here.)
  • In the Media | April 2014
    By Robert Feinberg
    MoneyNews, April 28, 2014. All Rights Reserved.

    Rep. Carolyn Maloney, D-N.Y., spoke at the 23rd Annual Hyman P. Minsky Conference, held in Washington at the National Press Club recently. The conference was sponsored by the Levy Economics Institute of Bard College, an independent group that "encourages diversity of opinion in the examination of economic policy issues while striving to transform ideological arguments into informed debate." The theme of the conference was "Stabilizing Financial Systems for Growth and Full Employment," and it was co-sponsored by the Ford Foundation. 

    The conferences celebrate the life and work of Minsky, who was an early theorist on the financial crisis and an advocate of government intervention to respond to financial crises that inevitably occur from time to time. This is the first of three articles on speeches delivered at the conference by Maloney and Jason Furman, chairman of the Council of Economic Advisers.

    Maloney struggled to deliver the speech due to a cough, and perhaps also due to some form of the flu, she seemed medicated and perhaps to be reading the speech for the first time, although the arguments were very familiar. 

    Later that day the House was scheduled to vote on what is known as the "Ryan budget," authored by Rep. Paul Ryan, R-Wis., which she rightly stated represents the embodiment of the Republican platform, and she devoted the speech to two provisions related to financial reform that would be affected by the Ryan budget, namely the so-called "Orderly Liquidation" provisions contained in title II of the Dodd-Frank Act, and so-called "Housing Finance Reform" now being tentatively considered in Congress.

    In 2008, I predicted privately that there would be a bank bailout, based on a cynical recollection of the deals that were put together in 1988 during the savings and loan crisis to stretch that mess out past the November election at what was then considerable cost to taxpayers. However, this prediction was not nearly cynical enough. The George W. Bush administration, with Henry Paulson as Treasury Secretary, was so incompetent, or the needs of Paulson's former firm, Goldman Sachs, were so pressing, that the bailout could not be put off. 

    The 2008 election offered a choice between a candidate who had virtually no experience and one who had a lifetime of experience but seemed not to have learned much from it. 

    Candidate John McCain made a big show of "suspending" a campaign that voters may not have noticed even existed. McCain flew back to Washington, ostensibly to intervene in the crisis, but without any actual plan. Meanwhile, candidate Barack Obama stayed coolly on the sidelines and benefited from the contrast with the manic McCain.

    After the failure of Lehman Brothers and the bailouts of Bear Stearns and AIG, the official story line was, not surprisingly, that the reason the crisis happened was that the regulators lacked the authority to resolve nonbanks whose failure threatened the health of the financial system. Title II of Dodd-Frank gives the FDIC the authority to borrow up to $150 billion to fund the resolution of failing institutions through "debtor in possession" financing. The Ryan budget wants to repeal this authority, and Maloney is extremely exercised about this prospect.

    Given that this move has engendered such a reaction from bailout apologists like Maloney, legislators seeking to prevent yet another round of bailouts might consider attaching the repeal of title II to any legislation coming out of the Senate that looks promising.

    (Archived video can be found here.) 
  • In the Media | April 2014
    By Robert Feinberg
    MoneyNews, April 22, 2014. All Rights Reserved.

    Charles Evans, president of the Federal Reserve Bank of Chicago and a leading dove of the Federal Open Market Committee (FOMC), delivered a speech April 9 titled "Monetary Goals and Strategy" to the 23rd annual Hyman Minsky Conference, which is sponsored by the Levy Institute of Bard College and held at the National Press Club in Washington. 

    With the exception of me, the modest-sized audience was composed of liberals who follow economic policy very closely and believe that governmental authorities should tinker constantly with the economy in order to improve its performance and the distribution of income. 

    The conference honors Minsky as one of the earliest exponents of this view, who propagated it articulately from the earliest years of the permanent and ongoing financial crisis.

    Chicago has traditionally been a hotbed of conservative and even hard money economics, especially at the University of Chicago. However, the Chicago Fed under Evans has placed itself firmly in the dovish camp on monetary policy, and in 2015 Evans will rotate into a voting seat on the FOMC, so that he can back his sentiments with a vote. Evans has taught at the University of Chicago, University of Michigan and University of South Carolina, and he received degrees in economics from the University of Virginia and Carnegie-Mellon University, which is a stronghold of conservative monetary scholarship.

    What makes Evans' speech especially significant is that he poses a scholarly challenge to conservative advocates of a monetary rule, particularly in circumstances where the economy has performed so poorly that the federal funds rate has already dropped to the bottom, and he contends that under these conditions, even Milton Friedman would agree that the FOMC should take an aggressive stance in order to keep the economy from slipping into a zone of negative inflation that could cripple economic growth for decades. 

    The speech was divided into four parts. First, Evans reviewed the "Three Big Events in Fed History," in his order of importance: 1) The Great Depression (1929 to 1938); 2) The Great Inflation (1965 to 1980); and The Treasury Accord (1951). He defended the independence of the Fed, but accepted in a serious way, not just rhetorically, that with the independence must go accountability.

    Second, Evans laid out a three-part strategy for achieving the goals the FOMC has set out during the long term. 

    Third, he used bulls-eye charts to demonstrate that the Fed has missed both its employment and inflation targets. 

    And finally, he lamented the inability to stimulate the economy by adjusting the federal funds rate once it has reached its lower bound. 

    He concluded by advocating that the Fed adopt more aggressive policies now to stimulate growth, even at the risk of exceeding the 2 percent inflation target for some time after the employment target has been reached. 

    He criticized as "timid" the stance of most of his colleagues who argue for a slow glide path to the target so as not to risk touching off another bout of inflation.

    (Archived video can be found here. A copy of the speech can be found here.) 
  • In the Media | April 2014
    By Panos Mourdoukoutas

    Forbes, April 14, 2014. All Rights Reserved.

    For years, China has been enjoying robust economic growth that has turned it into the world’s second largest economy.

    The problem is, however, that China’s growth is in part driven by over investment in construction and manufacturing sectors, fueling asset bubbles that parallel those of Japan in the late 1980s. With one major difference: China’s overinvestment is directed by the systematic efforts of local governments to preserve the old system of central planning, through massive construction and manufacturing projects for the purpose of employment creation rather than for addressing genuine consumer needs.

    Major Chinese cities are filled with growing numbers of new vacant buildings. They were built under government mandates to provide jobs for the hundreds of thousands of people leaving the countryside for a better life in the cities, rather than to house genuine business tenants.

    China’s real estate bubble is proliferating like an infectious disease from the eastern cities to the inner country. It has spread beyond real estate to other sectors of the economy, from the steel industry to electronics and toys industries.  Local governments rush and race to replicate each other’s policies, especially local governments of the inner regions, where corporate managers have no direct access to overseas markets, and end up copying the policies of their peers in the coastal areas.

    We all know how the Japanese bubble ended. What should Chinese policy makers do? How can they burst their bubble?

    There is  a bad way and a good way, according to L. Randall Wray and Xinhua Liu, writing in "Options for China in a Dollar Standard World: A Sovereign Currency Approach.” (Levy Economics Institute, Working Paper No 783, January 2014).

    The bad way is to pursue European-style austerity, which reins in central government deficits.

    We all know what that means–the Chinese economy is almost certain to be placed in a downward spiral that will jeopardize employment growth. Besides, as the authors observe, China’s fiscal imbalances aren’t with central government, but with local governments. In fact, China’s main imbalance “appears to be a result of loose local government budgets and overly tight central government budgets.”

    That’s why the authors propose fiscal restructuring rather than austerity. Rein in local government spending, and expand central government spending.

    That’s the good way to burst the bubble. But is it politically feasible? Can Beijing reign over local governments?

    That remains to be seen. 

  • Conference Proceedings | April 2014
    Cosponsored by the Levy Economics Institute of Bard College and MINDS – Multidisciplinary Institute for Development and Strategies, with support from the Ford Foundation

    Everest Rio Hotel
    Rio de Janeiro, Brazil
    September 26–27, 2013

    This conference was organized as part of the Levy Institute’s global research agenda and in conjunction with the Ford Foundation Project on Financial Instability, which draws on Hyman Minsky's extensive work on the structure of financial governance and the role of the state. Among the key topics addressed: designing a financial structure to promote investment in emerging markets; the challenges to global growth posed by continuing austerity measures; the impact of the credit crunch on economic and financial markets; and the larger effects of tight fiscal policy as it relates to the United States, the eurozone, and the BRIC countries. 

  • This monograph is part of the Levy Institute’s Research and Policy Dialogue Project on Improving Governance of the Government Safety Net in Financial Crisis, a two-year project funded by the Ford Foundation.

    This is the third in a series of reports examining the Federal Reserve Bank’s response to the global financial crisis, with particular emphasis on questions of accountability, democratic governance and transparency, and mission consistency. In this year’s report, we focus on issues of central bank independence and governance, with particular attention paid to challenges raised during periods of crisis. We trace the principal changes in governance of the Fed over its history—changes that accelerate during times of economic stress. We pay special attention to the famous 1951 “Accord” and to the growing consensus in recent years for substantial independence of the central bank from the treasury. In some respects, we deviate from conventional wisdom, arguing that the concept of independence is not usually well defined. While the Fed is substantially independent of day-to-day politics, it is not operationally independent of the Treasury. We examine in some detail an alternative view of monetary and fiscal operations. We conclude that the inexorable expansion of the Fed’s power and influence raises important questions concerning democratic governance that need to be resolved. 

  • In the Media | April 2014
    The Bond Buyer, April 11, 2014. All Rights Reserved.

    Federal Reserve Governor Daniel Tarullo said the central bank shouldn't raise interest rates "preemptively" on a belief the recession cut the supply of ready labor in the economy. "We should remain attentive to evidence that labor markets have actually tightened to the point that there is demonstrable inflationary pressure," Tarullo said today in remarks prepared for a speech in Washington. "We should not rush to act preemptively in anticipation of such pressures based on arguments about the potential increase in structural unemployment in recent years." Tarullo, the central bank's longest-serving governor, backed a March 19 statement in which the Federal Open Market Committee said it will keep the main interest rate below normal long-run levels while attempting to meet its mandate for full employment and stable prices. In a wide-ranging speech, Tarullo cited slower productivity growth, the smaller share of national income accruing to workers, rising inequality and decreasing economic mobility as "serious challenges" for the U.S. economy. Monetary policy, by focusing on the full-employment component of the dual mandate, can "provide a modest countervailing factor to income inequality trends by leading to higher wages at the bottom rungs of the wage scale," Tarullo, 61, said at the 23rd Annual Hyman P. Minsky Conference in Washington. The Fed governor rebuffed concerns about near-term inflation from wages, noting that even as the unemployment rate has fallen to 6.7 percent in March from 7.5 percent in the same month a year earlier, "one sees only the earliest signs of a much-needed, broader wage recovery." "Compensation increases have been running at the historically low level of just over 2 percent annual rates since the onset of the Great Recession, with concomitantly lower real wage gains," Tarullo said. The reasons for that lag in wage gains are not clear, he said. "The issue of how much structural damage has been suffered by the labor market is of less immediate concern today in shaping monetary policy than it might have been had we experienced a period of rapid growth during the recovery," Tarullo said at the event, organized by the Levy Economics Institute of Bard College in Annandale-on-Hudson, N.Y. 
  • In the Media | April 2014
    By Denis MacShane
    The OMFIF Commentary, April 11, 2014. All Rights Reserved.

    The normal duty of central bankers (especially in Europe) is to denounce inflation as the work of the devil and call for labour market flexibility as a barely disguised code for reducing wages.

    But a gathering of academic economists at the annual Minsky Conference this week in Washington heard an impassioned plea from one of America’s top central bankers that it was time to increase wages and let inflation rise again.

    Charles Evans is president of the Federal Reserve Bank in Chicago, where he has worked much of his professional life, in addition to stints as an economics professor and author of heavyweight academic articles on monetary policy.

    Evans, currently a non-voter, is among the more dovish members of the Federal Open Market Committee. In his paper at the Bard College Levy Institute’s Minsky Conference, commemorating the work of depression-fighting economist Hyman Minsky, Evans said the US economy now needed a serious boost in wages to help business demand.

    Evans used moderate, cautious language. However, the message was clear: Deflation and low wages are the new dragons to be slain.

    ‘Low wage increases are symptomatic of weak income growth and low aggregate demand. Stronger wage growth would likely result in more customers walking through the doors of business establishments and leading to stronger sales, more hiring and capacity expansion,’ Evans said.

    He suggested a target wage growth figure of 3.5%, which he argued ‘is sustainable without building inflation pressures.’ This compares with the current range of 2-2.25 in compensation growth, coinciding with labour’s historically low share of national income.

    Evans is right to underscore the dramatic change in the amount of US added value that goes to employees. Until 1975, wages normally accounted for more than 50% of American GDP, but this fell to 43.5% by 2012.

    Evans said fears about inflation which have hovered over monetary policy-making since the 1970s have been exaggerated. Evans argued: ‘No one can doubt that we [the Fed] are undershooting our 2% [inflation] target. Total personal consumption expenditure (PCE) prices rose just 0.9% over the past 12 months; that is a substantial and serious miss.’

    ‘Below-target inflation’, said Evans, ‘is a worldwide phenomenon and it is difficult to be confident that all policy-makers around the world have fully taken its challenge on board. Persistent below-target inflation is very costly, especially when it is accompanied by debt overhang, substantial resource slack and weak growth.’

    'Despite current low rates, I still often hear people say that higher inflation is just around the corner. I confess that I am somewhat exasperated by these repeated warnings given our current environment of very low inflation. Many times, the strongest concerns are expressed by folks who said the same thing back in 2009 and then in 2010.’

    Denis MacShane is former UK Minister for Europe and a member of the OMFIF Advisory Board. He was a speaker on European politics at the Minksy Conference.
  • In the Media | April 2014
    By Joseph Lawler
    Washington Examiner, April 11, 2014. All Rights Reserved.

    The so-called "Great Moderation" of low economic volatility between the mid-1980s and the financial crisis of 2008 was not as great as it seemed, and the future likely won't be as pleasant, according to President Obama's top economic adviser.

    Jason Furman, the chairman of the Council of Economic Advisers, said in a speech in Washington on Thursday that “the Great Recession certainly does reveal serious limitations of the concept of a great moderation,” and that the U.S. economy shouldn't be expected to return to a pattern of relatively smooth growth now that the banking crisis is in the past.

    The "Great Moderation" was a term coined by economists James Stock, another current member of the CEA, and Mark Watson in a 20003 paper. It was meant to describe the decline in volatility in macroeconomic indicators such as gross domestic product growth and inflation since Federal Reserve Chairman Paul Volcker brought the high inflation rates of the 1960s and '70s to an end.

    In 2004, Ben Bernanke, then a Fed governor under Chairman Alan Greenspan, popularized the term in a speech that attributed the smoothing out of the business cycle to better monetary policy by the Fed -- although Bernanke also acknowledged that luck may also have played a significant role, and that luck might run out in the future.
       

    Furman, however, suggested that improvements in the private sector and in the government's management of fiscal and monetary policy may not have reduced the risks of severe recessions, but rather pushed the risks out to the tails of the risk distribution. In other words, economic shocks might be rarer, but more dangerous. While the U.S. did not suffer a deep recession in the late '80s and '90s, it was due for one eventually.

    Furman illustrated the point with two charts. Looking at deviations in one-year GDP growth from the long-term average, he noted, it appears that there was a Great Moderation, briefly interrupted by the 2007-2009 recession:
     
    But looking at the deviations in 10-year GDP growth from the average, it's a different story. Volatility in economic growth spiked and hasn't returned to normal.
    Furman concluded that it "would be foolish to be complacent and fully assume that in the deeper, lower frequency sense there ever was a genuine 'Great Moderation,' let alone that it has returned and renders further policy steps unnecessary."

    He proposed four measures for further stabilizing the economy in the future, including automatic fiscal stabilizers to even out government spending and taxing in boom times and downturns, reducing income inequality, improving coordination among countries and promoting financial stability.

    Notably, Furman drew special attention to housing finance as a component of financial stability. Although the Obama administration for the most part has left the issue of what should be done with bailed-out government-sponsored mortgage businesses Fannie Mae and Freddie Mac to Congress, Furman did signal support for a bill that Democratic and Republican senators on the Senate Banking Committee have introduced.

    The committee "is making promising bipartisan progress and the administration looks forward to continuing to work with Congress to forge a new private housing finance system that better serves current and future generations of Americans," he said.

    The event at which Furman was speaking, hosted by the Levy Economics Institute, was named after Hyman Minsky, an American economist whose worked focused on financial crises and their relationship to economic downturns. 
  • In the Media | April 2014
    NDTV, April 10, 2014. All Rights Reserved.

    Washington (Reuters | Update)
    :

    The Federal Reserve will likely wait at least six months after ending a bond-buying program before raising interest rates, and will only act that quickly "if things really go well," a top US central banker said on Wednesday.

    "It could be six, it could be 16 months," Chicago Fed President Charles Evans told reporters on the sidelines of a Levy Economics Institute forum.

    Last month, Fed Chair Janet Yellen put the wait at "around six months" depending on the economy. Her comment undercut stocks and bonds and prompted economists to revise forecasts. Traders and Wall Street economists now expect the first rate hike to come around the middle of next year.

    "If I had my druthers, I'd want more accommodation and I'd push it into 2016," Evans said of the first rate hike, but "the actual, most likely case I think is probably late 2015."

    The Fed has kept rates near zero since the depths of the recession in late 2008, and has bought some $3 trillion in bonds to help lower US borrowing costs. It has reduced its bond-buying and expects to wind it down by the fall.

    Evans said the current pace of reducing the bond purchases, $10 billion at each Fed policy meeting, is "reasonable" and takes the Fed "into the October timeframe" for shelving the program.

    "I am confident that, depending on how the economic circumstances come out, we'll keep interest rates low for quite some period of time," he said.

    WOULD WELCOME ECB EASING Evans, a vocal policy dove, has long worried that the Fed has been too timid in its efforts to lower employment and raise inflation toward the central bank's targets.

    "We're in a very low inflation global environment," he said. "The eurozone well below 1 per cent and Japan has been very low for a long period of time, and I'm worried that there's something more afoot" than just the US or eurozone experience.

    Asked about a possible further easing of policy by the European Central Bank, he said: "Yes I think that would be quite welcome," adding he would welcome "all actions that help generate stronger world growth."

    A fellow dove at the central bank, Minneapolis Fed President Narayana Kocherlakota, has proposed lowering the interest rate the Fed pays banks on excess reserves. The aim would be to provide more accommodation and boost inflation from just above 1 per cent currently.

    Asked about this idea, Evans said he was willing to look at the possibility, but noted that the Fed's policy-setting Federal Open Market Committee has long considered it and has not acted. 
  • In the Media | April 2014
    By Jonathan Spicer
    Manorama Online, April 10, 2014. All Rights Reserved.

    WASHINGTON (Reuters) – The Federal Reserve will likely wait at least six months after ending a bond-buying program before raising interest rates, and will only act that quickly "if things really go well," a top U.S. central banker said on Wednesday.

    "It could be six, it could be 16 months," Chicago Fed President Charles Evans told reporters on the sidelines of a Levy Economics Institute forum.

    Last month, Fed Chair Janet Yellen put the wait at "around six months" depending on the economy. Her comment undercut stocks and bonds and prompted economists to revise forecasts. Traders and Wall Street economists now expect the first rate hike to come around the middle of next year.

    "If I had my druthers, I'd want more accommodation and I'd push it into 2016," Evans said of the first rate hike, but "the actual, most likely case I think is probably late 2015."

    The Fed has kept rates near zero since the depths of the recession in late 2008, and has bought some $3 trillion in bonds to help lower U.S. borrowing costs. It has reduced its bond-buying and expects to wind it down by the fall.

    Evans said the current pace of reducing the bond purchases, $10 billion at each Fed policy meeting, is "reasonable" and takes the Fed "into the October timeframe" for shelving the program.

    "I am confident that, depending on how the economic circumstances come out, we'll keep interest rates low for quite some period of time," he said.

    WOULD WELCOME ECB EASING
    Evans, a vocal policy dove, has long worried that the Fed has been too timid in its efforts to lower employment and raise inflation toward the central bank's targets.

    "We're in a very low inflation global environment," he said. "The eurozone well below 1 percent and Japan has been very low for a long period of time, and I'm worried that there's something more afoot" than just the U.S. or eurozone experience.

    Asked about a possible further easing of policy by the European Central Bank, he said: "Yes I think that would be quite welcome," adding he would welcome "all actions that help generate stronger world growth."

    A fellow dove at the central bank, Minneapolis Fed President Narayana Kocherlakota, has proposed lowering the interest rate the Fed pays banks on excess reserves. The aim would be to provide more accommodation and boost inflation from just above 1 percent currently.

    Asked about this idea, Evans said he was willing to look at the possibility, but noted that the Fed's policy-setting Federal Open Market Committee has long considered it and has not acted.
  • In the Media | April 2014
    Morningstar Advisor, April 10, 2014. All Rights Reserved.

    WASHINGTON (MarketWatch) -- The U.S. economy, aided by the Federal Reserve's easy monetary-policy stance, is beginning to look healthier, Federal Reserve Gov. Daniel Tarullo said Wednesday. "While we've not had certainly the pace and pervasiveness of the recovery that we wanted, the unconventional monetary policy have been critical in supporting the moderate recovery we have had, which I think now is looking reasonably well-rounded going forward, and I think that is reflected in the fairly wide expectation growth is going to be picking up over the course of this year," Tarullo said at a conference organized by the Levy Institute of Bard College. Tarullo sounded in no hurry to end the Fed's easy policy stance. He said the Fed "should not rush to act preemptively" in anticipation of inflationary pressures. Tarullo's comments were noteworthy because he rarely speaks about monetary policy -- rather, most of his speeches deal with financial-stability issues given his role as the central bank's point-man on strengthening regulation in the wake of the financial crisis.
  • In the Media | April 2014
    By Ann Saphir
    Reuters, April 10, 2014. All Rights Reserved.

    (Reuters) – Wall Street bond dealers began anticipating an earlier first interest-rate hike from the Federal Reserve after last month's policy meeting, according to the results of a poll by the New York Fed released on Thursday.

    That was exactly what Fed policymakers had feared would happen after the central bank published fresh forecasts on interest rates that appeared to map out a more aggressive cycle of rate hikes than previously expected, minutes of the meeting released Wednesday showed.

    Dealers who changed their expectations said they did so because of forecasts, and "several pointed to comments made by (Fed) Chair (Janet Yellen) during her press conference," according to the poll, which asked dealers about their rate hike expectations both before and after the Fed's March 18-19 meeting.

    At the policy-setting meeting, central bank officials made a widely expected reduction in their bond-buying stimulus and decided to jettison a set of numerical guideposts they were using to help the public anticipate when they would finally raise rates.

    The Fed said the change in its rate hike guidance did not point to a shift in policy intentions, but new rate forecasts from the current 16 Fed policymakers suggested the federal funds rate would end 2016 at 2.25 percent, a half percentage point above Fed officials' projections in December.

    Adding to the perception of a slightly more hawkish Fed, the Fed said it would wait a "considerable time" following the end of its bond-buying program before finally raising interest rates, a period of time that Yellen in her press conference suggested could be "around six months."

    As of March 24, dealers saw a 29 percent chance of a first rate hike in the first half of 2015, up from 24 percent before the March meeting, the poll showed.

    Both before and after polls showed dealers attached a 30 percent probability to a rate rise in the second half.

    Fed officials have since gone to great pains to point out any rate hike decisions will depend on the state of the economy.

    "It could be six, it could be 16 months," Chicago Fed President Charles Evans told reporters on the sidelines of a Levy Economics Institute forum on Wednesday.
  • In the Media | April 2014
    MNI | Deutsche Börse Group, April 9, 2014. All Rights Reserved.

    * Chicago Federal Reserve Bank President Charles Evans Wednesday accused the central bank of being "timid" in its attempts to spur faster economic growth, saying the Fed has been "less aggressive" than called for despite being nowhere its employment and inflation goals. In remarks prepared for delivery at the Levy Institute's Hyman Minsky conference, Evans warned that the tentative approach to bolstering the economic recovery could leave it susceptible to unforeseen shocks, and called instead for the Fed to keep most of its ultra-easy monetary policy in place "for some time." "Generally, the evidence points to a still weak labor market. We still have some ways to go to reach our employment mandate," said Evans, who will vote on the policymaking Federal Open Market Committee in 2015.

    * Speaking to reporters after his speech, Evans said it would be appropriate for the central bank to hold off raising interest rates until 2016, citing his concerns about the low inflation environment. However, "the actual, most likely case, I think it's probably late 2015." He said he thinks "it's important to remind everybody that we have strong accommodation in place and we need to leave in place in order to do the job that it's intended to do," he said.    
  • In the Media | April 2014
    By Jonathan Spicer
    MSN Money, April 9, 2014. All Rights Reserved.

    WASHINGTON, April 9 (Reuters) – The Federal Reserve will likely wait at least six months after ending a bond-buying program before raising interest rates, and will only act that quickly "if things really go well," a top U.S. central banker said on Wednesday.

    "It could be six, it could be 16 months," Chicago Fed President Charles Evans told reporters on the sidelines of a Levy Economics Institute forum.

    Last month, Fed Chair Janet Yellen put the wait at "around six months" depending on the economy. Her comment undercut stocks and bonds and prompted economists to revise forecasts. Traders and Wall Street economists now expect the first rate hike to come around the middle of next year.

    "If I had my druthers, I'd want more accommodation and I'd push it into 2016," Evans said of the first rate hike, but "the actual, most likely case I think is probably late 2015."

    The Fed has kept rates near zero since the depths of the recession in late 2008, and has bought some $3 trillion in bonds to help lower U.S. borrowing costs. It has reduced its bond-buying and expects to wind it down by the fall.

    Evans said the current pace of reducing the bond purchases, $10 billion at each Fed policy meeting, is "reasonable" and takes the Fed "into the October timeframe" for shelving the program.

    "I am confident that, depending on how the economic circumstances come out, we'll keep interest rates low for quite some period of time," he said.

     

    Would Welcome ECB Easing
    Evans, a vocal policy dove, has long worried that the Fed has been too timid in its efforts to lower employment and raise inflation toward the central bank's targets.

    "We're in a very low inflation global environment," he said. "The eurozone well below 1 percent and Japan has been very low for a long period of time, and I'm worried that there's something more afoot" than just the U.S. or eurozone experience.

    Asked about a possible further easing of policy by the European Central Bank, he said: "Yes I think that would be quite welcome," adding he would welcome "all actions that help generate stronger world growth."

    A fellow dove at the central bank, Minneapolis Fed President Narayana Kocherlakota, has proposed lowering the interest rate the Fed pays banks on excess reserves. The aim would be to provide more accommodation and boost inflation from just above 1 percent currently.

    Asked about this idea, Evans said he was willing to look at the possibility, but noted that the Fed's policy-setting Federal Open Market Committee has long considered it and has not acted. 

  • In the Media | April 2014
    By Brain Odion-Esene
    MNI | Deutsche Börse Group, April 9, 2014. All Rights Reserved.

    WASHINGTON (MNI) -–Chicago Federal Reserve Bank President Charles Evans Wednesday accused the central bank of being "timid" in its attempts to spur faster economic growth, saying the Fed has been "less aggressive" than called for despite being nowhere its employment and inflation goals.

    In remarks prepared for delivery at the Levy Institute's Hyman Minsky conference, Evans warned that the tentative approach to bolstering the economic recovery could leave it susceptible to unforeseen shocks, and called instead for the Fed to keep most of its ultra-easy monetary policy in place "for some time."

    "Generally, the evidence points to a still weak labor market. We still have some ways to go to reach our employment mandate," said Evans, who will vote on the policymaking Federal Open Market Committee in 2015.

    As for the Fed's price stability mandate, he said he sees an economy that points to below-target inflation for several years, which underscores the need for easy policy.

    "Given today's unacceptably low inflation environment and the wealth of inflation indicators that point to continued below-target inflation, I think we need continued strongly accommodative monetary policy to get inflation back up to 2% within a reasonable time frame," he said.

    Instead, "the FOMC has been less aggressive than the policy loss function calls for," Evans said, arguing that "in the current circumstances, accountability and optimal policy mean we should be maintaining a large degree of accommodation for some time."

    "It certainly seems that the fallout from the financial crisis and persistent headwinds holding back economic activity are consistent with the equilibrium real interest rate being lower than usual today," he added.

    Evans said actions that place the FOMC "on a slow glide path" toward its targets undermine the credibility of the Fed's vow to meet its mandates in a timely fashion.

    "Timid policies would also increase the risk of progress being stymied along the way by adverse shocks that might hit before policy gaps are closed," he said. "The surest and quickest way to reach our objectives is to be aggressive."

    This also means the FOMC should be open to the idea of overshooting its targets in a manageable fashion.

    "Such risks are optimal if the outcome of our policy actions implies smaller average deviations from our targets over the medium term. We should be willing to undertake such policies and clearly communicate our willingness to do so," Evans said.

    Making his case for why the economy still needs continued, aggressive monetary policy, Evans said March's 6.7% unemployment rate is still well above the 5.25% percent rate that he considers to be the longer-run normal. As the jobless rate continues to decline, he stressed the importance of assessing a wide range of labor market data "to better gauge the overall health of the labor market."

    These would include quit rates, layoffs and a variety of wage measures, as well as broader measures of unemployment that include discouraged workers and those who would like to work more hours.

    Evans also argued that the decline in the labor participation rate in recent months cannot be ascribed solely to changing population demographics and other factors outside the Fed's control. The end of extended unemployment insurance benefits, among other things, has also likely decreased the natural rate of unemployment, meaning that "the decline in the unemployment rate likely overstates to some degree the reduction of slack in the labor market over the past year."

    On the inflation front, Evans noted that the United States is not the only country struggling with below-target inflation, and that "it is difficult to be confident that all policymakers around the world have fully taken its challenge onboard."

    "Persistent below-target inflation is very costly, especially when it is accompanied by debt overhang, substantial resource slack, and weak growth," he added.

    Given the low inflation environment, Evans said he is "somewhat exasperated" by those who constantly warn that higher inflation "is just around the corner."

    For one thing, he argued that unless there is an unexpected, and positive, shock to the global economy, commodity prices are unlikely to fuel a strong increase in inflation.

    To those worried about the inflationary risks posed by the Fed's swollen balance sheet and the massive amounts of excess bank reserves, Evans countered that banks so far have not been lending these reserves nearly enough to generate big increases in broad monetary aggregates.

    Even if lending did pick up, he added, "Dramatically higher bank lending would surely be associated with higher loan demand and a generally stronger economy. Strong growth and diminishing resource slack would be part of this story, and a rising rate environment would be a natural force diminishing the rising inflation pressures."

    The slow rate of wage growth is another cause for concern, Evans said, as it is "symptomatic of weak income growth and low aggregate demand."

    "At today's 2% to 2.25% compensation growth rates and labor's historically low share of national income, there is substantial room for stronger wage growth without inflation pressures building," he said.
  • In the Media | April 2014
    By Brai Odion-Esene
    MNI | Deutsche Börse Group, April 9, 2014. All Rights Reserved.

    WASHINGTON (MNI) – Federal Reserve Board Gov. Daniel Tarullo Wednesday night argued that monetary policy can play an important role in helping the nation's long-term unemployment, saying the Fed right now should not be overly concerned with how much of the slow pace of job creation is due to structural factors outside its control.

    "The very accommodative monetary policy of the past five years has contributed significantly to the extended, moderate recoveries of gross domestic product (GDP) and employment," Tarullo said in remarks prepared for the Levy Economics Institute's Hyman Minsky Conference.

    And to underline that he does not favor tightening monetary policy anytime soon, Tarullo said because of the modest growth in place for several years, "it seems less likely that we will experience a growth spurt in the next couple of years that would engender concerns about rapid wage pressures and changes in inflation expectations."

    Voicing his concerns about slow U.S. productivity growth, widening income inequality, and long-term unemployment, Tarullo stressed that while monetary policy "cannot be the only, or even the principal," tool in counteracting these longer-term trends, "that is not to say it is irrelevant."

    "Monetary policies directed toward achieving the statutory dual mandate of maximum employment and price stability can help reduce underemployment associated with low aggregate demand," he added, a statement that echoes Fed Chair Janet Yellen's commitment to tackling the nation's jobs crisis.

    "To the degree that monetary policy can prevent cyclical phenomena such as high unemployment and low investment from becoming entrenched, it might be able to improve somewhat the potential growth rate of the economy over the medium term," he said.

    Appointed to the Fed board by President Barack Obama in 2009, Tarullo has a permanent vote on the Fed's policymaking Federal Open Market Committee.

    Yellen said she still sees "considerable slack" in the labor market in a March 31 speech, and Tarullo said reducing labor market slack can help lay the foundation "for a more sustained, self-reinforcing cycle of stronger aggregate demand, increased production, renewed investment, and productivity gains."

    "Similarly, a stronger labor market can provide a modest countervailing factor to income inequality trends by leading to higher wages at the bottom rungs of the wage scale," he said.

    There is uncertainty among both Fed officials and economists regarding how much the high unemployment is due to cyclical factors like low demand, or more structural issues such as a skills mismatch between jobseekers and would-be employers.

    Tarullo argued that there is not "as sharp a demarcation between cyclical and structural problems as is sometimes suggested," as "by promoting maximum employment in a stable inflation environment around the FOMC target rate, monetary policy can help set the stage for a vibrant and dynamic economy."

    Still, Tarullo advised the FOMC to proceed pragmatically in crafting policy.

    "We should remain attentive to evidence that labor markets have actually tightened to the point that there is demonstrable inflationary pressure that would place at risk maintenance of the FOMC's stated inflation target (which, of course, we are currently not meeting on the downside)," he said. "But we should not rush to act preemptively in anticipation of such pressures based on arguments about the potential increase in structural unemployment in recent years."

    "In this regard, the issue of how much structural damage has been suffered by the labor market is of less immediate concern today in shaping monetary policy than it might have been had we experienced a period of rapid growth during the recovery," he said.

    Outside of actions being taken by the Fed, Tarullo also called on fiscal policymakers to also take a more forceful approach in helping the economy.
    "A pro-investment policy agenda by the government could help address some of our nation's long-term challenges by promoting investment in human capital, particularly for those who have seen their share of the economic pie shrink, and by encouraging research and development and other capital investments that increase the productive capacity of the nation," he said.
  • In the Media | April 2014
    By Craig Torres
    Bloomberg Businessweek, April 9, 2014. All Rights Reserved.

    Federal Reserve Governor Daniel Tarullo said the central bank shouldn’t raise interest rates “preemptively” on a belief the recession cut the supply of ready labor in the economy.

    “We should remain attentive to evidence that labor markets have actually tightened to the point that there is demonstrable inflationary pressure,” Tarullo said today in remarks prepared for a speech in Washington. “We should not rush to act preemptively in anticipation of such pressures based on arguments about the potential increase in structural unemployment in recent years.”

    Tarullo, the central bank’s longest-serving governor, backed a March 19 statement in which the Federal Open Market Committee said it will keep the main interest rate below normal long-run levels while attempting to meet its mandate for full employment and stable prices.

    In a wide-ranging speech, Tarullo cited slower productivity growth, the smaller share of national income accruing to workers, rising inequality and decreasing economic mobility as “serious challenges” for the U.S. economy.

    Monetary policy, by focusing on the full-employment component of the dual mandate, can “provide a modest countervailing factor to income inequality trends by leading to higher wages at the bottom rungs of the wage scale,” Tarullo, 61, said at the 23rd Annual Hyman P. Minsky Conference in Washington.

    The Fed governor rebuffed concerns about near-term inflation from wages, noting that even as the unemployment rate has fallen to 6.7 percent in March from 7.5 percent in the same month a year earlier, “one sees only the earliest signs of a much-needed, broader wage recovery.”

    Low Gains
    “Compensation increases have been running at the historically low level of just over 2 percent annual rates since the onset of the Great Recession, with concomitantly lower real wage gains,” Tarullo said. The reasons for that lag in wage gains are not clear, he said.

    “The issue of how much structural damage has been suffered by the labor market is of less immediate concern today in shaping monetary policy than it might have been had we experienced a period of rapid growth during the recovery,” Tarullo said at the event, organized by the Levy Economics Institute of Bard College in Annandale-on-Hudson, New York.
  • In the Media | April 2014
    By Jonathan Spicer
    Reuters, April 9, 2014. All Rights Reserved.

    (Reuters) -–The Federal Reserve will likely wait at least six months after ending a bond-buying program before raising interest rates, and will only act that quickly "if things really go well," a top U.S. central banker said on Wednesday.

    "It could be six, it could be 16 months," Chicago Fed President Charles Evans told reporters on the sidelines of a Levy Economics Institute forum.

    Last month, Fed Chair Janet Yellen put the wait at "around six months" depending on theeconomy. Her comment undercut stocks and bonds and prompted economists to revise forecasts. Traders and Wall Street economists now expect the first rate hike to come around the middle of next year.

    "If I had my druthers, I'd want more accommodation and I'd push it into 2016," Evans said of the first rate hike, but "the actual, most likely case I think is probably late 2015."

    The Fed has kept rates near zero since the depths of the recession in late 2008, and has bought some $3 trillion in bonds to help lower U.S. borrowing costs. It has reduced its bond-buying and expects to wind it down by the fall.

    Evans said the current pace of reducing the bond purchases, $10 billion at each Fed policy meeting, is "reasonable" and takes the Fed "into the October timeframe" for shelving the program.

    "I am confident that, depending on how the economic circumstances come out, we'll keep interest rates low for quite some period of time," he said.

    Would Welcome ECB Easing
    Evans, a vocal policy dove, has long worried that the Fed has been too timid in its efforts to lower employment and raise inflation toward the central bank's targets.

    "We're in a very low inflation global environment," he said. "The euro zone well below 1 percent and Japan has been very low for a long period of time, and I'm worried that there's something more afoot" than just the U.S. or euro zone experience.

    Asked about a possible further easing of policy by the European Central Bank, he said: "Yes I think that would be quite welcome," adding he would welcome "all actions that help generate stronger world growth."

    A fellow dove at the central bank, Minneapolis Fed President Narayana Kocherlakota, has proposed lowering the interest rate the Fed pays banks on excess reserves. The aim would be to provide more accommodation and boost inflation from just above 1 percent currently.

    Asked about this idea, Evans said he was willing to look at the possibility, but noted that the Fed's policy-setting Federal Open Market Committee has long considered it and has not acted.
  • In the Media | April 2014
    By Victoria MacGrane
    The Wall Street Journal, April 9, 2014. All Rights Reserved.

    Federal Reserve Governor Daniel Tarullo on Wednesday said policy makers should proceed cautiously in judging when inflationary pressures are building in the economy, given uncertainty that surrounds just how much slack remains in the labor market.

    Mr. Tarullo placed himself in the camp of Fed Chairwoman Janet Yellen, saying he believes the labor market is still operating well short of its potential and associating himself with her March 31 speech explaining the reasons why.

    Given there is some debate over how to measure labor market slack, “we are well advised to proceed pragmatically,” he said in a dinnertime speech prepared for delivery at a conference organized by the Levy Institute of Bard College.

    He stressed Fed officials should await actual evidence that labor markets had tightened enough to trigger inflationary pressures that could push inflation above the Fed’s 2% inflation target. The Commerce Department’s personal consumption expenditures price index, the Fed’s favored measure of inflation, was up 0.9% in February from a year earlier. The Labor Department’s consumer price index, an alternative measure, was up 1.1%.

    “But we should not rush to act preemptively in anticipation of such pressures based on arguments about the potential increase in structural unemployment in recent years,” he said.

    There is a vigorous debate at the central bank and among economists generally over the extent of remaining slack in the labor market. Minutes from the Fed’s March 18-19 policy meeting released Wednesday showed that while officials generally agreed slack persisted, they disagreed about how much and how well the unemployment rate reflects the degree of slack.

    In her March 31 speech, Ms. Yellen pointed to several factors beyond the jobless rate that suggest the labor market is still quite weak, including the large number of long-term jobless and the seven million Americans who are working part-time but would prefer full-time jobs.

    Mr. Tarullo suggested he’s not worried economic growth will suddenly take off and leave the Fed flat-footed and fighting rising inflation. “The issue of how much structural damage has been suffered by the labor market is of less immediate concern today in shaping monetary policy than it might have been had we experienced a period of rapid growth during the recovery,” he said.

    In light of the economy’s modest performance since the end of the recession, “it seems less likely that we will experience a growth spurt in the next couple of years that would engender concerns about rapid wage pressures and changes in inflation expectations,” Mr. Tarullo said.

    Mr. Tarullo’s comments came within the context of a speech raising concerns about “troubling” long-term trends in the U.S. economy, including falling productivity growth and rising inequality.

    The Fed’s efforts to battle recession help lay the groundwork for a stronger, more dynamic economy, Mr. Tarullo said. “But there are limits to what monetary policy can do in counteracting” the longer-term trends he is worried about.

    Mr. Tarullo said the federal government could address some of the challenges through investment, especially in ways that help “those who have seen their share of the economic pie shrink.” Early childhood education, job training programs, infrastructure and research are areas that could boost the long-term prospects for the U.S. economy, said Mr. Tarullo. 
  • In the Media | April 2014
    By Jonathan Spicer
    The Chicago Tribune, April 9, 2014. All Rights Reserved.

    WASHINGTON (Reuters) - The Federal Reserve will likely wait at least six months after ending a bond-buying program before raising interest rates, and will only act that quickly "if things really go well," a top U.S. central banker said on Wednesday.

    "It could be six, it could be 16 months," Chicago Fed President Charles Evans told reporters on the sidelines of a Levy Economics Institute forum.

    Last month, Fed Chair Janet Yellen put the wait at "around six months" depending on the economy. Her comment undercut stocks and bonds and prompted economists to revise forecasts. Traders and Wall Street economists now expect the first rate hike to come around the middle of next year.

    "If I had my druthers, I'd want more accommodation and I'd push it into 2016," Evans said of the first rate hike, but "the actual, most likely case I think is probably late 2015."

    The Fed has kept rates near zero since the depths of the recession in late 2008, and has bought some $3 trillion in bonds to help lower U.S. borrowing costs. It has reduced its bond-buying and expects to wind it down by the fall.

    Evans said the current pace of reducing the bond purchases, $10 billion at each Fed policy meeting, is "reasonable" and takes the Fed "into the October timeframe" for shelving the program.   "I am confident that, depending on how the economic circumstances come out, we'll keep interest rates low for quite some period of time," he said.
      WOULD WELCOME ECB EASING Evans, a vocal policy dove, has long worried that the Fed has been too timid in its efforts to lower employment and raise inflation toward the central bank's targets.

    "We're in a very low inflation global environment," he said. "The euro zone well below 1 percent and Japan has been very low for a long period of time, and I'm worried that there's something more afoot" than just the U.S. or euro zone experience.

    Asked about a possible further easing of policy by the European Central Bank, he said: "Yes I think that would be quite welcome," adding he would welcome "all actions that help generate stronger world growth."

    A fellow dove at the central bank, Minneapolis Fed President Narayana Kocherlakota, has proposed lowering the interest rate the Fed pays banks on excess reserves. The aim would be to provide more accommodation and boost inflation from just above 1 percent currently.

    Asked about this idea, Evans said he was willing to look at the possibility, but noted that the Fed's policy-setting Federal Open Market Committee has long considered it and has not acted.
  • In the Media | April 2014
    By Greg Robb
    Fox Business, April 9, 2014. All Rights Reserved.

    WASHINGTON –  The U.S. economy, aided by the Federal Reserve's easy monetary-policy stance, is beginning to look healthier, Federal Reserve Gov. Daniel Tarullo said Wednesday. "While we've not had certainly the pace and pervasiveness of the recovery that we wanted, the unconventional monetary policy have been critical in supporting the moderate recovery we have had, which I think now is looking reasonably well-rounded going forward, and I think that is reflected in the fairly wide expectation growth is going to be picking up over the course of this year," Tarullo said at a conference organized by the Levy Institute of Bard College. Tarullo sounded in no hurry to end the Fed's easy policy stance. He said the Fed "should not rush to act preemptively" in anticipation of inflationary pressures. Tarullo's comments were noteworthy because he rarely speaks about monetary policy -- rather, most of his speeches deal with financial-stability issues given his role as the central bank's point-man on strengthening regulation in the wake of the financial crisis.  
  • In the Media | April 2014
    Money News, April 9, 2014. All Rights Reserved.

    Federal Reserve Governor Daniel Tarullo said the central bank shouldn’t raise interest rates “preemptively” on a belief the recession cut the supply of ready labor in the economy.

    “We should remain attentive to evidence that labor markets have actually tightened to the point that there is demonstrable inflationary pressure,” Tarullo said Wednesday in remarks prepared for a speech in Washington. “We should not rush to act preemptively in anticipation of such pressures based on arguments about the potential increase in structural unemployment in recent years.”

    Tarullo, the central bank’s longest-serving governor, backed a March 19 statement in which the Federal Open Market Committee said it will keep the main interest rate below normal long-run levels while attempting to meet its mandate for full employment and stable prices.

    In a wide-ranging speech, Tarullo cited slower productivity growth, the smaller share of national income accruing to workers, rising inequality and decreasing economic mobility as “serious challenges” for the U.S. economy.

    Monetary policy, by focusing on the full-employment component of the dual mandate, can “provide a modest countervailing factor to income inequality trends by leading to higher wages at the bottom rungs of the wage scale,” Tarullo, 61, said at the 23rd Annual Hyman P. Minsky Conference in Washington.

    The Fed governor rebuffed concerns about near-term inflation from wages, noting that even as the unemployment rate has fallen to 6.7 percent in March from 7.5 percent in the same month a year earlier, “one sees only the earliest signs of a much-needed, broader wage recovery.”

    Low Gains
    “Compensation increases have been running at the historically low level of just over 2 percent annual rates since the onset of the Great Recession, with concomitantly lower real wage gains,” Tarullo said. The reasons for that lag in wage gains are not clear, he said.

    “The issue of how much structural damage has been suffered by the labor market is of less immediate concern today in shaping monetary policy than it might have been had we experienced a period of rapid growth during the recovery,” Tarullo said at the event, organized by the Levy Economics Institute of Bard College in Annandale-on-Hudson, New York.
  • Public Policy Brief No. 131 | April 2014

    In the context of current debates about the proper form of prudential regulation and proposals for the imposition of liquidity and capital ratios, Senior Scholar Jan Kregel examines Hyman Minsky’s work as a consultant to government agencies exploring financial regulatory reform in the 1960s. As Kregel explains, this often-overlooked early work, a precursor to Minsky’s “financial instability hypothesis”(FIH), serves as yet another useful guide to explaining why regulation and supervision in the lead-up to the 2008 financial crisis were flawed—and why the approach to reregulation after the crisis has been incomplete. 

  • Working Paper No. 796 | April 2014
    The Financial Instability Hypothesis in the Era of Financialization

    The aim of this paper is to develop a structural explanation of the subprime mortgage crisis, grounded on the combination of two apparently incompatible financial theories: the financial instability hypothesis by Hyman P. Minsky and the theory of capital market inflation by Jan Toporowski. Our thesis is that, once the evolution of the financial market is taken into account, the financial Keynesianism of Minsky is still a valid framework to understand the events leading to the crisis.

  • In the Media | March 2014
    By Duncan Weldon
    BBC News Magazine, March 23, 2014. All Rights Reserved.

    American economist Hyman Minsky, who died in 1996, grew up during the Great Depression, an event which shaped his views and set him on a crusade to explain how it happened and how a repeat could be prevented, writes Duncan Weldon.

    Minsky spent his life on the margins of economics but his ideas suddenly gained currency with the 2007-08 financial crisis. To many, it seemed to offer one of the most plausible accounts of why it had happened.

    His long out-of-print books were suddenly in high demand with copies changing hands for hundreds of dollars - not bad for densely written tomes with titles like Stabilizing an Unstable Economy.

    Senior central bankers including current US Federal Reserve chair Janet Yellen and the Bank of England's Mervyn King began quoting his insights. Nobel Prize-winning economist Paul Krugman named a high profile talk about the financial crisis The Night They Re-read Minsky.

    Here are five of his ideas.

    Stability is destabilising


    Minsky's main idea is so simple that it could fit on a T-shirt, with just three words: "Stability is destabilising."

    Most macroeconomists work with what they call "equilibrium models" - the idea is that a modern market economy is fundamentally stable. That is not to say nothing ever changes but it grows in a steady way.

    To generate an economic crisis or a sudden boom some sort of external shock has to occur - whether that be a rise in oil prices, a war or the invention of the internet.

    Minsky disagreed. He thought that the system itself could generate shocks through its own internal dynamics. He believed that during periods of economic stability, banks, firms and other economic agents become complacent.

    They assume that the good times will keep on going and begin to take ever greater risks in pursuit of profit. So the seeds of the next crisis are sown in the good time.

    Three stages of debt

    Minsky had a theory, the "financial instability hypothesis", arguing that lending goes through three distinct stages. He dubbed these the Hedge, the Speculative and the Ponzi stages, after financial fraudster Charles Ponzi.

    In the first stage, soon after a crisis, banks and borrowers are cautious. Loans are made in modest amounts and the borrower can afford to repay both the initial principal and the interest.

    As confidence rises banks begin to make loans in which the borrower can only afford to pay the interest. Usually this loan is against an asset which is rising in value. Finally, when the previous crisis is a distant memory, we reach the final stage - Ponzi finance. At this point banks make loans to firms and households that can afford to pay neither the interest nor the principal. Again this is underpinned by a belief that asset prices will rise.

    The easiest way to understand is to think of a typical mortgage. Hedge finance means a normal capital repayment loan, speculative finance is more akin to an interest-only loan and then Ponzi finance is something beyond even this. It is like getting a mortgage, making no payments at all for a few years and then hoping the value of the house has gone up enough that its sale can cover the initial loan and all the missed payments. You can see that the model is a pretty good description of the kind of lending that led to the financial crisis.

    Minsky moments

    The "Minsky moment", a term coined by later economists, is the moment when the whole house of cards falls down. Ponzi finance is underpinned by rising asset prices and when asset prices eventually start to fall then borrowers and banks realise there is debt in the system that can never be paid off. People rush to sell assets causing an even larger fall in prices.

    It is like the moment that a cartoon character runs off a cliff. They keep on running for a while, still believing they're on solid ground. But then there's a moment of sudden realisation - the Minsky moment - when they look down and see nothing but thin air. Then they plummet to the ground, and that's the crisis and crash of 2008.

    Finance matters

    Until fairly recently, most macroeconomists were not very interested in the finer details of the banking and financial system. They saw it as just an intermediary which moved money from savers to borrowers.
    This is rather like the way most people are not very interested in the finer details of plumbing when they're having a shower. As long as the pipes are working and the water is flowing there is no need to understand the detailed workings.

    To Minsky, banks were not just pipes but more like a pump - not just simple intermediaries moving money through the system but profit-making institutions, with an incentive to increase lending. This is part of the mechanism that makes economies unstable.

    Preferring words to maths and models

    Since World War Two, mainstream economics has become increasingly mathematical, based on formal models of how the economy works.

    To model things you need to make assumptions, and critics of mainstream economics argue that as the models and maths became more and more complex, the assumptions underpinning them became more and more divorced from reality. The models became an end in themselves.

    Although he trained in mathematics, Minsky preferred what economists call a narrative approach - he was about ideas expressed in words. Many of the greats from Adam Smith to John Maynard Keynes to Friedrich Hayek worked like this.

    While maths is more precise, words might allow you to express and engage with complex ideas that are tricky to model - things like uncertainty, irrationality, and exuberance. Minsky's fans say this contributed to a view of the economy that was far more "realistic" than that of mainstream economics.

    Analysis: Why Minsky Matters
     is broadcast on BBC Radio 4 at 20:30 GMT, 24 March 2014 or catch up on BBC iPlayer.
  • In the Media | March 2014
    The Old Lady Fails to Get an "A"
    Credit Writedowns, March 21, 2014. All Rights Reserved.

    One thing’s for sure: The financial crisis has dealt a deadly blow to what was until recently considered the state-of-the-art of monetary policy. Just compare the 1992 edition of Modern Money Mechanics, published by the Federal Bank of Chicago, with the articles and videos published this month by the Bank of England (BoE).

    The former publication explains that a bank’s excess reserves can be used to make loans, that prudent bankers “will not lend more than their excess reserves,” and that there is a “deposit expansion and contraction associated with a given change in bank reserves,” a.k.a. the money multiplier. Ultimately, “the total amount of reserves is controlled by the Federal Reserve.”

    In stark contrast to what was considered common knowledge twenty years ago, the BoE now considers the multiplier a mistaken belief. For the Bank of England, a “common misconception is that the central bank determines the quantity of loans and deposits in the economy by controlling the quantity of central bank money — the so-called ‘money multiplier’ approach.” Contrary to a widespread view, “neither are reserves a binding constraint on lending, nor does the central bank fix the amount of reserves that are available.” The BoE further explains: “Loans create deposits, not the other way around”; and bank reserves do not provide incentives for banks to lend “as the money multiplier mechanism would suggest.”

    The many professionals in the banking and finance industry who often have trouble with the way academics teach and discuss money and monetary policy will find the new view much closer to their operational experience. The few economists who have long rejected the “state-of-the-art” in their models, and refused to teach it in their classrooms, will feel vindicated. Those lagging behind had better adapt quickly to a changing paradigm, re-write their lecture notes, and avoid describing the stance of monetary policy with the position of a money supply function. For example, the Khan Academy’s course in banking includes several lectures based on the notion of the money multiplier. To serve its users well, the Khan Academy should largely revise those lectures or at least explain that they apply to a monetary system based on gold or some other fixed-rate system.

    The views expressed in the BoE publication do not come out of the blue. Several studies have recently challenged the notion of the money multiplier. The fact that this is now stated by a central bank marks good progress in the understanding of monetary operations, especially in light of conventional wisdom having inspired a number of erroneous interpretations during the banking and financial crisis.

    It is also a blow to the “Monetarist Keynesian” approach that continues to inspire mainstream macroeconomic models. In a video that is part of a 1980 series called “Free to Choose,” Milton Friedman explains the money multiplier in a fixed-rate monetary system (the gold standard) and argues that the same principle holds in the contemporary U.S. banking system. Friedman concludes that the Great Depression was caused by the U.S. Fed doing a very poor job, forcing the money multiplier to work its way downwards and effectively destroying the money supply. A former graduate student at MIT who had studied Friedman’s view of the Great Depression—named Ben Bernanke—has seemingly dealt with the 2007-08 crisis with one idea in mind: prevent the money supply contraction that caused the Great Depression. This was the theoretical foundation of Helicopter Ben’s QEs.

    For the Bank of England, now, there are two common misconceptions about Quantitative Easing: “that QE involves giving banks ‘free money’; and that the key aim of QE is to increase bank lending by providing more reserves to the banking system, as might be described by the money multiplier theory.” The BoE also explains how the amount of central bank money (banknotes and bank reserves) is fixed by the demand of its users and not by the central bank “as it is sometimes described in some economics textbooks.”

    And yet, more progress is desirable, and I would not mark the BoE paper with an A.

    For all those economists who feel they have been ahead of the curve on this matter, the Bank of England should make an additional effort, especially on two remaining issues.

    1. Why money is valuable to its holders

    In its account of money and monetary policy, the BoE asks the question: What makes an inconvertible piece of paper valuable? The BoE explains that money is an IOU issued by a single (monopolist) supplier rather than by a variety of individuals. Although a twenty-pound note is no longer convertible into gold, it is “worth twenty pounds precisely because everybody believes it will be accepted as a means of payment both today and in the future… And for everyone to believe that, it is important that money maintains its value over time and is difficult to counterfeit. It’s the central bank’s job to ensure that that is the case.”

    Economists have always had a hard time proving how confidence alone could suffice. Money historians dealing with “token money” (not redeemable in gold or silver) and those economists who are aware of the political foundation of money or who have read or heard Warren Mosler have a different answer. It is inaccurate to describe paper currency as an “unredeemable” asset whose value depends on users’ confidence. Paper money gives its holder a credit that is redeemable in a very concrete way, and it is so redeemed every time holders of money use currency to pay their liabilities to the government: taxes, sanctions, and fines. In fact, the national currency is the only means available for making such payments.

    The BoE remains silent on this point. Acknowledgement of this fact would entail accepting that the payment of taxes is made possible by government spending and not the other way around. It is tax payers, not governments, that can go broke!

    2. How powerful is monetary policy

    On this point, the BoE publication does not break much with the past, at the risk of making statements that clash with the rest of the paper.

    The BoE makes two accurate statements regarding central bank money (banknotes and bank reserves):

    1) it is not chosen or fixed by the central bank;

    2) it does not multiply up into loans and bank deposits.

    This would seem to imply that a central bank does not control the money supply. More accurately, as the ECB states on its website, “by virtue of its monopoly, a central bank is able to manage the liquidity situation in the money market and influence money market interest rates.”

    To the reader’s surprise, however, the BoE concludes that the central bank can:

    “influence the amount of money in the economy. It does so in normal times by setting monetary policy — through the interest rate that it pays on reserves held by commercial banks with the Bank of England. More recently, though, with Bank Rate constrained by the effective lower bound, the Bank of England’s asset purchase programme has sought to raise the quantity of broad money in circulation. This in turn affects the prices and quantities of a range of assets in the economy, including money.”

    For the BoE, changing interest rates is a powerful means to influence bank lending and thus the money supply and the overall economy. This view that interest rates trigger an effective “transmission mechanism” is one of the Great Faults in monetary management committed during the Great Recession.

    There are various channels through which interest rates influence demand, output, and the price level, yet none is empirically strong, and some work in different directions. Bank lending is primarily pro-cyclical, as a famous quote attributed to Mark Twain explains effectively (“A banker is a fellow who lends you his umbrella when the sun is shining, but wants it back the minute it begins to rain”), and the Global Crisis proved central banks to be powerless in trying to reverse this course. The reality is that the level of interest rates affects the economy mildly and in an ambiguous way. To state that monetary policy is powerful is an unsubstantiated claim.
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  • Working Paper No. 792 | March 2014
    An Alternative to Economic Orthodoxy

    This paper explores the intellectual history of the state, or chartalist, approach to money, from the early developers (Georg Friedrich Knapp and A. Mitchell Innes) through Joseph Schumpeter, John Maynard Keynes, and Abba Lerner, and on to modern exponents Hyman Minsky, Charles Goodhart, and Geoffrey Ingham. This literature became the foundation for Modern Money Theory (MMT). In the MMT approach, the state (or any other authority able to impose an obligation) imposes a liability in the form of a generalized, social, legal unit of account—a money—used for measuring the obligation. This approach does not require the preexistence of markets; indeed, it almost certainly predates them. Once the authorities can levy such obligations, they can name what fulfills any obligation by denominating those things that can be delivered; in other words, by pricing them. MMT thus links obligatory payments like taxes to the money of account as well as the currency. This leads to a revised view of money and sovereign finance. The paper concludes with an analysis of the policy options available to a modern government that issues its own currency.

  • Working Paper No. 791 | March 2014
    Myth and Misunderstanding

    It is commonplace to speak of central bank “independence” as if it were both a reality and a necessity. While the Federal Reserve is subject to the “dual mandate,” it has substantial discretion in its interpretation of the vague call for high employment and low inflation. Most important, the Fed’s independence is supposed to insulate it from political pressures coming from Congress and the US Treasury to “print money” to finance budget deficits. As in many developed nations, this prohibition was written into US law from the founding of the Fed in 1913. In practice, the prohibition is easy to evade, as we found during World War II, when budget deficits ran up to a quarter of US GDP. If a central bank stands ready to buy government bonds in the secondary market to peg an interest rate, then private banks will buy bonds in the new-issue market and sell them to the central bank at a virtually guaranteed price. Since central bank purchases of securities supply the reserves needed by banks to buy government debt, a virtuous circle is created, so that the treasury faces no financing constraint. That is what the 1951 Accord was supposedly all about: ending the cheap source of US Treasury finance. Since the global financial crisis hit in 2007, these matters have come to the fore in both the United States and the European Monetary Union, with those worried about inflation warning that the central banks are essentially “printing money” to keep sovereign-government borrowing costs low.

    This paper argues that the Fed is not, and should not be, independent, at least in the sense in which that term is normally used. The Fed is a “creature of Congress,” created by public law that has evolved since 1913 in a way that not only increased the Fed’s assigned responsibilities but also strengthened congressional oversight. The paper addresses governance issues, which, a century after the founding of the Fed, remain somewhat unsettled. While the Fed should be, and appears to be, insulated from day-to-day political pressures, it is subject to the will of Congress. Further, the Fed cannot really be independent from the Treasury, because the Fed is the federal government’s bank, with almost all payments made by and to the government running through the Fed. As such, there is no “operational independence” that would allow the Fed to refuse to allow the Treasury to spend appropriated funds. Finally, the paper addresses troubling issues raised by the Fed’s response to the global financial crisis; namely, questions about transparency, accountability, and democratic governance.

  • Working Paper No. 788 | March 2014
    The Case of the United States

    One of the main contributions of Modern Money Theory (MMT) has been to explain why monetarily sovereign governments have a very flexible policy space that is unconstrained by hard financial limits. Not only can they issue their own currency to pay public debt denominated in their own currency, but they can also easily bypass any self-imposed constraint on budgetary operations. Through a detailed analysis of the institutions and practices surrounding the fiscal and monetary operations of the treasury and central bank of the United States, the eurozone, and Australia, MMT has provided institutional and theoretical insights into the inner workings of economies with monetarily sovereign and nonsovereign governments. The paper shows that the previous theoretical conclusions of MMT can be illustrated by providing further evidence of the interconnectedness of the treasury and the central bank in the United States.

  • Policy Note 2014/2 | February 2014
    Lessons for the Current Debate on the US Debt Limit
    In 1943, Congress faced unpredictably large war expenditures exceeding the prevailing debt limit. Congressional debates from that time contain an insightful discussion of how the increased expenditures could be financed, dealing with practical and theoretical issues that seem to be missing from current debates. In the '43 debate, Representative Wright Patman proposed that the Treasury should create a nonnegotiable zero interest bond that would be placed directly with the Federal Reserve Banks. As the deadline for raising the US federal government debt limit approaches, Senior Scholar Jan Kregel examines the implications of Patman's proposal. Among the lessons: that the debt can be financed at any rate the government desires without losing control over interest rates as a tool of monetary policy. The problem of financing the debt is not the issue. The question is whether the size of the deficit to be financed is compatible with the stable expansion of the economy. 

  • Public Policy Brief No. 130 | January 2014
    In our era of global finance, the theory of aggregate demand management is alive and unwell, says Amit Bhaduri. In this policy brief, Bhaduri describes what he regards as a prevalent contemporary approach to demand management. Detached from its Keynesian roots, this “vulgar” version of demand management theory is being used to justify policies that stand in stark contrast to those prescribed by the original Keynesian model. Rising asset prices and private-debt-fueled consumption play the starring roles, while fiscal policy retreats into the background.

    Returning to foundations laid down by Keynes and Kalecki, Bhaduri sets out to clarify whether there is any place for traditional demand management policies—featuring an active role for deficit spending and public investment—in the context of financial globalization. His conclusion: such policies are ultimately unavoidable if we are to revitalize the real economy and achieve stability. 

  • Working Paper No. 784 | January 2014
    Economic Thought and Political Realities

    The Federal Reserve has been criticized for not forestalling the financial crisis of 2007–09, and for its unconventional monetary policies that have followed. Its critics have raised questions as to whom, if anyone, reins in the Federal Reserve if and when its policies are misguided or abusive. This paper traces the principal changes in governance of the Federal Reserve over its history. These changes have, for the most part, developed in the wake of economic upheavals, when Fed policy has been challenged. The aim is to identify relevant issues regarding governance and to establish a basis for change, if needed. It describes the governance mechanism established by the Federal Reserve Act in 1913, traces the passing of this mechanism in the 1920s and 1930s, and assays congressional efforts to expand oversight in the 1970s. It also considers the changes in Fed policies induced by the financial crisis of 2007–09 and the impact of the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010. It concludes that the original internal governance mechanism, a system of checks and balances that aimed to protect all the important interest groups in the country, faded in the 1920s and was never adequately replaced. In light of the Federal Reserve’s continued growth in power and influence, this deficiency constitutes a threat not only to “stakeholders” but also to the independence of the Federal Reserve itself.

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  • Working Paper No. 783 | January 2014
    A Sovereign Currency Approach
    This paper examines the fiscal and monetary policy options available to China as a sovereign currency-issuing nation operating in a dollar standard world. We first summarize a number of issues facing China, including the possibility of slower growth, global imbalances, and a number of domestic imbalances. We then analyze current monetary and fiscal policy formation and examine some policy recommendations that have been advanced to deal with current areas of concern. We next outline the sovereign currency approach and use it to analyze those concerns. We conclude with policy recommendations consistent with the policy space open to China.

  • Working Paper No. 778 | November 2013
    A Reply to Critics

    One of the main contributions of Modern Money Theory (MMT) has been to explain why monetarily sovereign governments have a very flexible policy space that is unencumbered by hard financial constraints. Through a detailed analysis of the institutions and practices surrounding the fiscal and monetary operations of the treasury and central bank of many nations, MMT has provided institutional and theoretical insights about the inner workings of economies with monetarily sovereign and nonsovereign governments. MMT has also provided policy insights with respect to financial stability, price stability, and full employment. As one may expect, several authors have been quite critical of MMT. Critiques of MMT can be grouped into five categories: views about the origins of money and the role of taxes in the acceptance of government currency, views about fiscal policy, views about monetary policy, the relevance of MMT conclusions for developing economies, and the validity of the policy recommendations of MMT. This paper addresses the critiques raised using the circuit approach and national accounting identities, and by progressively adding additional economic sectors.

  • In the Media | September 2013
    Mark Dittli
    Finanz und Wirtschaft, September 30, 2013. All Rights Reserved.

    Hyman Minsky erkannte die Gefahr exzessiver Kreditschöpfung durch die Banken. Er hielt es für eine Torheit der Ökonomie, den Finanzsektor zu ignorieren.


    Man stelle sich vor: eine Mischung aus John Maynard Keynes und Joseph Schumpeter, mit einem Schuss Hayek. Das Resultat ist einer der wichtigsten Ökonomen des vergangenen Jahrhunderts, der bis heute in der breiten Öffentlichkeit kaum bekannt ist: Hyman Minsky (1919–1996).

    In den Jahren seit dem Ausbruch der Finanzkrise ist der Name des Amerikaners wieder in der ökonomischen Debatte ­aufgetaucht; als «Minsky Moment» wurde die verhängnisvolle Periode im August 2007 bezeichnet, als das Finanzsystem ­begann, aus den Fugen zu geraten. Angesichts der heutigen Renaissance Minskys geht leicht vergessen, dass er während ­seiner akademischen Karriere ein Randdasein fristete, kaum ernst genommen in der Mainstream-Ökonomie.

    Das war ein folgenschwerer Fehler. ­Hyman Minsky befasste sich als Ökonomieprofessor mit dem Finanzsektor und der Rolle, die dieser in der Realwirtschaft spielt. Er zeigte, dass das Finanzsystem ­inhärent instabil ist, zu Übertreibungen und Krisen neigt. Wer seine hauptsächlich in den Siebziger- und Achtzigerjahren verfassten Schriften liest, findet erschreckend präzise Parallelen zu den Ereignissen von 2007 und danach. Lebte Minsky heute noch, könnte er zu Recht ein «Ich habe es ja gesagt» in die Runde werfen.

    Der wahre Keynes

    Hyman Philip Minsky, 1919 als Sohn jüdischer weissrussischer Immigranten in Chicago geboren, studierte Mathematik und Ökonomie an der University of Chicago. Master- und Doktortitel in Ökonomie erlangte er an der Harvard University, sein Doktorvater war Joseph Schumpeter. Nach dem Studium folgten Lehraufträge an der Brown University sowie in Berkeley. 1965 übernahm Minsky einen Lehrstuhl an der Washington University in St. Louis, den er bis 1990 behielt. Danach forschte er weitere sechs Jahre bis zu seinem Tod am Levy Economics Institute.

    Auf einen simplen Satz reduziert war der Kern von Minskys Lehre die Suche nach dem wahren Keynesianismus. Hierzu ein kurzer Exkurs: John M. Keynes löste 1936 mit der «General Theory of Employment, Interest, and Money» in der Volkswirtschaftslehre eine Revolution aus. Das Werk war jedoch in vielen Belangen bruchstückhaft, und Keynes hatte die Absicht, auf etliche Aspekte näher einzugehen. 1937 erlitt er jedoch einen Herzinfarkt und konnte mehrere Jahre kaum arbeiten. Später absorbierten ihn der Weltkrieg und seine Arbeit an der Konzeption des Bretton-Woods-Systems. 1946 starb Keynes; er kam nicht mehr dazu, die General Theory zu verfeinern. Das Werk blieb eine Art Bibel, deren Interpretation anderen überlassen war.

    Diesen Part übernahmen John Hicks und später Alvin Hansen sowie Paul Samuelson. Sie erschufen auf Basis der General Theory die sogenannte neoklassische Synthese, die Lehrbuchökonomie, die ab den Fünfzigerjahren zum Mainstream wurde.

    Grundannahme der neoklassischen Synthese ist das Equilibriumsmodell, das besagt, dass die Wirtschaft stets ein Gleichgewicht sucht.

    «Die populäre, mathematisch hergeleitete Modellierung der General Theory, besonders in der Gestalt des IS/LM-Modells von Hicks (...), tut sowohl dem Geist als auch dem Gehalt von Keynes’ Werk Gewalt an.»

    Herzstück der Hicks’schen Interpretation der General Theory war das IS/LM-Modell, das den Markt für Güter und den Markt für Geld im Gleichgewicht darstellt. In diesem Modell ist Geld eine neutrale Grösse, es entsteht exogen, durch die Entscheide der Zentralbank. Der Finanzsektor wird daher weitgehend ausgeblendet respektive als irrelevant betrachtet. Das Finanzsystem ist nichts anderes als ein Mechanismus, um Geld von Sparern zu Investoren zu transferieren.

    Vom Wesen der Ungewissheit

    Minsky sah in der neoklassischen Synthese eine Perversion von Keynes’ Lehre. «Die mathematisch hergeleitete Modellierung der General Theory transformierte Keynes’ Theorie in ein das Gleichgewicht suchendes System», schrieb er: «Sie tut ­sowohl dem Geist wie auch dem Gehalt von Keynes’ Werk Gewalt an.» Die Ausblendung des Finanzsektors hielt er für eine absurde Abstraktion der Realität.

    Minsky verstand sich sehr wohl als Keynesianer, aber für ihn lag der Schlüssel in der Interpretation der General Theory in deren Kapitel 12. Dieses befasst sich mit der Rolle der Spekulation an den Märkten, mit Massenpsychologie und Herdentrieb. In ihrer Versessenheit auf mathematische Modelle hätten Hicks und seine Nachfolger vergessen, wie wichtig für Keynes der ­Begriff der Ungewissheit war und was diese für die Entscheidungsfindung von Investoren bedeute, warnte er.

    Schon in den späten Fünfzigerjahren prophezeite Minsky, die populäre Auslegung des «Keynesianismus» werde zu Inflation und finanzieller Instabilität führen. Zwanzig Jahre später sollte sich die Warnung bewahrheiten.

    1975, mittlerweile war der populäre Keynesianismus angesichts steigender ­Inflationsraten diskreditiert, publizierte Minsky sein erstes grosses Werk mit dem Titel «John Maynard Keynes». Er sah es als Versuch, die wahre Substanz der General Theory, die Rolle der Finanzbeziehungen in einem fortgeschrittenen kapitalistischen System, ans Licht zu bringen. Die Mainstream-Ökonomie hatte den Finanzsektor wegrationalisiert: Minsky setzte ihn ins Zentrum seiner Arbeit.

    1986 legte er mit seinem zweiten Werk, «Stabilizing an Unstable Economy», nach. Darin formulierte er seine Hypothese der finanziellen Instabilität, die zu seinem Hauptvermächtnis werden sollte.

    «Ein komplexes Finanzsystem wie das unsere generiert destabilisierende Kräfte. Depressionen sind natürliche Konsequenz des ungehinderten Kapitalismus (...). Das Finanzsystem kann nicht dem freien Markt überlassen werden.»

    Nach Minsky – in diesem Punkt folgt er Schumpeter – ist das kapitalistische ­System nicht stabil. Es findet kein Equilibrium; das Gleichgewicht ist bloss eine Station auf dem Weg von einem Ungleichgewicht ins nächste. Der Grund dafür liegt im Verhalten der Marktakteure: Gefühlte Stabilität in der Gegenwart verleitet sie dazu, immer risikofreudiger zu werden – was den Grundstein für die nächste Krise legt. «Stabilität führt zu Instabilität», beschrieb Minsky sein Paradoxon.
    Die zentrale Rolle in diesem Prozess spielt der Finanzsektor. Nach Minsky – und Schumpeter – entsteht Geld nicht exogen, sondern endogen, innerhalb des Wirtschaftssystems, «aus dem Nichts», durch die Kreditschöpfung der Banken. Diese befeuert den Gang der Wirtschaft und treibt die Spekulation an.

    Minsky unterschied zwischen drei Zuständen in der Finanzierungsstruktur von Unternehmen oder Personen: Abgesichert («Hedge»), Spekulativ und Ponzi. Im ersten Stadium erwirtschaften die Schuldner aus ihrer Arbeit genügend Cashflow, um die Zinslast zu bedienen und die Schulden allmählich abzuzahlen. Im zweiten Stadium reicht der Cashflow nur zur Bedienung der Zinsen, aber nicht zur Amortisation der Schuld. Ein spekulativer Schuldner ist darauf angewiesen, dass er seine Kredite am Fälligkeitstermin durch neue ablösen kann. Das letzte Stadium im ­Zyklus nannte Minsky Ponzi, nach dem Hochstapler Charles Ponzi, der in den Zwanzigerjahren mit einem Pyramidensystem 15 Mio. $ ergaunert hatte. In diesem Stadium reicht der erarbeitete Cashflow des Schuldners nicht einmal mehr, um die Zinsen zu bedienen. Um über Wasser zu bleiben, muss er darauf zählen, dass sich der Wert der Anlagen in seiner Bilanz laufend erhöht.

    Mit diesem Modell erklärt sich das Minsky-Paradoxon, wonach Stabilität zu Instabilität führt: In einer gesunden Wirtschaft sind die meisten Kredite an abgesicherte Schuldner verliehen. In der gefühlten Stabilität werden diese jedoch risikofreudiger und nehmen immer mehr Schulden auf, um verheissungsvolle Investitionsprojekte zu realisieren. Die Banken agieren in dieser Phase nicht als Korrektiv, sondern ­legen ihre Risikoscheu ebenfalls ab und vergeben immer freimütiger Kredit. Der Kreislauf treibt sich in die Höhe, bis die Wirtschaft aus zahlreichen spekulativen oder Ponzi-Schuldnern besteht – und höchst fragil geworden ist.

    Die Bändigung des Biestes

    Irgendwann kippt dann die Stimmung. Schlagartig können sich Schuldner nicht mehr refinanzieren, die Banken frieren die Kreditvergabe ein, die Preise von Vermögenswerten geraten ins Rutschen, Notverkäufe beschleunigen den Prozess. Die deflationäre Schuldenliquidation beginnt.

    Für den Ausbruch der Krise ist kein exogener Schock nötig. «Instabilität entsteht durch die Mechanismen innerhalb des Systems, nicht ausserhalb», schrieb Minsky, «unsere Wirtschaft ist nicht instabil, weil sie durch den Ölpreis oder Kriege geschockt wird. Sie ist instabil, weil das in ihrer Natur liegt.» In beiden Extremen des Ungleichgewichts, im Spekulationsboom wie in der deflationären Schuldenliquidation, entsteht kein Korrektiv: Der Boom nährt sich selbst, genauso wie sich die Wirtschaft in der Depression immer weiter in die Tiefe schraubt.

    Minsky sah nur eine Möglichkeit, das Biest zu bändigen. In den extremen Phasen des Ungleichgewichts muss der Staat einspringen. In der Depression bedeutet das fiskal- und geldpolitische Stützung, um die selbstzerstörerische deflationäre Schuldenliquidation zu stoppen. Als Korrektiv im Boom sah Minsky vor allem institutionelle Bremsen im Bankensektor: Er empfahl harte Eigenmittelanforderungen für die Banken sowie Beschränkungen in ihrer Gewinnausschüttung. Grossbanken, deren Bilanz eine winzige Eigenkapital­decke aufweist, waren Minsky ein Gräuel. «Ein komplexes Finanzsystem wie das Unsere generiert auf endogenem Weg gefährliche destabilisierende Kräfte», schrieb er, «Depressionen sind eine natürliche Konsequenz des ungehinderten Kapita­lismus.» Und in letzter Konsequenz: «Das Finanzsystem kann nicht dem freien Markt überlassen werden.»

    Das Ende der Geschichte

    Es erstaunt kaum, dass Minsky mit diesen Ansichten in den Achtzigern keine Chance hatte. Eine Theorie des Ungleichgewichts war damals weltfremd. Neukeynesianer, Neoklassiker, Monetaristen sowie die Anhänger der österreichischen Schule waren sich in der Annahme einig, dass das Wirtschaftssystem – zumindest in der langen Frist – in ein Gleichgewicht strebt. Es war die Zeit der Theorie der rationalen Erwartungen, der effizienten Finanzmärkte, untermauert mit der Präzision mathematischer Modelle. Es war die Zeit der Deregulierungswellen im Bankensektor, gestartet unter Reagan und Thatcher, fortgesetzt in den USA unter Bill Clinton. Es war die Zeit der «grossen Moderation», mit robustem Wachstum und flachen, harmlosen Rezessionen. Sogar die Inflation war besiegt. Es war das «Ende der Geschichte» in der Ökonomie.

    Für Hyman Minsky war in dieser Welt kein Platz mehr. Nur ein verlorenes Grüppchen Post-Keynesianer scharte sich noch um ihn. 1996 starb er an Krebs.

    Vier Jahre später war Minsky in den «Essays on the Great Depression» des Princeton-Professors Ben Bernanke nur eine Fussnote wert. Ein exzessiver Schuldenaufbau – wie von Minsky gewarnt – sei in einer freien Marktwirtschaft gar nicht möglich, weil das irrationales Verhalten der Marktteilnehmer voraussetzen würde. «Und das», schrieb der spätere Chef der US-Notenbank, «ist kaum vorstellbar.»

    Zur selben Zeit begann am US-Häusermarkt ein beispielloser, von Krediten befeuerter Anstieg der Preise. Dasselbe Muster war in Spanien, England, Irland zu beobachten. Überall explodierte die Kreditschöpfung, überall regierte der spekulative Exzess, bereitwillig angetrieben von den Banken. Überall konnten lehrbuchmässig die drei Stufen von Minskys Instabilitätshypothese beobachtet werden. Und dann kam es zum Knall, der beinahe das globale Finanzsystem in die Tiefe riss. «Hyman Minsky ist der analytischste und überzeugendste aller zeitgenössischen Ökonomen, die in exzessivem Schuldenaufbau die Achillesferse des ­Kapitalismus sehen», schrieb der Ökonom James Tobin 1987 in einer Besprechung von «Stabilizing an Unstable Economy».

    Hätte man bloss auf ihn gehört.
  • One-Pager No. 42 | September 2013
    Perhaps the most indictable offense that mainstream economists committed, from 1988 through 2008, was to retrace Keynes’s path of discovery from 1924 (A Tract on Monetary Reform) through 1936 (The General Theory). Wholesale deregulation of finance and categorical confidence in a reductionist role for central banks came into being as the conventional wisdom embraced the 1924 view that free markets and stable prices alone give us the best chance for economic stability. In the aftermath of the grand asset market boom-and-bust cycle of 2008–9, we are jettisoning Keynes circa 1924 for the Keynes of 1936. In effect, we study business cycles but seem incapable of extricating the economics profession from reciting its assigned lines as the play unfolds. 

  • One-Pager No. 40 | September 2013
    Nicola Matthews, University of Missouri–Kansas City, presents the main findings of her research on the Fed’s lending practices following the global financial crisis of 2008. Applying Walter Bagehot’s principles, she finds that the Fed departed from the traditional lender-of-last-resort function of a central bank by lending to insolvent banks without good collateral--and below penalty rates. Most of the Fed’s emergency facilities lent at rates that were, on average, at or below market rates, with the big banks the primary beneficiaries. The Fed went beyond aiding markets to effectively making markets. Reform, Matthews concludes, is the only solution.

  • Policy Note 2013/8 | August 2013
    Though it is not widely understood, the Federal Reserve has enormous untapped power to directly stimulate or influence the flows of lending and spending that generate jobs. Doing so would fulfill the Fed’s often neglected “dual mandate”: to strive for maximum employment as well as stable money. Fed technocrats often plead that legal or technical barriers won’t allow them to do this, but their objections reflect an institutional bias that favors finance over industry, capital over labor. The central bank has abundant precedent from its own history for taking more direct actions to aid the economy. And it has ample legal authority to lend to all kinds of businesses that are not banks.    This policy note was originally published, in slightly different form, as “Can the Federal Reserve Help Prevent a Second Recession?,” The Nation, November 26, 2012. Reprinted with permission. 

  • Policy Note 2013/7 | August 2013
    Monetary policy is running out of gas. Six years ago, in the heat of crisis, the Federal Reserve’s response was awesome. The Fed created trillions of dollars and flooded the system with easy money—enough to stabilize financial markets and rescue wounded banks. It brought short-term interest rates down to near zero and long-term mortgage rates to bargain-basement levels. It provided a huge backstop for the dysfunctional housing sector, buying $1.25 trillion in mortgage-backed securities, nearly one-fourth of the market.

    Flooding Wall Street with money saved the banks, but it didn’t work for the real economy, where most Americans live and toil. And official Washington now appears to have opted for an unspoken policy of complacency.

    The Fed knows, even if politicians do not, the danger of sliding into a liquidity trap, which would utterly disarm its monetary tools. So the Fed wants Congress and the White House to borrow and spend more because, when the private sector is stalled and afraid to act, only the federal government can step in and provide the needed jump start. The country needs a stronger Fed—a central bank not afraid to use its awesome powers to help the real economy more directly. One of the ways it can do this is by revisiting—and extending—its bold ideas on debt relief. By harnessing the power of money creation, the Fed can help clear away the overhang of mortgage and student debt holding back the economic recovery.   This policy note draws from articles originally published in The Nation. Portions are republished with permission. 

  • A conference organized by the Levy Economics Institute of Bard College with support from the Ford Foundation   The 2013 Minsky Conference addressed both financial reform and poverty in the context of Minsky’s work on financial instability and his proposal for a public job guarantee. Panels focused on the design of a new, more robust, and stable financial architecture; fiscal austerity and the sustainability of the US economic recovery; central bank independence and financial reform; the larger implications of the eurozone debt crisis for the global economic system; improving governance of the social safety net; the institutional shape of the future financial system; strategies for promoting poverty eradication and an inclusive economy; sustainable development and market transformation; time poverty and the gender pay gap; and policy and regulatory challenges for emerging-market economies. The proceedings include the conference program, transcripts of keynote speakers’ remarks, synopses of the panel sessions, and biographies of the participants. 
    Download:
    Associated Program(s):
    Author(s):
    Barbara Ross Michael Stephens
    Region(s):
    United States

  • In the Media | June 2013
    By Dimitri B. Papadimitriou
    The Huffington Post, June 18, 2013. Copyright © 2013 TheHuffingtonPost.com, Inc. All Rights Reserved.

    Remember last summer? The London Whale, that blockbuster adventure thriller, triggered one chill after another as the high-risk action at JPMorgan Chase was revealed. Today, the threats posed by megabanks remain just below the surface—no crisis at the moment—but they’re equally dangerous. A major sequel this year cannot be ruled out.

    Dodd-Frank, the law designed to reform the financial system, had already been on the books for two years when JPMorgan’s troubles surfaced. In an effort to figure out how it failed to prevent massive losses by one of the world’s largest banks, a Senate subcommittee investigated. This spring, it issued its report on the outsize positions taken by the bank’s Chief Investment Office (CIO)—with a lead trader known as ‘the London Whale’—and the department’s subsequent six billion dollar crash.

    The committee detailed a list of concealed high-risk activities, and determined that the CIO’s so-called ‘hedging’ activities were really just disguised propriety trading, that is, volatile, high-profit trades on behalf of the bank itself, rather than on behalf of its customers in return for commissions.

    Levy Economics Institute Senior Scholar Jan Kregel has taken these conclusions a step further, after analyzing the evidence. In a new research paper he makes the case that the primary cause of the bank’s difficulties was not that it engaged in proprietary trading: It was the concealment of this activity through the creation of a ‘shadow bank’, with the express purpose of this hardly-visible bank-within-the-bank being to create profits. What began as a unit to hedge risks—a safeguard—no longer served that purpose. He argues that when megabanks operate across all aspects of finance, this expansion of propriety trading becomes inevitable.

    The solution, Kregel says, is not to prevent hedging, but rather to recognize that it can never be consistently profitable. A true hedging unit only generates profits when a bank’s bets on its primary investments are unexpectedly wrong. The legitimate hedge is expected to run losses most of the time, if the bank’s strategy and credit assessments are accurate. And for this reason, hedging activity should never be funded from customer deposits.

    Did the London Whale revelations result in protections for bank customers—and their federal insurers—from this kind of gambling?

    Dodd-Frank will reach its third anniversary in July. It mandated that Congress write 398 rules. About two-thirds of the deadlines for those rules have been missed. In addition, the hiring of regulators has been stalled in Washington, further undermining implementation of the law.

    One rule that limited trading on derivatives contracts, the kind of activity that led to the London Whale debacle, was successfully challenged in the courts by a finance trade group. Another, the “Volcker Rule,” would require banks to separate consumer lending from speculative trading. It was Dodd-Frank’s most ambitious provision. Bank lobbyists have successfully kept regulators way behind schedule on finalizing it. Last week, an anti-regulatory bill to roll back other restrictions on derivatives trading passed in the House (the same bill was shelved last summer while the spotlight was on the London Whale). These are only a few examples. Attempts to reign in the recklessness are relentlessly dismantled as soon as they’re proposed.

    A new bill to increase capital standards for the biggest banks has also recently surfaced. The requirement that these institutions hold less debt and more assets, sponsored by Sherrod Brown (D-Ohio) and David Vitter (R-Louisiana), would, in addition, limit the federal safety net to only cover traditional banking activities. It faces tough opposition.

    I’ve written before about the limits of Dodd-Frank’s scope, and the fundamental changes we need to make in how we approach financial regulation if it is going to succeed. Kregel’s analysis pinpoints some of the key abuses that urgently need to be addressed. Despite all the obstacles, the responsibility remains to reform banks that are too big to fail, and even, apparently, to regulate.

    Meanwhile, the Senate subcommittee’s report has been forwarded to the Justice Department, where no particular indictments are anticipated. Until our increasingly fragile system is strengthened, expect a remake of the London Whale story. Only the cast and crew will change.
  • One-Pager No. 38 | June 2013
    The recent report by the Senate Permanent Subcommittee on Investigations on the operations of JPMorgan Chase’s Synthetic Credit Portfolio unit—aka the London Whale—has brought renewed attention to the risks of proprietary trading for insured banks, and provides depth to the larger risks inherent in the financial system after Dodd-Frank.  

  • In the Media | May 2013
    Di Elena Bonanni
    FIRSTOnline, 21 Maggio 2013. Tutti i diritti riservati.

    Gli azionisti votano oggi in assise sulla separazione delle cariche di presidente e ceo dopo gli scandali—Trema la doppia poltrona di Dimon—Le tre lezioni della balena di Londra dell'economista Jan Kregel (Bard College)—Il caso JPMorgan è diventato il terreno di gioco su cui si sta disputando la sfida sulla Volcker rule tra Senato e lobbies finanziarie

    Il regno di Jamie Dimon non è imploso (per ora) sullo scandalo della Balena di Londra (ma non solo). L’ultimo re di Wall Street, come è stato soprannominato dal Financial Times, non dovrà dividere il trono con un nuovo presidente (solo il 32% ha votato a favore della separazione delle poltrone di ceo e presidente). Più scivolosa risulta invece la posizione di tre membri della Commissione sui rischi (David Cote, ceo Honeywell International; James Crown, presidente di Henry Crown and Company; Ellen Futter, presidente del Museo americano di storia naturale) che hanno ottenuto sostegno da meno del 60% dei soci. 

    CtW Investment group, che rappresenta i fondi pensione dei sindacati, ha già chiesto le loro dimissioni. Tra i soci “ribelli” è diffusa la convinzione che i tre direttori non abbiano le competenze e che la banca abbia bisogno di nuovi manager in grado di supervisionare il risk management. Un cambio della guardia e un miglioramento delle competenze può sempre essere utile. Così come è necessaria la sostituzione di chi non ha supervisionato bene. Oltre al trader Bruno Iksil, soprannominato “la Balena di Londra”, JP Morgan ha infatti già licenziato anche i vertici del Chief Investment Office, la divisione londinese responsabile delle perdite, compresa la numero uno Ina Drew. E ha fatto causa a Javier Martin-Artajo, il supervisore di Iksil.

    Ma, nella realtà finanziaria di oggi, non sembra questa una soluzione sufficiente per evitare in futuro una nuova Balena. Né a JPMorgan né in qualsiasi altra istituzione finanziaria. Tutti si sono infatti focalizzati su “chi sapeva cosa e quando” e su chi era responsabile per aver dissimulato la situazione agli azionisti e alla comunità finanziaria. Ma nello studio “More swimming lessons from the london whale”, l’economista Jan Kregel (Bard College-New York), che analizza e amplia le conclusioni del report della Sottocommissione permanente per le indagini del Senato americano, rileva come il caso della Balena di Londra evidenzi implicazioni più importanti la stabilità del sistema finanziario. 

    Infatti, se i problemi fossero dovuti a incompetenza o stupidità, come suggerito dallo stesso ceo Dimon, allora la questione potrebbe essere risolta con la rimozione dei responsabili. “Da questo punto di vista—rileva Kregel—una volta che i responsabili vengono rimossi (come è successo) e le condizioni ripristinate (lo smantellamento dell’unità), tutta la questione può in effetti essere trattata se non come “una tempesta in una teiera”, come è stata inizialmente descritta da Dimon, come una goccia nel mare dei profitti di JPMorgan complessivi, come è stata successivamente presentata. 

    Dopo tutto, nessuno è perfetto e tutti fanno errori. Ma questa lettura farebbe perdere di vista le importanti questioni sistemiche sollevate dalle operazioni del Cio in generale e del Scp in particolare”. E che devono invece riportare l’attenzione sui rischi non risolti dalla normativa Dodd-Frank. A partire dalle stesse dimensioni delle istituzioni finanziarie  troppo grandi perché il management possa sapere effettivamente cosa succede e troppo grandi per essere regolate, la prima delle tre lezioni che emergono dallo studio di Kregel sul report della Sottocommissione del Senato e che Firstonline ripercorre in una serie di articoli.

    TROPPO GRANDE PER ESSERE SUPERVISIONATA

    I documenti dell’indagine del Senato hanno dato disclosure aggiuntiva e più dettagliata sulle comunicazioni tra i trader del Synthetic credit Portfolio (Scp), i loro manager del Chief investment office (Cio) e il top management della banca. “Questi scambi—scrive Kregel—non solo  riconfermano il fatto che il management ha dato una rappresentazione non corretta agli azionisti e ai regolatori dei dettagli e l’ampiezza delle difficoltà della divisione Chief investment office (Cio), ma ha anche reso chiaro che il management non aveva una comprensione approfondita delle operazioni  del Scp o dei motivi delle difficoltà di questa divisione”.  

    Per l’economista i documenti suggeriscono che è altamente probabile che i diversi livelli di management accusati di aver diffuso false informazioni non avevano la più pallida idea delle operazioni dell’unità Scp e del perché fosse entrata in sofferenza: nessun a quanto pare si era accorto delle difficoltà del Scp fino all’inizio del 2012. “Le comunicazioni del primo trimestre del 2012—rileva Kregel—suggeriscono che il management stesse lottando per capire cosa stesse andando male anche quando approvò misure che nelle intenzioni avrebbero dovuto risolvere il problema”. Ma che invece causarono un deterioramento più veloce del valore del portafoglio dell’unità che chiaramente non era stato compreso.

    Kregel rileva come né il Senato né l’indagine interna di JPMorgan sostengano l’idea che la banca fosse semplicemente troppo grande perché qualsiasi manager potesse avere conoscenza diretta delle operazioni multiple della divisione di cui era responsabile. E ovviamente non poteva neanche il boss di JPMorgan quando parlò della famosa “tempesta nella teiera”. Kregel spiega che ogni livello di management faceva affidamento sulle informazioni passate dai subordinati, i quali a loro volta avevano poca conoscenza diretta dell’unità che stavano gestendo, fino ai trader che per loro stessa ammissione non capivano le performance del portafoglio che loro stessi avevano creato e che furono poi sostituiti da individui con ancora meno comprensione delle difficoltà che stavano fronteggiando. 

    “La spiegazione più probabile della cattiva informazione relativa alla Balena—conclude Kregel—è un enorme fallimento del controllo e della regia manageriale che non è stato il risultato di un inganno deliberato ma piuttosto la risposta naturale di individui che erano pagati generosamente per assumersi la responsabilità ma che semplicemente non sapevano cosa stesse succedendo perché la taglia e la complessità dell’organizzazione lo rendeva impossibile—ancora una volta, la prova di una istituzione troppo grande da gestire efficacemente e a maggior ragione da regolare. Se la complessità è chiaramente una minaccia maggiore alla stabilità finanziaria rispetto alla grandezza, è di solito, ma non solo, la grandezza che porta alla complessità”.     
    Associated Program:
    Author(s):
  • In the Media | May 2013
    Di Elena Bonanni
    FIRSTOnline, 21 Maggio 2013. Tutti i diritti riservati.

    LE TRE LEZIONI DELLA BALENA DI LONDRA/1 Jamie Dimon ha superato il voto sulla doppia poltrona mentre la fronda degli azionisti "ribelli" chiede le dimissioni dei tre membri della Commissione rischi che non hanno superato il 60% dei consensi— Ma il problema di JPMorgan non è solo la sostituzione dei manager “incompetenti”—Lo spiega l'economista Jan Kregel.

    Il regno di Jamie Dimon non è imploso (per ora) sullo scandalo della Balena di Londra (ma non solo). L’ultimo re di Wall Street, come è stato soprannominato dal Financial Times, non dovrà dividere il trono con un nuovo presidente (solo il 32% ha votato a favore della separazione delle poltrone di ceo e presidente). Più scivolosa risulta invece la posizione di tre membri della Commissione sui rischi (David Cote, ceo Honeywell International; James Crown, presidente di Henry Crown and Company; Ellen Futter, presidente del Museo americano di storia naturale) che hanno ottenuto sostegno da meno del 60% dei soci.

    CtW Investment group, che rappresenta i fondi pensione dei sindacati, ha già chiesto le loro dimissioni. Tra i soci “ribelli” è diffusa la convinzione che i tre direttori non abbiano le competenze e che la banca abbia bisogno di nuovi manager in grado di supervisionare il risk management. Un cambio della guardia e un miglioramento delle competenze può sempre essere utile. Così come è necessaria la sostituzione di chi non ha supervisionato bene. Oltre al trader Bruno Iksil, soprannominato “la Balena di Londra”, JP Morgan ha infatti già licenziato anche i vertici del Chief Investment Office, la divisione londinese responsabile delle perdite, compresa la numero uno Ina Drew. E ha fatto causa a Javier Martin-Artajo, il supervisore di Iksil.

    Ma, nella realtà finanziaria di oggi, non sembra questa una soluzione sufficiente per evitare in futuro una nuova Balena.
     Né a JPMorgan né in qualsiasi altra istituzione finanziaria. Tutti si sono infatti focalizzati su “chi sapeva cosa e quando” e su chi era responsabile per aver dissimulato la situazione agli azionisti e alla comunità finanziaria. Ma nello studio “More swimming lessons from the london whale”, l’economista Jan Kregel (Bard College-New York), che analizza e amplia le conclusioni del report della Sottocommissione permanente per le indagini del Senato americano, rileva come il caso della Balena di Londra evidenzi implicazioni più importanti la stabilità del sistema finanziario. 

    Infatti, se i problemi fossero dovuti a incompetenza o stupidità, come suggerito dallo stesso ceo Dimon, allora la questione potrebbe essere risolta con la rimozione dei responsabili. “Da questo punto di vista—rileva Kregel—una volta che i responsabili vengono rimossi (come è successo) e le condizioni ripristinate (lo smantellamento dell’unità), tutta la questione può in effetti essere trattata se non come “una tempesta in una teiera”, come è stata inizialmente descritta da Dimon, come una goccia nel mare dei profitti di JPMorgan complessivi, come è stata successivamente presentata. 

    Dopo tutto, nessuno è perfetto e tutti fanno errori. Ma questa lettura farebbe perdere di vista le importanti questioni sistemiche sollevate dalle operazioni del Cio in generale e del Scp in particolare”. E che devono invece riportare l’attenzione sui rischi non risolti dalla normativa Dodd-Frank. A partire dalle stesse dimensioni delle istituzioni finanziarie  troppo grandi perché il management possa sapere effettivamente cosa succede e troppo grandi per essere regolate, la prima delle tre lezioni che emergono dallo studio di Kregel sul report della Sottocommissione del Senato e che Firstonline ripercorre in una serie di articoli.

    TROPPO GRANDE PER ESSERE SUPERVISIONATA

    I documenti dell’indagine del Senato hanno dato disclosure aggiuntiva e più dettagliata sulle comunicazioni tra i trader del Synthetic credit Portfolio (Scp), i loro manager del Chief investment office (Cio) e il top management della banca. “Questi scambi—scrive Kregel—non solo  riconfermano il fatto che il management ha dato una rappresentazione non corretta agli azionisti e ai regolatori dei dettagli e l’ampiezza delle difficoltà della divisione Chief investment office (Cio), ma ha anche reso chiaro che il management non aveva una comprensione approfondita delle operazioni  del Scp o dei motivi delle difficoltà di questa divisione”.  

    Per l’economista i documenti suggeriscono che è altamente probabile che i diversi livelli di management accusati di aver diffuso false informazioni non avevano la più pallida idea delle operazioni dell’unità Scp e del perché fosse entrata in sofferenza: nessun a quanto pare si era accorto delle difficoltà del Scp fino all’inizio del 2012. “Le comunicazioni del primo trimestre del 2012—rileva Kregel—suggeriscono che il management stesse lottando per capire cosa stesse andando male anche quando approvò misure che nelle intenzioni avrebbero dovuto risolvere il problema”. Ma che invece causarono un deterioramento più veloce del valore del portafoglio dell’unità che chiaramente non era stato compreso.

    Kregel rileva come né il Senato né l’indagine interna di JPMorgan
     sostengano l’idea che la banca fosse semplicemente troppo grande perché qualsiasi manager potesse avere conoscenza diretta delle operazioni multiple della divisione di cui era responsabile. E ovviamente non poteva neanche il boss di JPMorgan quando parlò della famosa “tempesta nella teiera”. Kregel spiega che ogni livello di management faceva affidamento sulle informazioni passate dai subordinati, i quali a loro volta avevano poca conoscenza diretta dell’unità che stavano gestendo, fino ai trader che per loro stessa ammissione non capivano le performance del portafoglio che loro stessi avevano creato e che furono poi sostituiti da individui con ancora meno comprensione delle difficoltà che stavano fronteggiando.

    “La spiegazione più probabile della cattiva informazione relativa alla Balena—conclude Kregel—è un enorme fallimento del controllo e della regia manageriale che non è stato il risultato di un inganno deliberato ma piuttosto la risposta naturale di individui che erano pagati generosamente per assumersi la responsabilità ma che semplicemente non sapevano cosa stesse succedendo perché la taglia e la complessità dell’organizzazione lo rendeva impossibile—ancora una volta, la prova di una istituzione troppo grande da gestire efficacemente e a maggior ragione da regolare. Se la complessità è chiaramente una minaccia maggiore alla stabilità finanziaria rispetto alla grandezza, è di solito, ma non solo, la grandezza che porta alla complessità”. 
    Associated Program:
    Author(s):
  • Working Paper No. 763 | May 2013

    This working paper looks at excess reserves in historical context and analyzes whether they constitute a monetary policy problem for the Federal Reserve System (the “Fed”) or a potentially inflationary problem for the rest of us. Generally, this analysis shows that both absolute and relative sizes of excess reserves are a big problem for the Fed as well as the general public be-cause of their inflationary potential. However, like all contingencies, the timing and extent of the damage that reserve-driven inflation might cause are uncertain. It is even possible today to find articles in both scholarly circles and the popular press arguing either that the inflationary blow-off might never happen or that an increasing tendency toward prolonged deflation is the more probable outcome.

  • Policy Note 2013/4 | April 2013
    In March of this year, the government of Cyprus, in response to a banking crisis and as part of a negotiation to secure emergency financial support for its financial system from the European Union (EU) and International Monetary Fund (IMF), proposed the assessment of a tax on bank deposits, including a levy (later dropped from the final plan) on insured demand deposits below the 100,000 euro insurance threshold. An understanding of banks’ dual operations and of the relationship between two types of deposits—deposits of customers’ currency and coin, and deposit accounts created by bank loans—helps clarify some of the problems with the Cypriot deposit tax, while illuminating both the purposes and limitations of deposit insurance.

  • Public Policy Brief No. 129 | April 2013
    This policy brief by Senior Scholar and Program Director Jan Kregel builds on an earlier analysis (Policy Note 2012/6) of JPMorgan Chase and the actions of the “London Whale,” and what this episode reveals about the larger risks inherent in the financial system. It is clear that the Dodd-Frank Act failed to prevent massive losses by one of the world’s largest banks. This is undeniable evidence that work remains to be done to reform the financial system. Toward this end, Kregel reviews the findings of a recent report by the Senate Permanent Subcommittee on Investigations and expands on the lessons that we can draw from the evolution of the London Whale episode. 

  • In the Media | April 2013
    By David Dayen
    The American Prospect, April 24, 2013. All Rights Reserved.

    Satisfied with the meager reforms of the Dodd-Frank financial-reform bill, the Treasury is standing in the way of further efforts to rein in mega-banks.


    These are heady times for the bipartisan group of reformers seeking a safer and more manageable U.S. financial system. The leaders of this movement, Senators Sherrod Brown and David Vitter, introduced legislation yesterday to force the biggest banks to foot the bill for their own mistakes by imposing higher capital requirements. The bill would increase equity (either retained earnings or stock) in the financial system by $1.1 trillion and incentivize mega-banks to break themselves up, according to a Goldman Sachs report. Brown and Vitter previewed the legislation earlier this week at the National Press Club, insisting that the new regulations on risky mega-banks would diminish threats to the U.S. economy and prevent taxpayers from having to bail out banks in the future. Vitter also said the legislation would “level the playing field and take away a government policy subsidy, if you will, that exists in the market now favoring size.” With momentum, broadening support, and tangible legislation to push, bank reformers feel better positioned for success than they have since the passage of Dodd-Frank.

    Or rather, they did until the Treasury Department poured a giant bucket of cold water on their effort. In a speech to the Levy Economics Institute of Bard College's annual Minsky Conference last Thursday, Undersecretary for Domestic Finance Mary Miller claimed that Dodd-Frank had already solved the “Too Big to Fail” problem. Miller indicated that mega-banks do not enjoy an unfair advantage in their borrowing costs and that recent boosts to capital standards were already working to strengthen the financial system. Having a big public speech at an important venue by a top official the week before the release of Brown-Vitter sends a clear message about the Treasury’s position. “She is not going off the cuff in a policy speech like that,” said former Special Inspector General for the Troubled Asset Relief Program (TARP) and persistent bank critic Neil Barofsky. “This seems like a carefully measured response to Brown-Vitter that the regulatory-reform shop, from the Treasury perspective, is closed.”

    The resistance should not surprise anyone. Under Timothy Geithner, Treasury was openly hostile to far-reaching congressional proposals to constrain mega-banks. Despite the change in leadership at the department, many holdovers from the Geithner era, including Miller, still hold high-level positions. In his confirmation hearings, Treasury Secretary Jack Lew stated flatly that Dodd-Frank had dealt with the Too Big to Fail problem. Most important, Lew works for President Obama: Reaching an agreement to break up mega-banks by forcing them to carry more capital would represent a tacit admission that Dodd-Frank, widely touted as a centerpiece of the president's first term, failed in its core mission of stabilizing the financial system.

    Given that Miller is a 26-year veteran of the investment-management firm T. Rowe Price, it is no surprise that she espouses Wall Street’s worldview.

    What’s striking about Miller’s speech is how closely it mirrors the arguments set forth in several recent papers put out by the big banks, their lobbyists, and their allies. This includes the previously mentioned report on Brown-Vitter by Goldman Sachs; a policy brief by the Financial Services Forum and co-signed by the leading lobbyist groups for the banking industry; and a report with the cheery title "Banking on Our Future" by Hamilton Place Strategies (HPS), a public-relations firm staffed by top communications officials from the last three Republican presidential campaigns (HPS has admitted that its clients include large financial institutions). All of these reports were released in the past few months in an effort to derail Brown-Vitter. Given that Miller is a 26-year veteran of the investment-management firm T. Rowe Price, it is no surprise that she espouses Wall Street’s worldview.   For example, Miller discounts an influential working paper from the International Monetary Fund (IMF) showing an $83 billion annual subsidy for mega-banks from their Too Big to Fail status by saying its evidence “predates the financial crisis and Dodd-Frank’s reforms.” This is precisely the argument the Financial Services Forum made, ignoring the fact that there are plenty of post-crisis studies hat show the subsidies persist. Miller highlights the resolution authority granted to the Federal Deposit Insurance Corporation (FDIC) under Dodd-Frank, which allows the FDIC to wind down any systemically important financial institution verging on collapse rather than resorting to a bailout. She says that, to the extent that a cost-of-borrowing advantage exists for mega-banks, resolution authority “should help wring it the rest of the way out of the market.” In practically the same language, HPS writes that resolution authority “helps eliminate any potential funding advantage big banks are thought to have.” And in providing statistical support for increased capital, Miller notes, “The 18 largest bank-holding companies … doubled the amount of their Tier 1 common equity capital over the last four years.” Goldman Sachs uses precisely this statistic, writing that “common equity has doubled for U.S. banks” since the financial crisis.

    Critics have assailed the bank-industry papers for their unrealistic views about the risks in the current system and over-optimistic evaluations of the impact of the most recent regulatory changes. The truth is that Dodd-Frank has emerged from the gate slowly, bank lobbyists have successfully gutted many of its provisions, and much of it remains in flux. Miller approvingly highlights the Volcker rule as a key financial reform, but the final rule has been delayed nearly a year and has yet to be adopted. The proposed rule to tax systemically important institutions, for example, would cost as little as $28 million, about .2 percent of annual earnings. Other provisions like resolution authority could prove unworkable in an interconnected, global financial system and amid the pressure of catastrophic collapse. Stanford economics professor Anat Admati, author of the book The Banker's New Clothes does not believe Dodd-Frank will hold up in a crisis, comparing it to “preparing for a disaster like an earthquake by putting an ambulance at the corner.”

    Since Brown-Vitter relies so heavily on imposing new capital requirements, Miller’s alignment with the industry on capital is the most telling section of her speech. Miller says that recently imposed capital rules—negotiated under an international process in Basel, Switzerland—are sufficient for banks to cover their own losses. But while the Basel rules as much as tripled capital requirements, as the Financial Times’s Martin Wolf quipped, when the standards were released in 2010, “tripling almost nothing does not give one very much.” Critics also argue that current capital rules afford banks far too many opportunities to use creative accounting to game the system. The rules allow banks to calculate their capital needs using “risk-weighted” assets, counting each type of asset differently based on its assumed level of risk. Banks use risk-weighting to sharply reduce the amount of capital they have to hold—by as much as 50 percent, according to some calculations. In the event of a systemic collapse where all assets fail, regardless of the accounting games, banks would not have the funds necessary to stay solvent. Indeed, during the 2008 financial crisis, investment banks like Lehman Brothers were allowed by the Securities and Exchange Commission to risk-weight assets, and nearly all of them failed. Meanwhile, Sheila Bair at the FDIC rejected risk-weighting, and the commercial banks her agency insured fared better. Brown-Vitter would ban risk-weighting in their capital standards, but Miller simply counsels to stay the course.

    Treasury’s rejection of Brown-Vitter has serious implications. On Monday, Senate Banking Committee chairman Tim Johnson reacted to Brown-Vitter by saying that regulators should finish implementing Dodd-Frank before Congress moves to enact additional reforms. Johnson didn’t cite Miller’s speech, but he didn’t have to: Democratic leaders in Congress will naturally resist turning against the wishes of their president and his economic team. And many rank-and-file lawmakers will cede to the perceived expertise of the Treasury Department. This gives Treasury outsized control of the financial-reform debate, which they’ve used to weaken and soften reforms at virtually every step of the Dodd-Frank process and beyond. In fact, Treasury officials credit themselves with stopping Sherrod Brown’s 2010 proposal to cap bank size. An anonymous senior official said at the time, “If we’d been for it, it probably would have happened. But we weren’t, so it didn’t.”

    This all means that Brown-Vitter is likely to sit on a shelf unless and until Wall Street generates another crisis. With Sherrod Brown in line to potentially take over the Senate Banking Committee in 2014, reformers may benefit from the wait. But it will be a wait.

    Financial-reform advocates see Brown-Vitter as a major opportunity for President Obama to “get on the right side of history” and address the continued riskiness and complexity of modern finance. But Treasury’s primary concern appears to be limiting any constraints on the record profits of those mega-banks, rather than protecting the public from threats to the rest of the economy. As Barofsky concluded, “Treasury has defended the status of the Too Big to Fail banks every step of the way, why would they stop now?”
  • In the Media | April 2013

    For video excerpts from Minneapolis Fed President Narayana Kocherlakota’s speech "Low Real Interest Rates," presented at the Levy Institute’s 22nd Annual Minsky Conference in New York on April 18, click here. Includes audience and press Q&A.

  • In the Media | April 2013
    By Caroline Baum
    Bloomberg View, April 22, 2013. All Rights Reserved.

    It's not every day that a central banker admits that his medicine for curing the last crisis may be laying the groundwork for the next. But that's exactly what Narayana Kocherlakota, President of the Federal Reserve Bank of Minneapolis, said last week at the annual Hyman P. Minsky Conference at the Levy Economics Institute of Bard College.

    Kocherlakota said low real interest rates are necessary to achieve the Fed's dual mandate of maximum employment and stable prices. He also said that low real rates lead to inflated asset prices, volatile returns and increased merger activity, all of which are signs of financial market instability. Listen to what he calls his "key conclusion"—and what I'd call a true conundrum:

    "I've suggested that it is likely that, for a number of years to come, the FOMC will only achieve its dual mandate of maximum employment and price stability if it keeps real interest rates unusually low. I’ve also argued that when real interest rates are low, we are likely to see financial market outcomes that signify instability. It follows that, for a considerable period of time, the FOMC may only be to achieve its macroeconomic objectives in association with signs of instability in financial markets."

    Just think about that for a minute: What the Fed needs to do in order to achieve its macroeconomic objectives will create instability in financial markets. There's more:

    "On the one hand, raising the real interest rate will definitely lead to lower employment and prices. On the other hand, raising the real interest rate may reduce the risk of a financial crisis —- a crisis which could give rise to a much larger fall in employment and prices. Thus, the Committee has to weigh the certainty of a costly deviation from its dual mandate objectives against the benefit of reducing the probability of an even larger deviation from those objectives."

    Damned if we do, damned if we don't. Other Fed officials have warned about froth in asset markets, but none to my knowledge has been as forthright in describing the Fed's life-saving medicine as systemic poison.

    Like his colleagues, Kocherlakota believes effective supervision and regulation of the financial sector are the best ways to address threats to macroeconomic stability. Yeah, and the tooth fairy leaves money under your pillow if you're good.

    For central bankers to believe regulation is the answer, they have to ignore history and disregard the tendency for regulators to be co-opted by those they are assigned to regulate, a phenomenon known as "regulatory capture."

    The Minsky Conference was the ideal place for Kocherlakota to deliver his remarks. Minsky observed that, during periods of prosperity and financial stability (the Great Moderation), investors are lulled into taking on more risk with borrowed money.

    At some point, investors are forced to sell assets to repay loans, sending asset prices into a downward spiral as cash becomes king. This is what's known as a "Minsky moment."

    Kocherlakota seems to be saying such an outcome is inevitable. If only he could tell us when.
  • In the Media | April 2013
    By David Graeber
    The Guardian, April 21, 2013. All Rights Reserved.

    If Reinhart and Rogoff's 'error' has discredited the prevailing policy dogma, now is the time for an alternative that works

    The intellectual justification for austerity lies in ruins. It turns out that Harvard economists Carmen Reinhart and Ken Rogoff, who originally framed the argument that too high a "debt-to-GDP ratio" will always, necessarily, lead to economic contraction – and who had aggressively promoted it during Rogoff's tenure as chief economist for the IMF – had based their entire argument on a spreadsheet error. The premise behind the cuts turns out to be faulty. There is now no definite proof that high levels of debt necessarily lead to recession.

    Will we, then, see a reversal of policy? A sea of mea culpas from politicians who have spent the last few years telling disabled pensioners to give up their bus passes and poor students to forgo college, all on the basis of a mistake? It seems unlikely. After all, as I and many others have long argued, austerity was never really an economic policy: ultimately, it was always about morality. We are talking about a politics of crime and punishment, sin and atonement.

    True, it's never been particularly clear exactly what the original sin was: some combination, perhaps, of tax avoidance, laziness, benefit fraud and the election of irresponsible leaders. But in a larger sense, the message was that we were guilty of having dreamed of social security, humane working conditions, pensions, social and economic democracy.

    The morality of debt has proved spectacularly good politics. It appears to work just as well whatever form it takes: fiscal sadism (Dutch and German voters really do believe that Greek, Spanish and Irish citizens are all, collectively, as they put it, "debt sinners", and vow support for politicians willing to punish them) or fiscal masochism (middle-class Britons really will dutifully vote for candidates who tell them that government has been on a binge, that they must tighten their belts, it'll be hard, but it's something we can all do for the sake of our grandchildren). Politicians locate economic theories that provide flashy equations to justify the politics; their authors, like Rogoff, are celebrated as oracles; no one bothers to check if the numbers actually add up.

    If ever proof was required that the theory is selected to suit the politics, one need only consider the reaction politicians have to economists who dare suggest this moralistic framework is unnecessary; or that there might be solutions that don't involve widespread human suffering.

    Even before we knew Reinhart and Rogoff's study was simply wrong, many had pointed out their historical survey made no distinction between the effects of debt on countries such as the US or Japan – which issue their own currency and therefore have their debt denominated in that currency – and countries such as Ireland, Greece, that do not. But the real solution to the eurobond crisis, some have argued, lies in precisely this distinction.

    Why is Japan not in the same situation as Spain or Italy? It has one of the highest public debt-to-GDP ratios in the world (twice that of Ireland), and is regularly featured in magazines like the Economist as a prima facie example of an economic basket case, or at least, how not to manage a modern industrial economy. Yet they have no problem raising money. In fact the rate on their 10-year bonds is under 1%. Why? Because there's no danger of default. Everyone knows that in the event of an emergency, the Japanese government could simply print the money. And Japanese money, in turn, will always be good because there is a constant demand for it by anyone who has to pay Japanese taxes.

    This is precisely what Ireland, or Spain, or any of the other troubled southern eurozone countries, cannot do. Since only the German-dominated European Central Bank can print euros, investors in Irish bonds fear default, and the interest rates are bid up accordingly. Hence the vicious cycle of austerity. As a larger percentage of government spending has to be redirected to paying rising interest rates, budgets are slashed, workers fired, the economy shrinks, and so does the tax base, further reducing government revenues and further increasing the danger of default. Finally, political representatives of the creditors are forced to offer "rescue packages", announcing that, if the offending country is willing to sufficiently chastise its sick and elderly, and shatter the dreams and aspirations of a sufficient percentage of its youth, they will take measures to ensure the bonds will not default.

    Warren Mosler and Philip Pilkington are two economists who dare to think beyond the shackles of Rogoff-style austerity economics. They belong to the modern money theory school, which starts by looking at how money actually works, rather than at how it should work. On this basis, they have made a powerful case that if we just get back to that basic problem of money-creation, we may well discover that none of this is ever necessary to begin with. In conjunction with the Levy Institute at Bard College, they propose an ingenious, yet elegant solution to the eurobond crisis. Why not simply add a bit of legal language to, say, Irish bonds, declaring that, in the event of default, those bonds could themselves be used to pay Irish taxes? Investors would be reassured the bonds would remain "money good" even in the worst of crises – since even if they weren't doing business in Ireland, and didn't have to pay Irish taxes, it would be easy enough to sell them at a slight discount to someone who does. Once potential investors understood the new arrangement, interest rates would fall back from 4-5% to a manageable 1-2%, and the cycle of austerity would be broken.

    Why has this plan not been adopted? When it was proposed in the Irish parliament in May 2012, finance minster Michael Noonan rejected the plan on completely arbitrary grounds (he claimed it would mean treating some bond-holders differently than others, and ignored those who quickly pointed out existing bonds could easily be given the same legal status, or else, swapped for tax-backed bonds). No one is quite sure what the real reason was, other than perhaps an instinctual bureaucratic fear of the unknown.

    It's not even clear that anyone would even be hurt by such a plan. Investors would be happy. Citizens would see quick relief from cuts. There'd be no need for further bailouts. It might not work as well in countries such as Greece, where tax collection is, let us say, less reliable, and it might not entirely eliminate the crisis. But it would almost certainly have major salutary effects. If the politicians refuse to consider it – as they so far have done – it's hard to see any reason other than sheer incredulity at the thought that the great moral drama of modern times might in fact be nothing more than the product of bad theory and faulty data series.
  • In the Media | April 2013
    By Robert Lenzner
    Forbes, April 20, 2013. All Rights Reserved.

    The President of the Federal Reserve Bank of Boston, Erick Rosengren, suggested this week that there could still be runs on money market mutual funds, as took place at the peak of the 2008 financial crisis, since these funds have “no capital” and invest in uninsured short term securities of banks and other financial service firms. While debate over potential regulatory solutions for money market funds continues on, the Boston Fed chief, emphasized that the safety of the money market mutual funds are a “significant unresolved issue.”

    As of April 13 there was $903.56 billion in retail money market funds sponsored by Fidelity, T. Rowe Price, Dreyfus, Invesco and others, The total amount of all kinds of money market funds, some owned by institutional investors, was $2.6 trillion. The average weekly yield was a record low of only 0.02%.

    He also singled out the issue of capital for the broker-dealer fraternity, where he raised the problem of “virtually no change for broker-dealers since the collapse of Lehman Brothers in September, 2008 and the shotgun marriage of Merrill Lynch into BankAmerica. The solution Rosengren recommended was that the “larger(these investment firms) get the higher the capital ratio”: should be imposed on them. The Boston Fed chief executive, speaking at Bard College’s Levy Institute conference on the economy and financial markets, seemed to be suggesting that the cause for this vacuum in policy is that “Regulatory bodies haven’t evolved as much as the financial markets.” In other words, 5 years after the 2008 meltdown we still have a major challenge in trying to make the global financial system secure against runs and speculative bubbles. There is still further to go in the structural reorganization of the danger from derivatives, but he believes clearing derivatives contracts on exchanges and the decline in bilateral transactions has reduced an element of risk.

    Nevertheless, Rosengren made crystal clear in conversation after his talk that he “sees no bubbles anywhere, not even in real estate where prices are still below their 2006 peak.” He believes prices of residential real estate in Boston and New York are still 15-20% under their peak—and prices in Miami, Phoenix, Las Vegas, California– are still priced at a steeper discount to the peak in 2006.

    As for the economy in general, Rosengren sees “traction” picking up momentum, in which case he would support the “prudent” position of gradually reducing the QE stimulus program. However, he is troubled by the fact that monetary policy(quantitative easing and record low interest rates) are in conflict with fiscal policy, the restraint of sequester and reduction of federal, state and local government spending, ie “the Obama cuts.”
  • In the Media | April 2013
    By Robert Lenzner
    Forbes, April 19, 2013. All Rights Reserved.

    The growing disparity in wealth made the great recession worse and the recovery weaker than ever before. This nation’s wealth disparity widened more than ever before over the last five years because of the steep decline in the value of residential homes and stagnant wages for the lower and middle income groups in the U.S., explained a member of the Federal Reserve Board, Sarah Bloom Raskin, in a speech that explored for the first time a fresh explanation about the obstacles holding back economic growth.

    This “financial vulnerability and marginal ability” to recover from the decline in the wealth of lower income and middle income Americans is “undermining our country’s strength,” Governor Raskin emphasized in New York yesterday at an economic conference sponsored by the Levy Institute at Bard College and the Ford Foundation. Raskin admitted to a feeling of frustration at the central bank about the inability of the Fed’s low interest rate policy together with the expansion in the money supply to alleviate this growing disparity between the wealthy and the rest of American families. She admitted there was current exploration at the Board level of the central bank that “our macro models should be adjusted,” because four years into the recovery a confluence of factors have contributed to a weak recovery.

    “Inequality contributed to the severity of the recession,” Raskin said flatly, and blamed this inequality- for the “differential expectations” in the future between well-off families– with those families not so well off, who were battered by a plunge in the value of their homes, a high level of debt and a continuance of lower wages. I had never heard that theme so sharply expressed as the blame for the mediocre rate of growth we are experiencing.

    Here are the Fed’s latest breakdown on the disparity in wealth. The top 20% of the population own 72% of the nation’s wealth in large part due to their vast holdings in the common shares of publicly held companies. By comparison, the poorest 20% of the U.S. population only own 3% of the wealth, and so were unable to shelter themselves when their homes declined in value, often below the face value of their mortgage and their take-home pay was not growing– or they lost their jobs.

    The distribution of wealth inequality is far worse than the disparity in incomes. Nonetheless, the Fed Governor suggested it does explain the lower levels of consumer spending. As to income disparity between 1979 and 2007, the Federal Reserve figures shows the highest income cohort doubled their annual compensation when adjusted for inflation. The top 1% of earners in the nation saw their share of the national income rise from 10% to 20%. Meanwhile the bottom 40% of the nation’s workers saw their share of the national income decline slightly from 13% to 10%.

    The middle class average income rose in those 30 years to 2007 by only 20% or less than 1% a year, underscoring just how much middle income Americans have fallen behind their wealthier brethren. Fed Governor Raskin called this performance “sluggishness.”

    One hopeful sign is the gradual increase in prices for residential homes throughout the United States. This trend has restored some semblance of household wealth for homeowners from low income and middle income sectors of the population. Another 10% increase in home values, Gov. Raskin suggested, would allow many more low income families to stay in their homes.

    More worrisome, however, is the trend for more and more jobs to be only part-time with less pay and less benefits. “We have lost 9 million jobs,” she said and the growing trend for new jobs to be part-time employment or involving contingent work is “no way to upward mobility” in America.
  • In the Media | April 2013
    By Greg Robb
    MarketWatch, April 19, 2013. All Rights Reserved.

    WASHINGTON (MarketWatch) – No financial institution, regardless of its size, will be bailed out by taxpayers again, Treasury Undersecretary for Domestic Finance Mary Miller said Thursday. As a result of the Dodd-Frank bank regulatory reform, "shareholders of failed companies will be wiped out; creditors will absorb losses; culpable management will not be retained and may have their compensation clawed back; and any remaining costs associated with liquidating the company must be recovered from disposition of the company's assets and, if necessary, from assessments on the financial sector, not taxpayers," Miller said in a speech at the Levy Economics Institute of Bard College. Miller also said evidence was mixed on whether large financial institutions continue to benefit from lower borrowing costs. The Treasury will continue to work to reduce the risks posed by large financial companies and to put in place measures to wind the companies down if the need arises, Miller said. 
  • In the Media | April 2013
    By Annalyn Kurtz
    CNNMoney, April 19, 2013. All Rights Reserved.

    Prices aren't going up very much. Should we celebrate?

    Not really. Inflation that's too low could be a bad sign for the U.S. economy, and some Federal Reserve officials are starting to get concerned. 

    Speaking to reporters on Wednesday, St. Louis Fed President James Bullard pointed to the Fed's preferred measure of inflation—personal consumption expenditures, minus food and energy—which recently has shown that prices are up 1.3% over a year ago.

    "That's pretty low," Bullard said at a Levy Economics Institute event. "I'm getting concerned about that, and I think that gives the FOMC some room to maneuver on its monetary policy."

    The Fed typically aims to keep inflation around 2% a year. Inflation at that level is considered healthy, coinciding with solid economic growth, a growing job market and gradually rising wages.

    "Economic history has shown that economies perform best with slightly higher levels of inflation, such as 2% to 3%," said Bernard Baumohl, chief global economist for the Economic Outlook Group. "Low and dormant inflation translates into a dormant economy."

    Why is low inflation bad? There are a few key reasons.

    First, when companies don't have any leeway to raise prices, they're more apt to cut costs, which could mean a cutback in hiring. Second, if inflation remains so low, consumers are not as motivated to rush out and spend, Baumohl said.

    Third, when inflation is low, it doesn't offer a large buffer against deflation if an economic shock occurs. Deflation—when prices fall—often freezes up spending, because who wants to go out and buy an item now, if they expect it to be cheaper in six months?

    Related: The Geeky Debt Fix that Might Work
    And fourth, low inflation often comes along with lower wage and revenue growth.

    Even with the recent low inflation data, Bullard's comments Wednesday came as a bit of a surprise to Fed watchers. For one, most Fed criticism lately has focused on how the central bank's unprecedented push to stimulate the U.S. economy could eventually lead to rapid inflation or asset bubbles. Fed policies are already cited as a key reason why stocks have recently hovered near five-year highs.

    Second, Bullard is known for leaning slightly hawkish. Just minutes before he met with reporters Wednesday, he gave a speech arguing that the Fed's stimulative policies probably won't solve the job market's problems.

    "I found Bullard's comments yesterday the most interesting in some time," said Ellen Zentner, senior economist for Nomura. "It suggests that other hawks could follow suit if lower inflation persists."

    The Fed has kept its key short-term interest rate near zero since 2008. When that wasn't enough to boost the U.S. economy, it launched several bond-buying sprees, known as quantitative easing, in an attempt to lower long-term interest rates.

    The Fed is now running its third such round of asset purchases, buying $85 billion in Treasuries and mortgage-backed securities each month.

    The program remains highly controversial, and most of the conversation lately has been speculation about when the Fed will start tapering off, and eventually ending, those bond buys.

    But on Wednesday, Bullard went so far as to say that if the inflation rate falls further, the Fed may have to think about increasing its monthly asset purchases, rather than winding them down anytime soon.

    His colleague, Minneapolis Fed President Narayana Kocherlakota, backed that sentiment Thursday.

    Kocherlakota is considered a Fed dove and has long favored stimulus, but if inflation was to fall even further, he said "that would make me in favor of even more accommodation," he told reporters.

    Bullard is a voting member on the Fed's policymaking committee this year, but Kocherlakota is not. Even so, if low inflation persists, expect to hear more Fed officials discuss the issue in the months ahead. 
  • In the Media | April 2013
    By Brai Odion-Esene
    MNI | Deutsche Börse Group, April 18, 2013. All Rights Reserved.

    NEW YORK (MNI) – Federal Reserve Board Governor Sarah Bloom Raskin Wednesday underlined her support for ongoing aggressive push by the Fed to support economic growth, saying that it will help the recovery gain a more secure foothold, with the measures potentially becoming "increasingly potent" as the housing market rebound continues.

    Why? Because the 2008–2009 recession had a disproportionate impact on low- and middle-income American families, the majority of whom have their wealth tied to housing - particularly home prices—she said in remarks prepared for delivery at the Hyman Minsky conference hosted by the Levy Institute.

    Many have argued the Fed of pursuing policies that favor a few over the many, but Raskin believes that "accommodative monetary policy that lifts economic activity more generally is expected to increase the odds of good outcomes for American families."

    Low- to middle-income families bore the brunt of the recession, and many are still struggling to reduce their debt burdens, she noted, while also seeing the values of their homes plummet.

    "Arguably, the FOMC's conduct of monetary policy in recent years has in part been designed to address this particular landscape," she said.

    "I believe that the accommodative policies of the FOMC and the concerted effort we have made to ease conditions in the mortgage markets will help the economy continue to gain traction," Raskin added. "And the resulting expansion in employment will likely improve income levels at the bottom of the distribution."

    The Fed has kept interest rates at exceptionally low levels since late 2008, but Raskin noted that borrowers that have been through foreclosure or have underwater mortgages are less able to take advantage of the lower interest rates, either for home buying or other purposes, reducing the intended impact of the Fed's policies.

    However, "as the housing market recovers, though, I think it is possible that accommodative monetary policy could be increasingly potent," she said.

    Raskin spent significant time discussing the growing wealth inequality gap in America, and its implications for the macroeconomy.

    She argued that rising inequality and stagnating wages have contributed to the "tepid" recovery, noting that in wage gains in particular "have remained more muted than is typical during a recovery."

    Going forward, "it is very likely that, for many households, future labor earnings will be well below what they had anticipated in the years before the recession," Raskin predicted.

    Raskin also defended the Fed's focus on boosting the housing market and spurring faster job creation, noting that the house price shock and less than rosy employment prospects have households curtailing their spending in order to rebuild their nest eggs, while also trimming their budgets "in order to bring their debt levels into alignment with their new economic realities."

    "In this case, the effects of the plunge in net wealth and the jump in unemployment on subsequent spending have been long lasting and lingering," she said.

    Raskin also noted that the recovery has also been hampered by a continuation of longer-term trends that have reduced employment prospects for those at the lower end of the income distribution and produced weak wage growth - such as technological advances and globalization.

    "Given the long-standing trends toward greater income and wealth inequalities, it is unlikely that cyclical improvements in the labor markets will do much to reverse these trends," she said.
  • In the Media | April 2013
    By Jonathan Spicer and Leah Schnurr
    Reuters, April 18, 2013. All Rights Reserved.

    (Reuters) – Easy money policies are bringing some relief to lower-income Americans hard-hit in the recession and the easing could become increasingly potent as the housing market recovers, a top U.S. Federal Reserve official said on Thursday.

    In a speech on equality and the U.S. economy, Fed Governor Sarah Raskin backed the policy accommodation and argued it would continue to help the overall economic recovery. But the long-running trend of inequality and stagnating wages in the United States has slowed that rebound, she said.

    "The accommodative policies ... and the concerted effort we have made to ease conditions in the mortgage markets will help the economy continue to gain traction. And the resulting expansion in employment will likely improve income levels at the bottom of the distribution," Raskin said in prepared remarks to the Hyman P. Minsky conference.

    "However, given the longstanding trends toward greater income and wealth inequalities, it is unlikely that cyclical improvements in the labor markets will do much to reverse these trends," she said.

    Raskin has consistently supported the central bank's policy of low interest rates and large-scale bond-buying, both of which are meant to spur investment, hiring and broader economic growth in the wake of the 2007–2009 recession.

    Gross Domestic Product growth was very tepid at the end of last year, but is expected to have rebounded strongly to 3-percent or more in the first quarter of this year. Still, recent economic signals have been weaker and the Fed is concerned that could hamper growth.

    Raskin's speech amounted to a in depth look into what effects growing economic inequality, which has been on the rise for decades in the United States, has on the current recovery and on Fed policy.

    "As the housing market recovers, I think it is possible that accommodative monetary policy could be increasingly potent," she said.

    Still, the recession's plunge in net wealth and jump in unemployment will have "long lasting and lingering" effects on spending.

    "Although it is too early to state with certainty what the long-term effect of this recession will be on the earnings potential of those who lost their jobs, given the severity of the job loss and sluggishness of the recovery ... it is very likely that, for many households, future labor earnings will be well below what they had anticipated in the years before the recession," said Raskin, who has a permanent vote on Fed policy.

    She noted that the country remains almost 2.5 million jobs short of pre-recession levels.

    The U.S. unemployment rate was 7.6 percent last month, down from 10 percent in 2009, but short of the 5-6 percent range to which Americans are accustomed.
  • In the Media | April 2013
    By Greg Robb
    MarketWatch, April 18, 2013. All Rights Reserved.

    If economists focused more research on the experiences of  less-advantaged households, they might gain new insight on the current struggles of the U.S. economy, said Federal Reserve Governor Sarah Bloom Raskin on Thursday.

    “It strikes me that macroeconomists are far from a comprehensive understanding of how wealth and income inequality may affect business cycle dynamics,” Raskin said in a speech on the economy sponsored the Levy Economics Institute of Bard College.

    For the sake of simplicity, the typical economic model focuses on “representative” households that focus on average gauges of wealth.

    While this might work in certain circumstances, it creates blind spots in research in the wake of the financial crisis, Raskin said.

    With real-wage growth stagnant, in the early years of the 2000s, many households had pinned their hopes on advancement on higher home prices, Raskin said. As a result, they were most vulnerable to the rapid decline in house prices and the contraction of credit that followed.

    “I am persuaded that because of how hard these lower- and middle-income households were hit, the recession was worse and the recovery has been weaker,” Raskin said.

    “The recovery has also been hampered by a continuation of longer-term trends that have reduced employment prospects for those at the lower end of the income distribution and produced weak wage growth,” she noted.

    At the moment, it is not part of the Fed’s mandate to address inequality. The distribution of wealth and income has not been a primary consideration in the way most macroeconomists think about business cycles. But if it’s effects are hurting the economy, perhaps our thinking should be adjusted, Raskin said.
  • In the Media | April 2013
    By Michael S. Derby
    The Wall Street Journal, April 18, 2013. All Rights Reserved.

    Federal Reserve stimulus aimed at spurring growth will likely grow more powerful as the housing market recovers further, but the trends that have fueled income inequality aren’t likely to change much, a U.S. central bank official said Thursday.

    “The accommodative policies of the [Federal Open Market Committee] and the concerted effort we have made to ease conditions in the mortgage markets will help the economy continue to gain traction,” Fed governor Sarah Bloom Raskin said.

    “As house prices rise, more and more households have enough home equity to gain renewed access to mortgage credit and the ability to refinance their homes at lower rates,” she said.

    “I think it is possible that accommodative monetary policy could be increasingly potent” as the housing market picks up, Ms. Raskin said.

    The official said Fed staffers estimate house price increases of 10% or less from current levels would be enough to help around 40% of homeowners who owe more on their homes that the properties are worth to get back into the black. If more households regain a positive equity position, it will help unclog some of the traditional channels monetary policy operates in, which will over time make the stimulus better able to lift growth, Ms. Raskin said.

    The central banker is a voting member of the monetary policy setting FOMC. Her comments came from the text of a speech prepared for delivery before a gathering held by the Levy Economics Institute of Bard College in New York. The bulk of Ms. Raskin’s speech was devoted to trying to understand how wealth and income inequality played a role in creating the financial crisis, and how it might be affecting a recovery that has thus far been weak despite four years of mostly positive momentum.

    The official allowed that the issue isn’t well understood by mainstream economists. But she said the evidence suggests inequality very likely did play a significant part in the downturn. Ms. Raskin pointed to a long standing and widening gulf between top earners and the rest of the nation. Those who saw incomes stagnate relied more on debt and homeownership to cover the lack of rising wages, and when housing prices began to fall, these households were exposed and without sufficient resources to withstand the storm.

    As housing prices turned south, “not only did [these households] receive an unwelcome shock to their net current wealth, but they also undoubtedly have come to realize that house prices will not rise indefinitely and that their labor income prospects are less rosy than they had believed,” Ms. Raskin said.

    “As a result, they are curtailing their spending in an effort to rebuild their nest eggs and may also be trimming their budgets in order to bring their debt levels into alignment with their new economic realities,” the official said. Add the unemployed to that mix, and it isn’t much of a surprise the economy has struggled to recover, the official said.

    Ms. Raskin also said that even as monetary policy is likely to work better when housing picks up further, it is unlikely it will be able to do much right now for wealth and income inequalities. She said “it is unlikely that cyclical improvements in the labor markets will do much to reverse these trends.”
  • In the Media | April 2013
    CentralBanking.com, April 18, 2013. All Rights Reserved.

    The president of the Federal Reserve Bank of Minneapolis, Narayana Kocherlakota, said today that the Federal Open Market Committee (FOMC) will have to live with a "considerable period" of financial instability as the price of meeting the targets of its dual unemployment-price stability mandate.

    Speaking at the 22nd Annual Hyman P Minsky Conference, held at the Levy Economics Institute of Bard College, New York, Kocherlakota said the "unusually low" interest rates that he advocates are likely to cause "inflated asset prices, high asset return volatility and heightened merger activity" - all of which "are often interpreted as signifying financial market instability".

    However, Kocherlakota - who does not sit on the FOMC in 2013 - said that low interest rates in the US are as necessary a response to poor economic indicators as is putting on a coat when the weather is cold.

    He said: "...when I decide what coat to wear, my goal is to keep myself at a temperature that I view as appropriate, given prevailing conditions that I cannot influence. Similarly, when the FOMC decides on a level of the real interest rate, its goal is to keep the macroeconomy at an appropriate ‘temperature', given prevailing conditions that it cannot influence."

    Given unemployment is currently significantly above target levels, and inflation is running below the target of 2% per annum, Kocherlakota said the FOMC "needs to put on some more serious 'winter gear' if it is to get the economy back to the right temperature".

    "It seems likely", he said, "that the mandate-consistent time path of real interest rates could be unusually low for a considerable period of time".

    Volatile prices and more mergers likely
    Kocherlakota then discussed three likely financial market outcomes of a sustained low interest rate environment: inflated asset prices, unusually volatile asset returns and high merger activity.

    He said mergers will become more common because they "typically involve enduring current costs in exchange for a flow of future benefits". When credit is relatively cheap, businesses "will be more willing to pay the upfront costs of a merger in exchange for the anticipated flow of future benefits".

    Asset prices will experience more volatility, he said: "When the real interest rate is very high, only the near term matters to investors. Hence, variations in an asset's price only reflect changes in investors' information about the asset's near-term dividends or risk premiums.

    "But when the real interest rate is unusually low, then an asset's price will become correspondingly sensitive to information about dividends or risk premiums in what might seem like the distant future."

    Cost-benefit calculation
    Kocherlakota said the FOMC has to confront "an ongoing probabilistic cost-benefit calculation" as "raising the real interest rate will definitely lead to lower employment and prices" while "raising the real interest rate may reduce the risk of a financial crisis-a crisis which could give rise to a much larger fall in employment and prices".

    Thus, he said, "the committee has to weigh the certainty of a costly deviation from its dual mandate objectives against the benefit of reducing the probability of an even larger deviation from those objectives."
  • In the Media | April 2013
    The Kansas City Star, April 18, 2013. All Rights Reserved.

    Federal Reserve Bank of Minneapolis President Narayana Kocherlakota said the central bank’s low interest rate policies, though necessary, will probably generate signs of financial instability.

    “Unusually low real interest rates should be expected to be linked with inflated asset prices, high asset return volatility and heightened merger activity,” Kocherlakota said Thursday in the prepared text of a speech in New York. “All of these financial market outcomes are often interpreted as signifying financial market instability.”

    Fed Governor Jeremy Stein and Kansas City Fed President Esther George are among those who have voiced concerns that an extended period of low interest rates is heightening the risk of asset bubbles in markets such as junk bonds and farmland.
    While George has dissented from this year’s Federal Open Market Committee decisions because of this risk, Kocherlakota is among the strongest supporters of additional monetary stimulus on the committee.

    In speeches earlier this month Kocherlakota said he sees an “ongoing modest recovery” with unemployment staying at 7 percent or more through late 2014. The slow recovery calls for “more accommodation,” he said in a speech, repeating his call to postpone consideration of any increase in interest rates. He doesn’t vote on policy this year.

    “It is likely that, for a number of years to come, the FOMC will only achieve its dual mandate of maximum employment and price stability if it keeps real interest rates unusually low,” Kocherlakota said at the Levy Economics Institute’s 22nd Annual Hyman P. Minsky Conference.
  • In the Media | April 2013
    MNI | Deutsche Börse Group, April 18, 2013. All Rights Reserved.

    NEW YORK (MNI) – The Federal Reserve has lowered interest rates to support an economy battered by the 2008-2009 recession, however the weak macroeconomic outlook suggests the central bank's actions have not been enough, and it has not lowered the real interest rate sufficiently, Minneapolis Federal Reserve Bank Governor Narayana Kocherlakota said Thursday.

    In remarks prepared for the Hyman Minsky conference hosted by the Levy Institute, Kocherlakota said the Fed's policy-setting Federal Open Market Committee might have to keep rates at exceptionally low levels for many years to come. Kocherlakota does not hold a voting position on the FOMC this year.

    He noted that over the past six years, the demand for safe assets has grown, while the supply of those assets has shrunk. The global supply of assets perceived as safe has also fallen, as the value of American residential land, and assets backed by land, and investors no longer view all forms of European sovereign debt as a safe investment.

    "I suggest that these dramatic changes in asset demand and asset supply are likely to persist over a considerable period of time -- possibly the next five to 10 years," Kocherlakota said. "If that forecast holds true, it follows that the FOMC will only be able to meet its congressionally mandated objectives over that time frame by taking policy actions that ensure that the real interest rate remains unusually low."

    In addition, using the analogy of deciding what clothes to wear based on weather conditions, Kocherlakota argued that "the truth is that the FOMC's choice of winter garb is actually insufficient to keep the U.S. economy appropriately warm." He pointed to the outlook for both employment and prices, which is too low relative to the FOMC's goals. Unemployment is currently 7.6%, and expected to fall only slowly, while inflation pressures are muted.

    "The Committee needs to put on some more serious winter gear if it is to get the economy back to the right temperature," he argued. "More prosaically, the FOMC can only achieve its dual mandate objectives by lowering the real interest rate even further below its 2007 level."

    Harking back to his comment on higher demand for safe assets, Kocherlakota said this is being fueled by tighter credit access, heightened perceptions of macroeconomic risk and increased uncertainty about federal fiscal policy. In particular, he said that restrictions on households' and businesses' ability to borrow typically lead them to spend less and save more.

    "Thus, the FOMC is confronted with a greater demand for safe assets and tighter supply of safe assets than in 2007. These changes in asset markets mean that, at any given level of real interest rates, households and businesses spend less. Their decline in spending pushes down on both prices and employment. As a result, the FOMC has to lower the real interest rate to achieve its objectives," he said.

    Kocherlakota predicted that over the five-to-10-year horizon, credit market access will remain limited relative to what borrowers had available in 2007, businesses will continue to feel a heightened degree of uncertainty about taxes and households will continue to feel a heightened degree of uncertainty about the level of federal government benefits.

    "These considerations suggest that, for many years to come, the FOMC will have to maintain low real interest rates to achieve its congressionally mandated goals," he reiterated.

    He acknowledged, however, that keeping real interest rates low for a considerable period of time will likely be associated with other "unusual financial market outcomes" - not to mention give rise to "signs of financial market instability."

    The "unusual financial market outcomes" are inflated asset prices, unusually volatile asset returns and high merger activity, Kocherlakota said.

    These financial market phenomena could pose macroeconomic risks, and he believes that is best addressed using effective supervision and regulation of the financial sector.

    "It is possible, though, that these tools may only partly mitigate the relevant macroeconomic risks. The FOMC could respond to any residual risk by tightening monetary policy," he added.

    Kocherlakota counseled, however, that the FOMC should only take that action "if the certain loss in terms of the associated fall in employment and prices is outweighed by the possible benefit of reducing the risk of an even larger fall in employment and prices caused by a financial crisis."

    Meaning? "The FOMC's decision about how to react to signs of financial instability will necessarily depend on a delicate probabilistic cost-benefit calculation," he said.

    The FOMC, Kocherlakota said, has to weigh the certainty of "a costly deviation from its dual mandate objectives" against the benefit of reducing the probability of "an even larger deviation from those objectives."
  • In the Media | April 2013
    by Jon C. Ogg
    24/7 Wall Street, April 18, 2013. All Rights Reserved.

    The Federal Reserve may have released its Beige Book on Wednesday showing no real risks to quantitative easing and to the $85 billion per month used for buying bonds. Despite three weak economic readings so far on Thursday, two different speeches from regional presidents of the Federal Reserve are taking different sides of the easy money from quantitative easing and bond buying.

    Lacker went on to say that he favors slowing the rate of bond purchases immediately, and he is leaning toward a swift end to the program. He thinks that the continued buying will make a Fed exit that much trickier. One last note is that inflation is tame now, but Lacker is worried that inflation risks will rise once the Federal Reserve and Ben Bernanke get closer to their decision to end quantitative easing.Richmond Fed President Jeffrey Lacker gave an interview to CNBC on Thursday morning saying that the bond-buying efforts have not had much of an impact on the labor market. He thinks that the labor market is struggling due to wider challenges. As a reminder, Lacker was the lone monetary policy hawk throughout 2012, but he is not considered a voting member who gets to cast dissenting public views at each FOMC meeting due to term rotations.

    A second speech of caution may be taken out of context from headlines, but Minneapolis Federal Reserve Bank president Narayana Kocherlakota spoke at the Levy Institute in New York this morning. His take was that very low interest rates could persist for close to decade because the economic risks and economic instability will be with us for so long. His take is that the FOMC will have to maintain very low real interest rates to achieve its dual mandate of full employment and low inflation.

    Where the Narayana Kocherlakota speech gets interesting is that he thinks this will be met with inflated asset prices, high asset return volatility and even with heightened merger activity. Be advised that Narayana Kocherlakota also is not a voting member of the FOMC, and he is considered dovish as a big supporter of quantitative easing. Kocherlakota even went on to say that he supports lowering the Fed’s unemployment target down to 5.5% rather than 6.5%.

    You have to love it when two non-voting Fed presidents offer differing views. Lacker is as hawkish as a member of the Fed can be. Kocherlakota is on the other end of the spectrum.

  • In the Media | April 2013
    NASDAQ, April 18, 2013. All Rights Reserved.

    NEW YORK – Federal Reserve stimulus aimed at spurring growth will likely grow more powerful as the housing market recovers further, but the trends that have fueled income inequality aren't likely to change much, a U.S. central bank official said Thursday.

    "The accommodative policies of the [Federal Open Market Committee] and the concerted effort we have made to ease conditions in the mortgage markets will help the economy continue to gain traction," Fed governor Sarah Bloom Raskin said.

    "As house prices rise, more and more households have enough home equity to gain renewed access to mortgage credit and the ability to refinance their homes at lower rates," she said.

    "I think it is possible that accommodative monetary policy could be increasingly potent" as the housing market picks up, Ms. Raskin said.

    The official said Fed staffers estimate house price increases of 10% or less from current levels would be enough to help around 40% of homeowners who owe more on their homes that the properties are worth to get back into the black. If more households regain a positive equity position, it will help unclog some of the traditional channels monetary policy operates in, which will over time make the stimulus better able to lift growth, Ms. Raskin said.

    The central banker is a voting member of the monetary policy setting FOMC. Her comments came from the text of a speech prepared for delivery before a gathering held by the Levy Economics Institute of Bard College in New York. The bulk of Ms. Raskin's speech was devoted to trying to understand how wealth and income inequality played a role in creating the financial crisis, and how it might be affecting a recovery that has thus far been weak despite four years of mostly positive momentum.

    The official allowed that the issue isn't well understood by mainstream economists. But she said the evidence suggests inequality very likely did play a significant part in the downturn. Ms. Raskin pointed to a long standing and widening gulf between top earners and the rest of the nation. Those who saw incomes stagnate relied more on debt and homeownership to cover the lack of rising wages, and when housing prices began to fall, these households were exposed and without sufficient resources to withstand the storm.

    As housing prices turned south, "not only did [these households] receive an unwelcome shock to their net current wealth, but they also undoubtedly have come to realize that house prices will not rise indefinitely and that their labor income prospects are less rosy than they had believed," Ms. Raskin said.

    "As a result, they are curtailing their spending in an effort to rebuild their nest eggs and may also be trimming their budgets in order to bring their debt levels into alignment with their new economic realities," the official said. Add the unemployed to that mix, and it isn't much of a surprise the economy has struggled to recover, the official said.

    Ms. Raskin also said that even as monetary policy is likely to work better when housing picks up further, it is unlikely it will be able to do much right now for wealth and income inequalities. She said "it is unlikely that cyclical improvements in the labor markets will do much to reverse these trends."
  • In the Media | April 2013
    MNI | Deutsche Börse Group, April 18, 2013. All Rights Reserved.

    NEW YORK (MNI) - Treasury Under Secretary Mary Miller Thursday night avoided a specific direct comment on the day's relatively weak $18 billion TIPS 5-year note auction.

    But she did tell MNI in an exclusive comment that "over the past week, people have been reassessing their inflation expectations."

    She also hailed the cooperation between the Bank of England and the U.S. FDIC on banking regulation.

    Miller was answering questions from the audience at the annual Human Minsky Conference where she had delivered a speech saying, as reported earlier, that as much as current commentary ascribes great funding advantages to those banks of a size to be considered "too big to fail," that the perception may be increasingly out of date.

    The U.S. TIPS market declined sharply Thursday afternoon after the auction tailed nearly seven basis points although it drew reasonably good indirect bids. The auction size had been increased $2 billion over a similar previous auction. Miller also parried when asked by an audience member if the U.S. regulators such as Treasury should make U.S. banks leave ISDA. "You need to step back and look at the totality of financial regulation," said Miller.

    Adapting to the "clarity" of the Dodd-Frank Act about how taxpayers will be spared any future bank bailouts, credit ratings firms that had given the biggest banks a seven-notch uplift beyond their underlying creditworthiness, have now taken back as much as six notches. "One rating agency," she noted "has also recently indicated it may further reduce or eliminate its remaining ratings uplift assumptions by the end of 2013," she said.
  • In the Media | April 2013
    MNI | Deutsche Börse Group, April 18, 2013. All Rights Reserved.

    NEW YORK (MNI) - Minneapolis Federal Reserve Bank President Narayana Kocherlakota Thursday called on the central bank to provide even more support to the ongoing economic recovery, arguing concerns about risks to financial stability do not yet supersede the need to spur faster job creation and maintain price stability.

    Speaking to reporters on the sidelines of the Hyman Minsky conference in New York, Kocherlakota said , with regard to possible bubbles forming in asset classes, "Right now ... I don't see those kinds of risks out there."

    Kocherlakota is not a voter on the policy-setting Federal Open Market Committee this year.

    The question to be asked, he said, is do financial stability risks loom large enough to warrant taking monetary policy action to do something about them.

    "Is it (monetary policy) effective enough at mitigating that risk to warrant the loss of jobs and the disinflationary pressures? The answer to that is absolutely not at this stage," Kocherlakota said.

    "The worry about financial stability is still so tenuous that I would not want to be robbing the immediate stimulus to the economy on that basis," he added.

    Kocherlakota said he sees inflation running below target over the next two years, while the unemployment rate remains elevated.

    Speaking at the same conference Wednesday, St. Louis Fed President James Bullard has said he would support ramping up the Fed's bond purchases - currently at a pace of $85 billion a month - should inflation continue to decline.

    Asked for his thoughts, Kocherlakota said his outlook for inflation has not changed yet although the recent drop "is certainly a cause for concern."

    The Fed cannot risk delivering too little inflation relative to what it promises, he said, so it is important to protect the FOMC's 2% inflation target "both from above ... and from below as well."

    "I'm in favor of more accommodation," Kocherlakota declared, and so inflation softening "would make me even more in favor of more accommodation."

    In his prepared remarks, Kocherlakota had argued that the FOMC needs to put on "some more serious winter gear if it is to get the economy back to the right temperature."

    Asked by MNI what would constitute more serious action by the Fed, Kocherlakota again said the FOMC would provide additional stimulus to the economy by lowering its unemployment threshold to 5.5% from 6.5%.

    "That would provide even more of a guarantee in terms of how long interest rates were going to remain (exceptionally low), that would push downward further on real interest rates and provide more stimulus to demand," he said.

    Kocherlakota was then asked whether "more serious winter gear" also meant upping the scale of the Fed's asset purchases.

    "We have to become a lot more clear about what exactly are the metrics associated with that," Kocherlakota said, noting that the FOMC's vow to maintain the aggressive bond purchases until there is a "substantial improvement" in the labor market outlook, is being subjected to different interpretations.

    "I think we'd really solve a lot of problems, in terms of the fed funds rate, by being much more explicit about the markers for that (QE3)," Kcoherlakota said.

    Kocherlakota added that he feels more confident in the ability of forward guidance to provide the requisite stimulus because the FOMC has been so clear about it.

    As to the effectiveness of the Fed's policies, Kocherlakota argued that they are having an impact on the economy, arguing that the Fed's asset purchases have not only pushed down the yields of the securities being bought, but also yields "across the economy."

    "So I think that there is evidence that our actions are being effective," he said, before adding, "it would be nice if we did even more."
  • In the Media | April 2013
    By Michael S. Derby
    4-Traders, April 18, 2013. All Rights Reserved.

    NEW YORK--A Federal Reserve official said Thursday interest rates are likely to stay very low for years to come, which raises the prospect that chronic financial instability will be an enduring threat.

    "For a considerable period of time, the [Federal Open Market Committee] may only be to achieve its macroeconomic objectives in association with signs of instability in financial markets," Federal Reserve Bank of Minneapolis President Narayana Kocherlakota said.

    "For many years to come, the FOMC will have to maintain low real interest rates to achieve its congressionally mandated goals," the official said. "Unusually low real interest rates should be expected to be linked with inflated asset prices, high asset return volatility and heightened merger activity," he said.

    In an environment where bubbles regularly threaten to form, and other markets see prices move away from fundamentals, the Fed will be confronted with difficult choices. "These potentialities are best addressed through effective supervision and regulation of the financial sector," Mr. Kocherlakota said, although he allowed that it is possible the Fed may also have to employ the blunt tool of monetary policy to cool markets down if risks rise enough.

    The official, when asked if he saw any markets devolving into a bubble, responded "the answer is absolutely not at this stage." At the current moment, "I don't see those kind of risks out there."

    But he also said that given the importance now placed on financial stability, bank regulators and supervisors face greater challenges as they do their work.

    Mr. Kocherlakota's comments came from a speech he gave at a conference held in New York by the Levy Economics Institute of Bard College. He took questions from the audience and spoke with reporters as well. The official is not currently a voting member of the monetary policy setting FOMC.

    Mr. Kocherlakota has been one of the biggest supporters of aggressive Fed action to support the economy, and has argued in recent speeches the Fed is not going far enough to aid the economy, and should add more stimulus by saying it wants to achieve a lower unemployment rate before hiking interest rates.

    He reiterated that he'd still like to lower the threshold at which the Fed would potentially entertain raising rates, from 6.5% to 5.5%. He said weakening inflation pressures were "definitely a cause for concern" but he hasn't changed his outlook for price pressures. Mr. Kocherlakota said he still expects economic growth of 2.5% this year and 3% next year, and believes that will be enough to help raise inflation over time from its current very low level.

    In his speech, the central banker said that the low interest rate world that could persist for "possibly the next five to 10 years" is in part the result of Fed actions over the course of the financial crisis and its aftermath. But the central banker said that other forces are also conspiring to keep rates very low.

    The three that are most important beyond Fed policy are tighter credit availability, increased worry about economic risk and uncertainty surrounding the outlook for U.S. government finance, he said.

    These factors are causing investors, households and firms to keep their money where it is safest, and it is also causing them to save more. At the same time, those who need better yields will go into riskier assets, creating the risk prices for those markets could go haywire, the official explained.

    In as much as Fed policy has helped create the low returns savers are wounded by, so too have market forces, Mr. Kocherlakota said.

    "I often hear that the FOMC has created a low interest rate environment that is harmful for savers and others," he said. "That seems about as compelling as blaming me for creating winter in Minnesota by putting on my long johns," Mr. Kocherlakota said.

    The official said in his speech he expects unemployment to fall "only slowly," and he said "inflation pressures are muted."
  • In the Media | April 2013
    By Michael S. Derby
    Euroinvestor, April 18, 2013. All Rights Reserved.

    NEW YORK – A Federal Reserve official said Thursday interest rates are likely to stay very low for years to come, which raised the prospect that chronic financial instability risks will dog the economy for a long time.

    "For a considerable period of time, the [Federal Open Market Committee] may only be to achieve its macroeconomic objectives in association with signs of instability in financial markets," Federal Reserve Bank of Minneapolis President Narayana Kocherlaktoa said.

    "For many years to come, the FOMC will have to maintain low real interest rates to achieve its congressionally mandated goals," the official said. "Unusually low real interest rates should be expected to be linked with inflated asset prices, high asset return volatility and heightened merger activity," he said.

    In an environment where bubbles regularly threaten to form, and other markets see prices move away from fundamentals, the Fed will be confronted with difficult choices. "These potentialities are best addressed through effective supervision and regulation of the financial sector," Mr. Kocherlakota said, although he allowed that it is possible the Fed may also have to employ the blunt tool of monetary policy to cool markets down if risks rise enough.

    Mr. Kocherlakota's comments came from the text of a speech that was to be presented at a conference held in New York by the Levy Economics Institute of Bard College. The official is not currently a voting member of the monetary policy setting FOMC.

    Mr. Kocherlakota has been one of the biggest supporters of aggressive Fed action to support the economy, and has argued in recent speeches the Fed is not going far enough to aid the economy, and should add more stimulus by saying it wants to achieve a lower unemployment rate before hiking interest rates.

    In his speech, the central banker said that the low interest rate world that could persist for "possibly the next five to 10 years" is in part the result of Fed actions over the course of the financial crisis and its aftermath. But the central banker said that other forces are also conspiring to keep rates very low.

    The three that are most important beyond Fed policy are tighter credit availability, increased worry about economic risk and uncertainty surrounding the outlook for U.S. government finance, he said.

    These factors are causing investors, households, and firms to keep their money where it is safest, and it is also causing them to save more. At the same time, those who need better yields will go into riskier assets, creating the risk prices for those markets could go haywire, the official explained.

    In as much as Fed policy has helped create the low returns savers are wounded by, so too have market forces, Mr. Kocherlakota said.

    "I often hear that the FOMC has created a low interest rate environment that is harmful for savers and others," he said. "That seems about as compelling as blaming me for creating winter in Minnesota by putting on my long johns," Mr. Kocherlakota said.

    The official said in his speech he expects unemployment to fall "only slowly," and he said "inflation pressures are muted."
  • In the Media | April 2013
    By Dan Fitzpatrick
    The Wall Street Journal, April 18, 2013. All Rights Reserved.

    New York Department of Financial Services Superintendent Benjamin Lawski signaled in a speech Thursday that he will not shy away from taking the “lead” among regulators while confronting U.S. financial giants.

    Lawsky rankled other regulators last year when he pursued a money laundering case against British bank Standard Chartered that ended with a settlement of $340 million. His agency, which serves as New York’s top banking regulator, was less than a year old at the time.

    “A dose of healthy competition among regulators is helpful and necessary to safeguarding the stability of our nation’s financial system,” Lawsky told a crowd in New York gathering for the Hyman P. Minsky Conference on the State of the U.S. and World Economies.

    During his talk  Lawsky dropped hints about new lines of inquiry for his department. He mentioned a trend of private equity companies buying insurance companies; the use of captive insurance subsidiaries to shift risk and take advantage of looser oversight requirements; and the use of outside consultants to monitor bank abuses.

    “The monitors are hired by the banks, they’re embedded physically at the banks, they are paid by the banks and they depend on the banks for future business,” he said.

    Lawsky said to expect actions in “the coming weeks and months” on the consultancy issue. “We expect that those actions will help propel reform at both the state and federal levels.” 
  • In the Media | April 2013
    Money News, April 18, 2013. All Rights Reserved.

    Easy money policies are bringing some relief to lower-income Americans hard-hit in the recession and the easing could become increasingly potent as the housing market recovers, a top U.S. Federal Reserve official said on Thursday.

    In a speech on equality and the U.S. economy, Fed Governor Sarah Raskin backed the policy accommodation and argued it would continue to help the overall economic recovery. But the long-running trend of inequality and stagnating wages in the United States has slowed that rebound, she said.

    "The accommodative policies ... and the concerted effort we have made to ease conditions in the mortgage markets will help the economy continue to gain traction. And the resulting expansion in employment will likely improve income levels at the bottom of the distribution," Raskin said in prepared remarks to the Hyman P. Minsky conference.

    "However, given the longstanding trends toward greater income and wealth inequalities, it is unlikely that cyclical improvements in the labor markets will do much to reverse these trends," she said.

    Raskin has consistently supported the central bank's policy of low interest rates and large-scale bond-buying, both of which are meant to spur investment, hiring and broader economic growth in the wake of the 2007-2009 recession.

    Gross Domestic Product growth was very tepid at the end of last year, but is expected to have rebounded strongly to 3-percent or more in the first quarter of this year. Still, recent economic signals have been weaker and the Fed is concerned that could hamper growth.

    Raskin's speech amounted to an in-depth look into what effects growing economic inequality, which has been on the rise for decades in the United States, has on the current recovery and on Fed policy.

    "As the housing market recovers, I think it is possible that accommodative monetary policy could be increasingly potent," she said.

    Still, the recession's plunge in net wealth and jump in unemployment will have "long lasting and lingering" effects on spending.

    "Although it is too early to state with certainty what the long-term effect of this recession will be on the earnings potential of those who lost their jobs, given the severity of the job loss and sluggishness of the recovery ... it is very likely that, for many households, future labor earnings will be well below what they had anticipated in the years before the recession," said Raskin, who has a permanent vote on Fed policy.

    She noted that the country remains almost 2.5 million jobs short of pre-recession levels.

    The U.S. unemployment rate was 7.6 percent last month, down from 10 percent in 2009, but short of the 5-6 percent range to which Americans are accustomed.
  • In the Media | April 2013
    By Jeff Kearns
    Bloomberg, April 18, 2013. All Rights Reserved.

    Federal Reserve Governor Sarah Bloom Raskin said the Fed should press on with record easing, predicting that current policy will increasingly improve the economic outlook for low-income Americans.

    The Fed’s near-zero interest rate policy and asset purchases are growing more effective by supporting the housing market and spurring economic activity, Raskin said today in a speech at a Ford Foundation conference in New York.

    “Accommodative monetary policy could be increasingly potent” as the housing market recovers, Raskin said. “As house prices rise, more and more households have enough home equity to gain renewed access to mortgage credit and the ability to refinance their homes at lower rates.”

    The Federal Open Market Committee in March agreed to continue buying $85 billion in Treasuries and mortgage bonds per month in an effort to bolster growth and reduce unemployment that was at 7.6 percent last month. Fed officials are debating how to eventually curtail asset purchases that have swollen the central bank’s balance sheet to a record $3.3 trillion.

    “The accommodative policies of the FOMC and the concerted effort we have made to ease conditions in the mortgage markets will help the economy continue to gain traction,” Raskin said. “And the resulting expansion in employment will likely improve income levels at the bottom of the distribution.”

    Financial Shocks

    At the December 2007 start of the 18-month recession, there were an “unusually large” number of low- and middle-income households that were vulnerable to financial shocks after 30 years of “sluggish” wage growth, Raskin said.

    “Their exposure to house prices had increased dramatically,” and they were more likely to be affected by lost jobs and reduced savings, Raskin said. That deepened the recession and prolonged the recovery, she said today at the foundation’s 22nd Annual Hyman P. Minsky Conference.

    U.S. growth slumped to 0.4 percent in the fourth quarter, the slowest since the first quarter of 2011, amid government budget cuts and military spending that plunged the most since the waning days of the Vietnam War four decades ago.

    Economists expect growth to rebound. Gross domestic product probably grew at a 3 percent annualized rate from January through March, according to the median forecast in an April 5-9 Bloomberg survey of 69 economists. That’s up from the 2 percent gain projected by economists last month.

    The Standard & Poor’s 500 Index slumped for a second day, dropping 0.7 percent to a six-week low of 1,541.61 as earnings from UnitedHealth Group Inc. to EBay Inc. disappointed investors. The yield on the benchmark 10-year Treasury note decreased 0.01 percentage point to 1.68 percent.

    Raskin, 52, was appointed by President Barack Obama  in 2010 for a term that expires in 2016. Before joining the Fed she was Maryland’s Commissioner of Financial Regulation, according to the Fed Board website.
  • In the Media | April 2013
    Forbes, April 18, 2013. All Rights Reserved.

    Admitting that the Federal Reserve is responsible for creating financial instability, and possibly brewing the next toxic asset bubble, Minneapolis Fed President Narayana Kocherlakota said they have to do more to stimulate the economy, as inflation is too low.  Kocherlakota predicted five to ten years of financial instability, as the Fed marches on with unusually low, and currently negative, interest rates, yet suggested the alternative would be “much worse.”

    Going much further than Fed Chairman Ben Bernanke. Kocherlakota directly tied high levels of financial instability with the Fed’s policies designed to keep rates “unusually low.”  Interestingly, though, he didn’t suggest this was a reason to reverse course, rather, he felt it was an unwanted but tolerable side effect.

    Speaking at the Levy Economics Institute’s Minsky conference, Kocherlakota spoke of “incredible demand for safe assets,” which, in conjunction with Fed policy, will conspire to keep real rates very low for possibly five to ten years.

    Demand for safety has risen, as tight credit access pushes households and some businesses to increase saving.  At the same time, fears of a coming macroeconomic shock diminishes demand for businesses and workers’ products.  Add the fiscal situation, where spending and revenues are completely out of whack, and one sees a constant yearning for safety.  In part this has helped the dollar remain relatively resilient, while fueling gold’s rise during times of market stress, despite recent weakness.

    On the supply side, investors knew where to find it before the crash: in U.S. real state or assets backed by it, in European sovereign debt, and in Treasuries. With the real estate sector obliterated and Europe in shambles, supply of safe assets has fallen dramatically, Kocherlakota explained.

    This environment undoubtedly sets the stage for “unusual” events in financial markets.  Kocherlakota spoke of Fed policy inflating asset prices, while accelerating volatility; he also mentioned increased merger activity.  Indeed, U.S. stock markets have been trading at or near record highs for some time, while stocks in the housing sector, such as KB Home and Lennar, are up near their 52-week highs.  Financial stocks like Citigroup, JPMorgan Cahse, and Bank of America are all outperforming the market dramatically over the past six months, while gold, eternally seen as a safe asset, is down hard in the same time period.

    The risk of creating another destructive bubble is there, according to Kocherlakota, but he doesn’t see it as imminent.  The Fed’s current state of surveillance is vastly superior than it was before the financial crisis, the Minneapolis Fed chief said, giving him comfort that they will be able to anticipate, or at least mitigate, any dangers.

    So, the Fed has to do more.  Kocherlakota’s two-year inflation projection is well below trend, and fearing deflation, he’s ready to do more.  Even after defending quantitative easing, Kocherlakota said he prefers to use forward guidance to affect market perceptions.   Specifically, he’d like to lower the unemployment target from 6.5% to 5.5%, signaling that easing will remain in place for longer.  QE isn’t as well understood from a metric perspective, he explained.

    Asked about diminishing returns, and if Fed policy was at a point where it is increasingly ineffective, while risks continue to mount, Kocherlakota was quick to reject the hypothesis.  There’s ample evidence the Fed has been effective, particularly in mortgage markets and in real rates, as seen in TIPS, while raising rates would be destructive, helping a few to the detriment of many, he said.

    Kocherlakota echoed comments made by his colleague from St. Louis, James Bullard, who on Wednesday also said inflation was “too low,” arguing for the Fed to do more. While Bullard said forward guidance is ineffective, and asked for a modification in the flow rate of asset purchases (Fed code for more money printing), they both agree the Fed has to do more to stimulate the economy.
  • In the Media | April 2013
    By Michael S. Derby
    Capital.gr, April 18, 2013. All Rights Reserved.

    (Adds Kocherlakota's comments on market imbalances, inflation)

    NEW YORK--A Federal Reserve official said Thursday interest rates are likely to stay very low for years to come, which raises the prospect that chronic financial instability will be an enduring threat.

    "For a considerable period of time, the [Federal Open Market Committee] may only be to achieve its macroeconomic objectives in association with signs of instability in financial markets," Federal Reserve Bank of Minneapolis President Narayana Kocherlakota said.

    "For many years to come, the FOMC will have to maintain low real interest rates to achieve its congressionally mandated goals," the official said. "Unusually low real interest rates should be expected to be linked with inflated asset prices, high asset return volatility and heightened merger activity," he said.

    In an environment where bubbles regularly threaten to form, and other markets see prices move away from fundamentals, the Fed will be confronted with difficult choices. "These potentialities are best addressed through effective supervision and regulation of the financial sector," Mr. Kocherlakota said, although he allowed that it is possible the Fed may also have to employ the blunt tool of monetary policy to cool markets down if risks rise enough.

    The official, when asked if he saw any markets devolving into a bubble, responded "the answer is absolutely not at this stage." At the current moment, "I don't see those kind of risks out there."

    But he also said that given the importance now placed on financial stability, bank regulators and supervisors face greater challenges as they do their work.

    Mr. Kocherlakota's comments came from a speech he gave at a conference held in New York by the Levy Economics Institute of Bard College. He took questions from the audience and spoke with reporters as well. The official is not currently a voting member of the monetary policy setting FOMC.

    Mr. Kocherlakota has been one of the biggest supporters of aggressive Fed action to support the economy, and has argued in recent speeches the Fed is not going far enough to aid the economy, and should add more stimulus by saying it wants to achieve a lower unemployment rate before hiking interest rates.

    He reiterated that he'd still like to lower the threshold at which the Fed would potentially entertain raising rates, from 6.5% to 5.5%. He said weakening inflation pressures were "definitely a cause for concern" but he hasn't changed his outlook for price pressures. Mr. Kocherlakota said he still expects economic growth of 2.5% this year and 3% next year, and believes that will be enough to help raise inflation over time from its current very low level.

    In his speech, the central banker said that the low interest rate world that could persist for "possibly the next five to 10 years" is in part the result of Fed actions over the course of the financial crisis and its aftermath. But the central banker said that other forces are also conspiring to keep rates very low.

    The three that are most important beyond Fed policy are tighter credit availability, increased worry about economic risk and uncertainty surrounding the outlook for U.S. government finance, he said.

    These factors are causing investors, households and firms to keep their money where it is safest, and it is also causing them to save more. At the same time, those who need better yields will go into riskier assets, creating the risk prices for those markets could go haywire, the official explained.

    In as much as Fed policy has helped create the low returns savers are wounded by, so too have market forces, Mr. Kocherlakota said.

    "I often hear that the FOMC has created a low interest rate environment that is harmful for savers and others," he said. "That seems about as compelling as blaming me for creating winter in Minnesota by putting on my long johns," Mr. Kocherlakota said.

    The official said in his speech he expects unemployment to fall "only slowly," and he said "inflation pressures are muted."
  • In the Media | April 2013
    Money News, April 18, 2013. All Rights Reserved.

    Federal Reserve Bank of Minneapolis President Narayana Kocherlakota said the central bank’s low interest rate policies, though necessary, will probably generate signs of financial instability.

    “Unusually low real interest rates should be expected to be linked with inflated asset prices, high asset return volatility and heightened merger activity,” Kocherlakota said in the prepared text of a speech in New York.

    “All of these financial market outcomes are often interpreted as signifying financial market instability.”

    Fed Governor Jeremy Stein and Kansas City Fed President Esther George are among those who have voiced concerns that an extended period of low interest rates is heightening the risk of asset bubbles in markets such as junk bonds and farmland.

    While George has dissented from this year’s Federal Open Market Committee decisions because of this risk, Kocherlakota is among the strongest supporters of additional monetary stimulus on the committee.

    In speeches earlier this month Kocherlakota said he sees an “ongoing modest recovery” with unemployment staying at 7 percent or more through late 2014. The slow recovery calls for “more accommodation,” he said in a speech, repeating his call to postpone consideration of any increase in interest rates. He doesn’t vote on policy this year.

    “It is likely that, for a number of years to come, the FOMC will only achieve its dual mandate of maximum employment and price stability if it keeps real interest rates unusually low,” Kocherlakota said at the Levy Economics Institute’s 22nd Annual Hyman P. Minsky Conference.

    Near Zero
    The Minneapolis Fed chief has said the central bank should hold its target interest rate near zero until unemployment falls to 5.5 percent. That’s a full percentage point below the 6.5 percent threshold that has been adopted by the FOMC.

    “For a considerable period of time, the FOMC may only be able to achieve its macroeconomic objectives in association with signs of instability in financial markets,” Kocherlakota said. “These financial market phenomena could pose macroeconomic risks. In my view, these potentialities are best addressed using effective supervision and regulation of the financial sector.”
  • In the Media | April 2013
    By Joshua Zumbrun
    Bloomberg, April 18, 2013. All Rights Reserved.

    Federal Reserve Bank of Minneapolis President  Narayana Kocherlakota said the central bank’s low interest-rate policies, though necessary, will probably generate signs of financial instability.

    “Unusually low real interest rates should be expected to be linked with inflated asset prices, high asset return volatility and heightened merger activity,” Kocherlakota said today in the prepared text of a speech in New York.  “All of these financial market outcomes are often interpreted as signifying financial market instability.” He told reporters later he doesn’t see financial instability as imminent.

    Fed Governor Jeremy Stein and Kansas City Fed President Esther George are among those who have voiced concerns that an extended period of low interest rates is heightening the risk of asset bubbles in markets such as junk bonds  and farmland.

    While George has dissented from this year’s Federal Open Market Committee decisions because of this risk, Kocherlakota is among the strongest supporters of additional monetary stimulus on the committee.

    In speeches earlier this month, Kocherlakota said he sees an “ongoing modest recovery” with unemployment staying at 7 percent or more through late 2014. The slow recovery calls for “more accommodation,” he said in a speech, repeating his call to postpone consideration of any increase in interest rates. He doesn’t vote on policy this year.

    Dual Mandate
    “It is likely that, for a number of years to come, the FOMC will only achieve its dual mandate of maximum employment and price stability if it keeps real interest rates unusually low,” Kocherlakota said at the Levy Economics Institute’s 22nd Annual Hyman P. Minsky Conference.

    The Minneapolis Fed chief has said the central bank should hold its target interest rate near zero until unemployment  falls to 5.5 percent. That’s a percentage point below the 6.5 percent threshold that has been adopted by the FOMC.

    Answering audience questions, Kocherlakota said the recovery in the housing market is evidence that the Fed’s monthly purchases of $85 billion in Treasuries and mortgage securities are effective.

    “They are having an impact on the economy,” he said. “Look at what’s going on in the mortgage market.”

    “It would be nice if we did even more along those lines because I think our tools have been effective,” he said. “In the housing market, in particular, you’ve certainly seen direct effects of that kind of stimulus.”

    Growth Outlook
    Kocherlakota told reporters that the current growth outlook is sufficient to raise inflation, currently measured at 1.3 percent by the Fed’s preferred price gauge, closer to the Fed’s goal of 2 percent.

    “It’s very important to protect the target both from above, which gets so much attention, but from below as well,” he said.

    “Given the stimulus we’re providing, given the growth I see in the economy, 2.5 percent in 2013, 3 percent in 2014, that kind of growth I see as sufficient to put upward pressure on inflation,” Kocherlakota said.

    He said he’s already “in favor of more accommodation” and further declines in the inflation rate would make him “even more” supportive of additional stimulus.

    In his speech, Kocherlakota said that “for a considerable period of time,” the FOMC may only be able to “achieve its macroeconomic objectives in association with signs of instability in financial markets. These financial market phenomena could pose macroeconomic risks. In my view, these potentialities are best addressed using effective supervision and regulation of the financial sector.”

    “The low interest-rate environment” in coming years “will put even more pressure on the regulatory framework,” Kocherlakota told reporters after his speech.
  • In the Media | April 2013
    By Elizabeth D. Festa
    LifeHealthPro, April 18, 2013. All Rights Reserved.

    New York insurance regulators have the captives industry and private equity firms that own annuity companies under a microscope for their effect on financial solvency and stability, and the fear policyholders may be left holding the bag.

    The use of captives of insurers places the stability of the broader financial system at greater risk, the New York State Department of Financial Services (DFS) lead supervisor said today in New York.

    DFS Superintendent Ben Lawsky even invoked AIG and analogized the use of captives to the same risky practices that precipitated the 2008 financial crisis, issuing subprime mortgage-backed securities (MBS) through structured investment vehicles and writing credit default swaps on higher-risk MBS.

    Lawsky also said his state regulators are ramping up their scrutiny of private equity firms that are acquiring insurance companies, particularly fixed and indexed annuity writers. He warned that their failure could put policyholders, retirees and the financial system at risk.

    He also suggested that regulators might need to beef up existing regulations to prevent the easy acquisition of annuity-rich insurance companies.

    The long term nature of the life insurance business raises similar issues, yet under current regulations it is less burdensome for a private equity firm to acquire an insurer than a bank.

    The specific risk DFS is concerned about is whether these private equity firms are more short-term focused when this is a business that’s all about the long haul.

    “There can be exceptions, but generally private equity firms follow a model of aggressive risk-taking and high leverage, typically making high-risk investments,” Lawsky said. “Private equity firms typically manage their investments with a much shorter time horizon – for example, three to five years -- than is typically required for prudent insurance company management.”

    If they don’t happen to be long-term players in the insurance industry, their short-term focus may result in an incentive to increase investment risk and leverage in order to boost short-term returns.

    Private equity-controlled insurers now account for nearly 30 percent of the indexed annuity market (up from 7 percent a year ago) and 15 percent of the total fixed annuity market (up from 4 percent a year ago).

    Lawsky said he hopes to “shed light on and further stimulate a national debate on the use of captive insurance companies and special purpose vehicles (SPVs) by some of the world’s largest financial firms.

    He hopes to do this though the DFS’ ongoing “serious investigation” into what he believes is not even a true risk transfer. Lawsky, who is superintendent of both banking and insurance in the state, suggested in his remarks the shaky ground of solvency upon which some insurers, he believes, are standing. When the time finally comes for a policyholder to collect their promised benefits, the reserves of insurers have shrunk so there is a smaller buffer available to ensure that the policyholders receive the benefits to which they are legally entitled, he explained.

    Lawsky said that many times captives do not actually transfer the risk for policies off the parent company’s books because the parent company is ultimately still on the hook for paying claims if the shell company’s weaker reserves are exhausted.

    Lawsky spoke of his concerns with what he terms “shadow insurance” or “financial alchemy” during a speech Thursday in New York City at the annual Hyman P. Minsky conference on the state of the U.S. and world economies organized by the Levy Economics Institute of Bard College.
  • In the Media | April 2013
    Politico, April 18, 2013. All Rights Reserved.

    FIRST LOOK III: LAWSKY ON REGULATORY COMPETITION
     — Excerpts from remarks New York Superintendent of Financial Services Ben Lawsky is to give this morning at the Minsky Conference at the Ford Foundation in NYC on “healthy competition” in financial regulation: “The New York State Department of Financial Services (DFS) is only about 18 months old. So, in many ways, we’re the new regulator on the block. And at DFS, we’re fortunate to work with federal partners who have a deep well of institutional knowledge and expertise — which complements our own. But we also have another key attribute at DFS. We’re nimble. And we’re agile. And we’re able to take a fresh look at issues across the financial industry — both new and old." 
  • In the Media | April 2013
    Reuters, April 18, 2013. All Rights Reserved.

    (Reuters) – The Federal Reserve's ultra accommodative policies will inevitably result in financial market instability for years but such risks are necessary to boost employment and inflation, a top U.S. central bank official said on Thursday. 

    Likening the Fed to a Minnesotan heading out into the winter cold, Minneapolis Fed President Narayana Kocherlakota said low real interest rates are as necessary as wearing a warm parka, and will probably be needed for many more years.

    Kocherlakota is probably the most dovish of the 19 policymakers at the Fed, which has kept borrowing costs low for more than four years and is snapping up $85 billion in bonds each month to stimulate the U.S. economic recovery.

    Bolstering his argument for yet more easing, the Minneapolis policymaker said the weak economic outlook suggests borrowing costs should be lower for even longer than the Fed now plans despite the inflated asset prices, volatile returns, and higher corporate merger activity that will result.

    "For many years to come," he said, the Fed's policy-setting committee "will only be able to achieve its congressionally mandated objectives by following policies that result in signs of financial market instability," Kocherlakota told a Hyman P. Minsky conference.

    Financial regulation is the best defense against such instability, he said.

    But if the Fed considers raising rates to stabilize things, it has to weigh "the certainty of a costly" departure from achieving maximum employment and price stability against the benefit of reducing "the probability of an even larger" departure those objectives, Kocherlakota warned.

    Central bank policymakers would also have to consider the effect a sooner-than-desired rate-rise would have on the Fed's overall credibility, he later told reporters. "That's going be part of the question you have to ask yourself," he said.

    Frustrated with the slow and erratic recovery, the central bank has said it will keep short-term rates low until the unemployment rate falls to at least 6.5 percent, from 7.6 percent last month, as long as inflation, now below the Fed's 2-percent target, remains contained.

    Meanwhile the Fed's bond-buying is meant to depress longer term rates and encourage investing, hiring and economic growth.

    Kocherlakota is alone among policymakers in wanting the central bank to aim to keep rates low until unemployment falls as low as 5.5 percent, a level to which Americans are more accustomed.

    Kocherlakota, whose hometown is expecting yet another spring snowfall, said the policy-setting Federal Open Market Committee (FOMC) is responding to forces beyond its control when it decides how long to keep rates low, given it is falling short of both its employment and inflation goals.

    "When I decide what coat to wear, my goal is to keep myself at a temperature that I view as appropriate, given prevailing conditions that I cannot influence," he said.

    "Similarly, when the FOMC decides on a level of the real interest rate, its goal is to keep the macro economy at an appropriate temperature, given prevailing conditions that it cannot influence," he added. "But the truth is that the FOMC's choice of winter garb is actually insufficient to keep the U.S. economy appropriately warm."

    Talking to reporters, he did not go so far as to call for more asset purchases. But he said it was very important that the Fed protects its 2-percent inflation target "both from above, which gets so much attention, but from below as well."

    On Wednesday, St. Louis Fed President James Bullard surprised some economists when he said the central bank should ramp up its quantitative easing program if inflation continues to fall. According to the Fed's preferred measure, inflation is at about 1.3 percent.

    In his speech, Kocherlakota added he expects credit markets will remain limited over the next five to 10 years, causing headaches for investors seeking safe-haven assets.    
  • In the Media | April 2013
    By Zachary Tracer
    The Washington Post, April 18, 2013. All Rights Reserved.

    (Updates with Lawsky’s comment in the fourth paragraph.)

    April 18 (Bloomberg) -- New York’s financial regulator is scrutinizing what he called the “troubling role” of private equity firms as they expand into the insurance industry through acquisitions, according to a speech today.

    Private-equity firms “may not be long-term players in the insurance industry and their short-term focus may result in an incentive to increase investment risk and leverage in order to boost short-term returns,” New York Department of Financial Services Superintendent Benjamin Lawsky said today in prepared remarks. “This type of business model isn’t necessarily a natural fit for the insurance business, where a failure can put policyholders at significant risk.”

    Leon Black’s Apollo Global Management LLC has agreed to buy four insurers since 2008, including a $1.8 billion deal in December for Aviva Plc’s U.S. life and annuity business. A firm owned by Guggenheim Partners LLC shareholders agreed the same month to buy a variable-annuity unit from Sun Life Financial Inc. for $1.35 billion.

    “DFS is moving to ramp up its activity” monitoring private-equity firms’ role, he said today, without naming companies, at the Hyman P. Minsky Conference in New York. “We hope that other regulators will soon follow suit.” 
  • In the Media | April 2013
    By Michael S. Derby
    The Wall Street Journal, April 18, 2013. All Rights Reserved.

    Federal Reserve official said Thursday interest rates are likely to stay very low for years to come, which raised the prospect that chronic financial instability risks will dog the economy for a long time.

    “For a considerable period of time, the [Federal Open Market Committee] may only be to achieve its macroeconomic objectives in association with signs of instability in financial markets,” Federal Reserve Bank of Minneapolis President Narayana Kocherlaktoa said.

    “For many years to come, the FOMC will have to maintain low real interest rates to achieve its congressionally mandated goals,” the official said. “Unusually low real interest rates should be expected to be linked with inflated asset prices, high asset return volatility and heightened merger activity,” he said.

    In an environment where bubbles regularly threaten to form, and other markets see prices move away from fundamentals, the Fed will be confronted with difficult choices. “These potentialities are best addressed through effective supervision and regulation of the financial sector,” Mr. Kocherlakota said, although he allowed that it is possible the Fed may also have to employ the blunt tool of monetary policy to cool markets down if risks rise enough.

    Mr. Kocherlakota’s comments came from the text of a speech that was to be presented at a conference held in New York by the Levy Economics Institute of Bard College. The official is not currently a voting member of the monetary policy setting FOMC.

    Mr. Kocherlakota has been one of the biggest supporters of aggressive Fed action to support the economy, and has argued in recent speeches the Fed is not going far enough to aid the economy, and should add more stimulus by saying it wants to achieve a lower unemployment rate before hiking interest rates.

    In his speech, the central banker said that the low interest rate world that could persist for “possibly the next five to 10 years” is in part the result of Fed actions over the course of the financial crisis and its aftermath. But the central banker said that other forces are also conspiring to keep rates very low.

    The three that are most important beyond Fed policy are tighter credit availability, increased worry about economic risk and uncertainty surrounding the outlook for U.S. government finance, he said.

    These factors are causing investors, households, and firms to keep their money where it is safest, and it is also causing them to save more. At the same time, those who need better yields will go into riskier assets, creating the risk prices for those markets could go haywire, the official explained.

    In as much as Fed policy has helped create the low returns savers are wounded by, so too have market forces, Mr. Kocherlakota said.

    “I often hear that the FOMC has created a low interest rate environment that is harmful for savers and others,” he said. “That seems about as compelling as blaming me for creating winter in Minnesota by putting on my long johns,” Mr. Kocherlakota said.

    The official said in his speech he expects unemployment to fall “only slowly,” and he said “inflation pressures are muted.”
  • In the Media | April 2013
    By Joshua Zumbrun
    Bloomberg Businessweek, April 18, 2013. All Rights Reserved.

    Federal Reserve Bank of Minneapolis President Narayana Kocherlakota said the central bank’s low interest rate policies, though necessary, will probably generate signs of financial instability.

    “Unusually low real interest rates should be expected to be linked with inflated asset prices, high asset return volatility and heightened merger activity,” Kocherlakota said today in the prepared text of a speech in New York. “All of these financial market outcomes are often interpreted as signifying financial market instability.”

    Fed Governor Jeremy Stein and Kansas City Fed President Esther George are among those who have voiced concerns that an extended period of low interest rates is heightening the risk of asset bubbles in markets such as junk bonds and farmland.

    While George has dissented from this year’s Federal Open Market Committee decisions because of this risk, Kocherlakota is among the strongest supporters of additional monetary stimulus on the committee.

    In speeches earlier this month Kocherlakota said he sees an “ongoing modest recovery” with unemployment staying at 7 percent or more through late 2014. The slow recovery calls for “more accommodation,” he said in a speech, repeating his call to postpone consideration of any increase in interest rates. He doesn’t vote on policy this year.

    “It is likely that, for a number of years to come, the FOMC will only achieve its dual mandate of maximum employment and price stability if it keeps real interest rates unusually low,” Kocherlakota said at the Levy Economics Institute’s 22nd Annual Hyman P. Minsky Conference.

    Near Zero

    The Minneapolis Fed chief has said the central bank should hold its target interest rate near zero until unemployment falls to 5.5 percent. That’s a full percentage point below the 6.5 percent threshold that has been adopted by the FOMC.

    Answering audience questions, Kocherlakota said the recovery in the housing market is evidence that the Fed’s monthly purchases of $85 billion in Treasuries and mortgage securities are effective.

    “They are having an impact on the economy,” he said. “Look at what’s going on in the mortgage market.”

    “It would be nice if we did even more along those lines because I think our tools have been effective,” he said. “In the housing market in particular you’ve certainly seen direct effects of that kind of stimulus.”

    In his speech, Kocherlakota said that “for a considerable period of time, the FOMC may only be to achieve its macroeconomic objectives in association with signs of instability in financial markets. These financial market phenomena could pose macroeconomic risks. In my view, these potentialities are best addressed using effective supervision and regulation of the financial sector.”
  • In the Media | April 2013
    By Michael S. Derby
    The Wall Street Journal, April 18, 2013. All Rights Reserved.

    NEW YORK – A Federal Reserve official said Thursday interest rates are likely to stay very low for years to come, which raises the prospect that chronic financial instability will be an enduring threat.

    "For a considerable period of time, the [Federal Open Market Committee] may only be to achieve its macroeconomic objectives in association with signs of instability in financial markets," Federal Reserve Bank of Minneapolis President Narayana Kocherlakota said.

    "For many years to come, the FOMC will have to maintain low real interest rates to achieve its congressionally mandated goals," the official said. "Unusually low real interest rates should be expected to be linked with inflated asset prices, high asset return volatility and heightened merger activity," he said.

    In an environment where bubbles regularly threaten to form, and other markets see prices move away from fundamentals, the Fed will be confronted with difficult choices. "These potentialities are best addressed through effective supervision and regulation of the financial sector," Mr. Kocherlakota said, although he allowed that it is possible the Fed may also have to employ the blunt tool of monetary policy to cool markets down if risks rise enough.

    The official, when asked if he saw any markets devolving into a bubble, responded "the answer is absolutely not at this stage." At the current moment, "I don't see those kind of risks out there."

    But he also said that given the importance now placed on financial stability, bank regulators and supervisors face greater challenges as they do their work.

    Mr. Kocherlakota's comments came from a speech he gave at a conference held in New York by the Levy Economics Institute of Bard College. He took questions from the audience and spoke with reporters as well. The official is not currently a voting member of the monetary policy setting FOMC.

    Mr. Kocherlakota has been one of the biggest supporters of aggressive Fed action to support the economy, and has argued in recent speeches the Fed is not going far enough to aid the economy, and should add more stimulus by saying it wants to achieve a lower unemployment rate before hiking interest rates.

    He reiterated that he'd still like to lower the threshold at which the Fed would potentially entertain raising rates, from 6.5% to 5.5%. He said weakening inflation pressures were "definitely a cause for concern" but he hasn't changed his outlook for price pressures. Mr. Kocherlakota said he still expects economic growth of 2.5% this year and 3% next year, and believes that will be enough to help raise inflation over time from its current very low level.

    In his speech, the central banker said that the low interest rate world that could persist for "possibly the next five to 10 years" is in part the result of Fed actions over the course of the financial crisis and its aftermath. But the central banker said that other forces are also conspiring to keep rates very low.

    The three that are most important beyond Fed policy are tighter credit availability, increased worry about economic risk and uncertainty surrounding the outlook for U.S. government finance, he said.

    These factors are causing investors, households and firms to keep their money where it is safest, and it is also causing them to save more. At the same time, those who need better yields will go into riskier assets, creating the risk prices for those markets could go haywire, the official explained.

    In as much as Fed policy has helped create the low returns savers are wounded by, so too have market forces, Mr. Kocherlakota said.

    "I often hear that the FOMC has created a low interest rate environment that is harmful for savers and others," he said.

    "That seems about as compelling as blaming me for creating winter in Minnesota by putting on my long johns," Mr. Kocherlakota said.

    The official said in his speech he expects unemployment to fall "only slowly," and he said "inflation pressures are muted."
  • In the Media | April 2013
    By Greg Robb
    MarketWatch, April 18, 2013. All Rights Reserved.

    WASHINGTON (MarketWatch) – Financial market conditions requiring the Federal Reserve to keep rates unusually low may persist for the next five to 10 years, said Narayana Kocherlakota, the president of the Minneapolis Fed Bank on Thursday. This low-rate environment, and Fed policy, in turn, can be expected to "be associated with financial market phenomena that are seen as signifying instability," such as inflated asset prices, high asset return volatility and heightened merger activity, Kocherlakota said, in a speech at the Levy Economics Institute of Bard College. This instability is best addressed through effective supervision and regulation, Kocherlakota said. However, the Fed may have to confront the dilemma of whether to raise rates to reduce the risks of a financial crisis with the certainty that any tightening would lead to lower employment and prices, he said. The Fed is in a better position to address this challenge than it was in 2007, he said. 
  • In the Media | April 2013
    Hellenic Shipping News, April 18, 2013. All Rights Reserved.

    Federal Reserve Bank of St. Louis President James Bullard on Wednesday said he is concerned inflationary pressures may be growing too weakly and the central bank may have to do something about it.

    "Inflation is running very low" as measured by the personal consumption expenditures price index, the Fed's favored inflation gauge, the policymaker said. "I'm getting concerned about that," he said, adding that the low rate of price pressure "gives the [Federal Open Market Committee] some room to maneuver" on the monetary-policy front.

    The central banker didn't suggest that any move toward a more-stimulative monetary policy was imminent. The Fed is currently pursuing a policy of buying bonds to drive up growth and lower the unemployment rate. While most expect the bond-buying program to continue for some months to come, improving economic conditions have driven some central bankers to say the pace of buying could be reduced at some point.

    The Fed wants inflation at 2% and it considers under-target inflation to be undesirable. Central bankers consider a deflationary environment as damaging to the economy.

    In his speech, Mr. Bullard also appeared to take issue with the central bank's latest move to provide increased monetary-policy guidance, saying the Fed is limited in what it can do to affect labor-market conditions.

    The best and most-effective action the Fed can take is to focus on its traditional mandate of inflation control, the official said. "Frontline research suggests that price stability remains the policy advice even in the face of serious labor-market inefficiencies," Mr. Bullard said. "This research should provide the benchmark for contemporary monetary policy," he explained.

    At the same time, "the current high level of unemployment is causing some to suggest that the [FOMC] should put more weight on unemployment in its decision-making process," he said. That would be a mistake, he said, as research shows "monetary policy alone cannot effectively address multiple labor-market inefficiencies...One must turn to more-direct labor-market policies to address those problems."

    Monetary policy by itself is "too blunt" to help lower high unemployment levels, the policymaker said. When it comes to aiding the labor market, "it's not that you can't do something about it, it's just that maybe you shouldn't lean on the monetary-policy maker" to do it.

    Mr. Bullard is a voting member of the monetary-policy-setting FOMC. His comments came from a speech given before a conference held by the Levy Economics Institute of Bard College, in New York. Much of his talk referenced work by economists Federico Ravenna and Carl Walsh.

    Mr. Bullard has long argued that monetary policy faces limits in what it can do to aid the labor market, and he has said that, if the Fed were to target achieving a given unemployment rate, it could lead policy to go seriously wrong. But he also gave his qualified support to the Fed's decision last December to job and inflation thresholds.

    At that time, the Fed said it would keep short-term interest rates near 0% so long as the unemployment rate is above 6.5% and expected inflation is below 2.5%. Officials have been careful to note that these levels aren't targets and that they don't promise immediate action if breached. Some have said the Fed could easily keep rates unchanged with a sub-6/5% unemployment rate if inflation remained under the threshold.

    The Fed's new policy guidance reflects in large part its congressionally given mandate to keep prices stable and to promote maximum sustainable job growth. The Fed is unique among major central banks in having this goal, with other major central banks charged with pursuing stable inflation alone.

    Mr. Bullard's comments Wednesday appeared to reflect an ongoing discomfort with this new policy regime, one that is unlikely to bring a rate increase for several more years if the Fed is right about how the labor market will perform.

    In his prepared remarks, Mr. Bullard said the Fed over recent years has done a good job of keeping inflation near the central bank's official target of 2%. He said the unemployment rate "remains high" and, compared to its current 7.6% level, it will likely be in the "low-7% range" by year's end. 
  • In the Media | April 2013
    By Greg Edwards
    St. Louis Dispatch, April 17, 2013. All Rights Reserved.

    St. Louis Fed President Jim Bullard said Wednesday the Federal Reserve should keep its focus on inflation instead of putting more weight on high unemployment.

    More emphasis on unemployment “may be highly counterproductive,” he said at a conference in New York. Bullard said he expects unemployment, which was 7.6 percent last month, will drop to the low 7 percent range by the end of the year.

    He made the remarks at the annual Hyman P. Minsky Conference in New York City, organized by the Levy Economics Institute of Bard College.
  • In the Media | April 2013
    Boston Herald, April 17, 2013. All Rights Reserved.

    Federal Reserve Bank of Boston President Eric Rosengren called for more regulation of broker-dealers and money market mutual funds in a speech at a New York conference today, but he began his remarks by acknowledging the victims of Monday’s Marathon attack.

    “I want to take a moment to acknowledge that I join you from a community in Boston that on Monday endured a terrible and profoundly cruel tragedy at the Marathon,” Rosengren told the audience at the 22nd annual Hyman P. Minsky Conference on the State of the U.S. and World Economies. “My thoughts are with the many people who were wounded, with those — including Boston Fed staff — who were uninjured but at the scene, and most of all with the families and friends of those whose lives were lost.”

    Rosengren told conference-goers that maintaining financial stability has been a key focus since the mortgage meltdown. “The financial crisis of 2008 and its aftermath have significantly increased the attention policymakers devote to financial stability issues. The Dodd-Frank Wall Street Reform and Consumer Protection Act (the Dodd-Frank Act) and a variety of new bank regulatory initiatives, including the Basel III capital accord, are intended to reduce the risk of similar problems in the future,” the Boston Fed chief said. “For commercial banks, the policy changes stemming from the crisis have been increases in bank capital, stress tests to ensure capital is sufficient to weather serious problems, increased attention to liquidity and new measures intended to improve the resolution of large systemically important commercial banks.”
    But Rosengren said tougher regulations have not been applied to money market mutual funds and broker-dealers, whose failure was at the center of the financial crisis.

    Specifically citing the failure of prominent broker-dealers Bear Stearns and Lehman Brothers at “critical junctures during the crisis,” Rosengren said: “Despite the central role that broker-dealers played in exacerbating the crisis, too little has changed to avoid a repeat of the problem, I am sorry to say. In short, I firmly believe that a reexamination of the solvency risks of large broker-dealers is warranted.”

    Because little has changed with regard to broker-dealers, Rosengren direly concluded: “The status quo represents an ongoing and significant financial stability risk.”

    To remedy the situation, he suggested: “In my view, then, consideration should be given to whether broker-dealers should be required to hold significantly more capital than depository institutions, which have deposit insurance and pre-ordained access to the central bank’s Discount Window.”
  • In the Media | April 2013
    By Ylan Q. Mui
    Wonkblog, The Washington Post, April 17, 2013. All Rights Reserved.

    How much power does monetary policy have to create jobs?

    That question is at the heart of the debate over the Federal Reserve’s recent policy decisions. A majority on the Fed’s policy committee has explicitly endorsed keeping low interest rate policies in place until the unemployment rate falls to 6.5 percent (or inflation becomes a problem). But on Wednesday morning, St. Louis Fed President James Bullard warned that focusing on unemployment could put the central bank’s decades of work stabilizing inflation at risk.

    The title of his speech at the Levy Economics Institute of Bard College’s annual Minsky Conference said it all: “Unpleasant implications for unemployment targeters.” He cited work by  economists Federico Ravenna and Carl Walsh that suggests that keeping prices contained is the best way the central bank can help the economy, even when the labor market is in turmoil.

    “The idea that the Fed should put more weight on unemployment does not fare very well in this analysis,” Bullard said. “In fact, such an approach might be counterproductive.”

    The problem, Bullard said, is that the Fed really only has one antidote for an ailing economy — adjusting the price of money — and that tool’s impact on unemployment is indirect.

    “The monetary guys can really do one thing,” he said. “ It’s not that you don’t want to address unemployment. It’s that it’s not a good way to address unemployment efficiency.”

    But while Bullard sees pursuing easy money policies to try get boost hiring as problematic, he is more open to such easing when the inflation rate is falling below the Fed’s 2 percent target. Indeed, Bullard said he is becoming “concerned” that inflation is too low, and that if prices fell further, he would be ready to ratchet up the Fed’s $85-billion-a-month bond-buying program.

    Bullard was one of the first Fed officials to push for changing the pace of the central bank’s asset purchases to match economic conditions. He has said he would consider reducing purchases by small amounts, perhaps even at each of the Fed’s policymaking meetings, as the economy improves. But Wednesday was the first time he has broached the policy of increasing bond purchases to reach the inflation goal.

    “We should defend our inflation target from the low side,” Bullard said. “If we say 2 percent, we should get 2 percent.”
  • In the Media | April 2013
    By Annalyn Kurtz
    CNNMoney, April 17, 2013. All Rights Reserved.

    Cue the flashback to summer 2010. Ben Bernanke and other officials at the Federal Reserve were warning that inflation was approaching dangerous lows, perhaps even flirting with the dreaded "D" word -- deflation. Bernanke gave a key speech in Jackson Hole that August hinting that more Fed stimulus might be in the pipeline. Sure enough, it was. The Fed launched QE2 about two months later.

    A similar murmur is starting up again: Could inflation be getting too low? St. Louis Fed President James Bullard thinks so.

    "Inflation is pretty low right now, and it's been drifting down," he told reporters at a Levy Economics Institute event Wednesday morning.

    "If it doesn't start to turn around soon, I think we'll have to rethink where we stand on our policy," he added.

    The Federal Reserve usually aims to keep inflation around 2% a year, but recently has said it would be willing to tolerate inflation up to 2.5% a year in exchange for a lower unemployment rate. (The unemployment rate has been stuck above 7% for more than four years now.)

    Where is the inflation rate currently? It was 1.3% as of February, according to the Fed's preferred measure, which strips out gas and food prices.

    Should it get any lower, Bullard said he would push his Fed colleagues to ramp up their asset purchases. The Fed is currently buying $85 billion a month in Treasuries and mortgage-backed securities, in an attempt to lower long-term interest rates and stimulate more spending.

    The policy has no official end-date, but Bernanke has made it clear that the Fed can adjust its purchasing depending on economic activity. Fed watchers mostly interpreted that language as a sign that the Fed may taper down its purchases later this year. Few have been discussing the possibility that the Fed may do just the opposite, increasing its purchases in the coming months.

    Bullard made it clear that he thinks more purchases are a possibility. In his scrum with reporters Wednesday, he repeated multiple times that he's "willing" to "defend" the Fed's inflation target from the low side -- meaning, if inflation gets uncomfortably below the Fed's 2% long-term goal.
  • In the Media | April 2013
    By Michael S. Derby
    Fox Business, April 17, 2013. All Rights Reserved.

    The most recent reforms of the financial regulatory system have left Wall Street's broker-dealers largely untouched and a continued threat to the financial stability, a Federal Reserve official said Wednesday.

    "Despite this history of failure and substantial government support, little has changed in the solvency requirements of broker-dealers," Federal Reserve Bank of Boston President Eric Rosengren said. "The status quo represents an ongoing and significant financial stability risk."

    "Consideration should be given to whether broker-dealers should be required to hold significantly more capital than depository institutions" to help mitigate the threat these institution might pose in a period of renewed financial stress, the central banker said.

    Mr. Rosengren is a voting member of the monetary policy Federal Open Market Committee. His comments came from the text of a speech to be delivered before a gathering held by the Levy Economics Institute of Bard College, in New York.

    Mr. Rosengren did not address monetary policy or the economic outlook in his formal remarks. The official has in a number of speeches shown a great interest in financial stability and unresolved matters that exist in the wake of the passage of the Dodd-Frank reform legislation. In past speeches, Mr. Rosengren has shown a considerable amount of alarm about money market funds, which he sees as subject to destabilizing runs.

    In his speech, the official highlighted the role broker-dealers like Bear Stearns and Lehman Brothers played in the financial crisis. In the current environment, many of these types of operations have been subsumed into bank holding companies with levels of access to the traditional safety net, but he sees still insufficient levels of capital compared to the risks these firms may be exposed to.

    "Being housed within a bank holding company should not obviate the need for the broker-dealer subsidiary to hold more capital," Mr. Rosengren said. "Broker-dealers remain vulnerable to losing the confidence of funders and counterparties should the world economy again experience a significant financial crisis."

    The official worried that under the status quo, new trouble could force a return of Fed emergency lending facilities that are tailored to support broker-dealer operations. That would be a bad outcome, Mr. Rosengren says.
  • In the Media | April 2013
    Reuters, April 17, 2013. All Rights Reserved.

    (Reuters) – The Federal Reserve should buy bonds if inflation continues to fall, a top Fed official said on Wednesday, stressing the U.S. central bank needs to prevent inflation from being too far below its target.

    Still, St. Louis Fed President James Bullard cautioned that more monetary policy accommodation is not yet needed and said he does not currently fear deflation.

    "If inflation continues to go down, I would be willing to increase the pace of purchases," Bullard told reporters after a speech at the Hyman P. Minsky Conference in New York.

    The comments from Bullard, a pragmatic centrist and a voting member of the Fed's policy committee this year, provide an interesting twist to a policy debate that has recently been focused on what level of improvement in the labor market would prompt the central bank to dial down its $85 billion in monthly asset purchases.

    The Fed has an official 2-percent inflation target and has said it will keep benchmark interest rates near zero until unemployment falls to at least 6.5 percent, as long as inflation expectations do not breach 2.5 percent.

    "I'm very willing to defend the inflation target from the low side. If we say 2 percent, we should hit 2 percent," Bullard said. The Fed's preferred measure of inflation, the Personal Consumption Expenditures or PCE rate, is around 1.3 percent and is not expected to rise much over the next two years, in large part because of the droves of Americans who are unemployed.

    "If it doesn't start to turn around here soon, I think we'll have to rethink where we are on the policy," said Bullard.

    In the past, Bullard has talked about tapering bond purchases based on where the unemployment level stands.

    Asked about this, Bullard said his stance on inflation is in line with that thinking because part of that analysis was watching how far inflation drifts from the central bank's target, which was made official last year.

    The Fed is currently buying $45 billion in Treasuries and another $40 billion in mortgage-backed securities through the latest round of quantitative easing, known as "QE3", as it tries to bolster the economic recovery.

    The central bank has said it will continue buying bonds until the outlook on jobs improves substantially. Financial markets have started to turn their attention to how long purchases might go on.

    Ward McCarthy, chief financial economist at Jefferies, sent a note to clients following the comments that read: "So much for tapering ... upsizing may be in order."

    Bullard said he would prefer to ramp the easing up if needed by buying Treasuries rather than mortgage-backed securities, in part because the Fed should aim to have only government bonds in its portfolio in the longer term.

    A different measure of inflation, the consumer price index, showed on Tuesday that prices fell last month.

    In his speech, Bullard said the Fed should remain focused on inflation and resist putting more weight on the employment part of its dual mandate.

    Unlike most central banks in the developed world, the Fed is tasked with both maintaining price stability and achieving full employment. Since the deep recession, it has eased monetary policy to unprecedented levels to lower the unemployment rate, which last month was 7.6 percent.

    "People have been focusing on employment a lot, but have maybe gotten a little bit blinded about the inflation numbers that have come in very low," Bullard told reporters.

    At the same time, he acknowledged it hurts the central bank's credibility to look past headline inflation in favor of so-called core inflation, which strips out volatile items food and gasoline. He said doing so creates a disconnect between Main Street and policymakers.
  • In the Media | April 2013

    MNI | Duetsche Börse Group, April 17, 2013. All Rights Reserved.

    NEW YORK (MNI) – Many religiously monitor and analyze labor market data for clues on how long the Federal Reserve will maintain its aggressive measures to help the recovery, but one influential Fed official Wednesday said he would support increasing the bond buying program to arrest a continued decline in inflation.

    "People have been focusing on unemployment a lot but maybe are a little bit blinded that the inflation numbers have come in very low," St. Louis Federal Reserve Bank James Bullard told reporters on the sidelines of the Minsky conference hosted by the Levy Institute in New York.

    During the question and answer session with the audience, Bullard noted that inflation, as measured by the personal consumption expenditures index, is running very low right now.

    "I'm getting concerned by that," Bullard said, adding that inflation running below the policy-setting Federal Open Market Committee's price stability target gives the group "room to maneuver."

    Pressed by reporters to indicate exactly what "room to maneuver" means, Bullard - a voter on the FOMC this year - said, "I think if inflation continued to go down I'd be willing to increase the pace of (asset) purchases.

    "As it stands right now inflation has drifted lower on a PCE basis. This is not what I expected and I think inflation should be closer to target than it is."

    Asked by MNI if his decision to adjust the $85 billion a month in bond buying is tied to just price stability, and not the outlook for the labor market as the FOMC has said, Bullard said he looks at all economic data "But I'm going to put a lot of weight on inflation that's for sure, and I'm very willing to defend the inflation target from the low side.

    "If we say 2%, we should get 2% and we shouldn't let that lapse," he said. "We should defend our inflation target from the low side."

    Bullard said while he is not advocating the FOMC up its asset purchases tomorrow, it does have the capacity to increase the size should it decide to with causing market imbalances.

    If Committee where to make such a decision, Bullard said he would favor buying more U.S. Treasury securities.

    He stressed that the current fall in prices is not on par with that seen in the summer of 2010, when the Fed unveiled a $600 billion asset purchase program, so it is "too early" for to talk about deflation.

    However, "if it doesn't start to turn around here soon, I think we'll have to rethink where we are on our policy," Bullard said.

    Bullard has said he favors tying the pace of the current asset purchase program to economic conditions, and argued that where inflation is relative to target is one of those conditions.

    At the same time, he cautioned that conditions could turn around and PCE could be back up closer to target. "That is what I expect to happen but so far it hasn't been happening," Bullard said.

    Responding to questions from the audience, Bullard said he does not believe there is nothing that can be done to address the problems in the market, but the issue is that "maybe you shouldn't lean on the monetary policymaker to do a lot about it."

    What is needed is a more targeted approach to helping those without a job, Bullard said, since the impact of monetary policy is too indirect. 

  • In the Media | April 2013
    By Joshua Zumbrun and Steve Matthews
    Bloomberg Businessweek, April 17, 2013. All Rights Reserved.

    James Bullard, president of the Federal Reserve Bank of St. Louis, said U.S. inflation has fallen too far below the central bank’s 2 percent goal and a further drop could prompt increased bond buying.

    “Inflation should be closer to target than it is and we should defend the inflation target from the low side,” Bullard told reporters today after a speech in New York. “If it doesn’t start to turn around here soon, I think we’ll have to rethink where we are in our policy.”

    One option would be for the Federal Open Market Committee to increase monthly purchases from $85 billion, the level reaffirmed in March, Bullard said. The policy group said asset purchases will continue until the labor market outlook improves “substantially” and pledged to keep interest rates near zero as long as unemployment is above 6.5 percent and inflation doesn’t exceed 2.5 percent.

    “I think we could do more if we had to,” Bullard said. “I don’t want to give you the impression that I’m willing to do more today.”

    Consumer prices rose 1.3 percent in February from a year earlier, according to the Fed’s preferred gauge of inflation. Bullard said the current disinflation is “not quite as bad as it was in the fall of 2010.”

    Second Round That year, Bullard initiated calls for a second round of bond buying, which ran from November 2010 until June 2011. Any new purchases should be in Treasury securities rather than mortgage bonds because the market is larger, he said. Bullard said he “would like to see the Fed eventually return to an all-Treasuries portfolio.”

    By contrast, minutes of the March 19-20 FOMC meeting showed that a number of Fed officials said the central bank should begin slowing its bond buying program later this year and stop it by year end.

    A recent plunge in gold prices doesn’t have implications for forecast inflation though does point to weakness in the global economy, the St. Louis Fed president said.

    “Europe is in recession, and China is not growing quite as fast as before so those two factors would seem to suggest global commodity demand would be down some,” Bullard told reporters.

    Monetary Policy In his prepared remarks, Bullard said monetary policy should be guided by the central bank’s price-stability goal and it would be a mistake to place a greater focus on high unemployment.

    The unemployment rate has been dropping 0.7 percentage point a year since its peak after the recession, and will be in the “low 7 percent range by the end of 2013,” he said at the Hyman Minsky Conference, hosted by the Levy Economics Institute.

    In response to audience questions, Bullard cited the example of Germany’s labor-market reforms as a model for U.S. policy makers.

    “Germany has been very impressive on the labor market dimension” in recent years, he said. “You could copy their policies” to encourage jobs, while monetary policy itself is a “very blunt instrument” that can’t be targeted.

    Among Fed policy makers, Fed Minneapolis Bank President Narayana Kocherlakota has urged more stimulus for economic growth by reducing the threshold for consideration of a policy tightening to a 5.5 percent unemployment rate.

    Fed Vice Chairman Janet Yellen yesterday said she favors holding the benchmark interest rate “lower for longer,” while New York Fed President William C. Dudley said a slowdown in the pace of employment growth in March highlights the need to maintain the pace of bond purchases.

    Bullard joined the St. Louis Fed’s research department in 1990 and became president of the regional bank in 2008. His district includes all of Arkansas and parts of Illinois, Indiana, Kentucky, Mississippi, Missouri and Tennessee.
  • In the Media | April 2013
    By Michael S. Derby
    Real Time Economics Blog, The Wall Street Journal, April 17, 2013. All Rights Reserved.

    Federal Reserve Bank of St. Louis President
     James Bullard said Wednesday inflationary pressures may be growing too weakly and if they soften further, the central bank may have to boost its asset buying to bring price pressures back up to more desirable levels.

    “Inflation is running very low” as measured by the personal consumption expenditures price index, the Fed’s favored inflation gauge, the policymaker said. “I’m getting concerned about that,” he said.

    “If inflation [gains] continues to go down, I’d be willing to increase the pace of purchases” of bonds the Fed is now engaged in, Mr. Bullard said. “This is not what I expected, and I think inflation should be closer to the target than it is,” the official said, adding he considers it just as important to defend the Fed’s 2% inflation target from the low side, as it is to keep prices from going over 2%.

    The central banker didn’t suggest that any move toward a more-stimulative monetary policy was imminent, and he said it remains possible price pressures could pick up. If the Fed were to have to increase its purchases, he believes it could be done without harming market functioning, and he said he would favor Treasury bonds over mortgages.

    The Fed currently is pursuing a policy of buying bonds to drive up growth and lower the unemployment rate. While most expect the bond-buying program to continue for some months to come, improving economic conditions have driven some central bankers to say the pace of buying could be reduced at some point.

    The Fed wants inflation at 2%, and it considers under-target inflation to be undesirable. Central bankers consider a deflationary environment as damaging to the economy.

    Mr. Bullard is a voting member of the monetary-policy-setting Federal Open Market Committee. His comments came from a speech given before a conference held by the Levy Economics Institute of Bard College, in New York. In his formal speech, Mr. Bullard appeared to take issue with the central bank’s latest move to provide increased monetary-policy guidance, saying the Fed is limited in what it can do to affect labor-market conditions.

    “Frontline research suggests that price stability remains the policy advice even in the face of serious labor-market inefficiencies,” Mr. Bullard said.

    At the same time, “the current high level of unemployment is causing some to suggest that the [FOMC] should put more weight on unemployment in its decision-making process,” he said. That would be a mistake, he said, as research shows “monetary policy alone cannot effectively address multiple labor-market inefficiencies…One must turn to more-direct labor-market policies to address those problems.”

    Monetary policy by itself is “too blunt” to help lower high unemployment levels, the policymaker said. When it comes to aiding the labor market, “it’s not that you can’t do something about it, it’s just that maybe you shouldn’t lean on the monetary-policy maker” to do it.

    Mr. Bullard long has argued that monetary policy faces limits in what it can do to aid the labor market, and he has said that, if the Fed were to target achieving a given unemployment rate, it could lead policy to go seriously wrong. But he also gave his qualified support to the Fed’s decision last December to job and inflation thresholds.

    At that time, the Fed said it would keep short-term interest rates near 0% so long as the unemployment rate is above 6.5% and expected inflation is below 2.5%. Officials have been careful to note that these levels aren’t targets and that they don’t promise immediate action if breached. Some have said the Fed easily could keep rates unchanged with a sub-6.5% unemployment rate if inflation remained under the threshold.

    The Fed’s new policy guidance reflects in large part its congressionally given mandate to keep prices stable and to promote maximum sustainable job growth. The Fed is unique among major central banks in having this goal, with other major central banks charged with pursuing stable inflation alone.

    Mr. Bullard’s comments Wednesday appeared to reflect an ongoing discomfort with this new policy regime, one that is unlikely to bring a rate increase for several more years if the Fed is right about how the labor market will perform.

    In his prepared remarks, Mr. Bullard said the Fed over recent years has done a good job of keeping inflation near the central bank’s official target of 2%. He said the unemployment rate “remains high” and, compared to its current 7.6% level, it likely will be in the “low-7% range” by year’s end.
  • In the Media | April 2013
    Forbes, April 17, 2013. All Rights Reserved.

    St. Louis Fed President James Bullard spoke in New York on Wednesday, warning that inflation remains too low and suggesting he’d be ready to increase the rate of asset purchases, or QE, to defend their target “from below.”

    Making sure to dispel any rumors of the Federal Reserve looking to tighten its monetary stance any time soon, St. Louis Fed chief Bullard told academics easy money is here to stay. The Fed has “room to maneuver,” and the capacity to increase its rate of purchases, Bullard explained at the Levy Economic Institute’s Minsky Conference, adding that quantitative easing is a better tool than forward guidance to signal the central bank’s intention to markets.

    It’s commonplace these days to attribute recent risk asset strength to the Bernanke Fed. Even the International Monetary Fund is doing it. Market participants have been nervous about the future path of Fed policy, which has sent U.S. stocks to record highs, particularly as recent FOMC minutes seem to suggest consensus within the committee, which has supported Ben Bernanke’s expansive policies consistently, might begin to break.

    Bullard was sure to dispel those rumors as well, noting that as Fed transparency has gone up, subtle differences in opinion have surfaced. “I don’t think there has been any breakdown of consensus,” said the St. Louis Fed boss, who didn’t dissent last meeting, adding there are “nuanced positions.”

    Interestingly Bullard suggested strong unemployment targets shouldn’t be part of policymakers’ toolkit. “Should the Fed, or any central bank, put more weight on unemployment than price stability?” he asked the crowd, before presenting research by economists Ravenna and Walsh suggesting that those targets would further distort labor markets. The Fed currently has a soft target for both inflation and the unemployment rate.

    Instead, central bankers should focus on price stability, as monetary policy is too “blunt” of an instrument to target the intricacies of the labor market. As mentioned above, Bullard did say QE is a more direct, and preferable way, for the Fed to act (given nominal rates in the zero range and forward guidance as the other major tool), but said he sees asset purchases affecting labor markets in the same way as interest rate moves.   Bullard’s bullishness wasn’t enough to boost markets, though. Wall Street was a sea of red at 11:32 AM in New York, with all three major equity indexes well in the red. The Nasdaq led the way, down 1.9%, followed by the S&P 500 and the Dow, which lost 1.6% and 1% respectively. Gold slid to $1,385.50 an ounce while the yield on 10-year Treasuries stood at 1.57%.   Asked about the huge amount of excess reserves sitting at the Fed, rather than being lent out by the banks, Bullard chose to speak of the possibility to tighten policy through interest. Depositary institutions like JPMorgan Chase, Bank of New York Mellon, and Citigroup, among others, have nearly $1.7 trillion sitting at the Fed, according to the St. Louis Fed, yet they have been criticized for failing to lend those out, given tighter credit markets and lower loan demand amid a slow economy.

    The so-called Bernanke put has been one of the major factors helping investors jump back into the market and prop asset prices to new highs. While there has been dissent within the Federal Reserve, Bernanke has always reaffirmed his intention to pursue his easy policies. Bullard seems to agree, even though he does suggest the flow rate, or pace, of asset purchases, should be the way for them to signal their intentions to markets. Still, it seems, QE is here to stay.

  • In the Media | April 2013
    MNI | Deutsche Börse Group, April 17, 2013. All Rights Reserved.

    NEW YORK (MNI) – Boston Federal Reserve Bank President Eric Rosengren Wednesday said the Fed has not yet hit its employment or inflation targets, and he remains a strong supporter of its aggressive measures to spur the economic recovery - which are starting to yield results.

    Taking questions from the audience after a speech at the Minsky conference in New York, Rosengren said he has been in favor of the path monetary policy has taken since the 2008 crisis, and continues to be.

    Rosengren holds a voting position on the policy-setting Federal Open Market Committee this year, and he said he is "strongly supportive" of the FOMC's buying of $85 billion a month in U.S. Treasury securities and mortgage bonds to support the recovery.

    The quantitative easing program is working, he said, although the recovery is still not as fast as he would like to see. Stronger growth than the 2.5% average seen so far during the recovery is needed, but there continue to be some bright spots, he said.

    The circumstances have changed in the housing sector, for instance, with the market improving "quite dramatically."

    Auto sales are also almost back to their pre-crisis levels, showing that in interest-sensitive sectors where the Fed's actions can have an effect, "our policies are having a big impact, an important impact. We are getting a much better outcome," Rosengren said.

    Rosengren focused on the subject of bank regulation in his prepared remarks, and he reiterated that the pace of regulatory reform is not moving as fast as he would like.

    He said he believes some regulatory agencies do not view financial stability as part of their mandate but said the work being done now is moving in the right direction.
  • In the Media | April 2013
    By Greg Robb
    MarketWatch, April 17, 2013. All Rights Reserved.

    WASHINGTON (MarketWatch) — Inflation might be too low and the Federal Reserve may need to respond, said James Bullard, the president of the St. Louis Fed Bank on Wednesday.

    “Inflation is running very low,” as measured by the personal consumption expenditures prices index, Bullard said in a question-and-answer period after a speech at the Levy Economics Institute of Bard College.

    “I’m getting concerned about that,” Bullard said, according to Dow Jones Newswires.

    Prices of the 10-year benchmark Treasury note rose Wednesday, pushing yields down nearly 3 basis points to 1.699%.    The Fed’s preferred measure of inflation, the personal consumption expenditures price index, increased at a 1.3% annual rate in February. This is well below the Fed’s target of 2%.

    Earlier this week, an alternate measure of inflation, the consumer price index, posted a surprising 0.2% decline in March. The index rose at 1.5% annual rate, the slowest pace since last July.

    Bullard’s comments suggest a growing risk of deflation, a general decline in prices.

    The implication is that the Fed will continue its easy-policy stance, and perhaps augment it with other steps, said Michael Moran, chief U.S. economist at Daiwa Securities America Inc.

    The Fed’s bond buying has been successful at keeping deflation at bay. It is designed to push down interest rates and boost asset prices, sparking demand that prevents prices from falling.

    The asset purchases also influences inflation expectations, Moran said.

    Bullard didn’t suggest any move to a more-stimulative policy. But he said the low inflation rate gives the Fed “room to maneuver,” a suggestion that there is no need to hurry to slow down the Fed’s asset purchases.

    The Fed is buying $85 billion in Treasurys and mortgage-backed securities each month. Markets are focused on when the Fed might taper or end the purchases because many see this as the first sign that higher interest rates may be in the offing.

    In his prepared remarks, Bullard said the goal of Fed policy should be to keep inflation close to its inflation target.

    Bullard said new research has found it would be counterproductive for the Fed to “put more weight” on unemployment over price stability in its decision-making process.

    Bullard noted that since 1995, the Fed has been following “New Keynesian” advice by keeping inflation close to a 2% target. The problem since the financial crisis is that the New Keynesian model doesn’t take unemployment into account.

    Now, cutting-edge research that puts employment into these models has found that monetary policy alone can’t impact the labor market, he said. The best way to help the job market remains direct labor-market policies.

    Bullard is a voting member of the Fed’s interest-rate-setting committee this year. 
    Greg Robb is a senior reporter for MarketWatch in Washington. 
  • In the Media | April 2013
    Money News, April 17, 2013. All Rights Reserved.

    Boston Federal Reserve President Eric Rosengren said banks should hold more capital if they own a broker-dealer unit because such businesses pose greater risks during periods of financial stress.

    “Bank holding companies with large broker-dealer affiliates should hold more capital to reflect the reduced stability of their liabilities during times of stress,” Rosengren said in prepared remarks for a speech in New York.

    Rosengren made his call as members of Congress and regulators try to reduce the risk that a large bank failure might result in a taxpayer-funded bailout. Senate Republicans and Democrats are discussing legislation that would boost capital standards. Fed officials are considering ways to curb balance-sheet expansion at the largest banks and toughen capital requirements for the largest firms.

    “Despite the central role that broker-dealers played in exacerbating the crisis, too little has changed to avoid a repeat of the problem,” Rosengren said at the 22nd Annual Hyman P. Minsky Conference in New York. “I firmly believe that a reexamination of the solvency risks of large broker-dealers is warranted.”

    The Fed-assisted emergency sale of Bear Stearns Cos. to JPMorgan Chase & Co. in March 2008 was the first time since the Great Depression that the U.S. central bank had come to the assistance of a securities firm, as opposed to a bank.

    Lehman Bankruptcy
    Six months later, the bankruptcy of Bear Stearns’s larger rival, Lehman Brothers Holdings Inc., shocked financial markets and led the three biggest U.S. securities firms — Merrill Lynch & Co., Goldman Sachs Group Inc. and Morgan Stanley — to be acquired by or convert to banks in an effort to get the backing of the Fed.

    To help keep the firms afloat during the financial crisis in 2008, the Fed launched the Primary Dealer Credit Facility, which at its peak lent out $156 billion. A second facility, the Term Securities Lending Facility, lent an additional $246 billion at its peak.

    “Given that recent history, the assumption that collateralized lenders like broker-dealers are not susceptible to runs has been proven wrong,” Rosengren said at the conference, hosted by the Levy Economics Institute of Bard College and the Ford Foundation.

    SEC Regulation

    “Broker-dealer capital regulation by the SEC remains largely unchanged, despite the lessons of the financial crisis,” he said. “Consequently, broker-dealers remain vulnerable to losing the confidence of funders and counterparties should the world economy again experience a significant financial crisis.”

    The Boston Fed chief, formerly his bank’s head of supervision, has previously taken the lead in calling for additional regulations on the money-market fund industry that were subsequently endorsed by all 12 Fed presidents.

    The 2011 bankruptcy of MF Global Holdings Ltd. once again called into question the ability of independent securities firms to survive on funding provided by the capital markets. Jefferies Group Inc., which staved off a run on its own funding in the wake of MF Global’s collapse, agreed in November to combine with its largest shareholder to shore itself up against future market turmoil.

    “The status quo represents an ongoing and significant financial-stability risk,” Rosengren said.

    Basel Standards

    U.S. and international regulators have an analytical approach that requires more capital for risks embedded in large bank holding companies. The Basel Committee on Banking Supervision has decided that systemically important global banks should bear a charge of 1 percent to 2.5 percent more capital to total assets weighted for risk based on their size, complexity and interconnectedness.

    The Financial Stability Board in November listed 28 banks that should be subject to the requirement for additional capital. The list is updated annually and a phase-in period begins in 2016.

    Global trading banks such as Citigroup Inc., JPMorgan Chase, HSBC Holdings Plc, and Deutsche Bank AG occupy the top tier in the group, bearing a charge of 2.5 percent. Barclays and BNP Paribas are in the second tier, with a charge of 2 percent; Goldman Sachs, Morgan Stanley, Bank of America Corp., Credit Suisse Group AG and four other banking groups are in the third tier, at 1.5 percent.

    Stress Tests
    In addition, the Fed determines capital adequacy through its stress tests which include a separate diagnostic for firms with large-scale trading operations.

    The Fed tested the 19 largest banks this year against three different scenarios with 26 variables including exchange rates, incomes and interest rates. In addition, six bank holding companies with “significant trading activity” — Bank of America, Citigroup, Goldman Sachs, JPMorgan Chase, Morgan Stanley and Wells Fargo & Co. — had their portfolios stressed under conditions of a global market shock.

    Rosengren said that securities-trading units should face higher capital requirements whether they are in a bank-holding company or not.

    “Given the very different risks of runs posed by broker-dealers and their less stable liability structure, an argument can be made for higher capital requirements for broker-dealers as well as organizations, such as bank holding companies, with significant broker-dealer operations,” he said.

    Rosengren, 55, became president of the Boston Fed in July 2007, and previously served in the economic and supervision departments of the bank.
  • In the Media | April 2013
    By Joshua Zumbrun and Craig Torres
    Bloomberg, April 17, 2013. All Rights Reserved.

    Boston Federal Reserve President Eric Rosengren  said banks should hold more capital if they own a broker-dealer unit because such businesses pose greater risks during periods of financial stress.

    “Bank holding companies with large broker-dealer affiliates should hold more capital to reflect the reduced stability of their liabilities during times of stress,” Rosengren said in prepared remarks for a speech today in New York.

    Rosengren made his call as members of Congress and regulators try to reduce the risk that a large bank failure might result in a taxpayer-funded bailout. Senate Republicans and Democrats are discussing legislation that would boost capital standards. Fed officials are considering ways to curb balance-sheet expansion at the largest banks and toughen capital requirements for the largest firms.

    “Despite the central role that broker-dealers played in exacerbating the crisis, too little has changed to avoid a repeat of the problem,” Rosengren said at the 22nd Annual Hyman P. Minsky Conference in New York. “I firmly believe that a reexamination of the solvency risks of large broker-dealers is warranted.”

    The Fed-assisted emergency sale of Bear Stearns Cos. To JPMorgan Chase & Co. (JPM) in March 2008 was the first time since the Great Depression that the U.S. central bank had come to the assistance of a securities firm, as opposed to a bank. 
  • In the Media | April 2013
    By Greg Robb
    MarketWatch, April 17, 2013. All Rights Reserved.

    WASHINGTON (MarketWatch) — The financial health of large U.S. broker-dealers remains a significant financial stability risk five years after the financial crisis, and regulators should consider making them increase their capital buffers, said Eric Rosengren, the president of the Boston Fed Bank, on Wednesday.

    “Despite the central role that broker-dealers played in exacerbating the crisis, too little has changed to avoid a repeat of the problem, I am sorry to say,” Rosengren said in a speech to a conference in New York sponsored by the Levy Economics Institute of Bard College.

    “The status quo represents an ongoing and significant financial stability risk,” he said. “Broker-dealers remain vulnerable to losing the confidence of funders and counterparties should the world economy again experience a significant financial crisis.”

    Some broker-dealers, like Goldman Sachs and Morgan Stanley, became bank holding companies during the crisis. Rosengren said bank holding companies with large broker-dealer affiliates might have to hold more capital than other banks to reflect the reduced stability of their liabilities during times of stress.

    It is rare for Fed officials to comment on the financial health of broker-dealers.

    Regulation of these firms primarily falls under the purview of the Securities and Exchange Commission.

    Rosengren said he was concerned that broker-dealers represent a moral hazard, similar to “too big to fail” banks.

    If there were another crisis, the Fed might have to consider relaunching emergency credit facilities that were used by broker-dealers in 2008 and 2009.

    “If broker-dealers assume that they will once again have access to such government support should markets be disrupted, they will have little incentive to take the steps necessary to shield themselves from financing problems during a crisis and thus minimize their need for a government backstop,” Rosengren said.

    The Fed set up two emergency facilities during the crisis. The first, the Primary Dealer Credit Facility, provided overnight loans to primary dealers in return for collateral. At its peak, lending in the program was $156 billion.

    A second plan, the Term Securities Lending Facility, allowed primary dealers to lend less-liquid securities to the Fed for one month in exchange for Treasurys. The peak balance of that program was $246 billion. 
  • In the Media | April 2013
    MNI | Deutsche Börse Group, April 17, 2013. All Rights Reserved.

    NEW YORK (MNI) - St. Louis Federal Reserve Bank President James Bullard Wednesday argued that monetary policy may not be the ideal tool to tackle the nation's jobs crisis, and that more direct policies are needed, while the Fed would be better served focusing more on its price stability mandate.

    In remarks prepared for delivery at the Hyman Minsky Conference hosted by the Levy Institute in New York, Bullard said that "the essential problem is that monetary policy is not a good tool to address labor market inefficiency."

    He noted that the current high level of unemployment is causing some to suggest the policy-setting Federal Open Market Committee should "put more weight" on unemployment in its decision-making process.

    Bullard holds a voting position on the FOMC this year, and he countered that "frontline research suggests that 'price stability' remains the policy advice even in the face of serious labor market inefficiencies."

    Bullard said the FOMC should focus on keeping inflation close to its target, citing recent research that suggests deviating from this policy can lead to "substantially worse" outcomes for households.

    "The idea that the Fed should 'put more weight' on unemployment does not fare well in this analysis," he said. "Such an approach may be highly counter-productive."

    "Monetary policy alone cannot effectively address multiple labor market inefficiencies, and so one must turn to more direct labor market policies to address those problems," he added.

    Bullard noted that the unemployment rate has declined about 0.7 percentage points each year since its post-recession peak, and that at this pace unemployment should be "in the low 7% range" by the end of 2013.
  • In the Media | April 2013
    By Michael S. Derby
    The Wall Street Journal, April 17, 2013. All Rights Reserved.

    NEW YORK--The most recent overhauls of the financial regulatory system have left Wall Street's broker-dealers largely untouched and a continued threat to the financial stability, a Federal Reserve official said Wednesday.

    "Despite this history of failure and substantial government support, little has changed in the solvency requirements of broker-dealers," Federal Reserve Bank of Boston President Eric Rosengren said. "The status quo represents an ongoing and significant financial stability risk."

    "Consideration should be given to whether broker-dealers should be required to hold significantly more capital than depository institutions" to help mitigate the threat these institutions might pose in a period of renewed financial stress, the central banker said.

    Mr. Rosengren is a voting member of the monetary-policy setting Federal Open Market Committee. His comments came from the text of a speech delivered before a gathering held by the Levy Economics Institute of Bard College, in New York.

    Mr. Rosengren didn't address monetary policy or the economic outlook in his formal remarks. The official has, in a number of speeches, shown a great interest in financial stability and unresolved matters that exist in the wake of the passage of the Dodd-Frank overhaul legislation. In past speeches, Mr. Rosengren has shown a considerable amount of alarm about money-market funds, which he sees as subject to destabilizing runs.

    In his speech, the official highlighted the role broker-dealers like Bear Stearns and Lehman Brothers played in the financial crisis. In the current environment, many of these types of operations have been subsumed into bank-holding companies with levels of access to the traditional safety net, but he sees still insufficient levels of capital compared with the risks these firms may be exposed to.

    "Being housed within a bank-holding company should not obviate the need for the broker-dealer subsidiary to hold more capital," Mr. Rosengren said. "Broker-dealers remain vulnerable to losing the confidence of funders and counterparties should the world economy again experience a significant financial crisis."

    The official worried under the status quo, new trouble could force a return of Fed emergency-lending facilities tailored to support broker-dealer operations. That would be a bad outcome, Mr. Rosengren said.

    In comments to the audience, Mr. Rosengren said he believes Fed stimulus policies were helping the economy, and he remains concerned credit standards for the mortgage market have become tighter than they should be. He said there are signs of life now appearing in the housing and car markets.

    Mr. Rosengren also said he is strongly supportive of the current stance of monetary policy.
  • In the Media | April 2013
    By Steve Matthews and Joshua Zumbrun
    Bloomberg, April 17, 2013. All Rights Reserved.

    James Bullard, president of the Federal Reserve Bank of St. Louis, said monetary policy should be guided by the central bank’s price-stability goal even with historically high unemployment.

    “The idea that the Fed should ‘put more weight’ on unemployment does not fare well,” Bullard said in a speech in New York. “Such an approach may be highly counterproductive.”

    Bullard supported the Federal Open Market Committee decision in March to continue to buy $85 billion in bonds every month until the labor market outlook improves “substantially.” It also pledged to keep interest rates near zero as long as unemployment is above 6.5 percent and inflation doesn’t exceed 2.5 percent. The unemployment rate stood at 7.6 percent in March.

    Bullard, in his presentation on the current economy, said the U.S. unemployment rate has been declining at about 0.7 percentage point per year since peaking after the last recession ended.

    “At this pace, the unemployment rate will be in the low 7 percent range by the end of 2013,” he said to the Hyman Minsky Conference on the State of the U.S. and World Economies.

    While that rate is “high by historical standards,” Bullard cited academic work by economists Federico Ravenna and Carl Walsh as suggesting the Fed should use its inflation goal, which is 2 percent, as the main guide to policy.
    Serious Inefficiencies “Frontline research suggests that ‘price stability’ remains the policy advice even in the face of serious labor market inefficiencies,” Bullard said. “Attempts to address the various labor market inefficiencies solely with monetary policy do not work very well because improvements on one dimension are simultaneously detriments on other dimensions.”

    “The essential finding is that monetary policy alone cannot effectively address multiple labor market inefficiencies, and so one must turn to more direct labor market policies to address those problems,” Bullard said.

    Federal Reserve Vice Chairman Janet Yellen yesterday said she favors holding the benchmark interest rate “lower for longer,” while New York Fed President William C. Dudley said a slowdown in the pace of employment growth in March highlights the need to maintain the pace of bond purchases.

    Bullard joined the St. Louis Fed’s research department in 1990 and became president of the regional bank in 2008. His district includes all of Arkansas and parts of Illinois, Indiana, Kentucky, Mississippi, Missouri and Tennessee.
  • In the Media | April 2013
    By Robert Hultqvist
    di.se, April 17, 2013. All Rights Reserved.

    Federal Reserve bör fokusera på sitt traditionella mandat i form av prisstabilitet och det finns begränsningar i vad centralbanken kan göra för arbetsmarknaden.  "Penningpolitik isolerat kan inte effektivt åtgärda multipla ineffektiviteter på arbetsmarknaden... Man måste rikta sig mot mer direkta arbetsmarknadsåtgärder för att åtgärda de problemen", säger James Bullard, ordförande för Federal Reserve Bank i St Louis, enligt en presentation inför ett tal han kommer att hålla vid the Levy Economics Institute of Bard College, enligt Dow Jones Newswires.  I talet uppger Fed-ledamoten att centralbanken har gjort ett bra jobb med att hålla inflationen i närheten av tvåprocentsmålet. Arbetslösheten är fortsatt hög och kommer sannolik att sjunka till ett lågt sjuprocentspann vid slutet av året, bedömer han vidare.  
  • In the Media | April 2013
    Reuters, April 17, 2013. All Rights Reserved.

    (Reuters) - The Federal Reserve should remain focused on inflation and resist putting more weight on its employment mandate, a top U.S. central bank official said on Wednesday.

    St. Louis Fed President James Bullard, in a speech, cited research by Federico Ravenna and Carl Walsh that suggests "price stability remains the policy advice even in the face of serious labor market inefficiencies."

    Unlike most central banks in the developed world, the Fed is tasked with maintaining price stability and achieving full employment. Since the deep recession, it has eased policy to unprecedented levels to lower the unemployment rate, which last month was 7.6 percent.

    "The idea that the Fed should put more weight on unemployment ... may be highly counter-productive," Bullard, an inflation hawk and a voting member of the Fed's policy committee this year, said according to prepared remarks.

    "The essential finding (of the research) is that monetary policy alone cannot effectively address multiple labor market inefficiencies, and so one must turn to more direct labor market policies to address those problems," he was to tell the annual Hyman P. Minsky Conference in New York.

    Bullard expects unemployment to drop to the low 7 percent range by year end.
  • In the Media | April 2013
    Televisa, April 17, 2013. All Rights Reserved.

    Daña la credibilidad hablar de inflación subyacente pues crea una desconexión entre los precios minoristas y las políticas del gobierno

    NUEVA YORK, EU, abr. 17, 2013.- La actual tasa baja de inflación en Estados Unidos deja a la Reserva Federal con "espacio para maniobrar" mientras intenta apuntalar la economía estadounidense a través de sus políticas monetarias extraordinarias, dijo un alto representante de la Fed.

    Sin embargo, el presidente de la Fed en St. Louis James Bullard dijo que estaba preocupado sobre el ambiente de baja inflación.

    Bullard dijo que daña la credibilidad del banco central hablar de "inflación subyacente", que es la que descarta rubros volátiles como los precios del los alimentos y la gasolina, creando una desconexión entre los precios minoristas y las políticas del gobierno.

    Bullard estaba respondiendo preguntas del público tras un discurso en la conferencia anual Hyman P. Minsky en Nueva York.
  • In the Media | April 2013
    By Michael S. Derby
    The Wall Street Journal, April 17, 2013. All Rights Reserved.

    St. Louis Fed leader James Bullard appeared to take issue with the central bank’s latest move to provide increased monetary policy guidance, saying in a speech Wednesday the Fed is limited in what it can do to affect labor market conditions.

    The best and most effective thing the Federal Reserve can do is focus on its traditional mandate of inflation control, the official said. “Frontline research suggests that price stability remains the policy advice even in the face of serious labor market inefficiencies,” Mr. Bullard said. “This research should provide the benchmark for contemporary monetary policy,” he explained.

    At the same time, “the current high level of unemployment is causing some to suggest that the [Federal Open Market Committee] should put more weight on unemployment in its decision-making process,” he said. That would be a mistake, as research shows “monetary policy alone cannot effectively address multiple labor market inefficiencies…. One must turn to more direct labor market policies to address those problems,” the official said.

    Mr. Bullard is a voting member of the monetary policy setting FOMC. His comments came from slides that were associated with a talk he was to give at a conference held by the Levy Economics Institute of Bard College, in New York.

    Mr. Bullard has long argued that monetary policy faces limits in what it can do to aid the labor market, and he has said if the Fed were to target achieving a given unemployment rate, it could lead policy to go seriously wrong. But he also gave his qualified support to the Fed’s decision last December to job and inflation thresholds.

    The Fed said then that it would keep short term interest rates near zero percent so long as the unemployment rate is above 6.5% and expected inflation is below 2.5%. Officials have been careful to note these levels aren’t targets and don’t promise immediate action if breached. Some have said the Fed could easily keep rates unchanged with a sub-6/5% unemployment rate if inflation remained under the threshold.

    Mr. Bullard’s comments Wednesday appeared to reflect an ongoing discomfort with this new policy regime, one that is unlikely to bring a rate hike for several more years if the Fed is right about how the labor market will perform.

    In his prepared remarks, Mr. Bullard said the Fed has over recent years done a good job of keeping inflation near the central bank’s official target of 2%. He said the unemployment rate “remains high” and compared to its current 7.6% level, it will likely be in the “low 7% range” by year’s end. 
  • In the Media | April 2013
    PRWeb, April 17, 2013. All Rights Reserved.

    Federal Reserve Bank of St. Louis President James Bullard gave remarks Wednesday on "Some Unpleasant Implications for Unemployment Targeters" at the 22nd Annual Hyman P. Minsky Conference.

    Federal Reserve Bank of St. Louis President James Bullard gave remarks Wednesday on “Some Unpleasant Implications for Unemployment Targeters” at the 22nd Annual Hyman P. Minsky Conference.

    During his presentation, Bullard noted that the U.S. unemployment rate remains high by historical standards and that it has declined about 0.7 percentage points per year from its post-recession peak level. “At this pace, the unemployment rate will be in the low 7 percent range by the end of 2013,” he said.

    Given this current high level of unemployment, some have suggested that the Federal Open Market Committee (FOMC) should “put more weight” on unemployment in its decision-making process, Bullard said. “However, frontline research suggests that ‘price stability’ remains the policy advice even in the face of serious labor market inefficiencies.” In Bullard’s view, the results from this recent research, by economists Federico Ravenna and Carl Walsh, should be considered as an important benchmark for contemporary monetary policy.

    Price Stability
    Bullard noted that the New Keynesian macroeconomics literature has been extraordinarily influential in monetary policy. The standard policy advice from this literature is “price stability,” he said, explaining that “practically speaking, this means ‘focus on keeping inflation close to target.’”

    Technically, Bullard said, the policy advice is to maintain a price level path that is consistent with the inflation target. The FOMC has maintained such a price level path since 1995, which he has discussed previously. (See, for example, Bullard’s speech on Sept. 20, 2012, “A Singular Achievement of Recent Monetary Policy.”)

    Thus, actual FOMC monetary policy during the past 18 years seems to have mimicked the policy advice from the New Keynesian literature. However, Bullard noted that the standard model does not include unemployment. In light of today’s high level of unemployment, he said that the main question is whether the FOMC should adopt a policy rule that “puts more weight” on this variable.

    Unemployment To determine how the policy advice changes when unemployment is included in the model, Bullard examined recent research by Ravenna and Walsh. In a 2011 paper(1), they found that “the optimal policy is still very close to price stability, even with unemployment explicitly in the model,” Bullard said. That is, the policymaker should still “keep inflation as close to target as is practicable,” he explained. “Expressed as a Taylor-type rule, it would mean putting almost all the weight on the inflation term.”

    Furthermore, the authors suggest that deviating from this policy can lead to substantially worse outcomes for households, Bullard said. “The idea that the Fed should ‘put more weight’ on unemployment does not fare well in this analysis. Such an approach may be highly counter-productive,” he stated.

    In a 2012 paper(2), Ravenna and Walsh asked why price stability remains close to optimal. “Attempts to address the various labor market inefficiencies solely with monetary policy do not work very well because improvements on one dimension are simultaneously detriments on other dimensions,” Bullard said, which means that other policy tools are needed.

    “The essential finding is that monetary policy alone cannot effectively address multiple labor market inefficiencies, and so one must turn to more direct labor market policies to address those problems,” Bullard said.

    1. Ravenna, Federico, and Walsh, Carl E. “Welfare-Based Optimal Monetary Policy with Unemployment and Sticky Prices: A Linear-Quadratic Framework.” American Economic Journal: Macroeconomics, April 2011, 3(2), pp. 130–62.

    2. Ravenna, Federico, and Walsh, Carl E. “Monetary Policy and Labor Market Frictions: A Tax Interpretation.” Journal of Monetary Economics, March 2012, 59(2), pp. 180–95.  
  • In the Media | April 2013
    Reuters, April 17, 2013. All Rights Reserved.

    A top Federal Reserve official said Wednesday that If inflation continues to fall he would be willing to increase the pace of the central bank's bond-buying to defend its 2 percent inflation target.

    St. Louis Fed President James Bullard cautioned that further accommodation in monetary policy is not needed yet, however, and said he does not currently fear deflation.

    "If inflation continues to go down, I would be willing to increase the pace of purchases," Bullard told reporters after a speech at the annual Hyman P. Minsky Conference in New York.

    The Fed has an official 2 percent inflation target and has said that, as long as inflation expectations do not breach 2.5 percent, it will keep benchmark interest rates near zero until unemployment falls to 6.5 percent.

    (Watch More: Fed's Bullard Discounts Weak Job Report)

    "I'm very willing to defend the inflation target from the low side," Bullard said. "If we say 2 percent, we should hit 2 percent."

    The comments from Bullard, a pragmatic centrist and a voter on Fed policy this year, provide an interesting twist to a policy debate that has recently been focused on what level of improvement in the labor market would prompt the central bank to dial down the purchases.

    The Fed's preferred measure of inflation, the Personal Consumption Expenditures rate, is around 1.3 percent and is not expected to rise much over the next two years, in large part because of the millions of unemployed workers.

    The Fed is buying $85 billion a month in Treasurys and mortgage-backed securities through the latest round of quantitative easing, known as QE3, as it tries to bolster the economic recovery.

    An inflation hawk, Bullard said he would prefer to ramp up if needed by buying Treasurys rather than MBS.

    The central bank has said it will keep buying bonds until the labor market outlook improves substantially; financial markets have began turning their attention to how long purchases might go on.

    In his speech, Bullard said the Fed should remain focused on inflation and resist putting more weight on the employment part of its dual mandate.

    Unlike most central banks in the developed world, the Fed is responsible for both maintaining price stability and achieving full employment. Since the Great Recession, it has eased monetary policy to unprecedented levels to lower the unemployment rate, which stood at 7.6 percent last month.

    "People have been focusing on employment a lot but have maybe gotten a little bit blinded about the inflation numbers that have come in very low," Bullard told reporters.
  • In the Media | April 2013
    Reuters, April 17, 2013. All Rights Reserved.

    (Reuters) – The current low inflation rate leaves the Federal Reserve with "room to maneuver" as it tries to boost the U.S. economy through its extraordinary monetary policies, a top Fed official said on Wednesday.

    Still, St. Louis Fed President James Bullard said he was concerned about the low inflation environment. Bullard said it hurts the central bank's credibility to talk about so-called core inflation, which strips out volatile items such as food and gasoline prices, by creating a disconnect between Main Street and policymakers.

    Bullard was fielding questions from the audience following a speech at the annual Hyman P. Minsky Conference in New York.
  • In the Media | April 2013
    By Michael S. Derby
    The Wall Street Journal, April 17, 2013. All Rights Reserved.

    NEW YORK--Federal Reserve Bank of St. Louis President James Bullard on Wednesday said he is concerned inflationary pressures may be growing too weakly and the central bank may have to do something about it.

    "Inflation is running very low" as measured by the personal consumption expenditures price index, the Fed's favored inflation gauge, the policymaker said. "I'm getting concerned about that," he said, adding that the low rate of price pressure "gives the [Federal Open Market Committee] some room to maneuver" on the monetary-policy front.

    The central banker didn't suggest that any move toward a more-stimulative monetary policy was imminent. The Fed is currently pursuing a policy of buying bonds to drive up growth and lower the unemployme