What Caused the Financial Crisis?


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Photo Credit: Alane Golden || Sad but true — the crisis was all about bad monetary policy, a housing bubble, and poor bank risk management======================

There are a lot of opinions being trotted around ten years after the financial crisis.  A lot of them are self-serving, to deflect blame from areas that they want to protect.  What you are going to read here are my opinions.  You can fault me for this: I will defend my opinions here, which haven’t changed much since the financial crisis.  That said, I will simplify my opinions down to a few categories to make it simpler to remember, because there were a LOT of causes for the crisis.

Thus, here are the causes:

1) The Federal Reserve and the People’s Bank of China

For different reasons, these two central banks kept interest rates too low, touching off a boom Continue reading “What Caused the Financial Crisis?”

The Pips are Squeaking


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Photo Credit: sid=================

This should be a short post.  I just want to note the degree of stress that many emerging market countries are under.  The Fed raises rates, and something blows up.  That is often the class of debt that has grown the most in the bull phase of the cycle, or, the one that has financed with short-term debt.  This is the “volatility machine” that Michael Pettis wrote so well about.

The Brazilian stocks I own have been falling.  A little lower, and I will make them double-weight positions.  Five times earnings for utilities that cannot be done without?  Wave the shares in.

Look at Argentina, Indonesia, and Turkey.  Fundamentally misfinanced.  Maybe own assets there that have enduring demand.  I own IRSA [IRS].

Russia is fundamentally sound.  I own shares in RSXJ, which is Continue reading “The Pips are Squeaking”

Why I Watch the Thirty


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I like long bonds.  I am not saying that I like them as an investment.  I like them because they tell me about the economy.

Though I argued to the Obama Administration that they should issue Fifties, Centuries and Perpetuals, the Thirty-year bond remains the longest bond issued.  I think its yield tells us a lot about the economy.

How fast is nominal growth?  Look at the Thirty; it is highly correlated with that.

What should the Fed use for its monetary policy?  Look at the Thirty, and don’t let the Five-year note get a higher yield than it.  Also, don’t let the spread of the Two-year versus the Thirty get higher than 1.5%.  When things are bad, stimulus is fine, but it is better to wait at a high spread than goose the spread higher. Excesses Continue reading “Why I Watch the Thirty”

Notes on the Fed Announcements


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Photo Credit: City of Boston Archives

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Listening to the Fed Chair’s press conference, there was one thing where I disagreed with what Powell was saying.  He said a few times that they only made one decision at the FOMC meeting, that of raising the Fed Funds rate and the reverse repo rate by 0.25%.  They made another decision as well. The decided to raise the rate of quantitative tightening [QT] by increasing the rate of Treasury, MBS and agency bonds rolloff by $10B/month starting in April. They did that by increasing the rate of reduction of MBS and agency bonds from $8B to $12B/month, and Treasuries from $12B to $18B/month. The total rate of QT goes from $20B to $30B/month.  This may raise rates on the longer end, because the Fed will no longer buy so much debt.

There was also a little concern over

Continue reading “Notes on the Fed Announcements”

Just Don’t Invert the Yield Curve


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Photo Credit: Brookings Institution

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Jerome Powell is not an economist, and as such, has the potential to try to remake the way the Fed does monetary policy.  Rather than hold onto outmoded ideas ideas like the Phillips Curve, which may have made sense when the US was a more insular economy, there are better ways to think of monetary policy from a structural standpoint of how financial firms work.

(Note: the Phillips Curve relies on a very simple assumption that goods and services price inflation stems from wage inflation, and that wage inflation occurs when domestic unemployment is low.  In a global economy, those relationships are broken when labor can be easily added from sources outside of the US.)

Financial firms tend to grow rapidly when the yield curve is steeply sloped.  Borrowing short and lending long is profitable, at least in the short-run.  Continue reading “Just Don’t Invert the Yield Curve”

Estimating Future Stock Returns, December 2017 Update


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The future return keeps getting lower, as the market goes higher

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Jeff Bezos has a saying, “Your margin is my opportunity.”  He has found ways to eat the businesses of others by providing the same goods and services at a lower cost.  Now, that makes Amazon more productive and others less productive.  The same is true of other internet-related businesses like Google, Netflix, etc.

And, there is a slight net benefit to the economy from the creative destruction.  Old capital gets recycled.  Malls that are no longer so useful serve lower-margin businesses for locals, become homes to mega-churches, other area-intensive human gatherings, or get destroyed, and the valuable land so near many people gets put to alternative uses that are better than the mall, but not as profitable as the mall prior to the internet.

Laborers get released to other work as well. 

Continue reading “Estimating Future Stock Returns, December 2017 Update”

Surprise! Return to RT Boom/Bust


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After almost three years, I returned to RT Boom/Bust on Tuesday.  There are many changes at RT.  Many new people, and a growing effort to put together an alternative channel that covers the world rather than just the US or just the developed world.  They are bursting at the seams, and their funding has doubled, so I was told.

I get surprised by who watches RT and sees me.  My  congregation is pretty conservative in every way, but I have some friends working in intelligence come up to me and say, “Hey, saw you on RT Boom/Bust.”  And then there is my friend from Central Africa who says, “The CIA has you on their list.  Watch out!”  He’s funny, hard-working, but very earnest.

I’ve never seen anything in what I have done where there is any hint of editorial control.  Maybe it Continue reading “Surprise! Return to RT Boom/Bust”

Economic Fluctuations and Growth Research Meeting


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I am here today:

Economic Fluctuations and Growth Research Meeting
Andrew Atkeson and Monika Piazzesi, Organizers
Federal Reserve Bank of San Francisco
February 23, 2018

Friday, February 23

9:00 am
Fatih Guvenen, University of Minnesota and NBER
Gueorgui Kambourov, University of Toronto
Burhanettin Kuruscu, University of Toronto
Sergio Ocampo-Diaz, University of Minnesota
Daphne Chen, Florida State University
Use It Or Lose It: Efficiency Gains from Wealth Taxation
Discussant: Roger H. Gordon, University of California at San Diego and NBER

10:15 am
Matteo Maggiori, Harvard University and NBER
Brent Neiman, University of Chicago and NBER
Jesse Schreger, Columbia University and NBER
International Currencies and Capital Allocation
Discussant: Harald Uhlig, University of Chicago and NBER

11:30 am
Katarína Borovičková, New York University
Robert Shimer, University of Chicago and NBER
High Wage Workers Work for High Wage Firms
Discussant: Isaac Sorkin, Stanford University and NBER

1:30 pm
Marcus Hagedorn, University of Oslo
Iourii

Continue reading “Economic Fluctuations and Growth Research Meeting”

On Prediction


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This is from Josh Hendrickson at The Everyday Economist:

On Prediction: Suppose that you are a parent of a young child. Every night you give your child a glass of milk with their dinner. When your child is very young, they have a lid on their cup to prevent it from spilling. However, there comes a time when you let them drink without the lid. The absence of a lid presents a possible problem: spilled milk. Initially there is not much you can do to prevent milk from being spilled. However, over time, you begin to notice things that predict when the milk is going to be spilled. For example, certain placements of the cup on the table might make it more likely that the milk is spilled. Similarly, when your child reaches across the table, this also increases the likelihood of spilled milk. The fact that you are

Continue reading “On Prediction”

On a Letter from an Old Friend


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Photo Credit: jessica wilson {jek in the box}

David:

It’s been a while since we last corresponded.  I hope you and your family are well.

Quick investment question. Given the sharp run-up in equities and stretched valuations, how are you positioning your portfolio?

This in a market that seemingly doesn’t go down, where the risk of being cautious is missing out on big gains.

In my portfolio, I’m carrying extra cash and moving fairly aggressively into gold. Also, on the fixed income side, I’ve been selling HY [DM: High Yield, aka “Junk”] bonds, shortening duration, and buying floating rate bank loans.

Please let me know your thoughts.

Regards

JJJ

Dear JJJ,

Good to hear from you.  It has been a long time.

Asset allocation is always a marriage between time horizon (when is the money needed for spending?) and expected returns, with some adjustment for risk.  I suspect Continue reading “On a Letter from an Old Friend”

Classic: Wrecking Ball Looms for Big Housing Spec


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I thought this old post from RealMoney.com was lost, never to be found again.  This was the important post made on November 22, 2006 that forecast some of the troubles in the subprime residential mortgage backed securities market.  I favored the idea that there there would be a crash in residential housing prices, and the best way to play it would be to pick up the pieces after the crash, because of the difficulties of being able to be right on the timing of shorting could be problematic.  In that trade, too early would mean wrong if you had to lose out the trade because of margin issues.

With that, here is the article:

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I have tried to make the following topic simple, but what I am about to say is complex, because it deals with the derivative markets. It Continue reading “Classic: Wrecking Ball Looms for Big Housing Spec”

Notes from an Unwelcome Future, Part 1


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Dear Readers, this is another one of my occasional experiments, so please be measured in your comments.  The following was written as a ten-year retrospective article in 2042.

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It was indeed an ugly surprise to many when the payments from Social Security in February 2032 did not come.  Indeed, the phones in Congress rang off the hook, and the scroll rate on incoming emails broke all records.  But as with most things in DC in the 21st century, there was no stomach to deal with the problem, as gridlock continued to make Congress a internally hostile but essentially passive institution.

Part of that gridlock stemmed from earlier Congressional reforms that looked good at the time, but reduced the power of parties to discipline members who would not go along with the leadership.  Part also stemmed from changes in media, which Continue reading “Notes from an Unwelcome Future, Part 1”

Should We Reject the Natural Rate Hypothesis?


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Olivier Blanchard:

Should We Reject the Natural Rate Hypothesis?, by Olivier Blanchard, PIIE: Fifty years ago, Milton Friedman articulated the natural rate hypothesis. It was composed of two sub-hypotheses: First, the natural rate of unemployment is independent of monetary policy. Second, there is no long-run tradeoff between the deviation of unemployment from the natural rate and inflation. Both propositions have been challenged. Blanchard reviews the arguments and the macro and micro evidence against each and concludes that, in each case, the evidence is suggestive but not conclusive. Policymakers should keep the natural rate hypothesis as their null hypothesis but keep an open mind and put some weight on the alternatives. [paper]

Redacted Version of the September 2017 FOMC Statement


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July 2017 September 2017 Comments
Information received since the Federal Open Market Committee met in June indicates that the labor market has continued to strengthen and that economic activity has been rising moderately so far this year. Information received since the Federal Open Market Committee met in July indicates that the labor market has continued to strengthen and that economic activity has been rising moderately so far this year. No change.  Feels like GDP is slowing, though.
Job gains have been solid, on average, since the beginning of the year, and the unemployment rate has declined. Job gains have remained solid in recent months, and the unemployment rate has stayed low. Shades labor conditions down, as improvement has seemingly stopped.
Household spending and business fixed investment have continued to expand. Household spending has been expanding at a moderate rate, and growth in business fixed investment has picked Continue reading “Redacted Version of the September 2017 FOMC Statement”

Redacted Version of the July 2017 FOMC Statement


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Photo Credit: Leo Newball, Jr. || I visited that building when I was 24.

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June 2017 July 2017 Comments
Information received since the Federal Open Market Committee met in May indicates that the labor market has continued to strengthen and that economic activity has been rising moderately so far this year. Information received since the Federal Open Market Committee met in June indicates that the labor market has continued to strengthen and that economic activity has been rising moderately so far this year. No change.  Feels like GDP is slowing, though.
Job gains have moderated but have been solid, on average, since the beginning of the year, and the unemployment rate has declined. Job gains have been solid, on average, since the beginning of the year, and the unemployment rate has declined. Shades labor conditions up
Household spending has picked up in recent months, and business fixed investment Continue reading “Redacted Version of the July 2017 FOMC Statement”

Why Recessions Followed by Austerity Can Have a Persistent Impact


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Simon Wren-Lewis:

Why recessions followed by austerity can have a persistent impact: Economics students are taught from an early age that in the short run aggregate demand matters, but in the long run output is determined from the supply side. A better way of putting it is that supply adjusts to demand in the short run, but demand adjusts to supply in the long run. A key part of that conceptualisation is that long run supply is independent of short run movements in demand (booms or recessions). It is a simple conceptualisation that has been extremely useful in the past. Just look at the UK data shown in this post: despite oil crises, monetarism and the ERM recessions, UK output per capita appeared to come back to an underlying 2.25% trend after WWII.

Except not any more: we are currently more than 15% below that trend and

Continue reading “Why Recessions Followed by Austerity Can Have a Persistent Impact”

Redacted Version of the June 2017 FOMC Statement


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May 2017 June 2017 Comments
Information received since the Federal Open Market Committee met in March indicates that the labor market has continued to strengthen even as growth in economic activity slowed. Information received since the Federal Open Market Committee met in May indicates that the labor market has continued to strengthen and that economic activity has been rising moderately so far this year. Shades GDP up
Job gains were solid, on average, in recent months, and the unemployment rate declined. Job gains have moderated but have been solid, on average, since the beginning of the year, and the unemployment rate has declined. Shades labor conditions down
Household spending rose only modestly, but the fundamentals underpinning the continued growth of consumption remained solid.  Business fixed investment firmed. Household spending has picked up in recent months, and business fixed investment has continued to expand. Shades Continue reading “Redacted Version of the June 2017 FOMC Statement”

The Phillips Curve: A Primer


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Cecchetti & Schoenholtz:

The Phillips Curve: A Primer: Economists have debated the relationship between inflation and unemployment at least since A.W. Phillips’s study of U.K. data from 1861 to 1957 was published 60 years ago. The idea that a tight or slack labor market should result in faster or slower wage gains seems like a natural corollary to standard economic thinking about how prices respond to deviations of demand from supply. But, over the years, disputes about this Phillips curve relationship have been and remain fierce.

As the U.S. labor market tightens, and unemployment approaches levels we have not seen in more than 15 years, the question is whether inflation is going to make a comeback. More broadly, how useful is the Phillips curve as a guide for Federal Reserve policymakers who wish to achieve a 2-percent inflation target over the long run?

To anticipate our conclusion,

Continue reading “The Phillips Curve: A Primer”

What Can Be Done to Improve the Episteme of Economics?


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Brad DeLong:

What Can Be Done to Improve the Episteme of Economics?: I think this is needed:

INET: Education Initiative: "We are thrilled that you are joining us at the Berkeley Spring 2017 Education Convening, Friday, April 28th 9am-5pm Blum Hall, B100 #5570, Berkeley, CA 94720-5570… https://www.ineteconomics.org/education/curricula-modules/education-initiative

…Sign up here: https://fs24.formsite.com/inet/form97/index.html or email aoe@ineteconomics.org…

I strongly share INET's view that things have gone horribly wrong, and that it is important to listen, learn, and brainstorm about how to improve economics education.

Let me just note six straws in the wind:

The macro-modeling discussion is wrong: The brilliant Olivier Blanchard https://piie.com/blogs/realtime-economic-issues-watch/need-least-five-classes-macro-models: "The current core… RBC (real business cycle) structure [model] with one main distortion, nominal rigidities, seems too much at odds with reality…. Both the Euler equation for consumers and the pricing equation for price-setters seem to imply, in combination with

Continue reading “What Can Be Done to Improve the Episteme of Economics?”