"If money isn't loosened up, this sucker could go down" - George W. Bush warned in September 2008

Friday, March 5, 2010

Really great links - monetary policy and asset prices - Yuan/USD - Eurozone bond markets - EMH and computational complexity

Olivier Blanchard & Co. - "Part of the debate about monetary policy, even before the crisis, was whether the interest rate rule, implicit or explicit, should be extended to deal with asset prices. The crisis has added a number of candidates to the list, from leverage to measures of systemic risk. This seems like the wrong way of approaching the problem. The policy rate is a poor tool to deal with excess leverage, risk taking, or apparent deviations of asset prices from fundamentals. A higher policy rate also implies a larger output gap.
Other instruments are at the policymaker’s disposal—call them cyclical regulatory tools. If leverage appears excessive, regulatory capital ratios can be increased; if liquidity appears too low, regulatory liquidity ratios can be introduced and, if needed, increased; to dampen housing prices, loan-to-value ratios can be decreased; to limit stock price increases, margin requirements can be increased. If monetary and regulatory tools are to be combined in this way, it follows that the traditional regulatory and prudential frameworks need to acquire a macroeconomic dimension. This raises the issue of how coordination is achieved between the monetary and the regulatory authorities. The increasing trend toward separation of the two may well have to be reversed. Central banks are an obvious candidate as macroprudential regulators."

Jim O'Neill (Goldman Sachs) - One-Way Yuan/USD Bet Is Over - "Our GSDEER model used to show that the CNY was undervalued but it is not any longer. We discussed our estimated CNY results in the box earlier. It should not be forgotten that the CNY has risen by close to 20% on a trade-weighted basis in real terms, which has removed the undervaluation we estimated."

GaveKal - bond vigilantes have restored the Stability and Growth Pact - "The hierarchy of sovereign spreads on Euro financial markets closely follows the logic of the Stability and Growth Pact (SGP). The European bond markets are thus remarkably consistent and sending a clear and powerful message to the governments of the euro zone to stick to the agreed rules or suffer the consequences.
As of today, there seems to be no additional risk premium related to the possible dislocation of the Eurozone. Clearly, this possibility would have such devastating effect on world financial markets that investors cannot even think of it (even if many talk about it)."

This should persuade most computer scientists that EMH is false (via Tyler Cowen) - "I prove that if markets are weak-form efficient, meaning current prices fully reflect all information available in past prices, then P = NP, meaning every computational problem whose solution can be verified in polynomial time can also be solved in polynomial time. I also prove the converse by showing how we can "program" the market to solve NP-complete problems. Since P probably does not equal NP, markets are probably not efficient. Specifically, markets become increasingly inefficient as the time series lengthens or becomes more frequent. An illustration by way of partitioning the excess returns to momentum strategies based on data availability confirms this prediction."

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