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

Friday, October 29, 2010

Really good links - Fiscal multipliers - Bond bubble - Soprano Fed - Poker face Fed - Amateur bubbles

Ethan Ilzetzki, Enrique Mendoza, and Carlos Vegh (via Tyler Cowen) - Fiscal multipliers - "Based on a novel quarterly dataset of government expenditure in 44 countries, we find that (i) the output effect of an increase in government consumption is larger in industrial than in developing countries, (ii) the fiscal multiplier is relatively large in economies operating under predetermined exchange rate but zero in economies operating under flexible exchange rates; (iii) fiscal multipliers in open economies are lower than in closed economies and (iv) fiscal multipliers in high-debt countries are also zero."

John Hussman - Bond bubble - "One might argue that while short-term interest rates are essentially zero, long-term interest rates are not, which might leave some room for a "Hicksian" effect from QE - that is, a boost to investment and economic activity in response to a further decline in long-term interest rates. The problem here is that longer-term interest rates, in an expectations sense, are already essentially at zero. The remaining yield on longer-term bonds is a risk premium that is commensurate with U.S. interest rate volatility (Japanese risk premiums are lower, but they also have nearly zero interest rate variability). So QE at this point represents little but an effort to drive risk premiums to levels that are inadequate to compensate investors for risk. This is unlikely to go well."

Patrick - Soprano Fed - "The Fed needs to take a lesson from Tony Soprano on credibility and managing expectations. Sometimes you need to back-up your threats with real muscle. Most of the time you don't have to resort to muscle if you have a reputation, but every once in a while somebody tries to call your bluff. That's when you need to remind everyone that you really are the baddest dude in town.
        The specific machinery doesn't matter all that much so long you have the ability to force people to do what you want them to do. I was only 6 years old at the time, but didn't Volcker teach us that? The Volcker Fed said "we're going to stamp out inflation". Everyone said: "That's nice. I'll believe it when wages and prices stop rising". Then the CB applied muscle; they raised interest rates to 18% (or whatever it was) and everyone started believing them. To this day, does anyone doubt a competent CB's ability to stamp out inflation at will?
        At ZIRP with high unemployment and idle capacity the CB can't call our bluff with interest rates, and all the wishy-washy talk of bending the yield curve and keeping rates low for a long time is not going to convince anyone of anything (at least not in any reasonable time frame). The Fed really needs to call our bluff and apply some muscle."

Chevelle - What do the Fed's policy and poker have in common? - "This makes monetary policy akin to bluffing in poker: If the market buys the bluff, inflation expectations rise, real rates fall, cash gets spend, aggregate demand recovers. But why would the market buy the bluff, if, for example, it suspects that the central bank will renege on its “promise” of higher inflation in the future, and that it will “cheat” by raising interest rates once aggregate demand picks up?"

Adam Ozimek - Amateur investors and bubbles

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