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

Wednesday, January 12, 2011

Really good links - Treasury is sterilizing QE2 - Credit spreads and Modigliani-Miller - Household saving - QE2 - Nature vs. environment - Utility vs. Happiness

Andy Harless - Why is the Treasury hoarding reserves and sterilizing QE2? - "Under the circumstances, sterilization makes sense because it reduces the cost of government financing and (not coincidentally) provides a more effective stimulus. Giving banks more reserves will not give them an incentive to lend, nor will it encourage anyone to convert bank deposits into cash. Banks have far more reserves than they need and are constrained by capital, not by liquidity. On the margin, from a bank's point of view, reserves are just a safe asset like T-bills. The special properties that reserves have -- that they can be used to satisfy reserve requirements and settle transactions -- are, on the margin, irrelevant, given that banks have far more than they could conceivably need for those purposes. From the point of view of the public sector, reserves are just another way to borrow: the Fed can borrow by creating bank reserves, or the Treasury can borrow by issuing T-bills. But 3-month T-bills are paying 13 basis points, while reserves are paying 25, so naturally the government prefers to borrow using the cheaper method. This also means that the interest rates earned by the private sector are lower and there is thus more incentive to move out the yield and credit curves and to undertake real investments (or to move nominal investments into foreign currencies, thus weakening the dollar and stimulating the US economy)."

Michael Woodford - Credit spreads and Modigliani-Miller - "Once one's model has multiple interest rates in it, and the possibility of variable spreads between them, there arises the possibility that different dimensions of financial conditions will be differentially affected by alternative central-bank policies. Under the conditions discussed above that imply a Modigliani-Miller theorem, one can actually show that there is only one relevant dimension of central-bank policy, namely, traditional interest-rate policy; but under almost any assumptions that break the Modigliani-Miller theorem, alternative central-bank policies will be able to influence more than one dimension of financial conditions. Moreover, changes in the structure of relative yields on different kinds of financial claims will generally have consequences for the allocation of resources, so that there is no reason in general to suppose that interest-rate policy alone will suffice to achieve desirable adjustments of financial conditions in response to the disturbances to which the economy may be subject. The possible welfare gains from active use of central-bank credit policy alongside interest-rate policy are illustrated in Curdia and Woodford (2010) in the context of one particular (fairly simple) model with endogenous credit spreads. Yet despite this general observation, it is worth noting that the effectiveness of central-bank credit policy does depend on binding financial constraints of one kind or another, that break the Modigliani-Miller theorem. One can also reasonably expect that the effects of such policies are only substantial when the financial constraints are significant."

Menzie Chinn - Explaining Recent Trends in Household Saving

Stephen Williamson - QE2, Preferred-habitat asset pricing, FRB/US model and Lucas Critique, Fed as a "shadow bank"

Tyler Cowen - New paper on gene-environment interaction

Scott Sumner - Utility vs. Happiness

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