tag:blogger.com,1999:blog-2499715909956774229.post4500634709426090463..comments2024-03-22T22:37:02.639-07:00Comments on Stephen Williamson: New Monetarist Economics: QE2 is IrrelevantStephen Williamsonhttp://www.blogger.com/profile/01434465858419028592noreply@blogger.comBlogger28125tag:blogger.com,1999:blog-2499715909956774229.post-23690887941499134772012-02-14T23:35:51.489-08:002012-02-14T23:35:51.489-08:00It hasn't taken over insurance companies, but ...It hasn't taken over insurance companies, but it provides a lot of insurance. Insurance for health, old age, disability, unemployment, flood, the death of a spouse or parent, and more are all provided by the federal government.Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-24480610777046543642011-06-01T19:01:37.187-07:002011-06-01T19:01:37.187-07:00"When the financial institutions lend to the ..."When the financial institutions lend to the Fed by holding a reserve account, the financial institutions don't ask for collateral from the Fed." <br />They don't need to ask for collateral, because the default risk is zero. The FED (as well as any other central bank) will always be able to repay in its home currency ... with the only exception when they run out of paper and color to print new money.Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-83943313411018913572011-05-27T13:16:25.741-07:002011-05-27T13:16:25.741-07:00I thought quantitative easing was the Fed's pu...I thought quantitative easing was the Fed's purchase of those toxic mortgage-backed securities from financial institutions. Your description of QE2 (swaps of reserves for t-bonds) sounds like ordinary open market operations to me. Where am I going wrong?Anonymousnoreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-75091051835586157742011-05-09T14:18:45.975-07:002011-05-09T14:18:45.975-07:00Ok, not to be picky, but I think I've found a ...Ok, not to be picky, but I think I've found a glitch with your analogy:<br /><br />"What is going on then? The Fed is financing a portfolio of T-bonds by essentially rolling over overnight debt."<br /><br />The Fed is buying T-bonds outright, not borrowing them. In return it is issuing reserves. But these reserves are themselves <i>perpetual</i> instruments; they cannot be destroyed by their holder. (They can be turned in for cash, but cash is also a perpetual instrument). Thus there is no explicit problems with rollover and ongoing financing - the Fed has secured "eternal" financing.JP Koninghttps://www.blogger.com/profile/02559687323828006535noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-84582560542599285792011-05-02T09:34:18.492-07:002011-05-02T09:34:18.492-07:00JP,
Note that your bank also has deposit insuranc...JP,<br /><br />Note that your bank also has deposit insurance.Stephen Williamsonhttps://www.blogger.com/profile/01434465858419028592noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-14735122673172748482011-04-30T11:09:05.375-07:002011-04-30T11:09:05.375-07:00"When the financial institutions lend to the ..."When the financial institutions lend to the Fed by holding a reserve account, the financial institutions don't ask for collateral from the Fed."<br /><br />When I lend to my local bank, I don't ask for collateral either. In that respect the Fed is more like a commercial bank than a shadow bank; people will lend to it on an unsecured basis.JP Koninghttps://www.blogger.com/profile/02559687323828006535noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-82506416821024491432011-04-28T22:25:05.412-07:002011-04-28T22:25:05.412-07:00QE2 is irrelevant only to the extent that private ...QE2 is irrelevant only to the extent that private sector agents have the same information and preferences as the Fed and as one another. But in fact they have neither.<br /><br />1. The Fed almost certainly has better information about its own future policy intentions than the private sector does. As you say, "the QE2 announcements carried news about the future path for the policy rate." I don't see how this is consistent with the view that QE2 is irrelevant. You might argue that it is not the most efficient way to communicate the news, but I'm not so sure. The news may be too vague and complex to convey easily in words, and even if it could be conveyed, it might not be credible. Although you argue that the reversal of QE2 is irrelevant, this is not so from the point of view of the Fed's profitability. The Fed is taking a risk whose outcome depends on its own future policy actions, just as a private sector agent that undertook similar maturity transformation would be taking a risk. Since the Fed controls its own policy, its willingness to take that risk conveys credible information about its intentions.<br /><br />2. Because private sector agents have heterogeneous opinions and preferences, the supply curve for maturity transformation is upward sloping. An agent with a weak opinion, for example, will abandon its position if it receives slightly better terms; an agent with a strong opinion will hold its position despite being offered much better terms. A very large agent, such as the Fed, that undertakes a large scale asset purchase in this environment, will not be a price-taker. Rather, its action will shift the supply curve and change the price. Thus even apart from the signalling effect, QE2 has an impact on asset prices (just as a comparably sized private sector institution would have an impact if it had a dramatic shift in its opinion about the future path of interest rates).Andy Harlesshttps://www.blogger.com/profile/17582263872850949568noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-5718506683565383402011-04-28T21:22:42.775-07:002011-04-28T21:22:42.775-07:00"The Modigliani-Miller theorem in corporate f..."The Modigliani-Miller theorem in corporate finance works in the same way."<br /><br />Yeah but it's well understood and accepted in finance that MM is just a starting point. It doesn't actually work that way at all in the real world because of big violations of the underlying assumptions, like transactions costs, financial distress costs, illiquidity, bankruptcy costs, tax laws, and asymmetric information. this is always taught in first year PhD finance classes (as well as MBA and BA). You always go through, now see how it changes when we add financial distress and bankruptcy costs, next when we add taxes,...<br /><br />Are you sure that there aren't gross violations of the assumptions behind your argument that make it very untrue in the real world?Richard H. Serlinhttps://www.blogger.com/profile/09824966626830758801noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-47828127029480506282011-04-28T12:11:41.980-07:002011-04-28T12:11:41.980-07:00The collateral works the other way. When the Fed l...The collateral works the other way. When the Fed lends to financial institutions at the discount window, it asks for collateral. When the financial institutions lend to the Fed by holding a reserve account, the financial institutions don't ask for collateral from the Fed.Stephen Williamsonhttps://www.blogger.com/profile/01434465858419028592noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-48980665073264678382011-04-28T11:28:50.834-07:002011-04-28T11:28:50.834-07:00The contract is specified in the Federal Reserve A...The contract is specified in the Federal Reserve Act, Sections 13, 14 and 16 among others. The fine print specifies the sorts of collateral permitted. For instance, equity cannot serve as collateral for Federal Reserve credit. There is a fairly long history behind approved collateral... at the beginning only gold and short-term commercial credit were eligible but obviously this has changed over the years.JP Koninghttps://www.blogger.com/profile/02559687323828006535noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-90185477956288680032011-04-28T07:03:36.918-07:002011-04-28T07:03:36.918-07:00"Reserves are well-backed and collateralized...."Reserves are well-backed and collateralized."<br /><br />What is the contract between the Fed and a financial institution with a reserve account? The contract does not specify any collateral. It only carries with it a promise to pay currency on demand. The Fed's ability to do that depends on the assets it holds, and the Fed makes no commitments about what those assets are. As we have seen recently, all kinds of weird stuff can end up on the asset side of the Fed balance sheet.<br /><br />The second thing just comes from an equilibrium relationship.<br /><br />"To my knowledge the only way to displace (destroy?) reserves are for banks to convert them to cash"<br /><br />Exactly.Stephen Williamsonhttps://www.blogger.com/profile/01434465858419028592noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-28816903577706243692011-04-27T20:08:09.494-07:002011-04-27T20:08:09.494-07:00"The Fed does not put up any collateral to th..."The Fed does not put up any collateral to the holders of reserve accounts, as apparently these financial institutions think that the Fed will always be good for it."<br /><br />The Fed doesn't have to put up collateral because it already accepted collateral when the reserve account was created. For instance, if reserves were created by open market operations, these reserves were effectively exchanged for what was to become their collateral security; t-bills. When the reserves are cancelled the collateral returns to its holder. Reserves are well-backed and collateralized.<br /><br />" Under current circumstances, if the Fed remains passive while the economy recovers, by keeping the IROR at 0.25% for an "extended period," then as the private sector creates more assets that can be intermediated and transformed into liquid tradeable assets, this will displace reserves, and ultimately lead to increases in the price level and an increase in the stock of currency."<br /><br />How will the creation of tradeable assets displace reserves? Banks don't lend from their reserve accounts at the Fed, after all. To my knowledge the only way to displace (destroy?) reserves are for banks to convert them to cash, or the Fed to cancel reserves through open market operations and the return of collateral assets.JP Koninghttps://www.blogger.com/profile/02559687323828006535noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-40314385665396449932011-04-27T08:16:46.808-07:002011-04-27T08:16:46.808-07:00Yes, there are plenty of channels for monetary pol...Yes, there are plenty of channels for monetary policy, that work through credit and the intermediation sector. I work on them myself - see my 1987 JPE paper and my recent work, for example, as well as my favorite textbook. QE2, however, is not one of those.Stephen Williamsonhttps://www.blogger.com/profile/01434465858419028592noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-43952021560560135072011-04-26T20:49:44.287-07:002011-04-26T20:49:44.287-07:00I don't have a copy of Chris's favorite ma...I don't have a copy of Chris's favorite macro text, but certainly it's hard to argue that there is not an abundance of theoretical work which posits a 'channel' through which real asset prices affect the real economy. Among many others, see Blanchard (JPE, 1985), Bernanke and Gertler (AER, 1989), and Kiyotaki and Moore (JPE, 1997).Phil Rothmanhttp://personal.ecu.edu/rothmanp/rothman.htmnoreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-8867854737903983872011-04-26T11:33:48.607-07:002011-04-26T11:33:48.607-07:00RV,
Yes, there is theory, and then there is empir...RV,<br /><br />Yes, there is theory, and then there is empirical work. Still, I think what you are discussing is a fiscal policy issue. The private sector in part produces assets that are used in financial trade, and the shadow-banking intermediation is an important part of how the financing of economic activity works. Temporarily destroy part of the private sector's capacity to produce these assets, and the government can step in to make up the difference - temporary tax cut, float more debt, raise taxes later and retire the debt. I don't think this has anything to do with the maturity structure of the government debt held by the private sector vs. the Fed.Stephen Williamsonhttps://www.blogger.com/profile/01434465858419028592noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-74860220044181661592011-04-26T08:17:12.220-07:002011-04-26T08:17:12.220-07:00You are saying that, normally, at the margin, the ...You are saying that, normally, at the margin, the cost of disciplining the government is not smaller than the cost of disciplining a bank. What I am trying to argue is that while this may be true in steady state (after everyone has optimized), this is less likely to be true after a crisis that destroyed much of the collateral that the private sector relied on to provide discipline. To the extent that the government has not lost as much, re-optimization involves increasing the government's participation at least until the private sector is back to its previous form.<br /><br />You may have good reasons to disagree with this view. The government has already done a lot, and has also lost a lot of reputation as we see from the current discussions about the national debt and perhaps the potential gains are quantitatively small. But it is not an irrelevance theorem. It is an empirical matter about which, lacking better data and appropriate counter-factuals, reasonable people can disagree.<br /><br />-RVAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-33883682431423906012011-04-26T06:39:55.172-07:002011-04-26T06:39:55.172-07:00RV,
This is like the rationale for deposit insura...RV,<br /><br />This is like the rationale for deposit insurance. It's very costly for the individual depositors to monitor the banks, and sometimes the depositors get it wrong and we have disruptive runs on otherwise sound banks. So we have deposit insurance, and we have the deposit insurer watch the banks to make sure they do not take on too much risk. Now, we all know where that went. Sometimes the regulator is not doing its job properly. Sometimes the government thinks that the banks are too big to fail and bails them out, and so does not solve the moral hazard problem. I'm not sure that there is necessarily an advantage for the government here. Maybe there are good governments and bad governments, or good regulators and bad regulators. But how do we discipline them?Stephen Williamsonhttps://www.blogger.com/profile/01434465858419028592noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-69343611863423789812011-04-26T05:15:54.190-07:002011-04-26T05:15:54.190-07:00Here is the model:
There are two ways to lend mon...Here is the model:<br /><br />There are two ways to lend money. In one, I lend you money and trust that you value your reputation enough to pay me back. I know how much you owe people, but I don't micromanage how you use the money I lend you. Specifically, I cannot verify that you are indeed using the money I lend you short term to buy treasuries and only treasuries. This form of lending works fine so long as your debt is not too big relative to your verifiable assets and revenues.<br /><br />In the second form, I do micromanage what you do. I force you to set up accounting practices and I send people to monitor you. By doing this I ensure that you only do what I think is a sound investment. But I have to expend resources to make you do that.<br /><br />What I am saying is that right now the government has a comparative advantage in the first form of intermediation. This may not amount to much if the setup costs needed to make the second one work are negligeable. But this is an empirical matter.<br /><br />As for the government having already solved all these insurance problems, arguably it had before the crisis, but now it needs to re-optimize. Being the government it does this slowly and haphazardly. This means that, two and a half years afterwards there might be still some margins left to be adjusted.<br /><br />-RVAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-37601106869648058372011-04-25T18:23:04.435-07:002011-04-25T18:23:04.435-07:00"What you seem to be saying is that the costs..."What you seem to be saying is that the costs of setting up such a fund are not worth the expected returns"<br /><br />No, I'm saying the Fed has no advantage in setting up such a fund. The Treasury bonds serve as collateral for the repos, so there's no agency problem.<br /><br />On the insurance: I suppose we think that the government has some advantage in providing some kinds of insurance - unemployment insurance for example, though it's a bit difficult to write down the model that delivers this.Suppose that the government has already solved all these problems, say including using the tax system as a social insurance scheme. It then seems far-fetched that there is some insurance role that works specifically through this Fed maturity transformation. Somehow the private sector can't intermediate across maturities efficiently, and share the risk, but the Fed and the Treasury can?Stephen Williamsonhttps://www.blogger.com/profile/01434465858419028592noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-80433971752977982492011-04-25T12:34:24.839-07:002011-04-25T12:34:24.839-07:00Stephen:
1- There is if this is not all you are d...Stephen:<br /><br />1- There is if this is not all you are doing. I guess you are saying that, in principle, you could set up a perfectly transparent fund that mechanically borrows overnight and buys treasuries and commits not to do anything else. What you seem to be saying is that the costs of setting up such a fund are not worth the expected returns and, implicitly, that the costs are small enough that the government (who does not need to set this up) does not have enough of a margin to affect. I'll take the point, although this is to some extent an empirical matter. How many basis points does such a fund need to make in order to be profitable? How many basis points does QE2 need to be able to move the interest rate around in order to be successful?<br /><br />2. The government does not have much of an advantage when it comes to idiosyncratic risk, these can be readily diversified. Many people do argue that there is a role for government in re-insurance, where aggregate risk plays a larger role.<br /><br />-RVAnonymousnoreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-3660749534587824812011-04-25T12:30:49.368-07:002011-04-25T12:30:49.368-07:00"Right now it is kind of clueless, don't ..."Right now it is kind of clueless, don't you think?"<br /><br />I hope that your friends on the FOMC don't read that. <br /><br />I think that things are working reasonably well, actually, considering the unusual circumstances. <br /><br />I am in favor of an exit strategy and probably soon. But what I think doesn't matter, of course.Chris-the-regression-runnerhttp://gottogonow.comnoreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-90223103285423855472011-04-25T12:26:35.221-07:002011-04-25T12:26:35.221-07:00"Without a theory, you can't organize any..."Without a theory, you can't organize any of the observations you are talking about. Staring at the time series won't do it."<br /><br />If I was not so insensitive, you would have hurt my feelings. <br /><br />Here is my theory: If the Fed has the power to change real asset prices, then it has the power to change real activity. <br /><br />I will have to consult my favorite macro text, Williamson, to determine the most likely manner in which those real asset price changes affect the real economy. But I am pretty sure that I can come up with a theory that says that changes in real asset prices can affect the real economy. In fact, I suspect that I would have to search hard for a non-trivial macro theory that implied the opposite. <br /><br />Am I wrong? (seriously) <br /><br />(Where is Phil hiding when I need him?)Chris-the-regression-runnerhttp://hidingnow.comnoreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-22622394040490904752011-04-25T12:24:18.670-07:002011-04-25T12:24:18.670-07:00Because clearly the Fed more or less understands h...Because clearly the Fed more or less understands how things work when excess reserves are at zero. Right now it is kind of clueless, don't you think?Stephen Williamsonhttps://www.blogger.com/profile/01434465858419028592noreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-84564320528136787822011-04-25T12:20:01.071-07:002011-04-25T12:20:01.071-07:00"The good news here is that, since QE2 is irr..."The good news here is that, since QE2 is irrelevant, the Fed can reverse it without cost."<br /><br />If QE2 is irrelevant, why bother to reverse it? Why not change it by a factor of X%, where X is any finite number? <br /><br />Might as well paint the Martin building a different color for all the good or harm it does. (Actually, let me withdraw the last comment: Painting the Martin building would require real resources.)Chris-the-regression-runnerhttp://backformore.comnoreply@blogger.comtag:blogger.com,1999:blog-2499715909956774229.post-32650055727938098742011-04-25T12:18:59.762-07:002011-04-25T12:18:59.762-07:00Chris,
Without a theory, you can't organize a...Chris,<br /><br />Without a theory, you can't organize any of the observations you are talking about. Staring at the time series won't do it.Stephen Williamsonhttps://www.blogger.com/profile/01434465858419028592noreply@blogger.com