Wednesday, September 28, 2011

EMH and the Financial Crisis

This is going to be a running post with articles relating the EMH to the financial crisis.

Jeremy Siegel on the EMH


Ray Ball on the EMH

The Times on the EMH (it's dead)

The Economist on the EMH

Fear Trumps Fed

I thought this was a good article explain why treasury yields have fallen despite the Fed announcing they are going to sell $400 billion worth of short-term debt. An increase in the supply of short-term debt (from the Fed sale) should increase bond supply, lowering prices and increasing yields. But thanks to Europe and Greece this is not the case.

Thursday, September 22, 2011

An Extended Verison of the FOMC Meeting

Tim Duy (a colleague of mine at Oregon), is a Fed watcher. He is an expert on monetary policy and has responded to the recent policy, here.

Wednesday, September 21, 2011

More thoughts on the recent Fed actions

Take That Congress (The Economist)

The Fed's Twist won't make the Economy Dance (Fortune)

The Fed needs a little help (CNN)

And We Are Twisting

Here is the Fed's Statement:

Information received since the Federal Open Market Committee met in August indicates that economic growth remains slow. Recent indicators point to continuing weakness in overall labor market conditions, and the unemployment rate remains elevated. Household spending has been increasing at only a modest pace in recent months despite some recovery in sales of motor vehicles as supply-chain disruptions eased. Investment in nonresidential structures is still weak, and the housing sector remains depressed. However, business investment in equipment and software continues to expand. Inflation appears to have moderated since earlier in the year as prices of energy and some commodities have declined from their peaks. Longer-term inflation expectations have remained stable.
Consistent with its statutory mandate, the Committee seeks to foster maximum employment and price stability. The Committee continues to expect some pickup in the pace of recovery over coming quarters but anticipates that the unemployment rate will decline only gradually toward levels that the Committee judges to be consistent with its dual mandate. Moreover, there are significant downside risks to the economic outlook, including strains in global financial markets. The Committee also anticipates that inflation will settle, over coming quarters, at levels at or below those consistent with the Committee's dual mandate as the effects of past energy and other commodity price increases dissipate further. However, the Committee will continue to pay close attention to the evolution of inflation and inflation expectations.
To support a stronger economic recovery and to help ensure that inflation, over time, is at levels consistent with the dual mandate, the Committee decided today to extend the average maturity of its holdings of securities. The Committee intends to purchase, by the end of June 2012, $400 billion of Treasury securities with remaining maturities of 6 years to 30 years and to sell an equal amount of Treasury securities with remaining maturities of 3 years or less. This program should put downward pressure on longer-term interest rates and help make broader financial conditions more accommodative. The Committee will regularly review the size and composition of its securities holdings and is prepared to adjust those holdings as appropriate.
To help support conditions in mortgage markets, the Committee will now reinvest principal payments from its holdings of agency debt and agency mortgage-backed securities in agency mortgage-backed securities. In addition, the Committee will maintain its existing policy of rolling over maturing Treasury securities at auction.
The Committee also decided to keep the target range for the federal funds rate at 0 to 1/4 percent and currently anticipates that economic conditions--including low rates of resource utilization and a subdued outlook for inflation over the medium run--are likely to warrant exceptionally low levels for the federal funds rate at least through mid-2013.

The Committee discussed the range of policy tools available to promote a stronger economic recovery in a context of price stability. It will continue to assess the economic outlook in light of incoming information and is prepared to employ its tools as appropriate.

Voting for the FOMC monetary policy action were: Ben S. Bernanke, Chairman; William C. Dudley, Vice Chairman; Elizabeth A. Duke; Charles L. Evans; Sarah Bloom Raskin; Daniel K. Tarullo; and Janet L. Yellen. Voting against the action were Richard W. Fisher, Narayana Kocherlakota, and Charles I. Plosser, who did not support additional policy
 Mark Thoma has many views on his blog
accommodation at this time.

Nice Review of Monetary Policy

I liked this review of monetary policy. Although I do not necessarily agree with the following:

Some Republicans want to eliminate the Fed’s dual mandate, so that it can only focus on inflation, not employment; I think that’s a horrible idea, and potentially terrible politics at a time of 9% unemployment. But it’s the kind of idea that belongs in the political arena.
I don't think changing the mandate to focus solely on inflation targeting would necessarily change the Fed's behavior. Under an inflation target the Fed will keep interest rates low to maintain a set inflation rate. Right now we are at that inflation rate.

Thoughts on the FOMC meeting

Here are some thoughts on the current FOMC meeting:

Tim Duy and Paul Krugman and Stephen Williamson

The GOP and the Fed

The GOP has decided to send a letter to Bernanke and the FOMC committee advising against further stimulus. You can read about it here and here.

In response to the GOP request, I believe the Fed should go forth with operation twist or QE3. Here's why:
1) The economy is in poor shape. Given every monetary policy rule (a rule saying interest rates should be set according to the output gap and inflation) the Fed has examined, interest rates should be zero (see Mankiw's response here). 

2) The GOP (and the rest of Congress for that matter) has no busy attempting to influence monetary policy. We've seen how well they have done with fiscal policy. Had Democrats and Republicans been able to work together and cement down policy over the next 5-10 years the economy would be in significant better shape. It is Congresses fault we are here, please don't spread that to the only entity that is able to promote growth.

3) A central banks ability to conduct effective monetary policy depends on their independence from the federal government. To prove they act independent of the federal government they should completely ignore this letter.

4) Critics of the Fed will point to the large injections of money and the risk of high inflation to the economy. Most economists agree, the risks have been subdued. Inflation is low (core inflation for August was 0.2% - annual rate of 2.4%) and the Fed has the tools to reverse inflation very quickly if it shows any signs of increasing. 

5) The Fed has a mandate to promote price stability, economic growth, and moderate interest rates. Their policies have been in accordance with their mandate. Even if you want to change the mandate (it has been proposed that the Fed focuses solely on inflation) this necessary change the course of action. 

6) The GOP seems concerned about the weak dollar. Clearly they have not looked at the recent data that shows exports are the only component of GDP that has been increasing ($350 billion since the beginning of 2009). I wonder why? 

7) Have the low interest rates caused U.S. households to take on more borrowing? Well there's a graph for that: 

Total consumer credit outstanding (blue line) has barely increased since the end of the recession. Total revolving credit (credit card debt - red line) continues to decrease. I'd say this is a good thing. People are borrowing in a secured way (cars and homes).

8) This quote is laughable given the actions of Congress:
Ultimately, the American economy is driven by the confidence of consumers and investors and the innovations of its workers. The American people have reason to be skeptical of the Federal Reserve vastly increasing its role in the economy if measurable outcomes cannot be demonstrated
Why don't you do something then. 

9) Here are more thoughts (Mark Thoma)