Opinion

The Great Debate

Savers shoulder the inevitable burden of bad loans

Britain’s new coalition government likes to remind voters we are all in this together. The phrase is rather glib. But in an important sense savers and borrowers around the world are finding the costs of reckless lending are falling on the innocent and guilty alike.

Few people this century will have experienced what it is like to turn up at their bank and be told they cannot withdraw deposited funds because the bank has “suspended” payments.

Suspension sounds harmless. But before the spread of deposit insurance, the word was enough to strike fear into the hearts of depositors, who risked losing much if not all their life savings, and being made to wait months or years for access to what remained.

Between 1930 and 1933, more than 9,000 banks across the United States were “suspended”, accounting for $6.9 billion or 15 percent of all deposits in the country, according to official figures. Behind those numbers are tales of misery for families, farmers and small businesses suddenly left without funds when their bank was suspended or collapsed forever.

So terrible was it, that even the threat of suspension could produce long lines of anxious depositors outside institutions trying to withdraw cash before the tellers closed their windows. In 1907, long lines marshaled by police formed outside the doors of the Knickerbocker Trust Company on New York’s Fifth Avenue as the depositors (“mostly small shopkeepers, mechanics and clerks”) tried to pre-empt suspension.

Fed launches QE-lite

In a compromise, the Federal Open Market Committee (FOMC) has approved a cautious and conservative second round of quantitative easing (QE2) which may satisfy nobody but should prevent internal splits from widening.

It is designed to provide some marginal stimulus to asset markets and economic recovery without further undermining the confidence of foreign investors.

The best way to characterize the $600 billion bond-buying program implemented over eight months is “QE-lite”. The total is slightly higher than expected, but spread over a slightly longer period. The Fed has done almost exactly what it signaled over the last few weeks — no more (there was no “shock and awe”) and no less.

Fed is split but QE2 looks a done deal

- The opinions expressed are the author’s own-

FOMC meetings are usually a strange combination of formality and easy-going familiarity but levity may be in short supply this week. The Fed’s institutional credibility is on the line, and the normal decorum that characterizes relations among committee members has become increasingly strained over the summer.

Divisions between proponents and opponents of a second round of quantitative easing (QE2) have been on display as never before. It is not clear what members will say to one another to fill two days since all the arguments have already been rehearsed in detail and in public over the last six weeks.

In a thinly veiled swipe at his colleagues, Kansas City Fed President Thomas Hoenig has stumped around his patch on the Great Plains denouncing QE as a “dangerous gamble” and “a bargain with the devil”.

Central banks face crisis of confidence

Central banks around the world are facing the worst crisis of confidence since the 1930s, as investors, households and firms question their commitment and ability to deliver price stability.

Whether it is inflation or deflation, outsiders question whether the major central banks will be able to regulate prices in the next few years.

TOO HOT ….
Bank of England Chief Economist Spencer Dale last week lashed out at what he branded “dangerous talk” the Bank had gone soft on inflation and was choosing to ignore price increases persistently above the target.

Uncertainty, distributions and fat-tails

In a thoughtful article published this week in the Financial Times, PIMCO Chief Executive Mohamed El-Erian and Columbia Economics Professor Richard Clarida explore the implications of a shift in the shape of investors’ and policymakers’ expectations about the future.

“It seems that, wherever we look, the snapshot for ‘consensus expectations’ has shifted: from traditional bell-shaped curves — with a high likelihood mean and thin tails (indicating most economists have similar expectations) — to a much flatter distribution of outcomes with fatter tails (where opinion is divided and expectations vary considerably).”

They do not go quite as far as Bank of England policymaker Adam Posen, who suggested in a recent speech that the distribution of outcomes has inverted and become U-shaped. But their focus on a bell-curve with fatter tails agrees with Federal Reserve Chairman Ben Bernanke’s characterisation of the economic outlook as “unusually uncertain” at present.

Locking up bank reserves is wrong policy focus

– John Kemp is a Reuters columnist. The views expressed are his own. —

Plotting an exit strategy and shrinking the Federal Reserve’s balance sheet has become a hot topic as policymakers try to underscore their commitment to price stability and markets ponder the risk of inflation.

But micro-managing the reserve base is a curiously inadequate way to respond to medium-term concerns about inflation. Interest rates (the cost of credit) and supervision (leverage) are broader, more appropriate tools.

Sluggish investment will hamper recovery

– John Kemp is a Reuters columnist. The views expressed are his own –

Unable to rely on the wounded consumer, the outlook for U.S. growth in the next three years depends on business investment and exports to take up the slack when stimulus programmes wind down.
Ultra-low interest rates will help. But with the economy struggling to work off a huge overhang of unused real estate assets, and not much sign of investment elsewhere, investment spending is set to remain sluggish, condemning the economy to a weak recovery in the medium term.

Federal Reserve Chairman Ben Bernanke and other senior U.S. officials have already warned the rest of the world can no longer rely on over-indebted U.S. consumers as the principal source of global growth. There is no choice but to rely on investment and exports to take up more of the burden.

There’s no way to hedge politics

Ben Bernanke in peril and the Volcker crackdown on proprietary trading by banks show two truths of the current dispensation: there is no effective hedge against politics and the reflation trade rests on fragile foundations.

Neither of these realities is particularly good for financial markets and neither is going away any time soon.

Both, too, are utterly related not just to each other, but to the Senate election in Massachusetts which installed a Republican into what had been a Kennedy seat, in the process terrifying Democrats who fear they will be sunk by association with a set of policies perceived to be favoring Wall Street.

Bernanke’s fearful asymmetry

saft2.jpg – James Saft is a Reuters columnist. The opinions expressed are his own —

Ben Bernanke may minimize the role of monetary policy in the housing debacle, but he minimizes two key factors: the effect of low rates and the Fed’s policy of cleaning up after but not popping bubbles had on risk-taking.

In what amounts to a defense of his own and Alan Greenspan’s legacy, Bernanke maintains that low interest rates didn’t cause the bubble, which he says required a regulatory rather than monetary solution.

from Commentaries:

Time for the Fed to stand up to its critics

John M. Berry is a guest columnist who has covered the economy for four decades for the Washington Post and other publications.

By John M. Berry

Financial crises and the policies to deal with them top the agenda at the Kansas City Fed's Jackson Hole conference. But what is actually going to be on everyone's mind at the august gathering is the uncertain future of the Federal Reserve itself.

Many members of Congress want to clip the Fed's wings for failing to prevent the crisis and for its actions since the meltdown began two years ago. In particular, most are angry about government bailouts, starting with the $29 billion in Fed backing for the purchase of Bear Stearns by JPMorgan Chase.

  •