Sunday, 28 February 2010

Will creative accounting help to avoid the wrath of taxpayers?

It seems that the German (and possibly the French) governments are going to help Greece after all -- but not directly, but by insuring banks that buy Greek debt against possible losses. The Wall Street Journal broke the story first, and now the bloggosphere is buzzing with unconfirmed rumors. Bloomberg has an overview.
European politicians always wanted Greece to get a lot of solidarity, in terms of taxpayer euros -- they are very sensitive to Europe and the Euro looking bad. Problem was that the taxpayers in countries that didn't forge their accounts, didn't lie to the EU, and didn't borrow 13% of the GDP weren't thrilled to pay up. How do you explain to Irish civil servants whose wages have just been cut that they will have to cough up for the third world-levels of corruption and sheer unwillingness to pay taxes in Greece? Compared to that, loan guarantees via a state-owned bank look much better. There is no immediate transfer of resources, the whole thing is mildly complicated, and it can be done with an "alliance of the willing", instead of the EU as a whole. Of course, the result is exactly the same as if the taxpayers just sent a cheque to Athens -- the weaker (Mediterranean) members of the Euro now know that they can rely on the rest to help them out, Greece will use every excuse not to raise taxes and cut spending, and the cost is born fully by taxpayers in the countries with responsible policies. For those who read German, Harald Uhlig has a clever post on why none of the standard economic reasons for helping Greece hold much water over at Handelsblatt.
Personally, I think that White House head of staff Emanuel has it right. He said that "You never want a serious crisis to go waste." By not helping Greece, even at the cost of a messy default and exit from the Eurozone, the EU would make it clear to the other member states that they have to clean up their act. In particular, given that the EU is the wrong currency for Portugal and Spain as they are now, it would produce the pressure to reform labor markets and regulation so that competitiveness can be regained. Since devaluations are ruled out, it's the only way to go. If, on the other hand, France and Germany pay in the end for Greece's foibles, with a detour via KFW-Bank, I think the (already remote) chances of the right thing being done here instead go to zero. Before anything happens, we'll have to see if opponents see through the "it's only a loan guarantee" shenanigans.

Friday, 19 February 2010

Evil speculators attack...

and the Spanish government calls in the secret services. Honestly, I first thought I was reading Private Eye or The Onion when I saw the news headline "Spanish intelligence investigating market attacks". Apparently, the PM and his friends are so tired of bad news, bond market sell-offs of Spanish debt, and the IBEX market index declining that they have called in the men in the trenchcoats. They are there to investigate if there is a conspiracy against Spain, led by the Anglo-Saxon press and evil speculators. Apparently, yield spreads widening to a ~100 bp over Germany seems so inexplicable to the ruling party that the only explanation possible has to be a conspiracy. My sense is that the truly astonishing aberration has been that yield spreads ever got as small as they were in the runup to EMU and for some years afterwards. It was as if only currency risk mattered for bonds, and sovereign risk had disappeared. Debt dynamics depend crucially on the growth rate, and even without any of the fraudulent accounting trickery that Greece engaged in, you can produce a holy mess if your expected growth rate gets very low. Given that EMU was and is the wrong monetary standard to facilitate growth ine Spain, Greece, and Portugal, there is nothing strange about the bond market starting to worry. Periods of economic chaos and political angst create an atmosphere ripe for conspiracy theorists. Germans during the hyperinflation of the early 1920s could watch Fritz Lang's film "Dr. Mabuse", in which an evil genius manipulates the stock market, cheats at cards, ruins innocent maidens, and prints money. Every political class has a breaking point when it starts to ignore reality and switches to fantasy explanations of what they see and hear. Roland J. M. BĂ©nabou has a brilliant new paper on "groupthink" (non-technical summary is here), in which he tries to explain why reality denial can emerge under certain circumstances (and why it is perfectly rational for individual agents). I think it would make for better reading on Zapatero's desk than anything that the spooks can come up with.

Thursday, 18 February 2010

Everyone's a winner?

If you have to rank, rank often -- and everyone is a winner. Economics departments get ranked too, and everyone has a ranking they like. Not entirely by accident, it will probably show that your own place is doing well. Tilburg U runs one of the more respected exercises, and the results for 2005-08 are in. UPF Economics ranked 35th in the world (31st if you only look at top 5 journals); in Europe, we were 8th, behind LSE, Tilburg, Louvain, Oxford, Amsterdam, and Toulouse, but ahead of Cambridge, Tel Aviv, Bonn etc. The ranking only counts publications until 2008, and I am sure that 2009 will help us yet further.

Thursday, 11 February 2010

Spain keeps shrinking

Spain is much in the headlines these days. Markets worry about the PIGS (Portugal, Ireland, Greece, and Spain) not being able to meet their obligations. Paul Krugman has been pointing out that the cases are very different -- that Greece lied and cheated its way into EMU is well-known, as is the fact that its fiscal policies have been utterly irresponsible for as long as anyone can remember. Spain, on the other hand, had a surplus not that long ago, and its overall debt is still less than Germany's. The problem is not fiscal recklessness, but a massive real appreciation following EMU that left the economy largely uncompetitive on world markets. Institutions - labor market institutions in particular - are not up to dealing with this kind of problem, and the time-honored solution of the good old peseta days (devaluation) is no longer on the table. Now, news from the last quarter of 2009 shows that in contrast to almost all other OECD countries, Spain is still shrinking. I was particularly amused to see the folks over at Marketwatch reporting that
"Analysts at Capital Economics said Thursday's GDP data backs up the theory that a return to solid and unsustainable growth in Spain is unlikely anytime soon."
As typos go, this one is just wonderful. I am sure they meant sustainable, but... there is so much that was utterly unsustainable about the boom in the last 10 years that one doesn't even know where to start. Building houses that nobody wants to live in, at prices no-one is willing to pay, is my #1 on the list. It also sums up nicely the problem -- the old growth model post-1999 won't work, and there is not much of an alternative in sight. The government keeps saying R+D will pull Spain out of the crisis, but that is like Greece saying that a closer look at its national accounts show a massive surplus.
This relates to another of this week' highlights: Tim Kehoe was giving here on Tuesday, giving a talk at the Barcelona GSE about lessons from the Great Depressions of the 20th century for the Spanish financial crisis. He compared Chile to Mexico, and (not entirely surprisingly) blamed divergent fortunes on the ill tidings brought by wrong-footed government intervention in the latter. A case that is not in the book that he edited with Prescott, which I think could have provided a more appropriate analogy, is interwar Britain. Britain re-entered the gold standard in 1925 at an overvalued exchange rate, hoping that the currency regime would provide "discipline" for the last 10 percent of factor cost adjustment vis-a-vis the US. Instead, it got sub-par growth while everyone else enjoyed the roaring twenties... By Kehoe's reckoning, Spain's unit labor costs are now about 135% of their 2000 level, while Germany's are at 110%. While unions were powerful in interwar Britain, I am sure they are more powerful in Spain today. There is none of the grim determination to regain competitiveness that I saw in Germany over the last 20 years, after the reunification boom and debt orgy produced a sharp decline in competitiveness. My sense is that a lost decade or two for Spain are beginning to look more likely by the day. And who knows? When Tim Kehoe presents the Catalan edition of his book in a few years (he actually speaks Catalan), there may be a chapter in it on the Spanish depression of 2008-2018.

Friday, 5 February 2010

If it looks and smells like a bubble... it's probably garlic

Via the excellent Econbrowser blog comes this intriguing snippet of the garlic market in China (originally from the Washington Post).

Wholesale garlic prices in Beijing are now 15 times as high as in March, and still rising. Jerry Lou, a Morgan Stanley China strategist who has researched the opaque market here, said speculators-- fueled by the abundant liquidity sloshing around China-- have moved into the small market and strategically driven up prices. "You need a warehouse, a lot of cash and a few trucks. That's how it works," Lou said, describing garlic speculators' tools of the trade. "Basically, what you do is try to arrest as much supply as possible, then you bid up the price. Moving garlic from one warehouse to the other, you make millions of dollars."
As I will try to teach our students next term, telling a bubble apart from fundamentals-driven price increases can be really hard... until we take Charles Kindleberger's advice seriously, which is to look not at prices themselves, but at what motivates buyers. He essentially argued that if something is a. not very useful to you b. you only bought it because you think it will go up, there is a good chance that it's a bubble. Early finance models used to rule this kind of thing out with some quick and simple assumptions about arbitrageurs attacking the mispricing instantly, but we have gotten a lot better since - we can now write ever better models in which the Chinese garlic merchants can exist (and even make money). If I had to recommend just two papers, I would go for this and this.

The interesting thing is that garlic seems to stand pars pro toto for a lot of goods -- copper, aluminum, oil all seem to have been hoarded with the same intentions. Apparently, there are a lot of Chinese pig farmers who have been stockpiling copper and nickel. When oil was trading at $130, my friend and co-author Mauricio Drelichman asked me if I thought it was a bubble, and then - after some umming and ahhhing -- said yes, and put some money on it. If someone pressed me today, I would say the same about most industrial metals and oil. Given that a. the government stimulus effect is going to go down a lot very soon b. unemployment is not looking good c. much of the bounce in industrial output was restocking, I am not convinced that oil should be around twice of what it was a year ago...

Monday, 1 February 2010

Desert news

How weird is that? I had just arrived for my New Year's vac in Muscat, Oman. Having checked into my hotel after the 7 hour flight from Frankfurt, I popped open my laptop... and found an email by former ITFD student Joel Koczwarski, who requested a reference for a job in neighboring Abu Dhabi. I am happy to report that whatever I wrote must have been useful, as I recently got the news that he is off to work for Taleem EdisonLearning, inter alia advising on school reform in the Emirate. It's a tough labor market, and it makes me proud that our students are getting pretty interesting jobs in exotic locations. I hope he finds time for some hiking and diving!

Hate Radio and the Genocide

Job market season is in full swing, and faculty is getting treated to what feels like week after week of five-course meals in a pretty good restaurant. I am organizing part of the circus this year as chair of the recruiting committee, and so I, if you want to stretch the analogy, I guess I am a bit like the Maitre d'... One of my (and everyone's) favourites this year was David Yanagizawa from the IIES in Stockholm. His job market paper looks at what explains the extent of the Rwandan genocide. It's a grim topic (maybe that's why he doesn't look very cheerful on his website pic). In particular, David is interested in the extent to which reception of a particular Hutu hate ratio station made people more likely to participate in attacks on the Tutsi minority. He uses the implications of geography for radio reception as a source of variation. The chart from his JMP illustrates the point. If you are in the "shadow" of a moutain range, you will not receive the radio signal, but chances are that you are very similar in other ways to people on the other side of the mountain. David finds that, if you were on the wrong side of the mountain and didn't get reception, you were also much less likely to go out and wield a machete against your neighbours. Radio in his model acts as a co-ordination device, and lowers the threshold for engaging in violence. While one can pick many nits with the paper and (in particular) the model, I thought it was one of the most imaginative exercises I had seen in a long time -- interesting question, interesting source of variation, potentially important results.