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Political Economy: Dangers Ahead for the E.C.B.

February 3, 2013 by Leave a Comment

When governments in the euro zone agreed last year to give the European Central Bank the power to supervise their banks, that looked like another victory for Mario Draghi, president of the central bank. Now it is looking more like a poisoned chalice.

The E.C.B. will certainly get a large chunk of extra power. But it will also be blamed when banks run into trouble, as they inevitably will. Mr. Draghi is experiencing this firsthand after the recent scandal at Monte dei Paschi di Siena, a bank that has had to be rescued by the Italian state. He has been lambasted for failing to supervise the bank — one of Italy’s largest — properly when he ran the Bank of Italy, although the criticism seems overdone and has often come from his political opponents in Rome.

The potential risks that banking problems pose for the reputation of the E.C.B. are probably even bigger than they are for national central banks. This is because the E.C.B. does not yet have the full set of tools to do the job properly. Moreover, a huge amount is at stake as the E.C.B. is the most credible official institution in the euro zone. If its reputation becomes tarnished because of perceived supervisory failures, that could rub off on its ability to conduct monetary policy or manage crises effectively.

The Bank of Italy rejects the notion that it was guilty of supervisory lapses with Monte dei Paschi. It pointed out in a seven-page document last week the many regulatory actions that it has taken since it first became worried about the bank in the second half of 2009.

The bottom line is that Monte dei Paschi did not blow up, an event that could have set off new panic in the euro zone. The Bank of Italy deserves some credit for avoiding such a crisis. It eventually forced Monte dei Paschi to strengthen its weak liquidity and capital buffers, and to push for the management team to quit.

That said, the Italian central bank seems to have been slow to come to terms with Monte dei Paschi. For example, the bank took nearly a year to raise capital after it was told to. The Bank of Italy also waited more than a year before beginning a second in-depth inspection, even though it had found many problems in its 2010 inspection and discovered more problems after that.

There are mitigating factors: the management was hiding information and dragging its feet; the Bank of Italy did not have the power to kick out individual bankers; the euro crisis was getting worse for much of the period, making it harder to bring the damaged bank into a safe harbor; and Italy’s recent record on bank failures has been better than that of many other E.U. countries.

But such arguments may count for little if and when the E.C.B. faces similar problems with the banks on its watch. Indeed, its position could be worse because the political fudge that set up the euro zone’s “single supervisory mechanism” left some confusion over who was in charge. While the E.C.B. has overall responsibility for supervising the 6,000 banks in the euro zone, day-to-day responsibility will be left with the national supervisors.

This could prove troublesome. If a national supervisor like the Bank of Italy could not stay on top of Monte dei Paschi, how much harder will it be for the E.C.B., which is based in Frankfurt, to do so?

It may not be able to spot which banks are in difficulty. In some cases, national supervisors — who may be jealously guarding their fiefs — may not even pass on relevant information. But if a Greek or German bank gets in trouble in the future, the E.C.B. will not really be able to pass the buck.

The E.C.B.’s position as a supervisor will also be difficult because euro zone leaders have not completed the job of setting up a so-called banking union. The critical missing factor is that there is, so far, no “resolution authority.” Such a body would take control of failing banks and sell them off, break them up or wind them down in an orderly fashion.

The European Commission is working on a plan for such a body, but there is no political agreement yet on how it will operate. Until agreement is reached, the single supervisory mechanism is like a half-built bridge. Although the E.C.B. will be able to monitor banks, its powers will be limited if they get into trouble. It will not want to cause mayhem by closing down a big bank, but nor is supposed to keep ailing banks on life support with large injections of liquidity.

This problem is exacerbated by the fact that taxpayers still typically pay the bill when banks get into trouble. Talk of bailing in bondholders rather than bailing them out remains just talk. Witness the €3.7 billion, or $5 billion, rescue of SNS Reaal, the Dutch bank, last week.

Mr. Draghi may hope to avoid having future banking crises damage the E.C.B.’s reputation by having a so-called Chinese wall between the central bank’s supervisory and monetary policy arms. This would be a bit like what exists in the United States, where the Federal Reserve in Washington conducts monetary policy and its sister organization in New York supervises the big banks.

But such a setup would not totally insulate the E.C.B. from blame. Once the new supervisory mechanism is up and running, it may be worth reviewing whether it would be better to spin it off into a separate organization.

Hugo Dixon is editor at large of Reuters News.

Article source: http://www.nytimes.com/2013/02/04/business/global/04iht-dixon04.html?partner=rss&emc=rss

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E.U. Financial Ministers Clash Over Banking Supervisor Plan

December 4, 2012 by Leave a Comment

The union’s leaders agreed in June to create the single regulator under the aegis of the European Central Bank. Shortly afterward, the European Commission proposed phasing in the system starting Jan. 1.

But sharp divisions have emerged among member states over how many of the 6,000 banks in the euro area should be covered by the new system; how to ensure that countries outside the system have a way to rebuff regulations they dislike; and how to ensure that the central bank keeps monetary policy separate from its decisions on bank supervision.

As ministers struggled to reach agreement during their regular monthly meeting here Tuesday, Wolfgang Schäuble, the German finance minister, refused to support one of the key demands of Britain — far-reaching changes to voting procedures on another banking body, the European Banking Authority, to ensure that lenders based in London continue to be governed by the British government.

Mr. Schäuble also underlined his concerns that placing so much supervisory power with the E.C.B. could lead the central bank to compromise its decisions on monetary policy.

“In the long run, you will damage the independence of the central bank,” warned Mr. Schäuble, who added that solutions still needed to be found to address the issue.

As the public deliberations drew to a close, finance ministers planned to reconvene Dec. 12 in order to continue their discussions on the single banking supervisor.

Germany has warned repeatedly that rushing ahead with creation of the single supervisor would risk creating additional regulatory loopholes in Europe. And the German domestic banking sector, in particular local savings banks, or Sparkassen, has recoiled at the prospect of more rigorous supervision by the central bank.

“I think it would be very difficult to get an approval by the German Parliament if you would leave the supervision for all the German banks to European banking supervision,” Mr. Schäuble said. “Nobody believes that any European institution will be capable to supervise 6,000 banks in Europe.”

That is not the view of Spain and France, which have sought to speed up creation of the new regulator and give it a broad mandate, and Spanish and French ministers warned Tuesday that foot-dragging could prompt a return of acute financial pressures in the euro area.

“If we are not able to deliver in the dates we have committed, this will not be neutral in terms of the stability of the markets,” Luis de Guindos, the Spanish economy minister, warned during the meeting. That sentiment was echoed by Pierre Moscovici, the French finance minister, who told the meeting that establishing the system was “essential to solve the euro crisis.”

French officials have stressed the need for a system that covers all euro-area banks rather than placing them mainly under national regulation with only occasional intervention from the central supervisor when required.

They have warned that any sudden intervention by the E.C.B. into the affairs of a bank under national regulation could raise alarm among investors and depositors and even lead to bank runs.

For Spain, stricter supervision was supposed to be the condition for using European funds to bail out its troubled banks directly and a way to avoid accumulating more sovereign debt.

But Germany is the biggest contributor to the bailout funds, and establishing the system could oblige Chancellor Angela Merkel to dip into that pot before national elections in Germany in September. Such aid could be an election issue because German citizens have grown weary of paying most of the bill for bailouts, and they are wary of using more money to help banks in vulnerable Southern European countries.

Article source: http://www.nytimes.com/2012/12/05/business/global/daily-euro-zone-watch.html?partner=rss&emc=rss

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Economix Blog: A Critique of Fed Policy

August 31, 2012 by Leave a Comment

Many economists regard asset purchases as the most powerful tool the Federal Reserve could use to stimulate the economy. But Michael Woodford, an economics professor at Columbia University, argued Friday that a second option would actually be much more effective – both because it would have significant economic benefits, and because the benefits of asset purchases are significantly overstated.

The option favored by Professor Woodford is a modified version of the Fed’s statement that it intends to keep interest rates near zero until late 2014. In a paper presented at the annual monetary policy conference in Jackson Hole, Wyo., he said that the Fed should instead declare its intention to hold down interest rates until the economy meets certain benchmarks, like a specified increase in economic output. In other words, to increase growth now, the Fed must promise to tolerate higher inflation later.

The Fed’s chairman, Ben S. Bernanke, has repeatedly resisted similar ideas, but in a separate speech at the conference earlier on Friday, he appeared to suggest a greater receptivity.

The core of Professor Woodford’s argument is that changes in Fed policy can happen for two reasons: either its economic outlook changes, or the Fed decides to change the way that it responds to a given economic outlook – in other words, a change in strategy, or in circumstances.

The Fed has described its forecasts as reflecting a change in circumstances, not strategy. It has said that it is simply describing the way that it is most likely to act if the economy slogs along at the pace it presently predicts.

Professor Woodford writes that this is at best ineffective and potentially even damaging. It can be described as an effort to push down interest rates by convincing investors that the economy will remain weaker for longer than they had previously believed. But investors may not regard the Fed as having better information about the economic future. And if they do take it seriously, the implications are negative: The situation is worse than they thought, while the planned response is unchanged.

“Forward guidance of this kind would have a perverse effect, and be worse that not commenting on the outlook for future interest rates at all,” he said.

What can work, he writes, is promising to behave differently. In the current situation, where the Fed would push rates below zero if it could, he argues that the proper response is to promise that it will refrain from raising interest rates above zero as quickly as circumstances would otherwise warrant.

“One wants people to understand,” Professor Woodford writes, “that the central bank’s policy will be history-dependent in a particular way — it will behave differently than it usually would, under the conditions prevailing later, simply because of the binding constraint in the past.”

Charles Evans, president of the Federal Reserve Bank of Chicago, has embraced a version of this approach, arguing that the Fed should maintain interest rates near zero until the unemployment rate falls below 7 percent or the rate of inflation rises above 3 percent. Professor Woodford says this would be an “important improvement,” but he prefers a different approach, tying Fed policy instead to a minimum rate of growth in the nominal gross domestic product (N.G.D.P.), meaning economic growth plus inflation.

Christina D. Romer, former chairwoman of President Obama’s Council of Economic Advisers, has explained the virtues of N.G.D.P. targeting.

Mr. Bernanke has generally resisted proposals for the Fed to shift its policy framework – and he has specifically branded as “reckless” ideas that would raise the Fed’s inflation target, like N.G.D.P. targeting.

But he has also said that in periods of high unemployment the Fed sometimes should move more slowly to restrain rising inflation, and in his speech Friday he appeared to underscore that the Fed, at least in part, is trying to tell markets it plans to move more slowly.

He began with his usual description of the Fed’s policy forecast as consistent with its standard decision-making framework. But he added that “a number of considerations also argue for planning to keep rates low for a longer time than implied by policy rules developed during more normal periods.”

Mr. Bernanke then made the further claim that the Fed was already sending this signal to markets, and that it was being received.

He noted in particular that a regular survey of economic forecasters has documented a steady drop in their estimate of how low unemployment must fall before the Fed’s policy-making group, the Federal Open Market Committee, begins to withdraw its stimulus.

The evidence, he said, “appears to reflect a growing appreciation of how forceful the F.O.M.C. intends to be in supporting a sustainable recovery.”

Article source: http://economix.blogs.nytimes.com/2012/08/31/a-critique-of-fed-policy/?partner=rss&emc=rss

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Australian Central Bank Signals It Is Open to Rate Cut

October 4, 2011 by Leave a Comment

The Reserve Bank of Australia left its key interest unchanged at 4.75 percent at its policy meeting and retained a balanced, sanguine assessment of the impact that the troubles in Europe and the United States will have on other parts of the world.

“Thus far, indications are that economic activity is continuing to expand in China and most of Asia,” Glenn Stevens, the governor of the bank, said in a statement
.

Nonetheless, global markets continued to be “very unsettled,” and global growth prospects have weakened, he said.

This, Mr. Stevens noted, also has also reduced inflation pressures within Australia, which could “increase the scope for monetary policy to provide some support to demand, should that prove necessary.”

That comment was widely interpreted by analysts as a subtle, but significant, shift in the stance of the Australian central bank.

The central bank has kept interest rates unchanged for nearly a year now, after a succession of rate increases in late 2009 and 2010, as the country’s economy recovered from the global turmoil set off by the collapse of Lehman Brothers in September 2008.

The “half-signal” that the central bank is open to easing monetary policy does not indicate that the Reserve Bank of Australia currently sees “an urgent or potential need to relax policy conditions yet,” commented Joseph Lau, a regional economist at Société Générale in Hong Kong.

But, he added, “this is the first indication that R.B.A. was willing to respond to a weaker growth trend, and not just as an emergency response to an external shock.”

The shift in the central bank’s stance highlighted the fact that economies in the Asia-Pacific region are beginning to feel the effects of the financial woes in other parts of the world.

The global uncertainty has prompted central banks across much of the region to keep interest on hold in recent weeks, rather than raising them further. And although Asia’s economies remain robust — and generally less indebted — than those in the West, the pace of growth has slowed.

Asian stock markets, meanwhile, have been dragged down by the global nervousness. In Luxembourg, the finance ministers made it clear early Tuesday that Greece was now unlikely to receive €8 billion, or $10.6 billion, before November, putting pressure on Greece to carry out reforms.

“Both business sentiment and financial markets currently stand at a pivotal point, with investors wondering whether the near-term outlook is for a rebound similar to 2010 or a dangerous spiral of 2008,” analysts at Barclays Capital said in a research note on Tuesday.

After sharp falls on Monday, most stock markets in Asia saw milder declines Tuesday. In Japan, the Nikkei 225 closed 1.1 percent lower. The benchmark index in Australia slipped 0.6 percent.

The Kospi in South Korea, playing catch-up after a holiday, plunged 3.6 percent.

In Singapore, the Straits Times index was 1.5 percent lower by midafternoon, and the Hang Seng slipped 0.7 percent. Mainland Chinese markets are closed this week for holidays.

Article source: http://www.nytimes.com/2011/10/05/business/global/australian-central-bank-signals-it-is-open-to-rate-cut.html?partner=rss&emc=rss

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High & Low Finance: Inevitability of a Default in Greece

May 7, 2011 by Leave a Comment

“It would have a tremendous cost, with no benefit,” the minister, George Papaconstantinou, said in an interview on Greek television. “Greece would be out of markets for 10, 15 years.”

To financial markets, and to many other observers, it is more than thinkable. It is very close to a sure thing. When, how, and how messy it will be are open to question.

It was just a year ago this weekend that Europe bailed out Greece, amid much self-congratulatory talk. Olli Rehn, the European commissioner for monetary policy, said the move was “particularly crucial for countries under speculative attacks in recent weeks,” a reference to Spain and Portugal.

Markets — described by Anders Borg, Sweden’s finance minister, as “wolf packs” — returned to their lairs on the Monday after the bailout. The yield on three-year Greek government bonds plunged to 7.7 percent from 17.5 percent, as the price of such bonds soared 28 percent in a single day.

And how have things gone since then? Just fine in Germany, where growth is accelerating and unemployment is lower than at any time since German unification. The European Central Bank is even raising interest rates to curb inflation there. It’s going more or less acceptably in France and Italy, each of which recorded G.D.P. growth of 1.5 percent in 2010, well below Germany’s 4.0 percent. But it’s not going well at all in the country that supposedly was rescued. Greece’s economy shrank 6.6 percent, far more than the 1.9 percent decline in 2009.

The market wolves are howling again. The yield on Greek three-year bonds is more than 23 percent, not that anyone thinks that yield will really be received. The yields on similar Portuguese and Irish bonds have also soared into double digits. Investors are a little more skittish about Spanish and Italian bonds than they had been, but there is no sense of impending disaster.

Longer-term rates on Portuguese debt did slide a little this week after a tentative agreement on a bailout, but they remain at levels that show widespread doubts about the country’s ability to pay.

The trading patterns of Greek bonds indicate that traders expect a restructuring, and they think it will be messy.

That yields are as low as they are — if you can call 23 percent low — is a reflection of the fact that the bailout has been going on below the surface. The European Central Bank has been lending money to Greek banks, accepting Greek bonds as collateral on loans to other banks, and even buying bonds.

Keeping up the fiction that all will somehow be well if we just wait has its own disadvantages.

“Delays in restructurings are costly,” Alessandro Leipold, the chief economist of the Lisbon Council, a Brussels-based research group, and a former official of the International Monetary Fund, wrote in a paper this week. He warned that the longer the inevitable was delayed, the more potential economic production would be lost and the greater the amount of good money that would be thrown after bad in the form of ever larger bailouts. Ultimately, he said, the result would be larger losses for bondholders.

“The real problem is capital shortfalls in European banks,” said Whitney Debevoise, a partner in Arnold Porter and a former executive director of the World Bank, who has been involved as a lawyer for countries and creditors in several restructurings. Until the banks have more capital, forcing them to admit to losses would be problematic, to put it mildly.

Stalling has worked before. In the early 1980s, major American banks could not afford to admit that they had lost huge sums in the Latin American debt crisis. “There was,” Mr. Debevoise said in an interview, “a five-year period of temporizing while Citibank and other banks rebuilt capital.” Finally, there was a debt restructuring and the banks admitted to their losses.

Currently, some European banks would probably be hard pressed to take losses, a group that may include some of the German landesbanks, which are generally owned by state governments and are badly in need of new capital.

The European Central Bank itself would hate to report losses, which is one reason that the first Greek restructuring, when it comes, may avoid forcing bondholders to accept “haircuts,” or reductions in principal. Instead, cutting interest rates and postponing maturities could allow the central bank to pretend it had not lost money. Eventually, however, haircuts seem inevitable.

Although there have been plenty of defaults and restructurings by national governments in recent decades — a partial list includes Argentina, Brazil, Uruguay, Russia, Ukraine, Pakistan and Ecuador — there is no agreement on the way to arrange a restructuring. Nearly a decade ago, the I.M.F. tried to put together what it called a “sovereign debt restructuring mechanism,” a sort of international bankruptcy law. The effort collapsed.

As a result, restructurings can be messy. Some bondholders can try to hold out on approving a plan, hoping they will be paid more than those who agree. Lawsuits will be filed.

Article source: http://feeds.nytimes.com/click.phdo?i=96e24c4c6b04b3d11b81d6149732845d

Filed Under: Economy News Tagged With: , ,

Economix: How Bernanke Answered Your Questions

April 28, 2011 by Leave a Comment

Open Market
In the Chicago trading pits during the news conference.Frank Polich/Reuters In the Chicago trading pits during the news conference.

Before Ben S. Bernanke, the Federal Reserve chairman, took questions from the media Wednesday, I took questions from you. I got to ask only one question at the news conference — I asked why the Fed was not doing more to reduce unemployment — but many of your other questions were also answered in some form by Mr. Bernanke.

Here are some of your questions, and the answers that he gave. (A video of the briefing is available on the Fed’s Web site.)

Q. Since both housing and unemployment have not recovered sufficiently, why are you not instantly embarking on QE3? — Michael A. Kamperman, Waco, Tex.

Mr. Bernanke: “Going forward, we’ll have to continue to make judgments about whether additional steps are warranted, but as we do so, we have to keep in mind that we do have a dual mandate, that we do have to worry about both the rate of growth but also the inflation rate…

“The trade-offs are getting — are getting less attractive at this point. Inflation has gotten higher. Inflation expectations are a bit higher. It’s not clear that we can get substantial improvements in payrolls without some additional inflation risk. And in my view, if we’re going to have success in creating a long-run, sustainable recovery with lots of job growth, we’ve got to keep inflation under control. So we’ve got to look at both of those — both parts of the mandate as we — as we choose policy.”

Q. The stated mission of the Fed is to “conduct the nation’s monetary policy by influencing the monetary and credit conditions in the economy in pursuit of maximum employment, stable prices, and moderate long-term interest rates.” Is there a hierarchy in that list? If not, how would the chairman explain the lack of more stimulative activity with such high underemployment in the face of persistent low inflation? — Josh, Boston

Mr. Bernanke: “I think that even purely from an employment perspective, that if inflation were to become unmoored and inflation expectations were to rise significantly, that the cost of that in terms of employment loss in the future, as we had to respond to that, would be quite significant.”

Q. Long rates have risen since the announcement of QE2 and the continuation of the Fed’s zero interest rate policy. The steeper yield curve has seemed to inhibit real economic activity, while stimulating speculative action in stocks and commodities. Have the policy actions of the Fed backfired? — Tom Brakke, Excelsior, Minn.

Mr. Bernanke: “Well, first, I do believe that the second round of securities purchases was effective. We saw that first in the financial markets. The way monetary policy always works is by easing financial conditions. And we saw increases in stock prices. We saw reduced spreads in credit markets. We saw reduced volatility …

“You would expect, based on decades of experience, that easing financial conditions would lead to better economic conditions. And I think the evidence is consistent with that as well…

“Now the conclusion therefore that the second round of securities purchases was ineffective could only be validated if one thought that this step was a panacea, that is was going to solve all the problems and return us to full employment overnight. We were very clear from the beginning that — while we thought this was an important step and that it was at an important time when we were all worried about a double dip and we were worried about deflation, we were very clear that this was not going to be a panacea, that it was only going to turn the economy in the right direction.”

Q. When can we expect to see a rise in interest rates? — SMM, Monterey, Calif.

Mr. Bernanke: “I don’t know exactly how long it will be before a tightening process begins… ‘Extended period’ suggests that there would be a couple of meetings probably before action. But unfortunately the reason we use this vaguer terminology is that we don’t know with certainty how quickly response will be required and, therefore, we will do our best to communicate changes, in our view, as — but that will depend entirely on how the economy evolves.”

Q. Why the Fed has evidently failed in restraining the inflationary trend in the economy? If the Fed has any policy to protect senior citizens on fixed income from continuing rising prices of food, gas, energy and services, etc.? — Daniel Farooq, Streamwood, Ill.

Mr. Bernanke: “There’s not much that the Federal Reserve can do about gas prices per se, at least not without derailing growth entirely, which is certainly not the right way to go. After all, the Fed can’t create more oil. We don’t control the growth rates of emerging market economies. What we can do is basically try to keep higher gas prices from passing into other prices and wages throughout the economy and creating a broader inflation, which would be much more difficult to extinguish.

“Again, our view is that most likely — and of course we don’t know for sure, but we’ll be watching it carefully — our view is that gas prices will not continue to rise at the recent pace, and as they stabilize or even come down, if the situation stabilizes in the Middle East, that that will provide some relief on the inflation front.”

Q. The dollar has been steadily losing its value, vis-a-vis other currencies. In your estimation, is this trend beneficial to the U.S. economy? — AM, New York

Mr. Bernanke: “We do believe that a strong and stable dollar is in the interest of the United States and is in the interest of the global economy. Our view is that the best thing we can do for the dollar is first to keep the purchasing power of the dollar strong by keeping inflation low and by creating a stronger economy through policies which support the recovery, and therefore cause more capital inflows to the United States.”

Q. How could the Federal Reserve be more transparent with their decisions that affect the economy? — Nicolas Tanguay-Leduc, Ottawa

Mr. Bernanke: “Well, the Federal Reserve has been looking for ways to increase its transparency now for many years, and we’ve made a lot of progress. It used to be that the mystique of central banking was all about not letting anybody know what you were doing. As recently as 1994, the Federal Reserve didn’t even tell the public when it changed the target for the federal funds rate.

“Since then, we have taken a number of steps… We now provide quarterly projections, including long-run objectives, as well as near-term outlook. We have substantial means of communicating through speeches, testimony and the like. And so we have become, I think, a very — a very transparent central bank. That being said, we had a subcommittee headed by the vice chair of the board, Janet Yellin, looking for yet additional steps to take to provide additional transparency.”

“We’re not — we’re not done. We’re continuing to look for additional things that we can do to be more transparent and more accountable. But we think this is the right way to go.”

Article source: http://feeds.nytimes.com/click.phdo?i=fa0cde9d3c60660afd12890524b28f0b

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