The most biting critique of the plan is likely to be that it failed to disrupt the political influence of the banks

From Free Exchange:

"Did the Obama banking plan fail?

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Economist.com | WASHINGTON

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Financial markets

EZRA KLEIN notes the quiet demise of the PPIP legacy asset plan and asks an important question—has the Obama administration's banking plan failed? Mr Klein suggests it has, noting that 1) PPIP was meant to discover the prices of the so-called toxic assets, and it hasn't, and 2) even if PPIP didn't discover asset prices it was meant, in combination with the stress tests, to reveal definitively which banks were insolvent, and it hasn't. True, we still have the stress test results, he says, but the adverse scenario in those tests included an unemployment rate of 8.9%, which we've already jumped through. Given that we know neither the value of the assets or the solvency of banks, it seems clear to Mr Klein that the banking plan has failed.

Here's something on which we can agree—insomuch as the goal of the banking plan was to determine the value of toxic-assets and determine definitively which banks were solvent, the banking plan has failed. But that doesn't tell us very much. We didn't want to know the value of the assets or the solvency of banks just because; that information was presumably important for some other reason, namely, it was viewed as crucial to the stabilisation of the banking system to learn one or both of these variables.

And in that sense, I think there are a number of ways in which the administration's plan has succeeded, if only by luck, and some other ways in which it is too early to tell, but no meaningful ways in which it can be said that the strategy has failed.

How has it succeeded? Well, it has generated, or coexisted with, or managed not to derail the calming of interbank lending markets, all without requiring the hundreds of millions of additional bail-out dollars that were widely deemed necessary for the task. It's not easy to lay sole responsibility for this at the administration's feet—both the Federal Reserve and the natural trajectory of the recession (particularly stability in equity markets) helped significantly—but the administration absolutely had the ability to err in ways that would have kept markets in crisis mode. They didn't, which must be judged as a success.

How else did the administration succeed? The Fed and the Treasury managed to provide the market with meaningful information about the absolute and relative status of financial institutions without blowing anything up. There are a lot of things we don't know, but there are some important things that we do know, with certainty, as a result. We know which banks are really and truly healthy. We know which banks might not be, but we also know that the Obama administration is committed to assisting them in ways that will not disrupt markets. And we know which firms have some serious issues, and that the administration isn't afraid to move toward back-door nationalisation in those cases. This, again, must be judged as success.

There are matters on which the jury is still out. We don't yet know whether predicted loan losses are optimistic or whether banking stability is likely to stick, but that would have been an issue with any solution to the banking crisis. A Swedish-style intervention would not have eliminated the possibility that a deeper-than-expected recession would have caused the government's bill to explode, potentially destabilising financial markets or the broader economy. It might also have caused market disruption immediately upon its intervention. It's difficult to know how this will play out, but impossible to declare failure at this point.

Other questions remain open. Will the administration's plan ultimately lead to the reduced effectiveness of financial markets, thanks to moral hazard concerns or excess debt or some other factor? Possibly, but we can't know now, and these questions would apply to alternative policy choices. Did the administration fail by selling stimulus before a banking rescue, thereby expending political capital and limiting the aggressiveness with which it could take on the banking system? Back in March I might have said yes; now I would say no, but not until the recession is long over will we be able to assess this properly.

The most biting critique of the plan is likely to be that it failed to disrupt the political influence of the banks, thus ensuring that forthcoming regulatory measures are too weak. We can't rule on this until the regulatory reform package is in, but it's also difficult to say anything given the recursively determined nature of the question. In other words, given a Congress captured by banking interests, how free a hand did the administration have to smash banking interests as part of a banking rescue? The administration might have failed to rein in the bankers via nationalisation, but only because the bankers could apply pressure on legislators to deny the administration the authority to nationalise.

I can understand giving the administration's banking strategy a number of different marks depending on what kind of curve one is using (that is, how one weighs political constraints and the influence of outside factors), but the one grade it should not receive is an F. At worst, Barack Obama and Tim Geithner have earned themselves Incompletes."

Me:

Don the libertarian Democrat wrote:

June 8, 2009 21:09

Has Richard Posner started posting here? All of a sudden, Free Exchange is like a ticker tape. Actually, what's impressive with Posner is not so much the number of posts, but their length. Each post is an essay.

"1) PPIP was meant to discover the prices of the so-called toxic assets"

What this means is discover the price at which buyers and sellers can agree. It was an attempt to close to the gap between bid and ask through a subsidy, not open Pandora's Box or Schrodinger's Box, say, discovering a hitherto unknowable question. The problem now is simple: The sellers are more inclined to hold onto the assets. Since the economy seems to be stabilizing, and the stress test are now basically seen as a government guarantee, the price on the TAs has gone up. However, the buyers, hedge funds, for example, aren't inclined to up their price, even with the subsidy. And this answers:

"2) even if PPIP didn't discover asset prices it was meant, in combination with the stress tests, to reveal definitively which banks were insolvent, and it hasn't."

On the contrary, it has given the government guarantee of these banks the seal of approval. That's why the banks themselves are less inclined to sell, and more inclined to buy.

By the way, this reaction signals inflation, and so it does add credence to QE, if you believe, as I do, that QE, in order to work, needs to lead to a real perception of inflation down the road. I seem to be agreeing with Bernanke and Geithner, at least on this.

we view this report as supportive of the need for a prolonged period of loose monetary policy from the Riksbank

TO BE NOTED: From Alphaville:

"Staggered by Sweden Posted by Izabella Kaminska on May 29 10:37.

Here are some key statistical points regarding Sweden’s record GDP contraction of 6.5 per cent on the year in the first quarter, as handily compiled by Reuters:
- The contraction was the worst since the statistics office began publishing seasonally adjusted quarterly data in 1993, eclipsing the previous record fall set in the fourth quarter.

- The quarterly decline in GDP in the final three months of last year was revised to a fall of 5.0 percent from a 2.4 percent decline.

- Household consumption expenditures decreased by 3.0 percent, while general government consumption expenditures increased by 2.3 percent.

- Changes in inventories amounted to a negative GDP change of 1.2 percentage points.

- Gross fixed capital formation decreased by 14.3 percent.

- Exports decreased by 16.2 percent and imports by 14.8 percent.

- Industrial production decreased by 9.0 percent.

- Total employment, measured as the number of hours worked, decreased by 1.5 percent while the number of the employed decreased by 1.2 percent.

Those keen to interpret the results more positively might be inclined to direct one’s attention to the quarter on quarter contraction of 0.9 per cent, which according to Barcap came in better than consensus.

However, the analysts say what’s really worth highlighting are the “staggering” revisions to the Swedish GDP back data. Fourth quarter 2008 GDP was revised down from -2.4 per cent q/q to -5.0 per cent q/q. That is indeed quite a staggering amendment, which not only negatively impacts Friday’s Q1 reading, but implies potentially substantial amendments to follow to the Q1 data too. As Barcap explain:

As a result, we calculate that despite the upside news on the Q1 reading, the level of GDP is now around 0.7% lower than implied by the Riksbank’s forecasts, i.e. on balance, this report is net downside news for the Riksbank’s consideration of resource utilisation/output gap (something which is gaining increasing focus in the Riksbank). Nonetheless, the sheer magnitude of the revisions to the back data in this report aptly illustrates the degree of caution with which the first cut of Swedish GDP data need to be treated, and so we do not rule out subsequent substantial revisions to the Q1 readings.

One of the key areas to be revised in Q4, meanwhile, appears to be that of the investment. As BarCap note:

Detail: There are several underlying causes of the revisions to the Q4 GDP headline reading. While the consumption data (both private and government) were only modestly revised, there are large revisions to the estimates of investment (-3.0% q/q, versus a previously reported -0.2% q/q), exports (-6.2% q/q, versus a previously reported -3.8% q/q) and imports (-5.4% q/q, versus a previously reported -2.9% q/q).

They conclude (our emphasis):
Overall, therefore, while the more moderate pace of decline in Q1 (assuming the latest data to be reliable) is clearly a welcome development, we view this report as supportive of the need for a prolonged period of loose monetary policy from the Riksbank. The Riksbank’s newly-developed resource utilisation indicator will almost necessarily be pulled lower by these figures, which will therefore push the Executive Board ever closer to QE.

Related links:
Nattliv - Youtube
Is Eastern Europe on the edge again? - FT Alphaville

This entry was posted by Izabella Kaminska on Friday, May 29th, 2009 at 10:37 and is filed under Capital markets. Tagged with gdp, quantative easing, sweden."

when, if at all, carry trading would return as per function of declining volatility and appreciation of risky assets

TO BE NOTED: From A Fistful Of Euros:

"Japanese Housewives Back in the Game? by Claus Vistesen

I am sure all those deadly serious investors, analysts, and commentators we hear so much from have been hard at it of late, trying to keep track of the broadest possible range of indicators in an attempt to to discern whether all those shoots of green would continue sprout, or whether what we have been seeing was merely a blip on the horizon of what may well be a very long recession. Clearly, what we have been seeing in the economic data does now seem to be a bit more than a mere blip, although what actually happens next may well take many of the consensus analysts completely by surprise.

Interestingly we have been getting some pretty clear signals of late, and from one of the “usual suspects”, that something somewhere may well be changing. I am of course talking about the recent Bloomberg report (also here) that Japanese housewives are once again making their presence felt in currency markets by playing the carry wheel.

Individual investors in Japan increased bets to the most in six months that the yen will weaken as the economy stabilizes, jumping back into a trade that was all but wiped out last year.

Businessmen, housewives and pensioners held 153,326 margin contracts at the end of last month that will make money if the yen declines against currencies ranging from the euro to the Australian and New Zealand dollars, according to the Tokyo Financial Exchange. All told, they may have as much as $125 billion in yen so-called short positions, RBC Capital Markets strategists said. “Investors believe the worst of the global recession is over and higher-yielding currencies are bottoming out,” said Yoshisada Ishide, who oversees $1.8 billion as a Tokyo-based fund manager at Daiwa SB Investments Ltd., a unit of Japan’s second-biggest investment bank.

Now, I have had my eyes on the Japanese housewives on more than one occasion (especially here) because I think that the tendency of Japanese retail investors to scour the global economy for yield runs a bit deeper than a simple carry trade play. Well, it is of course a carry trade but the underlying impetus for Japanese retail investors to act as they do also has something to do with a decline in home bias due to a low domestic interest rate environment as a result of demographics and subsequent sluggish domestic demand. The point is simply that one of the only ways Japan can achieve sustained is to mobilize its large stock of savings and, more importantly, to mobilize it abroad (e.g. through the purchase of samurais) in order to get the yield which is not obtainable in the domestic capital markets.

In the current environment of financial crises, great depressions, and credit crunches Ms Watanabe et al. have of course, in line with most other risky asset punters, been pulling back their fangs. However, with the recent narrative of green shoots and second derivatives it was also always going to be the question of when, if at all, carry trading would return as per function of declining volatility and appreciation of risky assets. As I have suggested lately, tentative signs have emerged that carry trading activity has slowly been coming back.

Now, it can be debated whether the apparent return of the Japanese housewives to the carry trough represents evidence of a solidification of the green shoots or, as a friend suggested to me, a contrarian indicator that things will soon hit the fan again. This particular friend of mine is an investor, so you are probably better off listening to him than me. There is also the small question of the targets for Ms. Watanabe’s allure in the form of the usual, OECD, suspects such as the Kiwi, the Aussie, and the Euro.

Looking at the chart to the right the recent three months which have been marked heavily by the green shoots discouse, it is quite obvious to see that the JPY has depreciated accross the board against the usual suspects. It is difficult to say whether MS. Watanabe has had a hand in this, but more interestingly is also the fundamental question of where the carry trade activity is going to be conducted in the future?

Specifically, it will be interesting to see whether there is going to be a change in the game whereby the OECD economies currently engaged in QE and with subsequent credible commitments by the central bank to keep rates low become funding for a carry trade to exploit the potentially “low volatility” growth (yield) in places such as India, Brazil and Turkey - see Edward’s piece on India yesterday for a good example of how all this could work.

Clearly, the BOJ has the mother of all credible commitments here in the sense that nominal interest rates have hardly budged the zero bound for more than a decade even in the midst of booms. This last point need careful watching I think as well as of course we might as well get another bout of volatility which could fold the, after all, fragile green shoots.

So, it does indeed seem as if the Japanese housewives are back in the game, but another fundamental question is whether the housewives ever left the game. This is to say that we need to look at structural long term outflows as well as more short term punting in order to really understand the what drives MS Watanabe and her fellow Japanese retail investors."

Bank can't afford to scare investors even more with the suggestion that it is relaxed about the government inflating away its debt

TO BE NOTED: From the BBC:

"Fears of deflation are not what they were

Post categories: Bank of England, QE

Stephanie Flanders | 15:46 UK time, Tuesday, 19 May 2009

Today's inflation figures confirm that it's not time to start worrying about inflation yet. But the subtext of last week's Inflation Report from the Bank of England [2.6Mb PDF] was that fears of deflation are not what they were.

At one level, that suggests that the Bank's policies are working. But it also underscores how challenging the next few years will be for our central bank.

As Liam Halligan has pointed out, the word "deflation" doesn't feature once in this latest Inflation Report. Looking back to the February report [2.9Mb PDF], I can find around half a dozen references, and a detailed explanation of what deflation could mean for the economy.

Of course, it was precisely that fear which led the Monetary Policy Committee to start its policy of quantitative easing (QE) the following month.

As Mervyn King emphasised in last week's press conference, the Bank thinks that it's too soon to judge the impact of that policy. But it clearly thinks that the combination of rate cuts and QE has helped to lower the risk of a sustained period of falling prices.

According to the latest Report, the MPC now thinks "there are significant risks to the inflation outlook in each direction". In February, it thought the the balance of risks "were slightly on the downside".

You can overdo the shift in the Bank's thinking. Remember how the governor went on (and on) about the degree of uncertainty.

Still, three months ago, it thought there was a less than 10% chance that CPI inflation would be above target in two years' time. Now (see Chart 5.7, p48) it thinks there's a roughly 20% chance of that happening, while the risk that inflation will be negative in two years' time has fallen, from about 1 in 4, to 1 in 10.

As I said when I first raised this point a few weeks ago, it's a long way from here to worrying about inflation. But, at the very least, the new forecasts suggest that there's less room for the economy to grow rapidly after 2010, without raising inflation, than we might have hoped.

It's also a reminder of the very fine line the Bank will be walking, if and when a self-sustaining recovery does arrive.

Mervyn King's fairly downbeat assessment of the economy last week helped to douse city speculation about how and when QE would be put into reverse.

However, the implication of the Bank's own report is that even with a fairly weak recovery, the MPC will be grappling with those questions sooner than you might think.

This is particularly important when one considers the UK's somewhat mixed standing in international markets.

Last week's grim economic news from the Eurozone economies reminded us that the UK has a big advantage in this crisis which those countries lack - the ability to print our own money (or to create it electronically, as we must learn to say).

As long as it doesn't cause inflation, QE should help boost demand and lessen the cost of the recession. But, as Mervyn King admitted last week, one of its direct - indeed, less intended - effects ought to be to push down the currency.

That is bad news for any foreigner sitting on British assets. The Bank can't afford to scare investors even more with the suggestion that it is relaxed about the government inflating away its debt.

Now, as it happens, sterling has gone up since QE began (and it rose again today). It just shows that the currency markets never do what they're supposed to do - though the pound is still far below where it was last summer.

The Bank's policy is only one factor affecting sterling. And if it's bringing the recovery closer, a lot of investors will consider that a plus for the pound.

Be in no doubt - if there is now a smaller risk of a long period of falling prices, that is extremely good news. With our high level of public and private debt, deflation would be a worse disaster for the UK than for almost any other major economy.

But we might pay a heavy price if investors start to think that the Bank is taking us too far the other way. "