Let the Khmer Rouge Record Show

August 27, 2014

The Opinion Pages | Op-Ed Contributor

Let the Khmer Rouge Record Show
Cambodia Shouldn’t Censor the Khmer Rouge Court’s Files

By Craig Etcheson,
August 26, 2014

PHNOM PENH, Cambodia

Former Khmer Rouge leader Nuon Chea appeEarlier this month a United Nations-assisted tribunal in Cambodia handed down long-overdue judgments against Nuon Chea (pic. left) and Khieu Samphan(right) for their roles in the catastrophic Khmer Rouge regime of 1975-79. Nuon Chea, the Deputy Secretary of the communist party, and Khieu Samphan, the President of the Khmer Rouge state, were sentenced to life in prison for crimes against humanity.

For some observers, this seemed like too little too late for too much money. Eight years have passed since the Khmer Rouge tribunal — officially known as the Extraordinary Chambers in the Courts of Cambodia (E.C.C.C.) — began operations, it has cost more than $200 million, and these verdicts concern only a fraction of the total charges. Yet the delay was a result of the extensive procedural protections rightly afforded the accused and the complexity of the case: The indictment is the most complicated since the Nuremberg trials. And it was worth the wait, not least because the tribunal has amassed an extraordinary cache of documents and testimonies.

But now there is reason to fear that this database, a major contribution to existing scholarship on the Khmer Rouge era, will not be made available to researchers after the E.C.C.C. fulfills its mandate. Given the Cambodian government’s unease about its connections to the Pol Pot regime, these extraordinary archives risk being censored or put under semipermanent lock and key.

Between the fall of the Khmer Rouge regime in 1979 and the launch of the E.C.C.C., historians assembled significant evidence detailing the mayhem. After 1995, the Documentation Center of Cambodia, an independent research institute originally established by Yale University, gathered tens of thousands of previously unknown internal documents from the Khmer Rouge regime, as well as thousands of interviews with both victims and Khmer Rouge cadres. (I was once a director of DC-CAM.)

That material was then made available to the E.C.C.C. Scholars from around the world also shared notes and interviews. And then the court itself sent out investigators across Cambodia to try to resolve ambiguities in the existing record. More than 1,000 interviews were collected as a result. Another major contribution were the testimonies of the nearly 3,900 victims who have joined the proceedings as civil parties — a feature of the E.C.C.C. that makes it unique among all international and hybrid criminal courts — plus thousands of complaints submitted by other victims.

Killing Fields

All this evidence was gathered in a sophisticated digital database, which now contains more than one million pages of information, thousands of photographs and hundreds of films and audio recordings. The material is readily searchable, allowing all parties in the case to make connections that had previously eluded researchers and to develop a finer-grained understanding of the Khmer Rouge regime.

I worked as an investigator for the prosecution in 2006-12, and our office used all this information to construct an elaborate model of the notoriously secretive Khmer Rouge organization, from center to zone to sector to district to commune. We created more than 1,000 organizational charts depicting the staffing of political, military and governmental units. These gave us an unprecedented insight into the chain of command among all echelons of the organization across the entire country, and they graphically revealed the waves of internal purges that swept through the Khmer Rouge.

Such cross-referencing helped prove charges against Nuon Chea and Khieu Samphan, such as some crimes committed after the Khmer Rouge seized the capital, Phnom Penh, on April 17, 1975, and then forcibly emptied it of its two million residents. Drawing on hundreds of accounts from people who passed through checkpoints on major roads out of the city, the trial judges concluded in their recent judgment that killings of officials from the regime that the Khmer Rouge deposed in 1975 were not isolated acts by undisciplined soldiers, but evidence of a systematic pattern resulting from a centralized plan.

Many more connections can be drawn from the E.C.C.C. archives, some with a direct bearing on the charges that will be considered in the next phase of the leaders’ trial. That section of the case includes forced marriage, among other charges. Several NGOs had already done pioneering work to gather evidence of sexual crimes during the Khmer Rouge regime. But it is the civil-party applications and victims’ complaints collected by the E.C.C.C. that make clear just how often rape was committed as a result of the Khmer Rouge’s policy of compelling people to marry and forcing them to consummate the unions.

And then there are insights not of direct relevance to the leaders’ trial but invaluable to understanding both the Khmer Rouge regime and contemporary Cambodia. For example, a review of the minutes of meetings of the Standing Committee — the Khmer Rouge’s ultimate decision-making body — and telegrams between the military leadership and division commanders has revealed the astonishing scope of China’s military assistance to the Khmer Rouge, in terms of matériel, logistics and personnel. And the E.C.C.C. archives contain extensive information about the operation of the so-called Eastern Zone under the Khmer Rouge regime, from which emerged some senior leaders in the government today.

Hun SenPrime Minister Hun Sen, Kingdom of Cambodia

These matters are controversial, however. The ruling party of Prime Minister Hun Sen, which has been in power since the Khmer Rouge were deposed in early 1979, has long been touchy about its exact connections to the Pol Pot regime. Some senior party members have published autobiographies claiming that they joined the Khmer Rouge movement only in 1970 and in response to a call from the former king to rally against the military dictatorship that had just overthrown him — assertions that are contradicted by material in the E.C.C.C. archives. And in 2009 some party leaders — the president of the national assembly, the finance minister and the foreign minister at the time — failed to answer an E.C.C.C. summons to answer questions during the investigation.

Such sensitivities are the reason that the court’s archives may be vulnerable to tampering or being sealed after its work is completed. The risk is all the greater because the United Nations, the court’s donors and the Cambodian government have agreed that once the trials are over the E.C.C.C.’s database should remain in Cambodia and under the control of the Cambodian government.

The United Nations and the donors must persuade the government to ensure that the court’s archives in their entirety are opened to historians. Anything less would be to squander the E.C.C.C.’s legacy and an incalculable loss to the historical record.

Craig Etcheson, a former investigator in the Office of the Co-Prosecutors at the Extraordinary Chambers in the Courts of Cambodia, is a visiting scholar at George Mason University.

A version of this op-ed appears in print on August 27, 2014, in The International New York Times.


Symmetrical characters, parallel fates

August 19, 2014

Symmetrical characters, parallel fates

COMMENT by Terence Netto@www.malaysiakini.com

Men of destiny seek proof of their greatness by exercising a license to go too far, and as the fear grows that destiny may have played a terrible joke on them, they double and redouble the stakes on the wheel of fortune. In this way they destroy themselves.-Terence Netto

hype_najib1Now that the cat has sprung out of the bag and is dashing about among a wider public, the only news would be if anyone has died of shock from the revelation that Dr Mahathir Mohamad has withdrawn support for Prime Minister Najib Abdul Razak.

After months of premonitory sniping at the Premier by his satraps, notably A Kadir Jasin and Zainuddin Maidin, the man himself has come out in the open with a formal declaration of hostilities. There is no more cogent example of déjà vu nor self-parody than the producer himself reiterating he is about to re-start a familiar business – the demolition of a sitting PM.

A fortuitous benefit of this incipient extravaganza – to the federal opposition, Pakatan Rakyat – has been the confirmation that their self-destructive shenanigans in Selangor have furnished the opportunity to the premier demolisher of incumbent PMs to fix on this as the most opportune time for the unleashing of his decanal decapitation of national head honchos, not to mention a few deputies as well.

The wonder is that anyone at all, at this advanced juncture of their career trajectories, could be surprised at how the two protagonists, one of the drama about to start and the other of an already running one in Selangor, confirm a truism of classical Greece – that character is fate.

Character here is taken to mean the way in which a person confronts the things that happen to him, a number of which may come about as a consequence of his characteristic behavior. Fate is the sum of the decisive things that happen to a person, whether as a result of his characteristic behavior, or fortuitously, at the behest of some transcendent power.

That the characters of Mahathir and Anwar Ibrahim have fed off each other is by now a staple of Malaysia’s modern history. Malaysians are beginning to realise that the one’s career could not have been possible without the other and vice versa.

Truly, the reformasi movement would not have been catalyzed into something urgent and insistent without what Mahathir did to Anwar in September 1998 and how the latter reacted to the events.

Before September 1998, the movement was an inchoate yearning; after Anwar’s jailing and obloquy, reform became a national agenda. Mahathir would not have been able to prolong his tenancy of the PM’s office – 22 long years – without Anwar’s lieutenancy for 16 years of that tenure.

Certainly, the accretion of power to the office of the PM and UMNO President could not have taken place without Anwar’s tacit support, as heir presumptive to Mahathir.

The long running drama of their interaction since they first met in 1971 and their influence on the life of this nation over the last four decades is so pivotal that our history itself becomes confused with their own biographies which goes to illustrate historian Thomas Carlyle’s theory that humanity advances by means of these demi-gods or ‘heroes’.

Succumbing to the danger of self parody

But as the philosopher Ralph Waldo Emerson cautioned: “Every hero becomes a bore at last”: the two are presently in danger of inducing a yawn in arenas they once bestrode as giants. If it happens it would be due to their succumbing to the danger of self-parody each is tempted to flirt with, Mahathir more so.

Tun Dr. MahathirMen of destiny seek proof of their greatness by exercising a license to go too far, and as the fear grows that destiny may have played a terrible joke on them, they double and redouble the stakes on the wheel of fortune. In this way they destroy themselves.

By claiming at the commencement of his unseat Najib campaign, after the fashion of Brutus, that it is not because he loves his leaders less but that he loves the people and country more, Mahathir is parodying what Anuar Musa, then a young delegate from Kelantan to the UMNO general assembly in 1983, who quoted from the Shakespearean play Julius Caesar the words Brutus used before stabbing Caesar. The Roman emperor was surprised that a friend like Brutus could be part of squad of assassins with regicide in mind.

Anuar cited the quotation in the course of rhetorical flights faintly critical of Mahathir’s leadership of UMNO. Mahathir’s response was characteristically brusque. “Brutus stabbed Caesar” he reminded the UMNO delegates. In other words, back-stabbers are back-stabbers, their lofty motives notwithstanding.

If Mahathir unseats Najib, the wheel would have come full circle in his career: he began his ascent to the top of the greasy pole by destroying one UMNO President (Tunku Abdul Rahman) and is set to end his career by destroying the son of the man (Abdul Razak Hussein) who gave him the chance to rise after a display of Oedipal rage against the Tunku.

If PKR allows Anwar to convert the party into his personal fiefdom, his thrust to the top of the totem pole that began with his rebellion against nepotism, cronyism and corruption in 1998 would flirt with what could well be a fatal contradiction. Not for the first time in history would pivotal allies-turned-adversaries have symmetrical characters/parallel fates.

Malaysia–the best predictors of electoral outcomes

July 14, 2014

Malaysia–the best predictors of electoral outcomes

Gotta’ keep on learning

July 13, 2014

Schumpeternomics: Gotta’ keep on learning

by (Tan Sri) Dr. Lin See-Yan@www.thestar.com.my (07-12-14)

Lin See-YanI JUST returned from the summer meeting of the board of governors (on which I am a long-standing member) and the board of trustees of the Asian Institute of Management (AIM) in Makati, Manila. It celebrated its 45th anniversary…

To mark the occasion, AIM held its second Asian Business Conference against the backdrop of an emerging ASEAN Economic Community (AEC) by 2015. It was well attended by a wide cross-section of Asian businesses, research institutes and universities, under the banner: “2015 Approaching: Priming for ASEAN Integration.”

I spoke at the strategic session on banking and finance with particular focus on the need for Asia (and indeed ASEAN) to keep on innovating to create a truly learning society, in order to maintain its competitive edge and remain relevant in an increasingly hostile and uncertain world. To survive, we just gotta’ keep on learning!

Technological progress

I learned early as a Harvard graduate student in the 1970s from no less than Nobel laureate Robert Solow at the Massachusetts Institute of Technology (MIT) down the Charles, that rising output and incomes can only come about in a sustained way from technological progress (TP), not from mere capital accumulation. Put simply, Solow repeatedly emphasised that TP comes from learning how to do things better; indeed, there’s always a better way.

As a practising banker and economist at Bank Negara after my PhD, I quickly undertstood that much of the productivity increases we see come from small incremental changes – they all add-up, other than the lumpy gains arising from dramatic discoveries or from unpredictable phenomena. It all starts with nurturing our education system and the process of its development to ensure youths are properly educated, not just in terms of literary, quantitative and scientific skills, but also with the right moral values and civic outlook.

Broadly, along what Nobel laureate Joseph Stiglitz (pic) has been advocating – it always makes goodJ Stiglitz sense “to focus attention on how societies learn, and what can be done to promote learning, including learning how to learn.”

Innovation and creative destruction

The seeds of the critical role of innovation in economic growth were first planted about a century ago by Harvard economist and political and social scientist Joseph Schumpeter, a contemporary of John M. Keynes. His economics (hence, Schumpeternomics) is based on the ability and capability of the market economy to innovate on its own.

I recall reading his 1939 book Business Cycle: A Theoretical, Historical and Statistical analysis of the Capitalist Process, where he wrote “Without innovations, no entrepreneurs; without entrepreneurial achievement, no capitalist returns and no capitalist propulsion. The atmosphere of industrial revolutions – of “progress” – is the only one in which capitalism can survive.”

So, Schumpeter went about challenging conventional wisdom in three areas: (i) misplaced focus on competitive markets. He contended that what matters was “competition for the markets, not competition in the markets,” as rightly pointed out by Stiglitz. It is competition for the markets that drives innovation. Sure, this can (and do) result in the rise of monopolies; still this would lead to improved living standards over the long haul (eg. Microsoft, Nokia – acquired in 2013 by Microsoft). (ii) undue focus on short-run efficiency which can be detrimental to innovation over the long-term – classic example is helping “infant industries” learn.

But governments should not be in the game of picking winners; the market can do this better (witness Obama’s failed “clean energy” projects or Malaysia’s wasteful car-maker Proton). Sure, there are exceptions where government invests in research that has since led to development of the Internet and discovery of DNA with enormous social benefits.


(iii) Innovation leads to creative destruction – it can (and do) wipe out inefficient industries and jobs. The Internet has turned businesses from newspapers to music to book retailing upside down. In their place, more efficient businesses have popped up. In his biography of Schumpeter – Prophet of Innovation, Thomas McCraw wrote: “Schumpeter’s signature legacy is his insight that innovation in the form of creative destruction is the driving force not only of capitalism but of material progress in general. Almost all businesses, no matter how strong they seem to be at a given moment, ultimately fail – and almost always because they failed to innovate. Competitors are relentlessly striving to overtake the leader, no matter how big the lead. Responsible business people know that they ignore this lesson at their peril.”

In 1983, the 100th anniversary of the birth of Schumpeter and Keynes, Peter F. Drucker proclaimed at Forbes that it was Schumpeter, not Keynes, who provided the best guide to the rapid economic changes engulfing the world, according to McCraw.

Higher education

The business of higher education has changed little since Plato and Aristotle taught at the Athenian Lyceum. With government patronage and support, close to 4 million Americans and 5 million Europeans will graduate this summer. Emerging nations’ universities are expanding even faster. I was told in Shanghai last month that China has added 30 million university places in the past 20 years.

Indeed, I do see a revolution coming for three main disruptive reasons:

  •  Rising costs – Baumol’s disease has set in, i.e. soaring costs reflecting high labour intensity with stagnant productivity; for the past two decades, costs have risen 1.6 percentage points above inflation annually.
  •  Changing demand – a recent Oxford study contended that 47% of occupations are now at risk of being automated and as innovation wipes out jobs and drastically change others, vast numbers will be needing continuing education.
  • Fast moving TP will change the way education is packaged, taught and delivered. MOOC (Massive Open Online Course) today offers university students a chance to learn from the world’s best and get a degree for a fraction of today’s cost. Harvard Business School will soon offer an online “pre-MBA” for US$1,500 (RM4,778)! The reinvention of universities will certainly benefit many more than it hurts. Elites like Harvard, MIT and Stanford will gain from this creative destruction process. Education is now a global digital market.

What then, are we to do

Corporate giants come and go in a competitive economy. Microsoft and Nokia used to rule the digital world. Now they don’t. No monopoly is permanent, unless enforced by government, which as everyone knows hardly changes, even as the rest of the world passes it by. In the United States, it is reported that the administration wants to prevent Apple’s iTunes and AppStore from abusing the network “lock-in” created by Apple’s tech ecosystem. But the judge has since ruled that “I want Apple to have the flexibility to innovate.” That’s something, isn’t it?

economics-poster-smallMy professor at Harvard, Nobel laureate Kenneth Arrow, used to extol about the importance of learning by doing. So, those who want to innovate, let them just do it – hopefully with no government intervention even though there is a compelling “infant” argument for industrial protection, which can be a double-edged sword when it comes to learning and innovating.

Most of the time, the infant seldom grows up. But reinventing the ancient institution of higher learning will not be easy. EdX, a non-profit MOOC founded (and funded) in May 2012 by Harvard and MIT, is now a consortium of 28 institutions worldwide. No one knows how big the online market will eventually be. It’s more akin to online airline-booking services – expanding the market by improving the customer experience.

Still, innovation at MOOC will definitely reduce the cost of higher education, grow market size but with widespread creative destruction collateral damage, and turn inefficient universities on their heads. MOOC estimates that university employment can fall by as much as 30% and 700-800 institutions can shut-down. The rest have to reinvent themselves to survive. Our learning society will change forever, whether we like it or not.

Former banker, Dr. Lin See-Yan is a Harvard educated economist and a British chartered scientist who writes on economic and financial issues. Feedback is most welcome; email: starbizweek@thestar.com.my. The views expressed are entirely the writer’s own.

Monetary Policy and Financial Stability by Fed Chair Janet Yellen

July 7, 2014

Chair Janet L. Yellen

At the 2014 Michel Camdessus Central Banking Lecture, International Monetary Fund, Washington, D.C.

July 2, 2014

Monetary Policy and Financial Stability

Janet_Yellen_FEDIt is an honor to deliver the inaugural Michel Camdessus Central Banking Lecture. Michel Camdessus served with distinction as governor of the Banque de France and was one of the longest-serving managing directors of the International Monetary Fund (IMF).

In these roles, he was well aware of the challenges central banks face in their pursuit of price stability and full employment, and of the interconnections between macroeconomic stability and financial stability. Those interconnections were apparent in the Latin American debt crisis, the Mexican peso crisis, and the East Asian financial crisis, to which the IMF responded under Camdessus’s leadership. These episodes took place in emerging market economies, but since then, the global financial crisis and, more recently, the euro crisis have reminded us that no economy is immune from financial instability and the adverse effects on employment, economic activity, and price stability that financial crises cause.

The recent crises have appropriately increased the focus on financial stability at central banks around the world. At the Federal Reserve, we have devoted substantially increased resources to monitoring financial stability and have refocused our regulatory and supervisory efforts to limit the buildup of systemic risk. There have also been calls, from some quarters, for a fundamental reconsideration of the goals and strategy of monetary policy. Today I will focus on a key question spurred by this debate: How should monetary and other policymakers balance macroprudential approaches and monetary policy in the pursuit of financial stability?

In my remarks, I will argue that monetary policy faces significant limitations as a tool to promote financial stability: Its effects on financial vulnerabilities, such as excessive leverage and maturity transformation, are not well understood and are less direct than a regulatory or supervisory approach; in addition, efforts to promote financial stability through adjustments in interest rates would increase the volatility of inflation and employment. As a result, I believe a macroprudential approach to supervision and regulation needs to play the primary role. Such an approach should focus on “through the cycle” standards that increase the resilience of the financial system to adverse shocks and on efforts to ensure that the regulatory umbrella will cover previously uncovered systemically important institutions and activities. These efforts should be complemented by the use of countercyclical macroprudential tools, a few of which I will describe. But experience with such tools remains limited, and we have much to learn to use these measures effectively.

I am also mindful of the potential for low interest rates to heighten the incentives of financial market participants to reach for yield and take on risk, and of the limits of macroprudential measures to address these and other financial stability concerns. Accordingly, there may be times when an adjustment in monetary policy may be appropriate to ameliorate emerging risks to financial stability. Because of this possibility, and because transparency enhances the effectiveness of monetary policy, it is crucial that policymakers communicate their views clearly on the risks to financial stability and how such risks influence the appropriate monetary policy stance. I will conclude by briefly laying out how financial stability concerns affect my current assessment of the appropriate stance of monetary policy.

Balancing Financial Stability with Price Stability: Lessons from the Recent Past

When considering the connections between financial stability, price stability, and full employment, the discussion often focuses on the potential for conflicts among these objectives. Such situations are important, since it is only when conflicts arise that policymakers need to weigh the tradeoffs among multiple objectives. But it is important to note that, in many ways, the pursuit of financial stability is complementary to the goals of price stability and full employment. A smoothly operating financial system promotes the efficient allocation of saving and investment, facilitating economic growth and employment. A strong labor market contributes to healthy household and business balance sheets, thereby contributing to financial stability. And price stability contributes not only to the efficient allocation of resources in the real economy, but also to reduced uncertainty and efficient pricing in financial markets, which in turn supports financial stability.

Despite these complementarities, monetary policy has powerful effects on risk taking. Indeed, the accommodative policy stance of recent years has supported the recovery, in part, by providing increased incentives for households and businesses to take on the risk of potentially productive investments. But such risk-taking can go too far, thereby contributing to fragility in the financial system.1 This possibility does not obviate the need for monetary policy to focus primarily on price stability and full employment–the costs to society in terms of deviations from price stability and full employment that would arise would likely be significant. I will highlight these potential costs and the clear need for a macroprudential policy approach by looking back at the vulnerabilities in the U.S. economy before the crisis. I will also discuss how these vulnerabilities might have been affected had the Federal Reserve tightened monetary policy in the mid-2000s to promote financial stability.

Looking Back at the Mid-2000s

Although it was not recognized at the time, risks to financial stability within the United States escalated to a dangerous level in the mid-2000s. During that period, policymakers–myself included–were aware that homes seemed overvalued by a number of sensible metrics and that home prices might decline, although there was disagreement about how likely such a decline was and how large it might be. What was not appreciated was how serious the fallout from such a decline would be for the financial sector and the macroeconomy. Policymakers failed to anticipate that the reversal of the house price bubble would trigger the most significant financial crisis in the United States since the Great Depression because that reversal interacted with critical vulnerabilities in the financial system and in government regulation.

In the private sector, key vulnerabilities included high levels of leverage, excessive dependence on unstable short-term funding, weak underwriting of loans, deficiencies in risk measurement and risk management, and the use of exotic financial instruments that redistributed risk in nontransparent ways.

In the public sector, vulnerabilities included gaps in the regulatory structure that allowed some systemically important financial institutions (SIFIs) and markets to escape comprehensive supervision, failures of supervisors to effectively use their existing powers, and insufficient attention to threats to the stability of the system as a whole.

It is not uncommon to hear it suggested that the crisis could have been prevented or significantly mitigated by substantially tighter monetary policy in the mid-2000s. At the very least, however, such an approach would have been insufficient to address the full range of critical vulnerabilities I have just described. A tighter monetary policy would not have closed the gaps in the regulatory structure that allowed some SIFIs and markets to escape comprehensive supervision; a tighter monetary policy would not have shifted supervisory attention to a macroprudential perspective; and a tighter monetary policy would not have increased the transparency of exotic financial instruments or ameliorated deficiencies in risk measurement and risk management within the private sector.

Some advocates of the view that a substantially tighter monetary policy may have helped prevent the crisis might acknowledge these points, but they might also argue that a tighter monetary policy could have limited the rise in house prices, the use of leverage within the private sector, and the excessive reliance on short-term funding, and that each of these channels would have contained–or perhaps even prevented–the worst effects of the crisis.

A review of the empirical evidence suggests that the level of interest rates does influence house prices, leverage, and maturity transformation, but it is also clear that a tighter monetary policy would have been a very blunt tool: Substantially mitigating the emerging financial vulnerabilities through higher interest rates would have had sizable adverse effects in terms of higher unemployment. In particular, a range of studies conclude that tighter monetary policy during the mid-2000s might have contributed to a slower rate of house price appreciation. But the magnitude of this effect would likely have been modest relative to the substantial momentum in these prices over the period; hence, a very significant tightening, with large increases in unemployment, would have been necessary to halt the housing bubble.2 Such a slowing in the housing market might have constrained the rise in household leverage, as mortgage debt growth would have been slower. But the job losses and higher interest payments associated with higher interest rates would have directly weakened households’ ability to repay previous debts, suggesting that a sizable tightening may have mitigated vulnerabilities in household balance sheets only modestly.3

Similar mixed results would have been likely with regard to the effects of tighter monetary policy on leverage and reliance on short-term financing within the financial sector. In particular, the evidence that low interest rates contribute to increased leverage and reliance on short-term funding points toward some ability of higher interest rates to lessen these vulnerabilities, but that evidence is typically consistent with a sizable range of quantitative effects or alternative views regarding the causal channels at work.4 Furthermore, vulnerabilities from excessive leverage and reliance on short-term funding in the financial sector grew rapidly through the middle of 2007, well after monetary policy had already tightened significantly relative to the accommodative policy stance of 2003 and early 2004. In my assessment, macroprudential policies, such as regulatory limits on leverage and short-term funding, as well as stronger underwriting standards, represent far more direct and likely more effective methods to address these vulnerabilities.5

Recent International Experience

Turning to recent experience outside the United States, a number of foreign economies have seen rapidly rising real estate prices, which has raised financial stability concerns despite, in some cases, high unemployment and shortfalls in inflation relative to the central bank’s inflation target.6 These developments have prompted debate on how to best balance the use of monetary policy and macroprudential tools in promoting financial stability.

For example, Canada, Switzerland, and the United Kingdom have expressed a willingness to use monetary policy to address financial stability concerns in unusual circumstances, but they have similarly concluded that macroprudential policies should serve as the primary tool to pursue financial stability. In Canada, with inflation below target and output growth quite subdued, the Bank of Canada has kept the policy rate at or below 1 percent, but limits on mortgage lending were tightened in each of the years from 2009 through 2012, including changes in loan-to-value and debt-to-income caps, among other measures.7 In contrast, in Norway and Sweden, monetary policy decisions have been influenced somewhat by financial stability concerns, but the steps taken have been limited. In Norway, policymakers increased the policy interest rate in mid-2010 when they were facing escalating household debt despite inflation below target and output below capacity, in part as a way of “guarding against the risk of future imbalances.”8 Similarly, Sweden’s Riksbank held its policy rate “slightly higher than we would have done otherwise” because of financial stability concerns.9 In both cases, macroprudential actions were also either taken or under consideration.

In reviewing these experiences, it seems clear that monetary policymakers have perceived significant hurdles to using sizable adjustments in monetary policy to contain financial stability risks. Some proponents of a larger monetary policy response to financial stability concerns might argue that these perceived hurdles have been overblown and that financial stability concerns should be elevated significantly in monetary policy discussions. A more balanced assessment, in my view, would be that increased focus on financial stability risks is appropriate in monetary policy discussions, but the potential cost, in terms of diminished macroeconomic performance, is likely to be too great to give financial stability risks a central role in monetary policy decisions, at least most of the time.

If monetary policy is not to play a central role in addressing financial stability issues, this task must rely on macroprudential policies. In this regard, I would note that here, too, policymakers abroad have made important strides, and not just those in the advanced economies. Emerging market economies have in many ways been leaders in applying macroprudential policy tools, employing in recent years a variety of restrictions on real estate lending or other activities that were perceived to create vulnerabilities.10 Although it is probably too soon to draw clear conclusions, these experiences will help inform our understanding of these policies and their efficacy.

Promoting Financial Stability through a Macroprudential Approach

If macroprudential tools are to play the primary role in the pursuit of financial stability, questions remain on which macroprudential tools are likely to be most effective, what the limits of such tools may be, and when, because of such limits, it may be appropriate to adjust monetary policy to “get in the cracks” that persist in the macroprudential framework.11

In weighing these questions, I find it helpful to distinguish between tools that primarily build through-the-cycle resilience against adverse financial developments and those primarily intended to lean against financial excesses.12

Building Resilience

Tools that build resilience aim to make the financial system better able to withstand unexpected adverse developments. For example, requirements to hold sufficient loss-absorbing capital make financial institutions more resilient in the face of unexpected losses. Such requirements take on a macroprudential dimension when they are most stringent for the largest, most systemically important firms, thereby minimizing the risk that losses at such firms will reverberate through the financial system. Resilience against runs can be enhanced both by stronger capital positions and requirements for sufficient liquidity buffers among the most interconnected firms. An effective resolution regime for SIFIs can also enhance resilience by better protecting the financial system from contagion in the event of a SIFI collapse. Further, the stability of the financial system can be enhanced through measures that address interconnectedness between financial firms, such as margin and central clearing requirements for derivatives transactions. Finally, a regulatory umbrella wide enough to cover previous gaps in the regulation and supervision of systemically important firms and markets can help prevent risks from migrating to areas where they are difficult to detect or address.

In the United States, considerable progress has been made on each of these fronts. Changes in bank capital regulations, which will include a surcharge for systemically important institutions, have significantly increased requirements for loss-absorbing capital at the largest banking firms. The Federal Reserve’s stress tests and Comprehensive Capital Analysis and Review process require that large financial institutions maintain sufficient capital to weather severe shocks, and that they demonstrate that their internal capital planning processes are effective, while providing perspective on the loss-absorbing capacity across a large swath of the financial system. The Basel III framework also includes liquidity requirements designed to mitigate excessive reliance by global banks on short-term wholesale funding.

Oversight of the U.S. shadow banking system also has been strengthened. The new Financial Stability Oversight Council has designated some nonbank financial firms as systemically important institutions that are subject to consolidated supervision by the Federal Reserve. In addition, measures are being undertaken to address some of the potential sources of instability in short-term wholesale funding markets, including reforms to the triparty repo market and money market mutual funds–although progress in these areas has, at times, been frustratingly slow.

Additional measures should be taken to address residual risks in the short-term wholesale funding markets. Some of these measures–such as requiring firms to hold larger amounts of capital, stable funding, or highly liquid assets based on use of short-term wholesale funding–would likely apply only to the largest, most complex organizations. Other measures–such as minimum margin requirements for repurchase agreements and other securities financing transactions–could, at least in principle, apply on a marketwide basis. To the extent that minimum margin requirements lead to more conservative margin levels during normal and exuberant times, they could help avoid potentially destabilizing procyclical margin increases in short-term wholesale funding markets during times of stress.

Leaning Against the Wind

At this point, it should be clear that I think efforts to build resilience in the financial system are critical to minimizing the chance of financial instability and the potential damage from it. This focus on resilience differs from much of the public discussion, which often concerns whether some particular asset class is experiencing a “bubble” and whether policymakers should attempt to pop the bubble. Because a resilient financial system can withstand unexpected developments, identification of bubbles is less critical.

Nonetheless, some macroprudential tools can be adjusted in a manner that may further enhance resilience as risks emerge. In addition, macroprudential tools can, in some cases, be targeted at areas of concern. For example, the new Basel III regulatory capital framework includes a countercyclical capital buffer, which may help build additional loss-absorbing capacity within the financial sector during periods of rapid credit creation while also leaning against emerging excesses. The stress tests include a scenario design process in which the macroeconomic stresses in the scenario become more severe during buoyant economic expansions and incorporate the possibility of highlighting salient risk scenarios, both of which may contribute to increasing resilience during periods in which risks are rising.13 Similarly, minimum margin requirements for securities financing transactions could potentially vary on a countercyclical basis so that they are higher in normal times than in times of stress.

Implications for Monetary Policy, Now and in the Future

In light of the considerable efforts under way to implement a macroprudential approach to enhance financial stability and the increased focus of policymakers on monitoring emerging financial stability risks, I see three key principles that should guide the interaction of monetary policy and macroprudential policy in the United States.

First, it is critical for regulators to complete their efforts at implementing a macroprudential approach to enhance resilience within the financial system, which will minimize the likelihood that monetary policy will need to focus on financial stability issues rather than on price stability and full employment. Key steps along this path include completion of the transition to full implementation of Basel III, including new liquidity requirements; enhanced prudential standards for systemically important firms, including risk-based capital requirements, a leverage ratio, and tighter prudential buffers for firms heavily reliant on short-term wholesale funding; expansion of the regulatory umbrella to incorporate all systemically important firms; the institution of an effective, cross-border resolution regime for systemically important financial institutions; and consideration of regulations, such as minimum margin requirements for securities financing transactions, to limit leverage in sectors beyond the banking sector and SIFIs.

Second, policymakers must carefully monitor evolving risks to the financial system and be realistic about the ability of macroprudential tools to influence these developments. The limitations of macroprudential policies reflect the potential for risks to emerge outside sectors subject to regulation, the potential for supervision and regulation to miss emerging risks, the uncertain efficacy of new macroprudential tools such as a countercyclical capital buffer, and the potential for such policy steps to be delayed or to lack public support.14 Given such limitations, adjustments in monetary policy may, at times, be needed to curb risks to financial stability.15

These first two principles will be more effective in helping to address financial stability risks when the public understands how monetary policymakers are weighing such risks in the setting of monetary policy. Because these issues are both new and complex, there is no simple rule that can prescribe, even in a general sense, how monetary policy should adjust in response to shifts in the outlook for financial stability. As a result, policymakers should clearly and consistently communicate their views on the stability of the financial system and how those views are influencing the stance of monetary policy.

To that end, I will briefly lay out my current assessment of financial stability risks and their relevance, at this time, to the stance of monetary policy in the United States. In recent years, accommodative monetary policy has contributed to low interest rates, a flat yield curve, improved financial conditions more broadly, and a stronger labor market. These effects have contributed to balance sheet repair among households, improved financial conditions among businesses, and hence a strengthening in the health of the financial sector. Moreover, the improvements in household and business balance sheets have been accompanied by the increased safety of the financial sector associated with the macroprudential efforts I have outlined. Overall, nonfinancial credit growth remains moderate, while leverage in the financial system, on balance, is much reduced. Reliance on short-term wholesale funding is also significantly lower than immediately before the crisis, although important structural vulnerabilities remain in short-term funding markets.

Taking all of these factors into consideration, I do not presently see a need for monetary policy to deviate from a primary focus on attaining price stability and maximum employment, in order to address financial stability concerns. That said, I do see pockets of increased risk-taking across the financial system, and an acceleration or broadening of these concerns could necessitate a more robust macroprudential approach. For example, corporate bond spreads, as well as indicators of expected volatility in some asset markets, have fallen to low levels, suggesting that some investors may underappreciate the potential for losses and volatility going forward. In addition, terms and conditions in the leveraged-loan market, which provides credit to lower-rated companies, have eased significantly, reportedly as a result of a “reach for yield” in the face of persistently low interest rates. The Federal Reserve, the Office of the Comptroller of the Currency, and the Federal Deposit Insurance Corporation issued guidance regarding leveraged lending practices in early 2013 and followed up on this guidance late last year. To date, we do not see a systemic threat from leveraged lending, since broad measures of credit outstanding do not suggest that nonfinancial borrowers, in the aggregate, are taking on excessive debt and the improved capital and liquidity positions at lending institutions should ensure resilience against potential losses due to their exposures. But we are mindful of the possibility that credit provision could accelerate, borrower losses could rise unexpectedly sharply, and that leverage and liquidity in the financial system could deteriorate. It is therefore important that we monitor the degree to which the macroprudential steps we have taken have built sufficient resilience, and that we consider the deployment of other tools, including adjustments to the stance of monetary policy, as conditions change in potentially unexpected ways.


In closing, the policy approach to promoting financial stability has changed dramatically in the wake of the global financial crisis. We have made considerable progress in implementing a macroprudential approach in the United States, and these changes have also had a significant effect on our monetary policy discussions. An important contributor to the progress made in the United States has been the lessons we learned from the experience gained by central banks and regulatory authorities all around the world. The IMF plays an important role in this evolving process as a forum for representatives from the world’s economies and as an institution charged with promoting financial and economic stability globally. I expect to both contribute to and learn from ongoing discussions on these issues.

1. The possibility that periods of relative economic stability may contribute to risk-taking and the buildup of imbalances that may unwind in a painful manner is often linked to the ideas of Hyman Minsky (see Hyman P. Minsky (1992), “The Financial Instability Hypothesis (PDF),” Leaving the Board Working Paper 74 (Annandale-on-Hudson, N.Y.: Jerome Levy Economics Institute of Bard College, May)). For a recent example of an economic model that tries to explore these ideas, see, for example, Markus K. Brunnermeier and Yuliy Sannikov (2014), “A Macroeconomic Model with a Financial Sector,” Leaving the Board American Economic Review, vol. 104 (February), pp. 379-421. Return to text

2. For a discussion of this issue encompassing experience across a broad range of advanced economies in the 2000s, including the United States, see Jane Dokko, Brian M. Doyle, Michael T. Kiley, Jinill Kim, Shane Sherlund, Jae Sim, and Skander Van Den Heuvel (2011), “Monetary Policy and the Global Housing Bubble,” Leaving the Board Economic Policy, vol. 26 (April), pp. 233-83. Igan and Loungani (2012) highlight how interest rates are an important, but far from the most important, determinant of housing cycles across countries (see Deniz Igan and Prakash Loungani (2012), “Global Housing Cycles,” Leaving the Board IMF Working Paper Series WP/12/217 (Washington: International Monetary Fund, August)). Bean and others (2010), examining the tradeoffs between unemployment, inflation, and stabilization of the housing market in the United Kingdom, imply that reliance on monetary policy to contain a housing boom may be too costly in terms of other monetary policy goals (see Charles Bean, Matthias Paustian, Adrian Penalver, and Tim Taylor (2010), “Monetary Policy after the Fall (PDF),” Leaving the Board paper presented at “Macroeconomic Challenges: The Decade Ahead,” a symposium sponsored by the Federal Reserve Bank of Kansas City, held in Jackson Hole, Wyo., August 26-28). Saiz (2014) suggests that about 50 percent of the variation in house prices during the 2000s boom can be explained by low interest rates, and finds that it was the remaining, “non-fundamental” component that subsequently collapsed–that is, the interest rate component was not a primary factor in what Saiz terms “the bust” (see Albert Saiz (2014), “Interest Rates and Fundamental Fluctuations in Home Values (PDF),” Leaving the Board paper presented at the Public Policy and Economics Spring 2014 Workshops, hosted by the Harris School of Public Policy, University of Chicago, April 8). Return to text

3. The notion that tighter monetary policy may have ambiguous effects on leverage or repayment capacity is illustrated in, for example, Anton Korinek and Alp Simsek (2014), “Liquidity Trap and Excessive Leverage (PDF),” Leaving the Board NBER Working Paper Series 19970 (Cambridge, Mass.: National Bureau of Economic Research, March). Return to text

4. See, for example, Tobias Adrian and Hyun Song Shin (2010), “Liquidity and Leverage,” Leaving the Board Journal of Financial Intermediation, vol. 19 (July), pp. 418-37; and Tobias Adrian and Hyun Song Shin (2011), “Financial Intermediaries and Monetary Economics,” in Benjamin Friedman and Michael Woodford, eds., Handbook of Monetary Economics, vol. 3A (San Diego, Ca.: Elsevier), pp. 601-50. For a study emphasizing how changes in the response of monetary policy to financial vulnerabilities would likely change the relationship between monetary policy and financial vulnerabilities, see Oliver de Groot (2014), “The Risk Channel of Monetary Policy (PDF),” Leaving the Board International Journal of Central Banking, vol. 10 (June), pp. 115-60. Return to text

5. This evidence and experience suggest that a reliance on monetary policy as a primary tool to address the broad range of vulnerabilities that emerged in the mid-2000s would have had uncertain and limited effects on risks to financial stability. Such uncertainty does not imply that a modestly tighter monetary policy may not have been marginally helpful. For example, some research suggests that financial imbalances that became apparent in the mid-2000s may have signaled a tighter labor market and more inflationary pressure than would have been perceived solely from labor market conditions and overall economic activity. Hence, such financial imbalances may have called for a modestly tighter monetary policy through the traditional policy lens focused on inflationary pressure and economic slack. See, for example, David M. Arseneau and Michael Kiley (2014), “The Role of Financial Imbalances in Assessing the State of the Economy,” FEDS Notes (Washington: Board of Governors of the Federal Reserve System, April 18). Return to text

6. For a summary of house price developments across a range of countries through 2013, see International Monetary Fund (2014), “Global Housing Watch.” Leaving the Board Return to text

7. For a discussion of macroprudential steps taken in Canada, see Ivo Krznar and James Morsink (2014), “With Great Power Comes Great Responsibility: Macroprudential Tools at Work in Canada,” Leaving the Board IMF Working Paper Series 14/83 (Washington: International Monetary Fund, May). Return to text

8. See Norges Bank (2010), “The Executive Board’s Monetary Policy Decision–Background and General Assessment,” Leaving the Board press release, May 5, paragraph 28. Return to text

9. See Per Jansson (2013), “How Do We Stop the Trend in Household Debt? Work on Several Fronts,” Leaving the Board speech delivered at the SvD Bank Summit, Berns Salonger, Stockholm, December 3, p. 2. Return to text

10. For a discussion, see Min Zhu (2014), “Era of Benign Neglect of House Price Booms Is Over,” Leaving the Board IMF Direct (blog), June 11. Return to text

11. These questions have been explored in, for example, International Monetary Fund (2013), The Interaction of Monetary and Macroprudential Policies (PDF) Leaving the Board (Washington: IMF, January 29). Return to text

12. The IMF recently discussed tools to build resilience and lean against excesses (and provided a broad overview of macroprudential tools and their interaction with other policies, including monetary policy); see International Monetary Fund (2013), Key Aspects of Macroprudential Policy (PDF) Leaving the Board (Washington: IMF, June 10). Return to text

13. See the Policy Statement on the Scenario Design Framework for Stress Testing at Regulation YY–Enhanced Prudential Standards and Early Remediation Requirements for Covered Companies (PDF), 12 C.F.R. pt. 252 (2013), Policy Statement on the Scenario Design Framework for Stress Testing. Return to text

14. For a related discussion, see Elliott, Feldberg, and Lehnert, “The History of Cyclical Macroprudential Policy in the United States.” Return to text

15. Adam and Woodford (2013) present a model in which macroprudential policies are not present and housing prices experience swings for reasons not driven by “fundamentals.” In this context, adjustments in monetary policy in response to house price booms–even if such adjustments lead to undesirable inflation or employment outcomes–are a component of optimal monetary policy. See Klaus Adam and Michael Woodford (2013), “Housing Prices and Robustly Optimal Monetary Policy (PDF),” Leaving the Board working paper, June 29.


Thanks to Matthew Goldman. For reaction to Chair Janet’s Speech read this:


Has GDP outgrown its use?

July 7, 2014

Has GDP outgrown its use?

By David Pilling, July 4, 2014@ http://www.ft.com

Governments and the media obsess about it while statisticians endlessly fiddle – but what is the real point of GDP and can it ever be accurately measured?

GDPWhat do the price of hair-salon services in Beijing and sexual services in London have in common? The answer is that, depending on how you measure them – or indeed whether you measure them at all – the size of the Chinese and British economies will expand or contract like an accordion.

In April, statisticians working under the aegis of the World Bank determined that China’s gross domestic product was far bigger than they had previously realised. China was, in fact, just about to overtake the US as the world’s largest economy, many years earlier than expected. The reason? Statisticians had been overestimating the prices of everything from haircuts to noodles. As a result, they were underestimating the purchasing power of Chinese people and thus the size of the economy.

Last month, British statisticians worked some magic too. They declared that the UK economy – admittedly only a fraction of China’s size – was 5 per cent bigger than previously thought. It was as if they had suddenly discovered billions of pounds in annual revenue at the back of the nation’s couch. Here the explanation was simpler. Among other tweaks to their methodology, statisticians started counting the economic “contribution” of prostitution and illegal drugs.

Diane CoyleGross domestic product has become a ubiquitous term. It is how we measure economic success. Countries are judged by how much they have of it. Governments can rise and fall according to how effectively their economies create it. Everything from debt levels to the contribution of manufacturing is measured against it. GDP is what makes the world go round. Yet what exactly does it mean? Outside a few experts, most people have only a shaky understanding. In fact, the more you delve into the whole concept of GDP – one of the most centrally important ideas in modern life – the more slippery it becomes. In the words of Diane Coyle, an economist who recently wrote an entire book on the subject, “GDP is a made-up entity.”

Coyle is a defender of GDP as a tool for understanding the economy so long as we grasp its limitations. When I spoke to her by phone, she was nevertheless amused at what she called “the regular fandango” and “public ritual” that accompanies the quarterly release of GDP data. Even though those numbers are often within the margin of error and routinely revised, we invest them with as much meaning as a priest does his liturgies.

The title of Coyle’s book, GDP: A Brief But Affectionate History, makes clear her basic allegiance to the concept. Yet, she warns, “There is no such entity as GDP out there waiting to be measured by economists. It is an artificial construct … an abstraction that adds everything from nails to toothbrushes, tractors, shoes, haircuts, management consultancy, street cleaning, yoga teaching, plates, bandages, books and all the millions of other services and products.” The people who measure GDP, then, are not involved in a scientific enterprise, such as discovering the mass of a mountain or the longitude of the earth. Instead, they are engaged in what amounts to an act of imagination.

GDP is a surprisingly new idea. The first national accounts that resemble modern ones were produced in the US in 1942. It is not particularly odd that governments didn’t bother much about sizing up their economies before then. Until the industrial revolution, agricultural societies barely grew at all. The size of an economy was thus almost entirely a function of national population. In 1820, China and India made up roughly half of global economic activity by sheer virtue of the number of people who lived there.

Simon Kuznets (right), the Belarusian-American economist often credited with inventing GDP in the 1930s, had severekuznets reservations about the concept right from the start. Coyle told me, “He did a lot of the spade work. But conceptually he wanted something different.” Kuznets had been asked by US president Franklin Delano Roosevelt to come up with an accurate picture of a post-crash America that was trapped in seemingly interminable recession. Roosevelt wanted to boost the economy through spending on public works. To justify his actions, he needed more than just snippets of information: freight-car loadings or the length of soup-kitchen lines. Kuznets’ calculations indicated that the economy had halved in size from 1929 to 1932. It was a far more solid basis on which to act.

When it came to data, Kuznets was meticulous. But what, precisely, should be measured? He was inclined to include only activities he believed contributed to society’s wellbeing. Why count things like spending on armaments, he reasoned, when war clearly detracted from human welfare? He also wanted to subtract advertising (useless), financial and speculative activities (dangerous) and government spending (tautological, since it was just recycled taxes). Presumably he wouldn’t have been thrilled with the idea that the more heroin consumed and prostitutes visited, the healthier an economy.

Kuznets lost his battle. Modern national income accounts include both arms sales and investment banking services. They don’t distinguish between social “goods” – say, spending on education – and social “bads” (or necessities) – say, gambling, repairing the damage after hurricane Katrina or preventing crime. (Countries without much crime miss out on related economic activity such as security guards and repairing broken windows.) GDP is amoral. It is defined simply as the total monetary value of everything that has been produced in a given period.

The first thing to understand about GDP is that it is a measure of flow, not stock. A country with high GDP might have run down its infrastructure disastrously over years to maximise income. The US, with its ageing airports and less-than-pristine roads, is sometimes accused of precisely that.

…At the heart of the GDP debate is an anxiety that our societies have been somehow hijacked by pursuit of a single data point. No one seriously imagines that simply making an abstract number bigger and bigger can be a worthy goal in its own right. Yet GDP has become such a powerful proxy for what we do hold dear that we find it hard to see past it. Few economists are blind to its many limitations. Most, nevertheless, give the impression of wishing to maximise it at all costs.

Coyle argues that we should invent new ways to reflect economic reality. She advocates what she calls the “dashboard approach”. The Better Life Index, developed by the Organisation for Economic Co-operation and Development, for example, allows users to compare the performance of countries according to 11 criteria ranging from income and housing to health and work-life balance. By plugging in the criteria you value most you can see how a particular economy performs. If, say, employment is your priority, then Switzerland and Norway are best. If, on the other hand, you’re more interested in a combination of high income and education, then the US is the place to be.

In theory, this approach would allow voters to decide what is important and politicians to craft policies to achieve desired results. In practice, the combination of multiple criteria measured according to multiple yardsticks renders the exercise subjective and fuzzy. GDP may be anachronistic and misleading. It may fail entirely to capture the complex trade-offs between present and future, work and leisure, “good” growth and “bad” growth. Its great virtue, however, remains that it is a single, concrete number. For the time being, we may be stuck with it.

David Pilling is the FT’s Asia editor