Janet Yellen Was a Master of Thinking in Public. What About Jay Powell?


November 5, 2017

Janet Yellen Was a Master of Thinking in Public. What About Jay Powell?

by Adam Davidson

https://www.newyorker.com/business/currency/janet-yellen-was-a-master-of-thinking-in-public-what-about-jay-powell?mbid=nl_TNY%20Template%20-%20With%20Photo%20(55)&CNDID=49438257&spMailingID=12287533&spUserID=MTg4MDU2MzU5MDA5S0&spJobID=1280352236&spReportId=MTI4MDM1MjIzNgS2

Jay Powell, Trump’s nominee for Federal Reserve chair, is praised as a safe, consensus choice, but no one can be entirely sure what he is thinking. Photograph by T.J. Kirkpatrick / Bloomberg via Getty

Much of the time, the Federal Reserve operates a bit like a commercial pilot on a long, routine flight over the Pacific. The plane’s navigational system is taking care of nearly all the decisions, and the pilot is just there in case things go haywire. The central role of the Fed’s chair, governors, and regional presidents is to meet roughly every six weeks to decide on the Fed funds rate. Technically, that rate is the amount banks charge one another for overnight loans; metaphorically, however, it’s the central drumbeat of the economy. (Or should it be “the thrust of the airplane’s engines”? Too many metaphors.) The Fed funds rate ripples throughout our financial system and, in ways that are still not fully understood, helps determine inflation, unemployment, and, from time to time, the very structural soundness of the global economy.

On Thursday, President Trump nominated Jerome (Jay) Powell as the next chair of the Federal Reserve. By near-universal agreement, he’s a safe choice. For five years, he has been one of the little-known gray men at those regular meetings, always voting with the usually unanimous majority, never expressing dissent or an independent view. Journalists and Fed watchers have scoured his background and found virtually nothing to suggest a monetary Powell doctrine—some take on the world that would tell us how he might handle, say, a financial crisis or a sudden recession with a President screaming for the Fed to act. Bloomberg carefully studies each member of the Fed’s Open Market Committee (the body that determines that crucial rate), and has rated Powell as precisely “neutral,” meaning he is neither a “dove” (someone generally supportive of lower rates to increase employment) or a “hawk” (someone who is more worried about inflation and wants to use faster-rising rates to slow the economy down). The assumption is that he will continue the policies of the recent past, which is to say that he will encourage the Fed to very slowly, very carefully increase the Fed funds rate.

Our ignorance about Powell is partly because he is not an economist, so there is no trail of academic papers in which he has carefully laid out his views. Powell, who is sixty-four, is a lawyer. Early in his legal career, he represented banks; in the mid-eighties, he was hired by one, eventually becoming a vice-president of the investment bank Dillon, Read. Aside from a short stint in George H. W. Bush’s Treasury Department, he spent most of his career at huge global investment firms, including the Carlyle Group and a firm that he founded, Severn Capital Partners. He has made few public statements; those he has made are obscure even by Fed standards. This summer, for example, he said that he would have expected more inflation right now, given that the economy has been growing healthily and unemployment has fallen. He said that the lack of inflation is “kind of a mystery,” and offered no additional insight. The interplay between Federal Reserve policy and inflation is a central question of macroeconomics, and so it is crucial to understand how a Fed chair thinks through this question. By comparison, Janet Yellen, the outgoing chair, has recently also expressed surprise at the unusually low level of inflation, but she hardly left it there. She walked through several possible reasons for it, including global technological change (she pointed to online shopping, which encourages price cuts, as one potential cause), and lower-than-expected increases in medical prices. She additionally explained how continued surprises might influence her decisions about Fed policy. Yellen was candid and clear, so that anyone—or at least anyone who understands central bankers—could grasp what she is thinking, and how her thinking might change if the facts change.

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Dr. Janet Yellen is a master at thinking in public—continually sharing what she is doing, why she is doing it, and what she might do in the future. This was essential to the Fed’s role in stabilizing the global economy during its greatest modern crisis.–Adam Davidson

Like her predecessor, Ben Bernanke, Yellen is a master at thinking in public—continually sharing what she is doing, why she is doing it, and what she might do in the future. This was essential to the Fed’s role in stabilizing the global economy during its greatest modern crisis. It’s an odd feature of our modern economy that it requires the entire financial world to trust in a handful of monetary-policy wizards who meet in secret every six weeks or so. But it is true. The Fed funds rate is the platform upon which the global economy is built, and was tested so profoundly that Bernanke and Yellen (who served as vice-chair before her promotion) had to invent new suites of macroeconomic tools. If they hadn’t built such trust through decades of rigorous academic work and open communication while at the Fed, their experiments would surely not have been so successful.

If the economy continues as it has for the past three years or so—slowly, steadily growing, with minimal inflation or turmoil—there should be little reason to worry about Powell. A middle-of-the-road man of consensus will be able to guide the Fed well. Powell is a relief for those worried that Trump—who has made it quite clear how little he knows or cares about monetary policy—might put in place a fringe ideologue or a man like Arthur Burns, who, as the Fed chair, succumbed to President Nixon’s desire to goose the economy through lower rates right before the 1972 election, even if it increased the likelihood of long-term inflation.

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If, however, there is severe economic turbulence—a rougher-than-usual recession or a financial crisis that erupts, suddenly, somewhere else on the globe—the fact that few people know how Powell thinks will be a real problem. Hopefully, he will take after his predecessors and begin to tell us about himself. We need to know who you are, Mr. Powell—it’s possible our economy will depend on it.

  • Adam Davidson is a staff writer at The New Yorker

 

Trump’s Federal Reserve Nominee Chairman–Jerome Powell


November 3, 2017

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Trump’s Federal Reserve Nominee Chairman–Jerome Powell

by Kenneth Rogoff*

https://www.project-syndicate.org/commentary/jerome-powell-fed-chair-pick-by-kenneth-rogoff

Jerome Powell, US President Donald Trump’s pick to succeed Janet Yellen as Fed Chair, will face some extraordinary challenges at the outset of his five-year term. But the greatest challenge of all will be to stay out of Trump’s shadow and uphold the Fed’s independence.

Image result for Jerome PowellFederal Reserve Chairman Designate Jerome Powell with President Donald J. Trump.

Jerome Powell “is a sane and sober choice that heralds short-term continuity in Fed interest-rate policy, and perhaps a simpler and cleaner approach to regulatory policy.”–Kenneth Rogoff

 

CAMBRIDGE – With the appointment of Jerome Powell as the next Chair of the United States Federal Reserve Board, Donald Trump has made perhaps the most important single decision of his presidency. It is a sane and sober choice that heralds short-term continuity in Fed interest-rate policy, and perhaps a simpler and cleaner approach to regulatory policy.

Although Powell is not a PhD economist like current Fed Chair Janet Yellen and her predecessor, Ben Bernanke, he has used his years as an “ordinary” governor at the Fed to gain a deep knowledge of the key issues he will face. But make no mistake: the institution Powell will now head rules the global financial system. All other central bankers, finance ministers, and even presidents run a distant second.

If that seems hyperbolic, it is only because most of us don’t really pay attention to the Fed on a day-to-day basis. When the Fed gets it right, price stability reigns, unemployment remains low, and output hums along. But “getting it right” is not always easy, and when the Fed gets it wrong, the results can be pretty ugly.

Famously, the Fed’s efforts to tame a stock-market bubble in the late 1920s sparked the Great Depression of the 1930s. (Fortunately, of the candidates Trump was considering for the Fed post, Powell is the one least likely to repeat this mistake.) And when the Fed printed mountains of money in the 1970s to try to dull the pain of that decade’s oil shocks, it triggered an inflationary surge that took more than a decade to tame.

At times, the rest of the world seems to care more about Fed policy than Americans do. Little wonder: perhaps more than ever, the US dollar lies at the heart of the global financial system. This is partly because much of world trade and finance is indexed to the dollar, leading many countries to try to mimic Fed policies to stabilize their exchange rates.

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Thank You, Dr. Janet Yellen for Your Service to the International Financial Community

Powell will face some extraordinary challenges at the outset of his five-year term. By some measures, stock markets look even frothier today than they did in the 1920s. With today’s extraordinarily low interest rates, investors seem ever more willing to assume greater risk in search of return.

At the same time, despite a strongly growing US and global economy, inflation remains mystifyingly low. This has made it extremely difficult for the Fed to normalize policy interest rates (still only 1%) so that it has room to cut them when the next recession hits, which it inevitably will. (The odds of a recession hitting in any given year are around 17%, and that seems like a good guess now.)

If Powell and the Fed cannot normalize interest rates before the next recession, what will they do? Yellen insists that there is nothing to worry about; the Fed has everything under control, because it can turn to alternative instruments. But many economists have come to believe that much of this is smoke and mirrors.

For example, so-called quantitative easing involves having the Fed issue short-term debt to buy up long-term government debt. But the US Treasury owns the Fed, and can carry out such debt purchases perfectly well by itself.

Some argue for “helicopter money,” whereby the Fed prints money and hands it out. But this, too, is smoke and mirrors. The Fed has neither the legal authority nor the political mandate to run fiscal policy; if it tries to do so, it runs the risk of forever losing its independence.

Given that monetary policy is the first and best line of defense against a recession, an urgent task for the new chair is to develop a better approach. Fortunately, good ideas exist, and one can only hope that Powell will quickly move to create a committee to study long-term fixes.

One idea is to raise the Fed’s inflation target. But this would be problematic, not least because it would breach a decades-long promise to keep inflation around 2%. Moreover, higher inflation would induce greater indexation, ultimately undermining the effectiveness of monetary policy. Paving the way for effective negative-interest-rate policy is a more radical – but by far the more elegant – solution.

Bank regulation is also part of the Fed’s mandate. The 2010 Dodd-Frank financial-reform legislation, which has spawned 30,000 pages of rules, has been a boon for lawyers. But the massive compliance costs ultimately fall on small and medium-size businesses. It would be far better simply to require banks to raise much more of their resources in equity markets instead of through bonds. That way, shareholders, not taxpayers, would take the big hit in a crisis.

I have not mentioned the elephant in the room: the threat to the Fed’s independence posed by a president seemingly intent on challenging all institutional norms. When President Richard Nixon was intent on being re-elected in 1972, he put heavy pressure on then-Fed Chair Arthur Burns to “juice” the economy. Nixon was re-elected, but inflation soared and growth collapsed. No one should be wishing for a replay – even if Nixon eventually was impeached.

*Dr. Kenneth Rogoff, Professor of Economics and Public Policy at Harvard University and recipient of the 2011 Deutsche Bank Prize in Financial Economics, was the chief economist of the International Monetary Fund from 2001 to 2003. The co-author of This Time is Different: Eight Centuries of Financial Folly, his new book, The Curse of Cash, was released in August 2016.

 

Bank Negara Malaysia Forex RCI – what it has, and has not, established


September 23, 2017

Bank Negara Malaysia Forex RCI – what it has, and has not, established

by P. Gunasegaram@www.malaysiakini.com

Image result for nor mohamed yakcop deputy chairman, khazanah nasional berhad

No Longer Deputy Chairman, Khazanah Nasional Berhad. Finally. He may end up carrying the can. But that is purely academic; the foreign exchange loss incurred by Bank Negara Malaysia is real–some RM30 billion

QUESTION TIME | Three people collectively knew of what exactly transpired in Malaysia’s RM31.5 billion foreign exchange losses, but the demise of one of them results in a missing piece of evidence which would have provided the link in the chain of accountability as to who was ultimately responsible.

Even as the first casualty of the Royal Commission of Inquiry (RCI) into Bank Negara Malaysia’s (BNM) foreign exchange losses occurs, it is clear that the commission has not established much going by the proceedings which ended two days ago.

If the political intention in the setting up of this inquiry, or inquisition as some have called it, is to ascribe blame to and imply benefit to some – especially the Prime Minister at the time, Dr Mahathir Mohamad – it has not been conclusive.

But the extent of the losses to the country is clear – RM31.5 billion between 1991 and 1994, given to the RCI by a BNM staff member. Even this piece of vital information was in the public realm for some time, although it is good to have clear confirmation now.

The difference between the situation at BNM (highly irregular and speculative trading by the central bank) and 1MDB (alleged theft) are quite different even if the amounts involved are of the same order of RM30 billion. No one except the counterparties to BNM’s trade, including currency trader George Soros, benefited from the massive positions taken by BNM.

It was also established that there were attempts to hide the extent of losses, widely reported at the time to be just RM5.7 billion, going by the deficiency in shareholders’ funds of BNM for 1993. In fact, the RCI was told by a BNM official that several papers involving the losses were classified under the Official Secrets Act. But it was not established who decided to classify the documents.

There were gaps in terms of the chain of command that led to the losses which the RCI was not able to fill. Former Bank Negara advisor Nor Mohamed Yakcop said he accepted his fair share of accountability over the foreign exchange (forex) losses incurred in the late 1980s and early 1990s.

But he said he never discussed the forex transactions in the years between 1986 and 1993 with both the then Finance Minister Anwar Ibrahim and Prime Minister Mahathir, which if true, absolves them of blame for the losses.

“The forex losses occurred, there is no denying it. There is also no denying my accountability for the forex losses. I accepted my fair share of the accountability and resigned from Bank Negara.”

Nor Mohamed became the first casualty of the RCI as he resigned his Deputy Chairman’s position at Khazanah Nasional Bhd, the government sovereign fund which he had helped nurture back into capability and trust starting in 2004 under previous Prime Minister Abdullah Ahmad Badawi.

He had been under political pressure to finger Mahathir over the forex scandal but he steadfastly refused to do so.

Lengthy document

He issued a document of nearly 4,000 words to the RCI, which makes compelling reading, outlining the events leading to BNM’s forex trading activities.

“Prior to 1985, BNM was not active in external reserves management, including forex trading, given the relative stability in the international foreign exchange market.

“The situation changed in 1985. On 22 September 1985, five OECD countries met in private at the Plaza Hotel in New York and decided among themselves, without consulting other countries, that the yen and the German Deutsche mark should be strengthened significantly against the US dollar by way of market intervention,” he said.

This was the exact same argument given by Mahathir as I explained in this article when he justified BNM’s interventions in the currency market.

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“If the political intention in the setting up of this inquiry, or inquisition as some have called it, is to ascribe blame to and imply benefit to some – especially the Prime Minister at the time, Dr Mahathir Mohamad – it has not been conclusive.”–P. Gunasegaram

Bernama reported on November 5, 1990: “Speaking to reporters after delivering a keynote address at the 17th Asian Advertising Congress here, Datuk Seri Dr Mahathir said, ‘We are stabilising our own currency.

“‘When they do something it is always alright. We are trying to protect our currency. We have lost a lot of money before when they revalued their currency like the yen. We lost a lot of money because we borrowed yen, when they devalued their currency we also lost money.

“‘So what is wrong with our protecting our own interest, why is it when they can protect their interest and we cannot. I cannot understand this.’”

That’s clear indication he condoned currency trading by BNM. Of course, that does not necessarily mean Nor Mohamed would have taken instructions from Mahathir, although they were on the same page in their views.

The person who Nor Mohamed reported to was Jaffar Hussein, then BNM Governor. He quoted Jaffar’s speech which advocated active intervention in the forex markets to manage reserves, to indicate that Jaffar was the main architect of the policy. Mahathir too put the responsibility of the forex trades on Jaffar.

Said Nor Mohamed in his statement: “I need to elaborate on this point because Allahyarham Tan Sri Jaffar Hussein is no more with us, and it is important that we recognise the wisdom of this great man. The Governor believed that by active management of the external reserves, we will be able to acquire the skills, knowledge and experience required to serve the nation, when required, both in developmental activities as well as to overcome any financial crisis that the nation may face in the future. He termed this as ‘market expertise’.

“Indeed, Allahyarham Tan Sri Jaffar Hussein’s foresight regarding market expertise saved the nation during the 1997/1998 financial crisis. In a strange twist of history, the skills, knowledge and experience acquired in BNM enabled the nation to implement the Unorthodox Measures of September 1998.”

And Nor Mohamed went on to enumerate how he used this “expertise” to help rescue the country from the ravages of 1997-98 Asian financial crisis and saving the country hundreds of billions of ringgit.

Missing link

However, former Finance Minister Anwar Ibrahim, now an ally of Mahathir under Pakatan Harapan, fingered Nor Mohamed as the person most responsible and had wanted him sacked.

Anwar said Nor Mohamed was found to have overstepped his boundaries following the forex losses.

“He did not report the true picture to him (Jaffar). I instructed that Nor Mohamed be sacked, if possible, by 4pm (on the day of the meeting). If he didn’t resign, I would have sacked him.”

Asked about Nor Mohamed’s comments about learning a lesson, he was scathing: “His assertions are absurd. You must be accountable. It doesn’t have to cost the country billions to learn a lesson. He should go back to business school (to learn a lesson),” said Anwar.

Mahathir similarly laid the blame on Jaffar. Citing a meeting with Jaffar, he said he was informed verbally by the then governor that BNM could strengthen the country’s reserves and currency through forex trading. Jaffar’s decision to go actively into forex trading, said Mahathir, was not made with his knowledge.

“As Prime Minister, I was never involved in Bank Negara’s administration and I believe that I was not permitted under the law to get involved in its policies and affairs.”

Mahathir, however, says this does not mean that the Governor, then, never talked about the central bank in general terms.

According to Nor Mohamed, in his written communication to the RCI, he was tasked with implementing the external reserves management policy as determined by the BNM’s board.

“…I reported both to the Governor and the External Reserves Committee (ERC). I spoke to the Governor on external reserves management regularly, and certainly whenever there was a large movement in the exchange rates. I also reported to the ERC whenever it met. The membership of the ERC comprised, amongst others, the Governor, Deputy Governor, and the Advisors. Further, there were weekly Senior Officers Meeting, where the external reserves matters were sometimes discussed.”

However, then deputy governor of BNM Lin See Yan has a different story to tell. Lin told the RCI he was first informed about the losses by the former bank Special assistant to the Governor, Lee Siew Kuan.

He also said he was then informed about the losses by “friends from the International Monetary Fund (IMF)”. “They told me ‘we know you have made open positions and you have made big losses, please stop it’.” Both Lin and Lee then went to see Jaffar whom Lin said had confirmed the losses.

“We asked how big the losses were, he said he was not sure.”

Jaffar, said Lin, had then agreed that Lee, with the help of former Bank Negara Assistant Governor Abdul Murad Khalid, were to then carry out preliminary investigations immediately. The investigations then had found that Bank Negara had large open forward positions in multiple currencies which meant that the bank would suffer more losses.

“As a central banker, (for me) the risk was not acceptable,” said Lin.

Circumstantial evidence

Meantime former Finance Minister Daim Zainuddin, during whose tenure from 1985 to 1991 BNM started engaging in active forex trading, denied any knowledge of forex dealings, raising the question as to who the instructions came from. Daim also said if he knew about the forex trading, he would have stopped it.

Mahathir, as explained, is likely to have known and sanctioned BNM’s orthodox foreign exchange activity. The three people who would have known for sure the chain of authority are Mahathir, Nor Mohamed and Jaffar. Mahathir and Nor Mohamed’s accounts to the RCI implicate Jaffar, who is not here to defend himself.

The RCI is expected to complete its probe within three months from the date of its setting up on July 15 and thereafter submit its report to the Agong.

But unfortunately, there are not many conclusions that it can make considering that the RCI comes 25 years too late. What is clear is RM31.5 billion in losses were made.

What is not clear is how they were made and why certain people were given so much authority to trade way beyond the normal acceptable limits for a central bank. No central bank has before or since lost more money on trading than BNM.

The answers will continue to be in the realm of conjecture and circumstantial evidence. There can be little doubt that Nor Mohamed was doing what he thought was best for the country. But it should have been very clear to him that he was taking a large risk because the losses would have been massive – and turned out to be so – if his bet was wrong.

Was he acting entirely on his own when he took that bet? Is it likely he consulted no one before he made his bets? Who gave him the go-ahead to make such unprecedentedly large bets? Did he exceed the limits set by BNM? Were there any limits?

Was Jaffar indeed the architect of BNM’s forex policy? Remember, his background was accountancy  – he was a partner at PwC. He was known to be conservative when he was CEO of Malayan Banking. Was he protecting someone when he took the rap?

This hastily convened RCI, which has a couple of months to complete its report and recommendations, is not going to answer all these questions satisfactorily.

 

Najib Razak’s Baloney Economics


April 22, 2017

Najib  Razak’s Baloney  Economics

by TK Chua

http://www.freemalaysiatoday.com

Since when is inflation not due to bad policies, poor macroeconomics management, inefficiency, massive corruption and loss of confidence? Sorry, are there new economic theories emerging?

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A Political Baloney

Why single out some external factors igniting inflation when these factors are also applicable and affecting other economies?

Malaysia is a net oil exporting country, but global oil prices have now become a major factor accounting for our high inflation. Can we not see the baloney and the irony here? What about countries with no oil to begin with? Would they not be affected by high or low prices of oil as well?

The “Trump phenomenon” is a uniform factor likely to affect most countries. Why should Malaysia suffer more than others if indeed Trump has caused reverse capital flows and currency realignments globally?

The ringgit has depreciated not just against the US dollar, but also against the Singapore dollar, Chinese Renminbi and Thai baht, just to name a few.Malaysia’s inflation is unprecedented in recent months. When global oil prices were more than US$100 per barrel, did Malaysia’s inflation reach 8%?

I hope some of us have heard of this statement before, “Inflation is always and everywhere a monetary phenomenon.” The primary cause is always too much money chasing after too few goods.

The Shrinking Ringgit

We can argue and debate whatever we want, but inflation is invariably caused by the following factors:

First, high taxes and unproductive use of tax money. I have lived in this country long enough to know that the GST is a major culprit of inflation, causing prices to escalate higher than the GST rate due to our half-baked implementation.

 Second, when there is too much fat or unproductivity in the economy. When there are sectors that get the bulk of the income/subsidies/wages for doing nothing, they cause inflation.

Third, when we have too many over-priced projects and contracts. When contractors and promoters get too much profit, the people must pay for it through higher prices. There are no free lunches in this world.

Fourth, when government borrows and spends too much. Fiscal deficit is a given in Malaysia, regardless of the state of the economy. Borrowing to finance deficit from inflationary sources could make the situation worse.

Fifth, when policies favour the cronies. When we have massive distortions and profiteering due to collusion and complicity, prices will escalate. Prices of homes are high because developers have always got what they wanted at the expense of the buyers.

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Najib Razak’s Non-Bumiputra Crony

Sixth, when foreign monies are allowed to pour in indiscriminately. When we have too much foreign money going into our real estate and property sector, it is almost certain the locals, including the middle class, would not be able to compete. Probably, the purchasing power of 5% of rich Chinese is bigger than the whole middle class of this country.

Seventh, we have too much “bad news”. It is almost a daily affair for us, hearing of mega deals going wrong. I must say Malaysia is a strong young man but has subjected himself to constant drugging, drinking and smoking. Sooner than later, something must give.

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International Rogues Gallery

This is the essence of lack of confidence being manifested in our country today. I believe the ringgit is suffering not just because foreigners are pulling out. I think many high net worth Malaysians too are hedging to protect themselves.

We owe ourselves the responsibility to look at issues confronting us honestly and objectively. Even if there are external factors affecting inflation, we must still avail ourselves macroeconomic tools to mitigate them.

Have we resolved issues that are likely to restore confidence? Have we reduced the distortions and inefficiency prevailing in the economy? Some have argued that Pakatan Harapan-controlled states, namely Penang and Selangor, are also suffering from high inflation and hence, it is something to be accepted.

I think this is a “political” argument devoid of economic logic and reality. Penang and Selangor are subjected to the same economic and political environment as the rest of the federation. They are not exempted from the effects of bad policies or the erosion of confidence arising from bad policies.

TK Chua is an FMT reader.

 

Joseph Stiglitz: ‘The EU’s monetary union was the mistake’


September 17, 2016

Joseph Stiglitz: ‘The EU’s monetary union was the mistake’

by Jeremy Warner

I’m on my way to interview Joseph Stiglitz, economic guru of the political left, about his latest book, The Euro and its Threat to The Future of Europe.

Waiting in the reception of Penguin Books, I notice on display an early, Penguin “classic” edition of George Orwell’s 1984. Orwell is one of those authors who is claimed as their own by both right and left – the left because of his writings on social deprivation, but the right too because of his deep aversion, depicted in Animal Farm and 1984, to totalitarian communism.

I’m not sure Stiglitz, a Nobel prize winning economist who has advised the Scottish government on independence, the Far Left Syriza government in Greece, and very briefly sat on Jeremy Corbyn’s now disbanded economic advisory panel, crosses the boundaries in quite the same way, but there is no doubt that as a critique of the euro, his new book will appeal as much to a right as to the left.

I put this point to Stiglitz at the start of our interview.

It is the absence of any proper economic adjustment mechanism which is the over-riding failure in Europe–Joseph Stiglitz.

“Yes, it’s a fair summary”, he says, “except for one thing. One of the arguments I make for the failure of the euro is that at the time it was being constructed there was a “neo-liberal” ideology which said that all we need to do to make this thing work is to get deficits low, keep inflation low and take down barriers and then everything would be fine.

“That was a very conservative ideology,  that if you did those things the markets would on their own adjust and everything else would come right. Not all right wing conservatives thought that, but a lot of what I call ‘market fundamentalism’ did go into the thinking on the euro.”

 

But most of those in Britain who thought the euro a mad idea were on the political right, I point out.

Stiglitz says that he is not really talking about the issues of national sovereignty raised by the euro. “I was thinking more in terms of the macro-economic adjustment. It is the absence of any proper economic adjustment mechanism which is the over-riding failure in Europe. Where the left and right would agree – and this speaks to the whole Brexit debate – is that Europe needs economic arrangement that work well for a very diverse group of countries.

“This requires a balance between flexibility and harmonisation, and in opting for monetary union they didn’t get that balance right. We see the lack of it particularly in the rigidity that Germany imposes on the eurozone’s crisis hit countries”.

The theme of Stiglitz’s book is that monetary union was basically where it all went wrong for the European Union. A project that was meant to bring countries together has succeeded only in tearing them apart in a manner which now threatens wider European economic and social stability.

“There have been other things that Europe got wrong, but monetary union was the overarching macro economic mistake. We can see this most clearly in the fact that some countries not in the euro but with the same regulatory framework, such as the UK and Sweden, did much better.”

EU flag

So what, fundamentally, is the problem with the euro?

“For the first nine years up until 2008 there were no symptoms, or no obvious ones, of how dysfunctional things really were. But actually the euro was already creating its own problems.

“When the financial crisis hit, it was roundly blamed on the US, but in fact a very large part of Europe’s crisis was created by the euro.

“The single currency gave markets this excessive confidence. They began to confuse the absence of exchange rate risk with the absence of risk per se. Monetary union had taken away the ability of individual governments to curb domestic inflationary pressures, which led to an increase in price levels relative to Germany. Real exchange rates became out of line.

“One of the key points of the book is that it is easy to create these imbalances, made possible by the easy flow of money between countries under  the euro, but with a rigid exchange rate it is very hard to undo them.

“There are only two ways of doing it. Have Germany inflate, or have the others deflate. Germany was unwilling to inflate. But deflation doesn’t work easily either because your debts are still owed, and that means that in forcing countries to deflate you make them even more fragile”.

We move onto the issue that most puzzles Anglo-Saxon commentators such as myself; if the euro is so bad, how come it has lasted so long?

“Well, you have to take account of the eight or nine years before the problem became apparent. Then there was ‘oh it has worked for nine years’ – even though it hadn’t – ‘so the crisis will be over quickly and we can make it work again’. When you have already invested heavily in something, it is very difficult to cut your losses. There is always a tendency to think that with just a little more investment, it can be made to work.

“So the politicians said, just accept a little bit of temporary pain and everything will be OK again. After two years that wasn’t true. And time and again it turns out not to be true. Good money is constantly thrown after bad.

“Imagine yourself in the position of a Greek politician, with 25pc unemployment and an escalating financial commitment as a result of the fight to stay in the euro. As things go more and more wrong, you become ever more committed to the policy that got you there because to admit you are wrong is to say we have suffered all this pain for nothing”.

Joseph Stiglitz

Does this mean Europe is essentially damned, I ask?

“The most likely scenario is a continued muddling through, which is what they have been doing to date. But neither Frankfurt nor Brussels controls events, as the Brexit referendum vote shows, so what you see – and this is not for sure but almost predictable – is growing alienation.

“This is already apparent in electoral outcomes. More than 60pc of people in Spain, Greece and Portugal voted against austerity parties. The same thing with Brexit, which was also a rebellion against the political centre.

“The only thing that saves the centre ground is that the anti-establishment movement is divided between left and right. So you get a stalemate which is also not at all good for anyone, and out of that who knows what happens.

“Getting a political coalition in any country large enough to leave the euro is therefore difficult. What’s so troubling is that it is also proving impossible for Europe to agree on policies to fix the euro, so you have neither one thing or the other. Despite his apparent pessimism, Stiglitz is not short on suggested solutions.

“If you had a group of people sitting around a table rationally discussing the future of Europe, these are the sort of things they might come up with.

“One is to say let’s finish the job. The US shares a common currency among 50 diverse states, so what are the institutions and rules needed to make the single currency work.

“As a bare minimum, you need common deposit insurance, a banking union, Eurobonds, maybe industrial policies to allow those at the bottom to catch up, you need to move away from just inflation targeting, and you need some way of adjusting real exchange rate that doesn’t involve internal devaluation.

“Germany has to perform its role of allowing its economy to inflate relative to others. So those are the minimum to make a euro that works.

“But Germany takes the view that we are not a transfer union and we won’t even take the risk of a banking union or of common deposit insurance. This is like New York saying we don’t want to have federal deposit insurance because there is a bank in Alabama which might go bankrupt.”

If completing the job proves impossible, says Stiglitz, that leaves the alternative of an “amicable divorce”.

“In the book I use the example of marriage councillors. In the past, the job of the marriage councillor was to keep the marriage together, but modern ones sometimes say you should never have got married in the first place.

“Once you have accepted the marriage can’t be made to work, then the only issue is how to make splitting up go as smoothly as possible.

“In the book, I describe some novel ways of doing this. The core of the idea is that you are going to have to allow redenomination of debt, and allow some form of bankruptcy.

“A third way is the flexible euro where you say lets try and consolidate the institutional advances we have made but recognise that we are not anywhere near a single currency yet. And then I describe some mechanisms that would allow the exchange rate to be operated flexibly and allow economic adjustment”.

So what are the chances of any of these “solutions” being adopted, I ask.“I’m hopeful”, Stiglitz says with a grin, which somewhat suggests he’s not.

For America, ‘Brexit’ May Be a Warning of Globalization’s Limits


New York

June 25, 2016

For America, ‘Brexit’ May Be a Warning of Globalization’s Limits

When the mills that birthed the industrial revolution in cities like Manchester and Birmingham still powered the British economy of the mid-20th century, Robert Stevenson was a frequent visitor to the Midlands.

Eastman Machine, the company his family helped start in upstate New York 128 years ago, had a big factory 100 miles north of London, and Britain accounted for roughly a fifth of the firm’s sales.

That was then. While Britain is still an important market for Eastman’s sophisticated cutting tools, its workshop there was shuttered in the 1970s, and British customers are now served by Eastman’s main factory in Buffalo and a smaller one in China.

So when the British electorate stunned the world on Friday with the results of the vote to leave the European Union, it was a shock for Mr. Stevenson, but not because it poses an immediate threat to Eastman’s bottom line or the job security of its heavily blue-collar, 120-strong work force in downtown Buffalo.

What most concerns Mr. Stevenson and owners of businesses big and small is what the so-called Brexit says about the shape of economic things to come.

“You never know if there will be a domino effect, and we worry about other countries securing their borders,” Mr. Stevenson said. “We were certainly surprised.”

For all the shock and awe on Wall Street and financial markets around the globe on Friday, the imminent danger to the underlying American economy is relatively small. What’s far more worrisome is whether Britain’s decision represents an end to the economic integration and opening markets that have helped propel sales at companies like Eastman over the last few decades.

Since the fall of Berlin Wall in 1989, politics and economics have mostly moved in one direction, with the elites on both sides of the Atlantic favoring policies like the North American Free Trade Agreement with Canada and Mexico, the introduction of the European currency and the entry of China into the World Trade Organization. Business has applauded these moves, but voters are not necessarily on board as they once were.

“I think a lot of the market reaction is less about the financial impact and more about populism and what it means for the liberal economic order,” said Glenn Hubbard, a top economic official to President George W. Bush who now serves as dean of the Columbia Business School.

The Brexit vote, he added, reflects a deep distrust of the benefits of the global economic system among a wide swath of voters in Europe and the United States, and a broadly held view that government institutions — whether in Washington or Brussels — are calcifying and don’t work well.

“Both of those forces have a lot of wind at their back,” he said.“In the near term, you’re seeing markets being roiled, and feedback effects for the Federal Reserve,” Mr. Hubbard said. But for now, at least in the United States, “I don’t think it’s going to raise recession probabilities.”

When it comes to commerce, Britain is not even among the United States’ top five trading partners — it’s currently the seventh largest, according to the United States Census Bureau, which tracks trade data. American exports to Britain last year totaled $56 billion, or just over 0.3 percentage point of gross domestic product.

Partly that’s a reflection of how the United States, despite leading the era of globalization, remains something of an economic island. Exports account for 13.4 percent of American economic output, according to the World Bank, compared with roughly 30 percent for Britain.

The 2015 slowdown in the United States’ biggest trading partner — China — may have blunted domestic growth in the last year, but even that hardly threw the American economy into a tailspin. Nor should Brexit, most experts say.

Jared Bernstein, a liberal economist who most recently served in the Obama administration and is now a senior fellow at the Center on Budget and Policy Priorities, sees minimal pain within American borders. “It won’t be helpful for our economy,” Mr. Bernstein said, but “we won’t take anything like the direct hit that I expect will befall the economy.”

Several economists estimated that the fallout from the vote would probably end up decreasing growth in the American economy by about a quarter of a percentage point or less, while postponing any push by the Federal Reserve to raise interest rates, possibly through the end of 2016.

“The flight to safety means lots of people are flocking to U.S. Treasury bonds, putting downward pressure on interest rates,” Mr. Bernstein said. “One possible outcome is that Fed’s path to higher interest rates may become flatter as these events play out.”

“With the pound dropping 10 or 15 percent, it may strengthen a couple of our competitors in the U.K.,” he said. “I think they could be quite happy about it and gain market share.”

As befits the owner of a company that survived World Wars I and II, outlasted the Great Depression and the Great Recession, and survived the collapse of the American textile industry — all without abandoning Buffalo — Mr. Stevenson has learned to adapt to potential shocks like Brexit.

Increasingly, that’s meant focusing on making high-tech, software-driven equipment to cut composites and carbon-based fabrics for the aerospace industry and automakers, rather than the woolens and cotton Eastman’s equipment was once designed to slice.

Many of Mr. Stevenson’s current customers in Britain are in these sectors, he noted. The dressmakers and hosiers and other clothiers that once populated England’s redbrick towns have long departed.

“Our focus has been to understand where the market is going,” said Mr. Stevenson. Twenty years ago, 70 percent of Eastman’s products were of traditional fabrics; the rest were space-age materials. Now, it is the reverse, which is among the reasons a fifth generation of Stevensons will have a company to take over.

“Our goal has been to maintain the company in Buffalo and as a family business,” Mr. Stevenson said. “My son is 40, and I’m 65, and he is focused on these new materials. This saved our butt.”

For those exporters that have managed to hang on in the industrial heartland of Britain, the Brexit could actually be good news, simply because the pound’s plunge against currencies like the euro and the dollar makes their goods more competitive.

British exports like Rolls-Royce jet engines, high-end Jaguar automobiles and certain food products could get a lift. Last month, for example, Britain exported the largest cargo of wheat to the United States in more than two decades.

So would British hotels and restaurants, eager to host American visitors looking for what could amount to a 10 to 20 percent-off sale.

“If you wanted to buy a nice little house in Scotland, today’s the day,” said Kevin A. Hassett, an economist at the conservative American Enterprise Institute.

Chief executives of major American companies are paid well to see around corners, and must adapt their businesses even to trends they oppose, or face the consequences in the form of falling stock prices and angry shareholders.

That’s among the reasons General Electric, which relies on foreign markets for more than half its revenue, has been preparing for the kind of political retreat from open markets that the British vote to leave the European Union represents.

“Companies must navigate the world on their own,” G.E.’s chief executive, Jeffrey R. Immelt, said in the commencement speech last month at the N.Y.U. Stern School of Business.

For G.E., he said that meant seeking to achieve “a local capability inside a global footprint.” Today, its 420 factories spread across the world give G.E. “tremendous flexibility,” Mr. Immelt said, with jet engines, power generators and rail locomotives increasingly manufactured at several sites to ensure market access.

“A localization strategy,” Mr. Immelt said, “can’t be shut down by protectionist politics.”

G.E. had prepared for the risk that Britain might vote to leave the E.U. by hedging in foreign currency markets. But beyond that immediate step, a G.E. spokeswoman said on Friday it was too early to discuss longer-term moves the company might make.

Mr. Immelt, in a statement, said that G.E., America’s largest manufacturer, which employs 22,000 people in Britain and 100,000 in Europe over all, remains “firmly committed” to both Britain and Europe.

While Brexit’s impact on Britain’s overall economy may be mixed, its London-based financial sector is likely to feel the full force of the coming storm. The City, as London’s equivalent of Wall Street is known, has boomed in the last 20 years as a global financial capital, especially for Continental banks seeking a more market-friendly home than Frankfurt or Paris.

With a recession in Britain now a distinct possibility, some experts worry that a government desperate to create and maintain jobs could seek to save the financial sector by making the City more attractive as an offshore haven.

“This could lead to London becoming even more like the Cayman Islands and other British territories, skirting around regulations, in a race to the bottom for the financial sector,” said Adam S. Posen, a former member of the rate-setting committee at the Bank of England and now president of the Peterson Institute for International Economics in Washington. “This potentially could leave pretty big holes in the financial safety net.”

He pointed to the 2008 crisis involving the insurance giant American International Group, where a hedge-fund-like subsidiary operating in London and under less stringent rules nearly brought down the company and contributed to the financial crash.

“They could get away with things in London that they couldn’t get away with in New York,” Mr. Posen said, “So imagine repeating that on a larger scale or a more frequent scale.”

Of course, dangers like those are the hardest to anticipate. “Right now we’re in one of those points in history,” Mr. Hassett of the American Enterprise Institute said, “where there are lot of ‘unknown unknowns,’” referring to the infamous comment by former Defense Secretary Donald Rumsfeld on the Iraq war.

Consider two very different types of uncertainty, Mr. Hassett explained, citing a well-known economic metaphor. If you bet on a roulette wheel, you know all the possible outcomes and the attendant risks. But now imagine a game where you don’t know all the places the roulette ball might land, or the chances of it falling into different slots or even the prizes if you are fortunate enough to bet correctly.

“In those types of situations,” he said, “anything can happen. And if you don’t know what will happen, the optimal strategy might be to assume the worst.”

Steve Lohr contributed reporting.

A version of this article appears in print on June 26, 2016, on page BU1 of the New York edition with the headline: ‘Brexit’ in America.