Posted in banking and central banking, Central banks, Economic History, Economics, Fractional reserve, In English, Inflation, Institute of International Monetary Research, Macroeconomic theory, Monetary policy rules, Money, MSc money, Quantitative easing, Quantitative Tightening, Tim Congdon, Uncategorized, University of Buckingham, Videos, tagged bank money, Bank of England, Banking, Basel III, Central banking, Geoffrey Wood, Institute of International Monetary Research, Juan Castaneda, Lender of last resort, M3, Money on 3 April, 2017|
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On the 13th of March (IEA, London) I had the pleasure to participate in the launch of the new MSc in Money, Banking and Central Banking (University of Buckingham, with the collaboration of the Institute of International Monetary Research), starting in September 2017; and I did it with two of the professors who will be teaching in the MSc, indeed two excellent and very well-known experts in the field: Professors Geoffrey Wood and Tim Congdon. I have known them both for long and shared research projects and co-authored works in money and central banking; and it was a privilege for me to have the chance to introduce the new MSc, as well as to engage in a fascinating dialogue with them on very topical and key questions in monetary economics in our days: amongst others, ‘How is money determined? And how does this affect the economy?’; ‘Is a fractional reserve banking system inherently fragile?’; ‘Does the size of central banks’ balance sheet matter?’; ‘If we opt for inflation targeting as a policy strategy, which should be the variable to measure and target inflation?’; ‘Why the obsession amongst economists and academics with interest rates, and the disregard of money?”; ‘Who is to blame for the Global Financial Crisis, banks or regulators?’; ‘Does tougher bank regulation result in saver banks?’; ‘Is the US Fed conducting Quantitative Tightening in the last few months?’.
You can find the video with the full event here; with the presentation of the MSc in Money, Banking and Central Banking up to minute 9:20 and the discussion on the topics mentioned above onwards. Several lessons can be learned from our discussion, and however evident they may sound, academics and policy-makers should be reminded of them again and again:
- Inflation and deflation are monetary phenomena over the medium and long term.
- Central banks‘ main missions are to preserve the purchasing power of the currency and maintain financial stability; and thus they should have never disregarded the analysis of money growth and its impact on prices and nominal income in the years running up to the Global Financial Crisis.
- A central bank acting as the lender of last resort of the banking sector does not mean rescuing every bank in trouble. Broke banks need to fail to preserve the stability of the banking system over the long term.
- The analysis of both the composition and the changes in central banks’ balance sheets is key to assess monetary conditions in the economy and ultimately make policy prescriptions.
- The analysis of the central banks’ decisions and operations cannot be done properly without the study of the relevant historical precedents: to learn monetary and central banking history is vital to understand current policies monetary questions.
- Tighter bank regulation, such as Basel III new liquidity ratios and the much higher capital ratios announced in the midst of the Global Financial Crisis, resulted in a greater contraction in the amount of money, and so it had even greater deflationary effects and worsened the crisis.
These are indeed key lessons and principles to apply should we want to achieve both monetary and financial stability over the medium and long term.
I hope you enjoy the discussion as much as I did. As ever, comments and feedback will be most welcome.
Apply for the MSc here!
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Posted in Bank resolution, Bank supervision, banking and central banking, Banking system, Crisis, EBA, Economics, Euro crisis, European Banking Union, Eurozone, Gold standard, In English, Institute of International Monetary Research, Money, tagged Bagehot, bail out, bail-in, Central banking, Crisis Eurozona, Euro, Euro 2.0, Euro standard, European Banking Union, Gold standard, Institute of International Monetary Research, Lender of last resort, Money, optimal currency area on 13 March, 2017|
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On March 2nd (Fundación Rafael del Pino, Madrid) I had the pleasure to join a panel on the future of the European Banking Union (EBU) (and on Brexit) with very distinguished colleagues and friends: Jose Manuel Gonzalez Paramo (BBVA and former member of the ECB Executive Committee), David Marsh (OMFIF, London) and Pedro Schwartz (UCJC, Madrid) (see the video of the seminar here). During the event I also had the opportunity to launch in Madrid the book I co-edited last year on the European Banking Union. Prospects and Challenges (Routledge). The book is a collection of essays on the EBU by central banks’ analysts, academics and practitioners from different jurisdictions. Each of them addresses the topic from a different perspective, either legal or economic, and highlights the pros and cons of the EBU as well as its expected challenges over the next few years.
It is obvious to all now, but also to many experts at the time of the launch of the euro, that the institutional architecture of the euro was, at the very least, weak and incomplete (see some of the articles in the 1990s written by W. Buiter, C. Goodhart, P. Schwartz, T. Congdon or G. Wood, amongst others). No currency union has survived for long without a political union or a supranational Treasury, with enough powers and policies to back the currency. And this is particularly true in the case of an area, such as the Euro area, which is far from being a flexible and fully functioning monetary area. You may want to check out the results of the research report just published by the Institute of International Monetary Research on the measurement of the integration of the euro area or its ‘optimality’ as a single currency.
The reference to the classical gold standard (1870s – 1913) as a comparison with the current euro standard deserves some attention. We should be aware of the differences between both standards: the gold standard was indeed a monetary union, where member economies fixed their currencies against gold; whereas the euro standard is a currency union, where countries get rid completely of their national currencies and adopt a single currency for all. The latter is much more rigid and demanding during a crisis, since member states have no room to alter the parity of the currency (there is no national currency!), nor to abandon the parity on a temporary basis. Under a currency union member countries have effectively no central bank of issue, as this function has been fully delegated to a supranational central bank. We have experienced since 2008 how demanding this monetary system becomes under a crisis, much more a severe financial crisis, as countries have no other option but to cut costs and prices in an effort to regain competitiveness (the so-called ‘internal devaluation’). This is an option to sort out the crisis, but it has proven to be a painful one our economies (and even more, our populations) seem not to be ready to implement or even to accept.
In a nutshell, the EBU implies the following (more details on the presentation here):
- The establishment of the European Banking Authority (EBA), which overseas the implementation of the new (much higher) Basel III banks’ capital ratio and the new liquidity ratio across the EU.
- The establishment of a single banking regulator under the ‘Single Supervisory Mechanism‘ (SSM) for big banks or transnational banks in the Eurozone (around 80% of all), in the hands of the European Central Bank in Frankfurt. In addition the new Single Resolution Mechanism (SRM) has been stablished to deal with the recovery or resolution of a bank (see more details below).
- According to the new EU Recovery and Resolution Directive (RRD), every bank must draft a resolution plan to be approved by the regulator, in order to resolve the bank if needed be in an orderly and timely manner. In addition, should a bank under the SSM need to be resolved, the government will not use taxpayers’ money in the first place. Actually the resolution or recovery process is going to be handled by the SRM. And only when the bank’s shareholders and creditors’ money has been (mostly) exhausted (so they have absorbed losses of at least 8% of the total liabilities), the bank can benefit from other sources of funding to pay its debt or conduct other operations (such as the Resolution Fund, see below). This is what the literature calls a bail-in rather than the bail-outs of the banks with taxpayers’ money we have seen in the recent crisis.
- In addition, all member states have agreed to guarantee the deposits up to 100,000 euros per person per bank (however there is not yet a pan-EU deposit guarantee scheme but national schemes).
- Finally, the EBU would not be complete should we not pay attention to the role of the ECB and the National Central Banks as the lenders of last resort in the Euro area. Modern central banks (particularly since the 19th century, but also earlier in the case of the Bank of England) were established to support the banks in case of a liquidity crisis. If a bank is solvent but illiquid, and thus cannot pay its deposits temporarily, the bank can always request extraordinary lending to the central bank (as W. Bagehot put it in his famous 1873’s seminal book: unlimited lending but always against collateral and at a penalty rate). However, this competence is still in the hands of the National Central Banks in the Euro zone which, provided there is no objection of the ECB, can lend money to the national bank in crisis at request. This division of competences between the ECB and the National Central Bank should be better coordinated so no banking crisis is artificially ‘hidden’ or postponed under the provision of liquidity by the national central bank.
The ‘Euro 2.0’
As Jose Manuel Gonzalez Paramo put it, the European Banking Union is a sort of ‘Euro 2.0‘ as it comes to remedy (at least some) of the Euro 1.0 institutional problems and weaknesses. In this regard, I agree it is an improvement as it helps to create a more consistent and credible institutional setting (*); however it does not tackle important aspects I will just briefly mention below:
- First of all, the EBU and the new Resolution Fund (paid for by the banks, its amount will be no less than 1% of banks’ guaranteed deposits) will not be completed until 2024. So, should a banking crisis occurs in the meantime the banking sector will not have enough funds to pay for the banks’ liabilities on its own or to fund and implement the decisions made by the SRM.
- Secondly, if a bank needs to be assisted and finally resolved, a complicated coordination between many actors of divorced nature and aims (political, national and supranational) is required in a question of days/hours. Of course the test to this procedure will come when we experience the next banking crisis (see more details on chapter 2 by T. Huertas, see book mentioned above).
- But finally and most importantly, in my opinion, the EBU does not resolve the fundamental problems of the Euro zone; which are the abysmal internal asymmetries amongst member states in terms of competitiveness, public finances or costs (see some measurements here), as well as the actual lack in internal and cross-border flexibility as regards labour and good and services markets. Just a view of the asymmetries in Target-2 member states’ balances is as striking as self-explanatory.
The EBU adds consistency and predictability to the supervision and resolution of banks. In this sense, it is an improvement. It also makes banks pay for the losses before applying any other funding, even less taxpayers money; but we are yet to see the robustness of the new institutions established as well as the political commitment to the bail-in option in reality. The EBU is in my view another ‘patch’ on the euro’s structural weaknesses.
(*) However more consistent, I do not think this type of euro currency, very much centralised and linked to an increasingly powerful supranational State, is the best we could have established to preserve the purchasing power of the euro; I will elaborate further on the alternatives in next posts.
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Posted in Central banks, Economics, In English, Institute of International Monetary Research, Money, MSc money, Quantitative Tightening, Reserva Federal EEUU, Tim Congdon, University of Buckingham, US Federal Reserve, tagged Bank of England, Banking, Central banking, Fed, IEA, Institute of International Monetary Research, Money, MSc in money on 6 March, 2017|
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Within the launch event of the new MSc in Money, Banking and Central Banking (hosted by the Institute of Economic Affairs in London, 13th March, 12:00-14:00), I will be delighted to introduce two of the teaching staff of the programme, Professors Tim Congdon and Geoffrey Wood, who will be discussing the major topics covered in the programme: such as policies aimed at achieving price stability and financial stability, as well as the current debates on alternative central banks’ strategies and the effects of tighter bank regulation in a post-crisis era. A key question is to assess whether central banks should shrink their balance sheets and, if so, the strategy to do it so economic recovery is not harmed by a shortage in the amount of money. Ins this regard, the US Fed’s Quantitative Tightening policy in recent months will be discussed (see a more detailed analysis here: http://www.mv-pt.org/monthly-monetary-update) along with other alternatives.
This is a new MSc focused on how money is created in modern economies and on how changes in the amount of money affect prices (all prices, consumer and asset prices!) as well as income along the cycle. In addition emphasis is given to the functions, operations and monetary policy strategies of major central banks, so we can understand better the way monetary policy makers actually make a decision. Surprisingly enough, this very classical approach to money and central banking has become quite distinct and unique, since monetary analysis has been labelled as ‘out-fashioned’ and has somehow been disregarded in the last two decades. The MSc is offered by the University of Buckingham and you can find more on the programme and how to apply here: https://www.buckingham.ac.uk/humanities/msc/money-banking .
Places for the launch event are still available. Should you want to attend RSVP to email@example.com or call Gail Grimston on 01280 827524. For those who will not be able to make it we will be recording the presentation and the debate and upload it on the Institute of International Monetary Research‘s website (http://www.mv-pt.org/index).
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Posted in Banking system, Central banks, Crisis, Economics, In English, Institute of International Monetary Research, Money, Quantitative easing, Quantitative Tightening, Tim Congdon, Uncategorized, US Federal Reserve, tagged bank money, Central banking, Institute of International Monetary Research, M3, Monetary Update IIMR, Money, Quantitative Tightening, US Fed on 13 February, 2017|
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Broad money growth (M3, Shadow Government Statistics) in the US keeps on decelerating since the end of 2015. As reported in the latest Monthly Monetary Update (Institute of International Monetary Research, IIMR), ‘In the final quarter of 2016 US M3 grew at an annualised rate of 2.2%. This follows on from a mere 0.9% in the three months to November, the slowest annualised quarterly growth rate in over five years. 2016 ends with US broad money growing at an annual rate of 4.0%, which is respectable, but down on 2015’s figure of 4.3%. In mid- 2016, the figure was 4.5%. The subsequent slowdown in broad money growth has been primarily caused by “quantitative tightening” ‘.
Source: January Money Update, IIMR
What is ‘Quantitative Tightening’? As stated in the IIMR’s January money update cited above ‘ (…) “quantitative tightening” (i.e., the reversal of quantitative easing) when it allows its stock of asset-backed securities to run off at maturity. The Fed can use proceeds from the maturing ABSs to reduce its cash reserve liabilities to the banks rather than to finance new, offsetting purchases of securities.’ (See the January Monetary Update, IIMR). What we do not know yet is whether the Fed has intentionally pursued such a monetary contractive policy, or rather it is just the (indeed surprisingly unnoticed) consequence of the fall securities in its balance sheet when they reach maturity. As far as I know the Fed has not made a public policy announcement in this regard nor committed to such policy.
Why does this matter? Well it does matter when the medium to the long term correlation between money growth and nominal income is acknowledged. Of course it is not a mechanical or a one-to-one correlation, and indeed time lags should be taken into account; anyhow in an environment where the demand of money is fairly stable, changes in the rate of growth of money do translate into changes in nominal income. Table below shows such empirical relation in the US in the last five decades:
Source: January Money Update, IIMR
Thus should this weakening in money growth in the US continue in the next quarters it will most likely have an impact on economic growth forecasts. This is subject to several caveats though; the new US administration has already announced a profound change in bank regulation which may well ease the pressure put in the midst of the Global Financial Crisis on small and medium size banks particularly to expand their balance sheets. If this materialises in the near future, the creation of more bank deposits in the economy could offset the monetary contractive policy followed by the Fed in the last few months, intentionally or not.
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Posted in Banking system, Boom and bust cycle, Central banks, Conferences, Crisis, Economics, In English, Institute of International Monetary Research, Monetary policy rules, Money, Tim Congdon, Uncategorized, tagged Bank of England, Central banking, Charles Goodhart, Institute of International Monetary Research, lessons financial crisis, Money, Tim Congdon on 12 January, 2017|
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As announced last month on this blog, you can find now the video of the IIMR 2016 Public Lecture given by Charles Goodhart (Financial Markets Group, LSE) available on the Institute of International Monetary Research website: http://www.mv-pt.org/2016-lecture-and-conference
Professor Goodhart, indeed a distinguished academic figure in monetary economics in the UK and a former member of the Bank of England’s Monetary Policy Committee, criticised many features of monetary policy-making both before and after the sharp global downturn of 2008 and early 2009. He also underlined some of the most important flaws in current macroeconomic models:
(1) The use of macroeconomic models with no money, nor a banking sector.
(2) No analysis of the monetary transmission mechanisms via the banking or the wider financial sectors.
(3) The assumption that there is a direct correlation between changes in the monetary base and changes in the amount of money.
In my view those flaws are yet to be properly addressed and if we could just agree on those very simple points we would make a major progress in current monetary economics! And we will very much reduce monetary instability and thus minimise the risk another financial collapse.
Just a final note on the Institute of International Monetary Research. Its main purpose is to demonstrate and to bring public attention to the strong relationship between the quantity of money on the one hand, and the levels of national income and expenditure on the other. The Institute has been established in association with the university of Buckingham and is heavily involved in the analysis of banking systems, particularly their role in the creation of new money balances. You can subscribe to its newsletter and publications here: http://www.mv-pt.org/contactus
PS. The text with the lecture will be available soon at the IIMR website.
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Posted in Banking system, Central banks, Crisis, Economics, In English, Inflation, Macroeconomic theory, Monetary policy rules, Money, tagged Banking, central bank independence, Central banking, Lender of last resort, lessons financial crisis, monetary aggregates, Money, price stabilisation on 17 October, 2016|
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The recent financial crisis has challenged quite many of the benchmarks and established monetary economic theory used in the 1990s and 2000s to analyse and prescribe monetary policy decisions. To be frank, we all have learned something in the recent crisis. Let me just list some of the lessons of the crisis I believe all and sundry very much agree on:
- Changes in the monetary base are not good indicators of overall inflation. The three, four or even fivefold expansion of the central banks’ balance sheets has not been accompanied by inflation. It is broad money what explains inflation over the medium and long term.
- In times of crisis, and even more if severe banking/financial crises occurred, central banks are not (cannot be) independent. In their current form central banks are indeed the bankers of governments and this becomes very evident when public revenues collapse and public spending soars, resulting in a much more expensive access to credit (if at all) and a greater and greater appetite to borrow money from the central bank. Perhaps the best we can do is to run healthy public finances in times of expansion so that the threat of ‘fiscal dominance’ is minimised and contained as much as possible.
- CPI ‘inflation targeting’, at least as pursued in the years prior to 2007/08, is not enough to preserve monetary and financial stability over the medium and long term. Particularly in the four years running up to the crisis CPI inflation remained fairly stable (with some spikes though to oil price shocks mostly) and central banks achieved their inflation targets, consisting in a rate of Consumer Price Index inflation around 2% over the long term. However many other economy prices, in particular both financial and real assets’ of various types, did increase quite significantly, and now we know that in an unsustainable way.
- At least in the current institutional setting, the lender of last resort (LOLR) function of central banks is an essential tool to preserve the functioning of monetary markets and thus of financial markets. As I will detail in a later post this does not mean bailing out too risky and insolvent banks (and even less bailing out their managers and shareholders), but preserving the sound operation of the financial and payments systems as a whole. The conditions to do this are very well-known to monetary historians and I am afraid they are many times forgotten.
- Monetary aggregates (money) played virtually no role in the framing of monetary policy decisions before the crisis. However, it has been more than eight years now with historically low (policy) nominal interest rates, so central banks have had to resort to a different source of policy measures; that is, the expansion in the amount of money by the so-called Quantitative Easing (QE) operations. And what are they but purchases of bonds and even equity that ultimately aimed to increase the amount of money in the economy?
- Central banks are not running out of weaponry. In our modern monetary systems, where central banks create the ultimate source of liquidity in the economy, there is virtually no limit for central banks to create more money. Central banks can (as they have done in these years) extend the maturity and the amount of the lending provided to the banking sector, increase their purchases of both private and public assets from financial and non-financial institutions, they can also purchase equity in the market, … .
- Tightening bank regulation in the midst of one of the worst financial crisis in recent history can only aggravate the impact and length of the crisis. The raising of the capital ratios and the establishment of new liquidity ratios by the so-called ‘Basel III Accord’, initially announced in the Autumn of 2008, forced banks to even contract more their balance sheets (to cut down their liabilities, deposits mainly). This resulted in sharp a fall in money growth and the worsening of the crisis, which had to be (partially) offset by central banks extraordinary policy measures (such as QE) to prevent money supply from falling even further.
There are many other much more disputable issues related to monetary economics and monetary policy indeed. But if we only agreed on the above we would be putting a remedy to some of the biggest gaps if not ‘holes’ in this field and thus creating the conditions to establish a much sounder and sustainable monetary policy framework.
I will devote a single entry to each of the them in the following weeks.
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Posted in Central banks, Conferences, Crisis, Economics, In English, Institute of International Monetary Research, Monetary policy rules, Money, Money rules, Tim Congdon, tagged Bank of England, Central banking, Charles Goodhart, Institute of International Monetary Research, Monetary policy, Monetary rules after the recession, Money on 10 October, 2016|
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Monetary economics is in shambles. More than eight years after the outbreak of the Global Financial Crisis many things in our economies have changed indeed, particularly the range of operations in which central banks have embarked in the last few years; but the way mainstream academia and policy makers understand and approach monetary economics have not. The old policy rules which contributed so much to the building up of monetary instability and finally to a profound financial crisis have not really been questioned nor replaced yet by a consistent set of new policies (or better, a policy rule) committed to maintaining monetary stability over the medium and long term. Even worse, I have attended myself scientific meetings on this field in the last years and very rarely (if at all) ‘money’ or ‘monetary aggregates’ are even mentioned in (supposedly) specialised monetary talks and lectures. Instead we seem to be stuck in endless discussions on interest rates and how a 0.25 increase/decrease in the policy rate may affect consumption, investment and eventually output by the spending and credit channels; for the initiated in this subject this means we still use the late 1990s and early 2000s’ new Keynesian model (with no money) to analyse and prescribe monetary policies.
Well there are indeed notable exceptions to the mainstream, and I am very pleased to invite you all to the 2016 monetary Public Lecture of the Institute of International Monetary Research (IIMR), by professor Charles Goodhart. One of the main purposes of the Institute is to promote research into how developments in banking and finance affect the economy as a whole. The Institute’s wider aims are to enhance economic knowledge and understanding, and to seek price stability, steady economic growth and high employment. Particular attention is paid to the effect of changes in the quantity of money on inflation and deflation, and on boom and bust.
Banks and central banks play a central role in the sound functioning of modern monetary economies. The 2008-09 Global Financial Crisis has shown again how important it is to understand their functioning and operations, and the relationship between the quantity of money and the overall economy.
We have much pleasure in inviting you to join us at the Institute’s 2016 public lecture on Wednesday 2nd November (18:30 hrs.) by Professor Charles Goodhart (LSE): ‘What have we learned about money and banking during and since the Great Recession?’, at the Institute of Directors (116 Pall Mall, London).
You may want to visit our website to learn more about the Institute’s research agenda and our latest publications on our website (http://www.mv-pt.org/index). You may want to know the public lecture will be recorded and available on our site.
PS. Please confirm your attendance by e-mail to Gail Grimston at firstname.lastname@example.org
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