Over the last year the stock market has been on a wild roller coaster ride. The question is, Why is this so important?
Here is a good analogy for what stocks do: Pretend that the USA's economy is a car; the current recession is a very bumpy road (probably designed by Commerce City road developers); and the stock market represents the vehicle's shocks.
When the economy is good, there is almost no tension on the shocks and the passengers in the USA economy are driving smoothly and comfortably. When the vehicle exits the nice road and enters Commerce City, the shocks are knocked every which way and pounded into a pulp. This puts a lot of tension on the shocks and the passengers are whipped around and every once in a while thrown out of the car.
The stress put on the shocks of the car tells you how comfortable a ride the passengers in the vehicle will have. Similarly, when there is a lot of stress in the stock market, the USA's economy is put under a lot of stress BECAUSE STOCKS ARE USED AS COLLATERAL FOR INVESTMENT!!
When a corporation wants to invest, it needs to raise funds. On average, corporations only raise funds through selling shares of stock for 3% of their investments. Selling bonds is where the real money is made! Therefore, corporations tell potential bondholders that if anything ever happens to the company and they have to go bankrupt, the bondholders can take all of the stock that the corporation has. This means that when stock prices are high there is more collateral and more investment. When stocks are not worth much, nobody can invest and the economy does not grow.
Wednesday, September 30, 2009
Monday, September 28, 2009
Has Bernanke Printed A Lot of Money?
When politicians and political pundits want to sound smart and make headlines, they begin oversimplifying things that they don't understand. Accordingly, the last several months has seen an increase in the accusation that the Fed has "printed money."
As stated above, though, this is way oversimplified. Normally when the Fed wants to print money, it gives cash to banks in exchange for an asset like a T-Bond or fixed income security. Then the bank can spend that money however it wants by giving consumers, homeowners, and business owners loans.
Chairman Bernanke made a decision though. He analyzed the crisis and found that banks needed liquidity (cash), but consumers, homeowners and business owners should not be the end-recipient of this money because inflation could get out of hand in the long run. He therefore went to Congress and asked for permission to pay interest on the extra money banks keep at the Federal Reserve. This way, the banks would make as much money by doing nothing than they would by giving loans to the public (this is because the interest rate paid by the Fed is almost equal to the interest they would recieve in profit from a loan).
This gives the Fed a great tool to fight inflation. The Fed hasn't printed money because almost all of the cash that has been given to banks is sitting UNUSED in the bank's account at the Federal Reserve! At the same time, banks meet liquidity standards by having the money held with out issuing a loan.
As stated above, though, this is way oversimplified. Normally when the Fed wants to print money, it gives cash to banks in exchange for an asset like a T-Bond or fixed income security. Then the bank can spend that money however it wants by giving consumers, homeowners, and business owners loans.
Chairman Bernanke made a decision though. He analyzed the crisis and found that banks needed liquidity (cash), but consumers, homeowners and business owners should not be the end-recipient of this money because inflation could get out of hand in the long run. He therefore went to Congress and asked for permission to pay interest on the extra money banks keep at the Federal Reserve. This way, the banks would make as much money by doing nothing than they would by giving loans to the public (this is because the interest rate paid by the Fed is almost equal to the interest they would recieve in profit from a loan).
This gives the Fed a great tool to fight inflation. The Fed hasn't printed money because almost all of the cash that has been given to banks is sitting UNUSED in the bank's account at the Federal Reserve! At the same time, banks meet liquidity standards by having the money held with out issuing a loan.
Bernanke: Better Than Advertised Part II
The Federal Reserve has to maintain stable growth while stifling harmful inflation. This is a balancing act because to stimulate growth you sometimes have to expand the monetary base which stokes the flames of inflation.
Here is an extremely important analysis by Econometrician James Hamilton. It analyzes the Fed's Balance Sheet and the options it has to "un-print money."
http://www.econbrowser.com/archives/2009/09/federal_reserve_2.html
Here is an extremely important analysis by Econometrician James Hamilton. It analyzes the Fed's Balance Sheet and the options it has to "un-print money."
http://www.econbrowser.com/archives/2009/09/federal_reserve_2.html
Sunday, September 27, 2009
Bernanke: Better Than Advertised!
Bernanke, probably the most underpaid individual in America, really is as good as The BBFiles made him out to be. Some just might say miraculously good...
http://www.bloomberg.com/apps/news?pid=20601087&sid=ayo1J7aDXneM
http://www.bloomberg.com/apps/news?pid=20601087&sid=ayo1J7aDXneM
Saturday, September 19, 2009
How Did Economists Miss This Downturn?
Last week Paul Krugman initiated a sequence of discussions centered around how and why the current recession blind sided economists as badly as it did. Other famous economists have jumped into the conversation, including Mark Thoma, James Delong and James Hamilton. It appears as though most of these economists "blame the other guy." For example, Paul Krugman, who is a Neo-Keynsian, basically argues that he was SO busy correcting Neo-Classical's mistakes that he totally missed the recession's warning signs. Liberals seem to blame Greenspan and Conservatives seem to blame... well Greenspan also.
The BBFiles, your trusty guide to unbiased economic analysis, disagrees with most of these economists. The study of business can be split into several fields: economics, finance, management, marketing, entrepeneurship. It appears as though economists have been assigned most of the blame for this recession. In reality, though, The BBFiles argues that the products that got us into the recession, the way they were traded, and and the people that were assigned to manage them, lie far outside of the field of economics. Financial wizards created MBS's, marketers sold them to as many people as possible, management teams gave employees incentive to stimulate short term profits, not long term growth. Lobbyists influenced Congressmen, Congressmen did what Congressmen do: spend a lot of money.
All of these things, which the field of economics does not specialize in, created a perfect storm of instability that led to this recession. It was economists of several different belief systems that stepped in via the Federal Reserve and the Treasury Department and saved financial traders, management teams and Congressmen from the debacle that they created. While economists like Krugman believe that he is right and everyone that disagrees with him wrong, the BBFiles appreciates the diverse ideas and the new theories that come from debating controversial issues.
The BBFiles, your trusty guide to unbiased economic analysis, disagrees with most of these economists. The study of business can be split into several fields: economics, finance, management, marketing, entrepeneurship. It appears as though economists have been assigned most of the blame for this recession. In reality, though, The BBFiles argues that the products that got us into the recession, the way they were traded, and and the people that were assigned to manage them, lie far outside of the field of economics. Financial wizards created MBS's, marketers sold them to as many people as possible, management teams gave employees incentive to stimulate short term profits, not long term growth. Lobbyists influenced Congressmen, Congressmen did what Congressmen do: spend a lot of money.
All of these things, which the field of economics does not specialize in, created a perfect storm of instability that led to this recession. It was economists of several different belief systems that stepped in via the Federal Reserve and the Treasury Department and saved financial traders, management teams and Congressmen from the debacle that they created. While economists like Krugman believe that he is right and everyone that disagrees with him wrong, the BBFiles appreciates the diverse ideas and the new theories that come from debating controversial issues.
Friday, September 18, 2009
America's Lost Wealth
According to a press release from the Federal Reserve on Tuesday, American households gained about $2 trillion in the 2nd quarter- the first time it has increased since 2007. The Flow of Funds report also showed that the current net worth of American households is $53 trillion. The highest it reached was $65 trillion in 2007. In the 4th quarter of 2008 alone, the total dropped a record $11 trillion.
Thursday, September 17, 2009
The Fed's Balance Sheet
The Fed's balance sheet determines how much money is in circulation. When they want to put more money into the system ("print money") they BUY assets (bonds) from banks. Since they use cash to pay for the bonds, there is now more cash in the system.
When the economy goes into a recession, the Federal Reserve can stimulate the economy by injecting more money into the system. This blog entry examines how the Federal Reserve's balance sheet has changed over the last year. Before the recession began, the Fed's balance sheet had $800 billion on it. When looking at the balance sheet, one would see that $400 billion of the total was compromised of a mixture of long term T-Bonds and other safe bond investments. The other $400 billion was compromised of super-safe T-Bonds that expired every 1 to 6 months. For decades the Federal Reserve simply repurchased these short term bonds when they expired.
When the recession began, the Federal Reserve, in as safe a way as possible, began purchasing bonds directly from banks and other lending institutions. This injected cash into the system, but did not grow the Fed's balance sheet because the Fed offset the purchases of bank bonds by not repurchasing the "super-safe" short term T-Bonds. Thus, the balance sheet remained at $800 billion but added a little more liquidity and took on a little more risk.
When Lehman Brothers collapsed, and the LIBOR-OIS spread grew exponentially, the Federal Reserve decided to expand the balance sheet. This proved to be a difficult task. The Fed had a balancing act to perform: they had to inject enough cash into the system to keep the financial system afloat; but they also had to make sure the bonds they purchased along the way could be sold off easily when the recession ended (if the balance sheet remains at $2 trillion there is sure to be inflation). Chairman Bernanke was up to the task. Bernanke and the Federal Reserve found the safest bonds on the market, then from these selected bonds, they picked the ones that would would sell the fastest once they needed to be sold.
Therefore, the Fed's balance sheet, though huge today at $2 trillion dollars!, will be "drawn down" easily. Drawing the balance sheet down refers to exiting the Fed's added liquidity. Inflation will not occur from the Fed's large balance sheet because the bonds will be sold promptly by the Federal Reserve at the opportune time.
This quick, decisive action will certainly go down positively on Bernanke's resume.
When the economy goes into a recession, the Federal Reserve can stimulate the economy by injecting more money into the system. This blog entry examines how the Federal Reserve's balance sheet has changed over the last year. Before the recession began, the Fed's balance sheet had $800 billion on it. When looking at the balance sheet, one would see that $400 billion of the total was compromised of a mixture of long term T-Bonds and other safe bond investments. The other $400 billion was compromised of super-safe T-Bonds that expired every 1 to 6 months. For decades the Federal Reserve simply repurchased these short term bonds when they expired.
When the recession began, the Federal Reserve, in as safe a way as possible, began purchasing bonds directly from banks and other lending institutions. This injected cash into the system, but did not grow the Fed's balance sheet because the Fed offset the purchases of bank bonds by not repurchasing the "super-safe" short term T-Bonds. Thus, the balance sheet remained at $800 billion but added a little more liquidity and took on a little more risk.
When Lehman Brothers collapsed, and the LIBOR-OIS spread grew exponentially, the Federal Reserve decided to expand the balance sheet. This proved to be a difficult task. The Fed had a balancing act to perform: they had to inject enough cash into the system to keep the financial system afloat; but they also had to make sure the bonds they purchased along the way could be sold off easily when the recession ended (if the balance sheet remains at $2 trillion there is sure to be inflation). Chairman Bernanke was up to the task. Bernanke and the Federal Reserve found the safest bonds on the market, then from these selected bonds, they picked the ones that would would sell the fastest once they needed to be sold.
Therefore, the Fed's balance sheet, though huge today at $2 trillion dollars!, will be "drawn down" easily. Drawing the balance sheet down refers to exiting the Fed's added liquidity. Inflation will not occur from the Fed's large balance sheet because the bonds will be sold promptly by the Federal Reserve at the opportune time.
This quick, decisive action will certainly go down positively on Bernanke's resume.
Evidence That the Stimulus Didn't Work
Three respected economists wrote an editorial in the Wall Street Journal today arguing that the stimulus failed. While The BBFiles doesn't like using strong words like "fail" (we don't have to make headlines), the article is very interesting and should be read by Congressmen in Washington.
The BBFiles does not believe that President Obama's highest advisers (Larry Summers, Paul Volker, Christina Romer and Timothy Geithner) ever believed too strongly in the stimulus plan. Congressmen, who are mostly responsible for the plan, should try to pass this argument along to their constituents.
The BBFiles believes that stimulus can work. However, there is an enormous diminishing return after teh $500 billionth dollar, and since Bush was already stimulating the economy by this amount via tax cuts, there really was no need for such a large stimulus bill. Probably about an additional $250Billion would have been more than enough.
Here is the link:
http://online.wsj.com/article/SB10001424052970204731804574385233867030644.html
The BBFiles does not believe that President Obama's highest advisers (Larry Summers, Paul Volker, Christina Romer and Timothy Geithner) ever believed too strongly in the stimulus plan. Congressmen, who are mostly responsible for the plan, should try to pass this argument along to their constituents.
The BBFiles believes that stimulus can work. However, there is an enormous diminishing return after teh $500 billionth dollar, and since Bush was already stimulating the economy by this amount via tax cuts, there really was no need for such a large stimulus bill. Probably about an additional $250Billion would have been more than enough.
Here is the link:
http://online.wsj.com/article/SB10001424052970204731804574385233867030644.html
Monday, September 14, 2009
A Sad Anniversary
One year ago today, Lehman Brothers was allowed to file bankruptcy. This will go down as the primary flaw in Bernanke's othrewise impeccable resume. Political will basically forced the Fed and Paulson "to let the markets work." Within 24 hours of the Lehman collapse, FannieMae, FreddieMac, Wachovia, and AIG were completely insolvent. Clearly, in hindsight, an uber-regulator should have had the authority to step in and prevent Lehman from failing.
Let's look at the USA's tab from this bad policy:
Lehman Brothers......$766 Billion bankruptcy
AIG......$250 Billion in direct cash infusions
FannieMae....$250 Billion in cash, $1 trillion in garuantees
FreddieMac... " " " " " "
American citizens: A tariff implementing president and 10% unemployment
The costs are way too high!!! The Fed needs the power to sieze systemically important companies, just like the FDIC has the power to sieze banks.
Let's look at the USA's tab from this bad policy:
Lehman Brothers......$766 Billion bankruptcy
AIG......$250 Billion in direct cash infusions
FannieMae....$250 Billion in cash, $1 trillion in garuantees
FreddieMac... " " " " " "
American citizens: A tariff implementing president and 10% unemployment
The costs are way too high!!! The Fed needs the power to sieze systemically important companies, just like the FDIC has the power to sieze banks.
Saturday, September 12, 2009
A Closer Look at the Tariff
The BBFiles has generally supported the Obama Administration's economic policies. However, Obama has given into union demands and passed a terrible tax on rubber imports, and we cannot support this mistake. Even though Bush rejected the United Steelworkers tariff request four times, Obama gave in to this bad economic policy right away.
The tariff imposes a 35% tax on all rubber imports from China. This hurts the Chinese and American citizens in several ways. First, it means that the USA can sell lower quality rubber and be 35% less competitive in the rubber industry. Second, it hurts American companies that sell low-end rubber tires. This is basically every retail tire store. Next, it puts Chinese companies out of business. Remember, these are companies that SPECIALIZE in rubber manufacturing and can achieve high quality tires for low prices.
Essentially, the 35% tariff is a hand-out to uncompetitive American companies.
Bloomberg reports this about the nation's largest union, the AFL-CIO:
The tariff imposes a 35% tax on all rubber imports from China. This hurts the Chinese and American citizens in several ways. First, it means that the USA can sell lower quality rubber and be 35% less competitive in the rubber industry. Second, it hurts American companies that sell low-end rubber tires. This is basically every retail tire store. Next, it puts Chinese companies out of business. Remember, these are companies that SPECIALIZE in rubber manufacturing and can achieve high quality tires for low prices.
Essentially, the 35% tariff is a hand-out to uncompetitive American companies.
Bloomberg reports this about the nation's largest union, the AFL-CIO:
AFL-CIO Reaction
AFL-CIO President John Sweeney applauded the decision in a statement today, saying it “sends a strong message that the U.S. government will take the necessary action to ensure that American workers and producers can compete on fair terms in the global economy.”
AFL-CIO President John Sweeney applauded the decision in a statement today, saying it “sends a strong message that the U.S. government will take the necessary action to ensure that American workers and producers can compete on fair terms in the global economy.”
Bloomberg says this about how American companies voted, this is interesting because if the tariff supposedly helped American companies, all US companies would approve. But Bloomberg reports:
Goodyear Tire & Rubber Co., the largest U.S. tiremaker, stayed neutral. Cooper Tire & Rubber Co., the second-largest U.S. tiremaker, opposed the relief. Imposing tariffs will have “highly damaging ripple effects throughout the U.S. economy by increasing the cost of imported tires that largely comprise the low-end of the tire market,” the Emergency Committee for American Trade, which represents those companies, wrote in a letter to Obama last month.
Friday, September 11, 2009
Really! A Tariff?
Obama has officially enacted a 35% tariff on rubber tire imports from China. Hopefully this is a last terrible move that comes from Obama's administration.
Thursday, September 10, 2009
The Economics of Being a Jerk
As The Bernanke Files has repeatedly pointed out, the media, journalists, and political pundits have more of an incentive to make headlines than to be accurate. If your a logical, pragmatic critic you won't make any money and will never be famous.
Well, as it turns out politicians have similar incentives. During Barack Obama's speech to the Joint Session of Congress, South Carolina Republican Senator Wilson yelled "You lie" when the president discussed not insuring illegal immigrants. This was not an off the cuff remark. Wilson said he let his emotions get the best of him. This is ridiculous, of course. Politicians know that to get headlines these days they can do two things: give an interview on Sunday, or do something outrageous. Since we know politicians aren't giving up their Washington Party day, we can basically conclude that outrageousness is the best way to get their name out to the public. Wilson knows this and succesfully captured headlines with his outbreak.
Well, as it turns out politicians have similar incentives. During Barack Obama's speech to the Joint Session of Congress, South Carolina Republican Senator Wilson yelled "You lie" when the president discussed not insuring illegal immigrants. This was not an off the cuff remark. Wilson said he let his emotions get the best of him. This is ridiculous, of course. Politicians know that to get headlines these days they can do two things: give an interview on Sunday, or do something outrageous. Since we know politicians aren't giving up their Washington Party day, we can basically conclude that outrageousness is the best way to get their name out to the public. Wilson knows this and succesfully captured headlines with his outbreak.
Wednesday, September 9, 2009
Credit Tightening- Savings Increasing!!
The Bernanke Files has written extensively about where money comes from. Today the Federal Reserve released the monthly Credit-Demand report. Demand for credit has dropped significantly. This means that, because credit is the opposite of savings, savings in the US has increased. When there is more demand for savings, bond yields go down; thus making investment easier.
In other words, from 1997-2007, the USA went into debt with China to the tune of a trillion dollars. But, savings in the USA is now UP, so we will not go as heavily into debt to China as we will to American savers!! At the same time, economic growth will slow in the USA because we SAVE money instead of borrow money that we can SPEND. Of course when Americans buy less, China makes less money. To avoid this problem, the government will SPEND more and they will SAVE less. Chinese demand for US-TBonds is being replaced by AMerican demand for T-BOnds, and everything is coming into equilibrium.
In other words, from 1997-2007, the USA went into debt with China to the tune of a trillion dollars. But, savings in the USA is now UP, so we will not go as heavily into debt to China as we will to American savers!! At the same time, economic growth will slow in the USA because we SAVE money instead of borrow money that we can SPEND. Of course when Americans buy less, China makes less money. To avoid this problem, the government will SPEND more and they will SAVE less. Chinese demand for US-TBonds is being replaced by AMerican demand for T-BOnds, and everything is coming into equilibrium.
Tuesday, September 8, 2009
USA Drops to Second Place
According to the newly released Global Economic Competitiveness report, USA has dropped from being the most competitive economy in the world to the second most competitive economy. Replacing it is Switzerland, and following USA is Singapore. Here is what the report summarized:
Switzerland’s economy continues to be characterized by an excellent capacity for innovation and a very sophisticated business culture, ranked 3rd for its business sophistication and 2nd for its innovation capacity. The country is characterized by high spending on R&D.
The United States falls one place and is ranked 2nd this year. The country continues to be endowed with many structural features that make its economy extremely productive and that place it on a strong footing to ride out business cycle shifts and economic shocks. However, a number of escalating weaknesses have taken their toll on the US ranking this year…. More generally, given that the financial crisis originated in large part in the United States, it is hardly surprising that there has been a weakening of the assessment of its financial market sophistication, dropping from 9th last year to 20th overall this year in that pillar.
Singapore moves up two ranks to 3rd place, remaining the highest-ranked country from Asia. The country’s institutions continue to be ranked as the best the world; at a time when confidence in governments in many countries has diminished, they are assessed even more strongly than in past years. Singapore places 1st for the efficiency of its goods and labor markets and 2nd for its financial market sophistication, ensuring the proper allocation of these factors to their best use. Singapore also has world-class infrastructure (ranked 4th), leading the world in the quality of its roads, ports, and air transport facilities. In addition, the country’s competitiveness is propped up by a strong focus on education, providing highly skilled individuals for the workforce. In order to strengthen its competitiveness further, Singapore could encourage even stronger adoption of the latest technologies—especially broadband Internet—as well as the innovative capacity of its companies.
Switzerland’s economy continues to be characterized by an excellent capacity for innovation and a very sophisticated business culture, ranked 3rd for its business sophistication and 2nd for its innovation capacity. The country is characterized by high spending on R&D.
The United States falls one place and is ranked 2nd this year. The country continues to be endowed with many structural features that make its economy extremely productive and that place it on a strong footing to ride out business cycle shifts and economic shocks. However, a number of escalating weaknesses have taken their toll on the US ranking this year…. More generally, given that the financial crisis originated in large part in the United States, it is hardly surprising that there has been a weakening of the assessment of its financial market sophistication, dropping from 9th last year to 20th overall this year in that pillar.
Singapore moves up two ranks to 3rd place, remaining the highest-ranked country from Asia. The country’s institutions continue to be ranked as the best the world; at a time when confidence in governments in many countries has diminished, they are assessed even more strongly than in past years. Singapore places 1st for the efficiency of its goods and labor markets and 2nd for its financial market sophistication, ensuring the proper allocation of these factors to their best use. Singapore also has world-class infrastructure (ranked 4th), leading the world in the quality of its roads, ports, and air transport facilities. In addition, the country’s competitiveness is propped up by a strong focus on education, providing highly skilled individuals for the workforce. In order to strengthen its competitiveness further, Singapore could encourage even stronger adoption of the latest technologies—especially broadband Internet—as well as the innovative capacity of its companies.
A Look Back
To this very day economists debate the actions, inactions, choices, missed opportunities and risks that President Franklin Roosevelt has become so very famous for 70 years ago. Elected in the midst of a recession, Roosevelt showed the world what his tenure would be like on just the thirtieth day of his presidency when he declared a bank holiday. In late February 1933, Roosevelt closed every bank across the nation, then he told the American citizens via radio that their deposits would be insured by the government. Even though the government had no authority to insure deposits, Americans believed him and the financial crisis subsided. Over the next several years Roosevelt would enact hundreds of initiatives in an attempt to turn the economy around. In hindsight, it is generally agreed that about 25% of initiatives did good, 50% did little or nothing, and 25% actually harmed the economy.
The Bernanke Files believes that 70 years from now, economists will be debating the current economic policies in a similar manner. Enormously expansive and creative monetary policy, $1 Trillion stimulus, health-insurance reform, increased unemployment and other government initiative's helpfulness will be debated.
Fortunetly, though, the debates will never be as famous as the Great Depression debates because of the Great Depression. Ben Bernanke is a Great Depression scholar. Because of his creativeness and guidance, our current crisis is merely a recession. A scary fact is that it could have been a depression. In 70 years, just like Bernanke argues that monetary policy, not government intervention, helped us climb out of the Great Depression, economists will be arguing that it was the Federal Reserve that incurred some of the damage but most of the stabilization in the markets. Because we learned from the Great Depression, great Americans like HenryPaulson, Ben Bernanke and Timothy Geithner will be taken for granted in the 70 years.
The Bernanke Files believes that 70 years from now, economists will be debating the current economic policies in a similar manner. Enormously expansive and creative monetary policy, $1 Trillion stimulus, health-insurance reform, increased unemployment and other government initiative's helpfulness will be debated.
Fortunetly, though, the debates will never be as famous as the Great Depression debates because of the Great Depression. Ben Bernanke is a Great Depression scholar. Because of his creativeness and guidance, our current crisis is merely a recession. A scary fact is that it could have been a depression. In 70 years, just like Bernanke argues that monetary policy, not government intervention, helped us climb out of the Great Depression, economists will be arguing that it was the Federal Reserve that incurred some of the damage but most of the stabilization in the markets. Because we learned from the Great Depression, great Americans like HenryPaulson, Ben Bernanke and Timothy Geithner will be taken for granted in the 70 years.
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