Wednesday, December 17, 2014

Update on the Scary News

The Economist have been on top of this for about a month.
... But the central bank exaggerates the reserves at its disposal. About $170 billion of its assets sit in two giant wealth funds, the Reserve Fund and the National Wealth Fund (NWF) ...
Cash from the $82 billion NWF is committed to long-term infrastructure projects, says Sergei Guriev of Sciences-Po, a French university. The NWF has also provided money to VEB, the Russian development bank, to finance construction at the Sochi Olympics.
The loans by which it did so have been "restructured" to allow delayed repayment. Mr Guriev says many people believe the money to have been embezzled. The NWF may thus be unable to offer any liquidity to the government.
In terms of money that could actually be put to use, Russia's reserves could be more than $100 billion lower than the headline figures suggest. Mikhail Zadornov, a former finance minister, said in a recent interview with Dozhd, a television channel, that the usable amount could be as low as $200 billion. 
That was published 26 days ago.

We are in the realm of "who the f**k knows" here. But if Russia has been bleeding a few billion in reserves every day for a month, and half the money was already misappropriated ... then we're looking at the likely collapse of the Russian economy before the new year.

The Scariest Tidbit from the Ongoing Russian Currency Crisis

This came through on The Guardian's live blog of the ongoing Russian currency crisis about 7 hours ago:
Timothy Ash, an analyst at Standard Bank, is astonished by the news that the Russian finance ministry will deploy around $7bn of ‘spare’ currency reserves to prop up the rouble (as explained earlier)
Ash says the intervention is “unbelievable stuff”:
“Why, if the central bank has $413bn in reserves, is the ministry of finance being called on to put its hand in its pocket for some small change — they are like checking the back of the sofas at this stage”.
Let me read between the lines for you. Those "spare" reserves are coming from the finance ministry, instead of the Bank of Russia where announced reserves are supposedly held, because those reserves aren't actually there.

The official position of the Bank of Russia is that they had $418B of reserves on November 30. I think it's reasonable to assume that even with the crisis, that Russia has probably used up tens of billions of dollars of reserves over the last 3 weeks, but not hundreds.

So why do they need seven?

I think it's because they're lying.

Currency traders are used to countries lying about their reserves. And what they do when that happens is "attack" that currency. Basically, they try to get out of it as quickly and as "big-ly" as they can. This is what currency crises are all about: investors running for the exits.

So where'd all the money go? They don't call governments like Russia's kleptocracies for nothing.

Bureaucratic Moral Preening During a Crisis

Beware. When bureaucrats start taking moral positions about economic situations they don't approve of ... it's time to start running away faster.

My experience is that this is usually a sign that the bureaucrats 1) are worried about getting fired because things aren't going right, and 2) feel that their policy tools are not up to the task.

This tidbit was reported by on The Guardian's live blog of the ongoing Russian currency crisis on the morning of December 17th.
The Kremlin has been blaming yesterday’s currency turmoil on recklessness and manipulation; one adviser said the “bacchanalia” in the foreign exchange markets must end.
What's a bacchanalia? In ancient Rome this was a festival celebrating the god Bacchus. Bacchus was the god of wine.* A bacchanalia was basically an excuse to get drunk and licentious.

There's no tried and true rule on this, but it's been my experience with studying macroeconomic policy (for going on 35 years now) that this is a bad sign.

* Mind that you don't get all preachy about wine either. Before chlorination of water was introduced about a century ago, anyone who didn't drink wine or beer, or live in a specific geographic context ... ended up dead from fecal pollution.†

† As to the specific geographic context, there are zero historical cases where teetotalling was successful for more than a decade or two without 1) water flowing (downhill) at a high rate of speed, and 2) an absence of non-circulating water in ponds, lakes, or protected bays — basically deserts, mountains, or exposed and stormy coastlines.

Tuesday, December 16, 2014

This Year’s Crisis

Usually I wait until the advanced macro class starts in January before posting about this year’s macroeconomic hot spot.

But Russia seems to have jumped the gun by a few weeks. The best way to follow this sort of thing is to find a legacy media outlet that is running a live blog of the crisis. Typically, the European newspapers are a good source: here’s the link to The Guardian’s live blog.

The market signals about the Russian economy have been bad since mid-summer: about the time Russia got more serious about supporting separatist rebels in eastern Ukraine … who also happened to shoot down a passenger jet at an altitude that can only be hit with actual Russian military hardware.

So I posted about interest rates on Russian bonds about 60 hours ago.

But the news all day has been the dramatic decline in the value of the ruble today. This sort of thing happens when people and firms who have rubles decide they need to get that wealth into another currency … and find out no one wants the rubles at the current market price.

The Russian central bank tried to combat that by raising interest rates. This is bait to get international investors to choose to buy rubles so as to earn that rate in Russian banks.

As of right now, it seems like they have enticed enough new investors to offset the other people abandoning the currency.

But, at what price? Here in the U.S., we talk about movements of interest rate targets of a quarter or half point, perhaps several times a year. In Russia, they raised the interest rate by over 7% today. So that’s gigantic.

Russia is sitting on a huge amount of foreign reserves. What exactly does that mean? Basically, it’s a big pile of foreign currency that the government has collected through international trade. Russia has about $400B. That is used to keep the value of the ruble from depreciating: if investors are dumping their rubles at low prices on foreign exchange markets, then the Russian government can buy it with the foreign exchange they already own to keep its value up. The problem with this is that doing so makes the big pile smaller. Eventually it may dwindle to nothing, and that’s when the crisis will get far worse. Here’s the chart from Vox:

This number is important, but it’s only measured monthly. There’s so much traffic on the website of the Bank of Russia (looking for better data) that I wasn’t even able to connect.

Backtrack a little though, to where I said “dwindle to nothing”. It doesn’t actually work like that. Instead, the total may start accelerating towards nothing. What happens then is that the government will start to get the message that it’s going to lose it all … and will stop using those reserves. What then? That’s when the real crisis hits, because that policy choice is basically one to screw your own citizens so that you can keep the big pile of cash. That never ends well.

Sunday, December 14, 2014

Something to Worry About: Russia

Yes, there are geopolitical reasons to worry about Russia’s behavior.

Yes, obviously, Russia’s economy is heavily dependent on oil production, and it’s possible we’re in for a sustained price drop.

N.B. I’m not sure about that at all, but I keep hearing that when it comes to horizontal drilling (aka fracking) that the simple textbook explanation that the shutdown price is the same as the “open up” price fails badly. Fixed costs are so high in horizontal drilling that the divergence is something like $40/barrel. If this is the case, then the production from horizontal drilling in the U.S., that is pushing down global crude oil prices, is likely to be sustained, since those U.S. producers won’t be the first to shut down.

After all that, here’s the thing. Macroeconomically, what we look at in assessing the stability of a government’s current fiscal situation is the rate at which it can borrow money. Since bond prices are inversely related to rates, when investors accept lower prices to get rid of the bonds they don’t want … interest rates rise. Here are interest rates on 10 year Russian government bonds:


And why have interest rates been generally rising since early in 2013? What happened then?

Ah … that we the financial crisis in Cyprus … when it was revealed that one source of instability in Cyprus was that Russian kleptocrats were depositing huge sums of presumably ill-gotten gains in the poorly structured Cypriot banking system. And most of the “haircut” at the end of that crisis fell on large depositors — mostly Russians.

Since then we’ve had oil pipeline problems with Ukraine, leading to another Ukrainian revolution, the Russian annexation of the Crimea, the Russian paramilitary involvement in eastern Ukraine, the shootdown of a Malaysian passenger jet, and now steeply declining world oil prices.

Keep an eye on this one.

Monday, December 8, 2014

Quantifying Economic Uncertainty

A lot of casual opinion suggests that there’s more economic uncertainty since Obama took office, and that this is influencing managers’ decisions, and may help explain macroeconomic weakness.

Well, if uncertainty is any measure, we’ve been in crisis for 6 years:


In the past, I’ve been non-committal about this issue. But now that I have found this data set, I think it provides fairly concrete evidence that D.C. has created problems for all of us.

Note that the two biggest spikes before the last 6 years are the taller one for 9/11, and the somewhat smaller one leading up to the invasion of Iraq in 2003.

And that hump in the early 1990’s? That the first Persian Gulf War, with a peak in fall 1992 … when it became apparent that the president who’d racked up the highest approval ratings in history was somehow going to lose the election.

Folks, there is no test for causality here, but I’d sure like to see someone in D.C. experiment with reducing the level of uncertainty, and then following up by an examination of productivity several years later.

Saturday, December 6, 2014

Why Is Macro So Hard? Is It Important for Understanding Macroeconomics to Recognize How Sh**ty Life Used to Be?

The central fact of macroeconomics is that, without the planning of anyone, human society was able to string together more than three centuries of improved living standards.

This has happened … once. And all of our lives depend crucially on it.

And yet there are many people who are certain that the future will be worse than the past. What gives?

Virginia Postrel has an interesting idea about why people are pessimistic about the future:

The reason mid-20th-century Americans were optimistic about the future wasn’t that science-fiction writers told cool stories about space travel. Science-fiction glamour in fact worked on only a small slice of the public. (Nobody else in my kindergarten was grabbing for "You Will Go to the Moon.") People believed the future would be better than the present because they believed the present was better than the past. They constantly heard stories -- not speculative, futuristic stories but news stories, fashion stories, real-estate stories, medical stories -- that reinforced this belief. They remembered epidemics and rejoiced in vaccines and wonder drugs. They looked back on crowded urban walk-ups and appreciated neat suburban homes. They recalled ironing on sweaty summer days and celebrated air conditioning and wash-and-wear fabrics. They marveled at tiny transistor radios and dreamed of going on airplane trips. [emphasis added]

From my perspective then, macro is hard because people don’t recognize the wonder of it all.

Let me give you some personal experience about what it was like when I took my first and second macro courses in 1981-2.

  • This was 6 years before I first used a personal computer. I wrote papers on a typewriter.
  • Remember White Out?
  • At that time the university library did not have copy machines. I was able to get things copied by taking them to my dad’s office.
  • My gosh, I’d received mimeographed handouts within 5 years previous to that time.
  • I was the first person in my circle of friends to have portable, personally curated, music. Here’s a picture of it that I found on The Google:
  • This was the size of a brick, and weighed as much as a large hardcover book. It did not have Dolby. I got it through mail order, literally from an ad in the back of a magazine. It cost around $150 (about $390 in today’s dollars) in the summer of 1981.
  • Any sort of soft tip pen was new within the previous 6-8 years. Rich kids always had felt tip pens. I underlined my texts with pen, and sometimes a ruler. I didn’t get my first highlighter until 1983.
  • Textbook resale or buy-back was unheard of back then.
  • Our TV had 8 channels. I went to school with many people from the New York City area. This was an amazing thing to them. We were in Buffalo, and we got 3 extra channels because we could bring in the Canadian stations: 2 in Toronto and 1 in Hamilton.
  • My father was the first person I knew who had a VCR (a betamax). We got this in early 1982.
  • We had many televisions in our house, but only one of them was color.
  • At that time, remotes like we’re used to today had to have a physical cable. Our new VCR had one, but our TV did not. You could get remotes for TVs, but they required an actual motor inside the TV to physically turn the knob, and the remote was very big and had large C or D cell batteries to send the signal to it.
  • The first front wheel drive cars had just become available. Again, we were the first people to have one. That car sucked.
  • Four wheel drive was not something that anyone had who didn’t have a farm, or do serious camping. AWD did not exist.
  • My cousin (a sales rep) had air conditioning in his company car. So did some richer people I knew (but not all of them).
  • My parents didn’t get a microwave until I bought them one as a gift in the late 1980’s.
  • The first thing I bought with my first full time summer job: a turntable. (I still have it. Apparently it’s one of the ones that audiophiles like to get their hands on. I got it out a few years ago to show my kids).
  • I had a reel-to-reel tape deck for better quality recording of my musical adventures.

If you’d like to live with any of those … keep telling yourself that the future is going to be worse than the past.