The Plot Thickens In Canada 2 (Not Required)

Sheesh. I missed this one from yesterday.

The video is cued; I'll summarize below, but the important 2 minutes are right there if you want to watch.

The woman speaking is Canada's Minister of Finance and Deputy Prime Minister Chrystia Freeland. She is acting under authority of the Emergencies Act mentioned 2 posts back. Here's the money quotes:

"... These changes cover all forms of transactions ..."

" ... Highlighted the fact that crowdfunding platforms and some of the payment service providers they use, are not fully captured under the Proceeds of Crime and Terrorism Financing Act ..." (see this page of search results for some explanation)

"... We know that these platforms are being used to support ... activity that is damaging the Canadian economy ..."

"... A bank or other financial service provider will be able to immediately freeze or suspend an account without a court order. In doing so, they will be protected against civil liability ..."

"We are today serving notice, if your truck is being used ... the insurance on your vehicle will be suspended ..."

"The Canadian economy needs them [semi-trucks] to be doing legitimate work, not to be illegally making us all poorer ...".

I have never heard anything like this in a rich/developed/Western country.

I am not an expert, but I believe that doing these sorts of things in the U.S. would be a violation of the 4th Amendment  (seizure of your funds without due process), and the 1st Amendment (abrogation of freedom of association if you're a suspect); while deputizing private institutions as a posse comitatus to  police activities pronounced as undesirable by the government is the same logic used here to perpetuate and expand slavery before the Civil War.

The closest thing to this is the suspension of accounts in Cyprus in 2013, which ended with a lot of people having their money confiscated (which was probably a good thing, since a lot of it was ill-gotten). There are a crazy number of links on this blog from back then as that crisis evolved (see here).

***

Part of me is pleased that a macroeconomy is getting attention and being protected. But holy cow ...

And again, I'm not sympathetic to the protesters, although I recognize that they have a point about how policy affects their jobs.

I'm not sympathetic to the government of Canada either. It seems to me that a cornerstone of policy for a small or smaller country should be to avoid inconsistencies with your larger neighbor. That neighbor may not be right, but I think there's an obligation to be practical about these things.

Hopefully it's pretty obvious that I take COVID-19 seriously, and am not an anti-vaxxer or stealth conspiracist. 

With all that in mind, it should be clear that COVID-19 is a macroeconomic issue, that economic issues and policies often have unintended consequences, and that the U.S. inability to mitigate COVID-19 effectively (under either administration) is contributing to macroeconomic problems in other countries.

You Trade Most with People Who are Physically Closer, and Most Like You

Visual Capitalist posted a chart of the UK's trade relationships with the EU members. A chart like this could be done for just about any country.

 

Also, rather obviously, countries also trade most with whomever is economically biggest: bigger economy tends to mean more trade.

So, not surprisingly, the UK trades the most with Germany: it's big, it's fairly close, and it's culturally similar to the UK.

France and Italy are the next two biggest countries in the EU, and the UK trades less with them because they're smaller. They're also more culturally similar to each other, than they are to the UK, which will tend to decrease trade. Italy is further away than France, so it's lower on the list.

The UK, the Netherlands, and Germany share a more Germanic culture, language, and majority Protestant background. On the other hand, Belgium shares with France and Italy a Romance language and "latin" culture, and majority Catholic background. So, the Netherlands is a bigger trading partner than is Belgium, even though the countries are comparable and Belgium is closer.

The other big trading partner is Ireland. Different culture, different religious background, but a mostly shared language. AND, Ireland is the only country that shares a land border with the UK, and it's also the fairly close over water, so, lots of trade there.

Alternatively, if you look down towards the bottom of the list, you see mostly countries that have a Slavic rather than a Germanic language, most of which are further away, and smaller, with a religious background that is sometimes Catholic and something Eastern Orthodox. The UK doesn't trade much with those countries, but there are exceptions. Cyprus and Malta, are the two smallest countries in the EU. And yet they are not at the bottom of trade with the UK. Why is that so? Probably because both of them spent time as colonies of the UK!

FWIW: a model in which trade depends on distance is called a "gravity model". Paul Krugman (who now writes an opinion column for The New York Times) won a Nobel Prize for its development.

COVID-29 # 24 (Required Parts are Highlighted)

Was this class that I said on Monday that all it's going to take is for a basketball player to test positive?

Iran is going to attempt a Wuhan-style quarantine for the entire country, starting tomorrow. Keep in mind that Italy's quarantine is more limited, and we're not sure yet if it will work. No one knows if Iran, a larger, more populous, but also more rural country than Italy, and poorer than both Italy and China, can pull this off.

Meanwhile, in China:

Folks in the west, it's scary to see the epidemic coming & your politicians aren't prepared, but pls refrain from concluding that govts like China are doing a better job because they are authoritarian. 1/5

— Maya Wang 王松莲 (@wang_maya) March 13, 2020

The news is good from China, except there's a lot of people on the ground saying it's not so. Potentially offensive. You've been warned; having said that, do not interpret my reposting this as support for U.S. responses either.

As per usual, Megan McArdle is smarter than everyone. I have saved her piece entitled "When a danger is growing exponentially, everything looks fine until it doesn’t" to the G drive (for some reason Proquest finds it under her name, but produces a document listing the wrong author. Here is an article covering most of the post by the Italian doctor she mentions. If you do not understand the lily pad analogy, if you have a pond that you care about, lily pads are trouble because eventually they cover the surface and kill all the plants under the surface, so you have to pull them before they get out of control.

There's a lot of valid criticism going on about the estimate of 100K infections in Ohio. They mostly amount to it probably being an unrealistic extrapolation to a point rather than an interval estimate. For yourself, think about how long it took China to get to that many with 100 times the people as Ohio.

About 6 weeks ago I posted an image of Shanghai Disneyland closed. Now they all are in the U.S. and Europe.

Here's one of those graphs showing cases by country on a log scale.

Note that the U.S. is on this one, and we are right in the middle of the group heading for Italy numbers (I am not sure Iran and South Korea aren't special cases, but Italy seems an awful lot like us). DO NOTE THAT I HAVE POSTED CHARTS LIKE THESE HERE, AND BEFORE, BUT I REALIZED THIS MORNING WHY THEY ARE WRONG. I WILL EXPLAIN LATER IN A LONGER POST.

Still stalled:

The United States is currently testing the smallest percentage of its population of any developed nation pic.twitter.com/WpAJhyxL0y

— Nick Kapur (@nick_kapur) March 12, 2020

As of Thursday, we're up to 11K "specimens" tested in the whole U.S. That's the terminology they use to describe the fact that a lot of patients are tested more than once. People tested is smaller.

BTW: Utah is now reporting negatives, just under 4 of 136 tests were positive. Not surprising if the only people they are testing are those who are displaying signs of respiratory distress (which has a ton of different causes).

Sophie Trudeau, wife of Canada's prime minister, tested positive. Jair Bolsonara, the President of Brazil, has tested positive too (this is also being denied).

It's been a while since we've talked about warning levels. The State Department has issued a Level 3 (of 4) warning for the entire planet (note this does not supercede the large handful of Level 4 warnings for specific countries). The CDC has issued a Level 3 (of 3) warning for 29 countries in western Europe. It's easier to discuss who's not on the list: west of the old Soviet Union, these are the places that are still OK — Andorra, Bosnia, Bulgaria, Croatia, Cyprus, Ireland, Kosovo, Moldova, Montenegro, North Macedonia, and Romania. It's not a list of regular tourist spots. They have also added a Level 2 for the whole rest of the world. The pattern of Trump's flight plan is consistent with these.

I've been warning about the odd lack of news out of Iran. Today came reports of satellite images showing mass trench graves. Nearby was a large pile of lime; you bury bodies with lime when you don't have the time or resources to bury them far enough down. Iran also released info that healthcare workers had touched base with 3.5 million people who may have had contact with the infected. The scale of that number is consistent with the numbers of infected discussed in the post for the last class.

The U.S. is experiencing a low scale bank run from corporations. Many are drawing on their lines of credit to increase the amount of cash on their balance sheets. Read between the lines: banks are the safest place for your money unless the bank isn't solvent: non-banks are demonstrating that they are worried about banks.

Of course, you've all heard the news of the last 18 hours or so. Utah partially shutting down. Two Utah Jazz players and Tom Hanks with positive test results. NBA, MLS, and NHL suspended, and March Madness cancelled. MLB pushed back. Champions League tournament postponed until next year. La Liga suspended.

Trump banned air travel from parts of continental Europe. Please refer to the bottom of the post from last class about the suspicion that the strain circulating in Europe is nastier.

March Madness games will be closed to the public. The Ivy League cancelled its tournament yesterday ... but no one noticed ;-)

Italy is closing all stores (including restaurants) except supermarkets and pharmacies.

As of Tuesday, the entire state of Utah had the capacity to do 50-60 tests per day. This will increase on Thursday when a private lab in Salt Lake gets its approval to start. Utah does not release official figures on negative results, but estimates about 100 tests have been done here, with 2 positives. This is consistent with evidence from Seattle, where they've done a lot more tests: they give them to people in respiratory distress, and for most of them SARS-CoV-2 is not the cause. However, this is because there's lots of causes for respiratory distress (emphysema, COPD, pneumonia, bronchitis, congestive heart failure, tuberculosis, advanced age, and so on).

Remember what I said about the healthcare system breaking down in the Lombardy region of Italy?

As always, check out that beautiful log scale helping to emphasize the similarities. If you open up the tweet storm I pulled this out of, it shows a graph with unlogged data. My opinion is that it makes it a little more difficult to see that the other countries are on the same path.

Laurie Garrett, a fairly influential health journalist (who I've linked to a lot this semester) has a piece in Foreign Policy (not a minor outlet, but unfortunately behind a paywall) advocating for shutting down the election campaign. She will be speaking on The Last Word on (shudder) MSNBC at 8 pm tonight.

A woman at the Mirage tested positive.

Seattle has closed all public schools for 2 weeks.

Denmark has closed all schools and universities indefinitely.

Meanwhile, the largest public event still on schedule in the world began today — a series of horse races in the UK, spread over a week, expected to draw 250K people. The UK only has a third of the positives that the US does, but about 1/5 of the population.

Policy success stories on this are South Korea, Singapore, Hong Kong, and Taiwan (huh ... the same 4 places we used to call the "Asian Tigers" a generation ago). They have each approached their outbreaks in slightly different manners, and this article summarizes.


I will keep updating this until class time on Friday.

Will Greece Get Capital Controls?

The EMU imposed capital controls on Cyprus after their financial crisis in 2013. Will Greece get capital controls when (and if) it becomes cleared that their crisis is only on hold?

But Cyprus' problem was different. It was mostly about the Cypriot government letting its banking sector bloat up with presumably ill-gotten Russian deposits, and then being too small to act as a lender of last resort when those banks became insolvent.

Greece ... has bigger problems. Recall the post from earlier this semester: people are starting to use the word "failed state" when referring to Greece. This is a word we usually reserve for places like Somalia.

Even so, if the money starts flowing out again, capital controls may be coming. The problem is that half of the assets of Greece's banking system are IOU's issued by the Greek government that it promises to pay out of tax revenues. But it's having trouble collecting taxes.

What we need to pay attention to over the next few months is the decisions that the European Central Bank (ECB) makes regarding Emergency Liquidity Assistance (ELA). If they are tight with that, then the government of Greece may need to impose capital controls.

Also keep your ears open for any data about capital flows out of Greece.

This chart is poorly explained: what bears watching is the bars and the scale on the right. I'm eyeballing that and seeing €4B in December, €13B in January, and €4B in February. Does that mean that the smart money has already left, or that Greeks were holding out hope in February that Syriza might be able to make a better deal?

Revisiting Cyprus

The big topic in this class 2 years ago was the financial crisis in Cyprus. It's time to revisit how the Europeans addressed this issue, and how that's worked out.

First, a primer. The crisis in Cyprus was different from my coverage of Greece II this year, or Greece I whenever the last time was that I had to explain Greece to you folks. Over the previous decade, Cyprus had rapidly evolved into an offshore banking center for Russians, who deposited wealth that was often ill-gotten (proximity, warm water, and nice beaches all help). At the same time, it was admitted to the EU in 2004, and the EMU in 2009 (so the Russians were getting their money out of Russia and into the EMU). Those deposits needed to be invested somewhere, and Cypriot banks invested a lot of them in ... get this ... bonds issued by the government of Greece. When those went south, Cypriot banks became insolvent. But the EMU has organizational problems: all those deposits were now in euros which could move freely within the EMU, but the Cypriot government was responsible for being the lender of last resort for its own banking system. And they couldn't raise the money. So they went begging to the troika, and they weren't that happy to be providing deposit insurance to ... mostly Russian oligarchs. So they demanded a bail-in: in the final agreement depositors were required to contribute part of their deposits back to the banks to reestablish their capital. Basically, large depositors were told that to avoid the banks shutting down (and depositors losing everything), that half of their deposits would be forfeited, and the other half of their deposits would be replaced with shares of stock in the bank (whose value quickly fell to almost nothing) that was able to stay open due to the cash infusion. Pictures are a lot easier right: here's what a bail-in really means.

So, how'd that work out for Cyprus?

Well, the unemployment rate in Cyprus (that was in the 4-6% range for most of the oughties) climbed up to about 16% and has plateaued there.

One thing we've learned, again, is that despite economists dislike* of the political solution of capital controls ... they seem to work OK. And after 2 years, the capital controls are set to be lifted soon. If money doesn't start pouring out of the country again, then Cyprus is probably good to go. But here's a picture of what a capital control looks like.†

And, Cyprus has worked to rationalize some of its financial laws with how things are done in other countries. In particular, they're working on giving banks better recourse for dealing with non-performing loans.

But the Cypriots themselves are ticked off at the rest of the Europeans: they feel they didn't get the help they needed when they needed it, and are still paying for the trouble.

* Why do economists dislike capital controls? It's the whole voluntary exchange thing: if consumers want to move their wealth out of someplace, that's a form of free trade that probably should be permitted. Why do politicians like capital controls? Well ... hmm ... because they get blamed for financial crises, and sometimes those end with politicians getting killed.

† What specifically do capital controls mean? Pretty much no acceptance of "checks or debit cards, your checking account is now a savings account from which you can make limited daily withdrawals, your savings accounts is now a CD, your existing short-term CDs will be automatically rolled over into long-term CDs, and you can’t cash them out early."

Greece, Capital Flight, and Capital Controls

When dealing with foreign exchange and government finance crises we need to think about the balance sheets of banks.

But, the information we get can come from different perspectives, and the legacy media isn't always very good at making that clear.

So, let's think about a generic bank.

• Someone has cash outside the bank. That's an asset for them. 
• When that person deposits that cash, they get a statement back from the bank. That's their asset now.
• The bank records that statement as a liability, and the cash as an asset.
• Then the bank makes a loan: some of the cash leaves the bank, and the bank gets a loan contract. The assets are now mostly that contract, with a little cash left in the vault.

The problem with a country that gets into trouble because its own government is profligate is that those loan contracts are usually now treasury bills issued by that government.

What the ECB is worried about with the Greek banking system is whether those treasury bills can be counted on the balance sheet at their face/book value, or whether they need to be valued at something lower because the Greek government is less likely to pay those in full. Actually changing the value on the balance sheet to reflect that is called marking to market. Thus, the Greek banking system has problems on the asset side, which drives their net equity towards zero (and bankruptcy).

But they've also got problems on the liability side. When depositors aren't sure if the banks are reliable, they start withdrawing their deposits. Superficially, this sounds like it might solve part of the banks' problems with net equity. However, the real issue for the bank is how they convert their less liquid assets (like treasury bills) into cash to give back to the depositors. Because the banks need to sell those assets promptly to meet their liquidity requirements, they're shifting the supply of them to the right, and they'll take lousy offers (the price of those assets will fall).

This doubles down on the mark-to-market problem.

Here's the numbers: $28B has been withdrawn from the Greek banking system since the new year. Withdrawing from the system means going to some other country's banking system (or to a mattress or coffee can buried in the yard).

This chart came from this article, and I can't resize it, so if you can't see the whole thing go to the source.

A way that you address this problem, that no one really likes, is capital controls. What this means is that there are restrictions all along the line in what you do with your own money: you can't withdraw it from the bank in large amounts, and you can't take it out of the country (without smuggling it). 

The ECB is denying that capital controls are in the works for Greece to stay in the Eurozone. But, that's what they did to Cyprus two years ago, so I don't know how credible that is. Keep an eye on the news over the next few days to see what happens.

The "joke" on The Telegraph's live blog this morning was about 

So, who will institute capital controls first? Greece, to keep money in? Or Denmark to keep money out?

The news on the live blog is that of the 19 countries in the Eurozone (each of which, I believe, officially gets one vote) there is now a bloc of 8 countries lined up against Greece staying with the Euro (Germany, Austria, Slovakia, Belgium, Estonia, Lithuania, Latvia, and Finland). I don't know if Greece (or for that matter Cyprus) gets to vote on this.

What ELA Means for Greece

Here’s one opinion:

… The ECB really didn’t have much option but to do what it did. Syriza’s strategy was all over the place … At the end of the first ten days, they had said that they were defaulting, but not defaulting, that they didn’t want to borrow any more money, except maybe EUR10bn of treasury bills, that there would be no debt reduction, except that this was a euphemism for “yes there will”, and primary surplus would be maintained, although this didn’t necessarily mean any change in tax or spending plans. They’d also emphasised that they wanted to get a deal with the troika, but were not prepared to talk to the representatives of the troika.

When a borrower starts behaving like this, the natural instinct of any creditor who knows what they’re doing is to “shorten the leash”. … That’s the reasoning behind the collateral changes and the moves toward restricting ELA.

But everyone is worried about this, because ELA and its controls have always been seen as something of a nuclear threat — a policy lever that can never be pulled because the consequences are so drastic.

How drastic? People are envisioning immediate runs on Greek banks if ELA is stopped.

Alternatively, it’s possible that the ECB has no intention of cancelling ELA. Instead, they are using it as pressure to get Syriza to sacrifice domestic bank depositors in order to pay its debts. This is kind of what happened in Cyprus two years ago.

Via Marginal Revolution.

John Cochrane on Russia and the Ruble

John Cochrane is a University of Chicago business school professor who works on the borderline between macro and finance.

He’s posted a long piece on the evolving situation in Russia. Read the whole thing.

This is an interesting event on which to test out our various frameworks for thinking about macroeconomics and monetary economics.
Theories
There are three basic perspectives on exchange rates.
1. Multiple equilibria. Lots of words are used here, "speculative attacks," "sudden stops," "hot money," "self-confirming equilibria" "self-fulfilling prophecies" "contagion" and so on. Basically, the exchange rate can go up or down on the whims of traders. There is often some news sparking or coordinating the bust.  Some of the mechanism is like bank runs, pointing to "illiquidity" rather than "insolvency" as the basic problem.
This has been a dominant paradigm since the early 1990s. I've been a bit suspicious both on the nebulousness of the economics (lots of buzzwords are always a bad sign), and since the analysis seems a bit reverse engineered to justify capital controls, currency controls, (i.e. expropriation of middle-class savers and poor currency-holders), IMF rescues, and lots of nannying by self-important institutions and their advisers who will monitor "imbalances," "control" who can buy or sell what, and so forth. But models are models and facts are facts.
2. Monetary. Exchange rates come from monetary events, and primarily the actions of central banks. For example, much of the analysis of the dollar strengthening relative to euro and yen attributes it to the idea that the US Fed has stopped QE and will soon raise rates, while the ECB and Japan seem about to start QE and keep rates low.
3. Fiscal theory. Exchange rates come fundamentally from expectations of future fiscal balance of governments; whether the governments will be able and willing to pay off their debts. If people see inflation or default coming, they bail out of the currency, which sends the price of the currency down. Inflation follows; immediately in the price of traded goods, more slowly in others.

I tend to fall in the camp with # 3: exchange rate movements tell us about how people feel about one government’s credibility versus other governments.

Russia’s problems are coming from three sources: oil prices, international concerns about their behavior towards Ukraine, and kleptocracy related to the Sochi Olympics.

Oil price drops are a problem because, unlike developed “Western” nations, most poorer countries government’s own their oil reserves. So the fiscal position of the government depends critically on maintaining high prices. You may have also noticed that a lot of government officials are economically … pretty dumb. It doesn’t have to be this way, but typically governments get into trouble by locking in expensive spending plans when oil prices are high that they can’t unwind when the prices fall.

The situation with The Ukraine is a mess (and the Ukrainians aren’t entirely innocent). What’s important for a macro class a year later is that economic sanctions were put in place on Russia. Now Russia is trying to be a richer more developed country without the thick financial markets that richer developed countries … hmmm … develop as they go through the process of getting richer. So basically, they borrow a lot from foreigners, and repay those loans by borrowing even more. This has been cut off. Keep an eye on any weakening of the sanctions: this probably means that financial interests here are putting pressure on politicians here because Russians over there are threatening default. On the other hand, those same discussions of weakening sanctions are also pretty good evidence that they’re working.

Sochi: the most expensive Olympics ever, put on by an underdeveloped country, in a sub-tropical climate. Sheesh. There’s a ton of evidence that this was a big corruption event: Russia used government budgets to overpay for stuff sold to them by top supporters of the Russian government. Basically, it was money laundering. You can imagine that most of that money ended up in Cyprus, and Switzerland, and London, and even places like Park City.

Interestingly, a few weeks ago I speculated that Russia’s foreign reserves had been looted. Cochrane implies the same thing:

Russia ran big trade surpluses, meaning there are foreign assets somewhere. But those may have all ended up as Russian owned London apartments and Swiss banks and not available to Russian banks and businesses.

The last time I wrote about Russia 3 weeks back, I was unaware of the Rosneft switcheroo. Cochrane explains by quoting The New York Times coverage:

Rosneft, for example, had been clamoring for months for a government bailout to refinance debt the company ran up while making acquisitions when oil prices were high. Because of sanctions, those loans cannot be rolled over with Western banks. Debt payments are coming due later this month.
... With the oil giant in a bind, the central bank ruled that it would accept Rosneft bonds held by commercial banks as collateral for loans.
Rosneft issued 625 billion rubles about $10.9 billion at the exchange rate at the time, in new bonds on Friday. The identities of the buyers were not publicly disclosed, but analysts say that large state banks bought the issue.
When these banks deposit the bonds with the central bank in exchange for loans, Rosneft will have been financed, in effect, with an emission of rubles from the central bank. The deal roiled the ruble on Monday, according to analysts.
The reason for Monday’s currency crash is “well known,” Boris Y. Nemtsov, a former deputy prime minister who is now in the political opposition, wrote on his Facebook page. “The central bank started the printing press to help the Sechin-Putin business, and gave Rosneft 625 billion newly printed rubles. The money immediately appeared on the currency market, and the rate collapsed.”

Oops. One thing you need to recognize about government officials in a crisis is that they’re control freaks. And they think they can pull this stuff off without anyone noticing. When there’s a lot of money on the line, that doesn’t work out so well.

How can you keep an eye on this? Find a site that you like that shows the ruble/dollar exchange rate. Then, make sure it’s one that you can adjust the time axis on; you want to be looking at no less than a 3 month window. Here’s a 12 month window I snapped off of Bloomberg today:

Do note that I can’t scale the vertical axis to have a true zero. So, Bloomberg is distorting our view a bit.

What should you make of this? The sanctions were put into place in the summer. The exchange rate crisis of mid-December is the big spike. The Russian response to that, which quieted markets a big is the trough afterwards. Now note the time scale: the Russians best shot reversed their devolving position all the way back to, maybe, December 1. The slower losses of July to November added up to something larger, and they’re still there. And the exchange rate has started to get worse again since December 25.

This is not going to be fun to watch. The last time Russia had a financial crisis (1998) … we got Putin. The last time they had a crisis before that (80’s and early 90’s) … we got a coup with tanks in the streets of Moscow.

Belarus

Next up on the international financial crisis list is Belarus.

FYI: Belarus is one of the former Soviet republics. It is the one that has remained most like the old Soviets, and most closely aligned with Russia over the last 20 years.

Belarus is in crisis, and it all ties back to Russia’s involvements in Ukraine. When sanctions went in place against Russia, Belarus recognized that they were tied to Russia but without the deep pockets from oil exports. So they started isolating their economy from Russia as much as possible.

The thing is, now Belarus has ticked off Russia, while still taking a body blow from the sanctions.

Last week their dictator fired some top government officials. This was after shutting down much of their internet and retail commerce the week before.

Belarus is probably not a big deal, the way Russia would be, or the way that Cyprus was a few years back (because of all the money Russians lost there), or Greece a few years before that (because of all the money German investors can’t get back out of there).

Russia has been fairly quiet the past two weeks. Perhaps they’ve just passed the crisis along to a weaker sibling.

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.

A Little Rhetoric

I learned about kairos from colleague Julia Combs a few weeks back.

From Wikipedia:

In rhetoric kairos is "a passing instant when an opening appears which must be driven through with force if success is to be achieved."^[2]

Kairos was central to the Sophists, who stressed the rhetor's ability to adapt to and take advantage of changing, contingent circumstances. In Panathenaicus, Isocrates writes that educated people are those “who manage well the circumstances which they encounter day by day, and who possess a judgment which is accurate in meeting occasions as they arise and rarely misses the expedient course of action". [emphasis added]

I write this because I recognize that this is an essential part of teaching macroeconomics. My feeling is that what makes a successful macroeconomist is the ability to recognize a current event as either something we’ve seen before, or something new … and relating that to students.

Technorati Tags: kairos,macroeconomics,cyprus,rhetoric.carpe,diem,seize,day,moment

How Are the PIIGS Doing?

The PIIGS are Portugal, Ireland, Italy, Greece, and Spain. Along with Cyprus, they have been the focus of concern for the economic future of Europe for the last 4 years in this class.

And, at least on paper, the PIIGS are doing OK right now.

Sovereign debt is debt issued by the government. The interest rate on sovereign debt is a key indicator because it shows (roughly) the burden on taxpayers for bad government policies in the past.

A further problem, is that most poorly governed countries exhaust the willingness of their own citizens to lend them money: the citizens come to know that their own government is a bad risk before anyone else does. In turn, this means that many countries end up paying high rates on sovereign debt to investors from other countries. This has been the problem in the European Union: German citizens left holding the bag by the Greek government (and other similar stories).

So, this chart looks pretty good.

But … how did this happen? Unfortunately, a lot of it was from LTRO money from the ECB.

The ECB is the European Central Bank (their Fed).

An LTRO is a long-term-refinance-operation: basically, a long-term, lower interest rate loan.

In Europe over the last few years, this has meant the citizens of the countries that are doing well contributing extra funds to the European Central Bank, which in turn lends it to struggling private banks in countries with weaker economies. And what do they do with it? Well, it’s a cheap source of funds, so they buy riskier assets with it … mostly sovereign debt from their own countries.

Think about that: it’s weird.

The financial crisis in Europe was largely about governments being unable to make payments on debts owed to citizens in other countries (and the countries on the losing end being unwilling to defend their own citizens by enforcing those debt contracts the old fashioned way, with guns).

So, their plan to address the problem of, say, German citizens lending to the government of Greece, is … to have German citizens loan to their own government, which loans the money to the ECB, which makes LTROs with it to private banks in Greece, who then loan the money to the government of Greece. In other words, just inserting additional layers of financing to cover their tracks. In short, it’s money laundering done to maintain the plausible deniability of government officials in Germany who’d like to get reelected. On the plus side, the plans were only approved when some enforcement mechanisms (whose strength must be OK for now) on governments like the one in Greece.

What should we make of all of this? It’s a gamble that the problems of the last few years were special, and unlikely to be repeated. If they’re not repeated, this sort of scheme will work. If they are, everyone will just end up looking stupid.

FWIW: AN ANALOGY

This is sort of like a family with one sibling with a drug problem, one not, and everyone co-dependent. The kid on drugs is, the government of Greece. The clean sibling is the citizens or banks of Greece. And the parents are Germany.

The kid on drugs gets into trouble, and first tries to borrow money from the sibling.

When the sibling stops lending, the kid on drugs goes to the parents.

When the parent stops lending, the kid on drugs is in real trouble with their dealers.

But the parents want to hold the moral high ground, but also the contradictory position of helping their kid in trouble.

So the loan money to the clean kid, and don’t ask where it goes. And perhaps have a talk with the clean kid about how they need to support their sibling. You can imagine where the money ends up.

Here’s the thing to recognize. We all think this behavior is stupid and counterproductive. But most of us will end up doing the same thing in the same position. It’s a flawed, but very human, response.

And so is the response of the countries in the European Union that are doing well to the problems of government mismanagement in the PIIGS. Get it?

The thing is, in the family analogy, is that it doesn’t address the underlying drug problem, which, after all, is much tougher to fix.

And the thing is, in the European reality, is that it doesn’t address the underlying problem of bad government, which, after all, is much tougher to fix.

FWIW: Some of my earliest memories of network news (which was the only news to watch in the early 1970’s) was about how screwed up the government of Greece was: communist revolutionaries (who in retrospect look like terrorists or morons), military thugs, coups, and picking fights with bigger neighbors (Turkey).

How Are the PIIGS Doing?

The PIIGS are Portugal, Ireland, Italy, Greece, and Spain. Along with Cyprus, they have been the focus of concern for the economic future of Europe for the last 4 years in this class.

And, at least on paper, the PIIGS are doing OK right now.

Sovereign debt is debt issued by the government. The interest rate on sovereign debt is a key indicator because it shows (roughly) the burden on taxpayers for bad government policies in the past.

A further problem, is that most poorly governed countries exhaust the willingness of their own citizens to lend them money: the citizens come to know that their own government is a bad risk before anyone else does. In turn, this means that many countries end up paying high rates on sovereign debt to investors from other countries. This has been the problem in the European Union: German citizens left holding the bag by the Greek government (and other similar stories).

So, this chart looks pretty good.

But … how did this happen? Unfortunately, a lot of it was from LTRO money from the ECB.

The ECB is the European Central Bank (their Fed).

An LTRO is a long-term-refinance-operation: basically, a long-term, lower interest rate loan.

In Europe over the last few years, this has meant the citizens of the countries that are doing well contributing extra funds to the European Central Bank, which in turn lends it to struggling private banks in countries with weaker economies. And what do they do with it? Well, it’s a cheap source of funds, so they buy riskier assets with it … mostly sovereign debt from their own countries.

Think about that: it’s weird.

The financial crisis in Europe was largely about governments being unable to make payments on debts owed to citizens in other countries (and the countries on the losing end being unwilling to defend their own citizens by enforcing those debt contracts the old fashioned way, with guns).

So, their plan to address the problem of, say, German citizens lending to the government of Greece, is … to have German citizens loan to their own government, which loans the money to the ECB, which makes LTROs with it to private banks in Greece, who then loan the money to the government of Greece. In other words, just inserting additional layers of financing to cover their tracks. In short, it’s money laundering done to maintain the plausible deniability of government officials in Germany who’d like to get reelected. On the plus side, the plans were only approved when some enforcement mechanisms (whose strength must be OK for now) on governments like the one in Greece.

What should we make of all of this? It’s a gamble that the problems of the last few years were special, and unlikely to be repeated. If they’re not repeated, this sort of scheme will work. If they are, everyone will just end up looking stupid.

FWIW: AN ANALOGY

This is sort of like a family with one sibling with a drug problem, one not, and everyone co-dependent. The kid on drugs is, the government of Greece. The clean sibling is the citizens or banks of Greece. And the parents are Germany.

The kid on drugs gets into trouble, and first tries to borrow money from the sibling.

When the sibling stops lending, the kid on drugs goes to the parents.

When the parent stops lending, the kid on drugs is in real trouble with their dealers.

But the parents want to hold the moral high ground, but also the contradictory position of helping their kid in trouble.

So the loan money to the clean kid, and don’t ask where it goes. And perhaps have a talk with the clean kid about how they need to support their sibling. You can imagine where the money ends up.

Here’s the thing to recognize. We all think this behavior is stupid and counterproductive. But most of us will end up doing the same thing in the same position. It’s a flawed, but very human, response.

And so is the response of the countries in the European Union that are doing well to the problems of government mismanagement in the PIIGS. Get it?

Cyprus Update: Capital Controls Aren’t Stopping Capital Flight

It’s been 3 months since the Cypriot crisis was “solved” with capital controls.

Those controls were intended to keep capital (movable, fungible wealth) from leaving the country. A country needs capital for investment and economic growth, but who would want to keep capital in a place where the government can tax it away to cover the mistakes of others? So, when you’re like Cyprus, capital leaves the country. Capital controls are supposed to limit that.

Now … we don’t have a counterfactual: we know what the data says happened with the controls in place, but we don’t know how much worse (or possibly better) things would have been without them.

Anyway, the data isn’t pretty. Twice as much capital left Cyprus in April (after the controls were put in place) than in March (when the country basically was shut down).

Cyprus’ overall problem is roughly in the (low to mid) tens of billions of dollars.

And with capital controls they still lost $3B in a month.

Which money left? About half was foreign, and about half was Cypriot. It’s not good when your own natives are taking their wealth out of their own country.

And surprisingly, a lot of the money that left was already denominated in dollars. That is money that is held in a Cypriot branch of an institution that operates in the U.S. That money should have been safe already, since it kinda’ sorta’ is already non-Cypriot. But it moved too, probably to American financial institutions without operations in Cyprus at all. This is what you do if 1) your long-run goal is to “get the heck out of Dodge”, or 2) you are selling your wealth to family and friends in foreign countries in exchange for basic products that they are shipping to you (in short, you can’t get stuff like, say, printer toner because you don’t have any cash to buy merchandise, and the stores don’t have any money to buy inventory).

Via Marginal Revolution.

How Bad Are Things In Europe?

Here’s a chloropleth from the April 26 article from The New York Times entitled “Southern Europe’s Recession Threatens to Spread North”

Note how few EU countries match the (below average) growth rate that America put up over the last year.

Also, recall that Russian money that fled Cyprus is now reported to be going to Latvia. Latvia is a member of the EU (like Cyprus) but is not a member of the EMU (unlike Cyprus) — so it’s reasonable to conclude that the situation won’t evolve the same way. Even so: check out Latvia’s growth rate: inflows of foreign cash are apparently good for you up until they’re bad for you.

Required for Exams 3 and/or 4

UPDATE: LUMPING EXAMS 3 AND 4 TOGETHER DREW A LONG (AND REASONABLE) COMPLAINT FROM SHAQUEL FARR. SO, I HAVE SPLIT THE REQUIRED POSTS MORE OR LESS IN HALF. FOR EXAM 3, YOU ARE RESPONSIBLE FOR THE POSTS WHICH ARE NOT PREFACED BY "EXAM 4 ONLY".

I'm having the same problem I had last time with that widget on the right hand side.

This is the complete list of posts that are testable on April 24 and May 1. I've grouped these, the same way that I group questions on exams. Note that the size of the group is not indicative of how many points I'll award for each group's questions.

Remember that all posts back to May 1 of last year are fair game, so some of these are pretty far back. I started out with a chronologically sorted list, so within the groups they are still sorted chronologically.

To maintain some continuity, I kept posts you'd been tested on before, but I crossed them out.

Also note that there are some topics that seem useful to post at the time, but didn't seem as useful to cover in class for this semester (for example, Cyprus is in this year, so I cut coverage of China). You're not responsible for posts that are in that "Not Testable" section.

Tufte’s Short Posts

• Tufte’s Short Post # 1: The recession was large
• Tufte’s Short Post # 2: The second half of the rec...
• Tufte’s Short Post # 3: The recovery has been weak...
• Tufte’s Short Post # 4: Weak recoveries may be the...
• Tufte’s Short Post # 5: There is no path to recove...
• Tufte’s Short Post # 6: The Bush stimulus didn’t w...
• Tufte’s Short Post # 7: Obama’s stimulus package w...
• Tufte’s Short Post # 8: Obama’s stimulus package w...
• Tufte’s Short Post # 9: Tax cuts work better than ...
• Tufte’s Short Post # 10: The multiplier is small
• Tufte’s Short Post # 11: We don’t have a counterfa...
• Tufte’s Short Post # 12: The financial crisis and ...
• Tufte’s Short Post # 13: A lot of other countries ...
• (Exam 4 only) Tufte’s Short Post # 14: Perhaps our expectations ...
• (Exam 4 only) Tufte’s Short Post # 15: Perhaps we’re not measuri...
• (Exam 4 only) Tufte’s Short Post # 16: We’ve embodied a lot of w...
• (Exam 4 only) Tufte’s Short Post # 17: Obama’s policies have cre...
• (Exam 4 only) Tufte’s Short Post # 18: Rules vs. Discretion
• (Exam 4 only) Tufte’s Short Post # 19: Temporary vs. Permanent C...
• (Exam 4 only) Tufte’s Short Post # 20: FICA cuts were to the wro...
• (Exam 4 only) Tufte’s Short Post # 21: We’re in a liquidity trap...
• (Exam 4 only) Tufte’s Short Post # 22: Central bank policies cha...
• (Exam 4 only) Tufte’s Short Post # 23: State and local governmen...
• (Exam 4 only) Tufte’s Short Post # 24: The country is having an ...
• (Exam 4 only) Tufte’s Short Post # 25: The employment sector has...
• (Exam 4 only) Tufte’s Short Post # 26:The latest hot off the pre...

Labor Markets

• More On Overtime
• (Exam 4 only) More On Disability
• (Exam 4 only) Provocative New Research About the Labor Market
• If the Labor Market Is So Poor, Why Are Overtime H...
• (Exam 4 only) Disability Claim Nonsense from Not Logging Data

Budgets and Sequestration

• I Spoke Too Soon
• Some Budgetary Honesty
• Obama Budget Proposal Interactive Graphic
• John Cochrane On the Debt Ceiling
• Prioritizing Government Bill Paying
• (Exam 4 only) Taxes, Tax Rates and Spending
• (Exam 4 only) Straight Talk from Paul Krugman
• (Exam 4 only) Do Tax Breaks Encourage Saving?
• (Exam 4 only) Federal Budget Infographic

Unsustainability of the Welfare State

• (Exam 4 only) Continued Unraveling
• One Reason Why Medicare Can’t Be Cut
• The Progressives’ Worst Nightmare
• (Exam 4 only) Political Chaos In Italy

• (Exam 4 only) Get Used to the EMU as a Source of Problems

• (Exam 4 only) Italy and Its Election
• (Exam 4 only) A Sign of the Times
• (Exam 4 only) Why the World Seems Like One Big Currency Crisis
• (Exam 4 only) Spain’s Failed Infrastructure “Investments”
• Tim Worstall Nails the Problem with Keynesian Macr...
• (Exam 4 only) Germans Call It a Bailout, We Call It Missouri

Growth

• Hayek On Exhaustible Resources
• Tsunamis, Growth, Stocks and Flows, and the Broken...
• Math Atheism

Oil

• (Exam 4 only) Obama the Oil President

Cyprus

• Correction: Cyprus Haircut
• Cypriot Haircut Larger Than Expected
• No Bank Run Yet
• What a Capital Control Looks Like
• A Picture Is Worth a Thousand Words
• Continuing Weirdness In Europe
• The Other Shoe Drops
• Just the Same, Only Worse
• Sunday’s Cyprus News
• Cyprus’ Solidarity Plan/Fund
• Cyprus’ Capital Controls
• Saturday’s Cyprus News
• Friday Morning’s Cyprus News
• Thursday’s Cyprus News
• What Now?
• Today’s News On Cyprus
• More Light than Heat About Cyprus
• Even More On Cyprus
• More On Cyprus
• A Little More On Cyprus
• Cyprus

Old News

• (Exam 4 only) Revisiting the Argentinian Nationalization of YPF

Not Testable

• Also Required for Exam 2
• Unserious Obama
• Oh Boy
• Sequester Graphic

• Herbalife
• Armen Alchian, R.I.P.
• Same Article, Different Point
• The Scorpion
• Compared to What?
• Government Doesn’t Do Much Because It Just Isn’t T...
• Critical Thinking About GDP Forecasts

• Taking Apart 2012 IV Growth
• The Obama Recession ???
• What Were They Thinking?
• Why Is Macro So Hard? Suppression of Data
• You Heard It Here First, Part II
• Why Is There No Inflation?
• Hate to Say We Told You So
• Spurious Detrending, and How We Describe Our Reces...
• Unemployment Rates by Metropolitan Area
• Inequality–Before and After Taxes
• Labor Force Participation and the Baby Bust*
• Vindication
• Buchanan’s Contributions
• Improvement in Long-Term Unemployment
• More James Buchanan Links
• James Buchanan
• What Obama’s Thinking
• Stop Bullshitting About Disability, Conservatives
• OMG–Would You Look at That
• Seen In the Parking Lot
• Obama’s Letter Grades
• Why Is Macro So Hard: Students May Be Biased About...
• How It Was Supposed to Go
• What You Can Learn In Economics Class
• Why the World Seems Like One Big Currency Crisis
• Schoolshops Not Sweatshops
• How Low Can NPR Go?
• Federal Budget Infographic
• Self-Selection Bias, Residual Puritanism, and Macr...
• Chinese Exceptionalism and American Defeatism
• China’s Data Problems
• Where the Unemployed Are
• Understanding Where Bureaucrats Go Wrong
• Repeat After Me