Category Archives: Notes

Wealth Inequality and Wealth Taxes

In a series of blog posts, John Cochrane criticizes the Saez-Zucman proposal for higher wealth taxes. In posts #1 to #4 he argues that economic arguments for wealth taxes are inconsistent or not convincing. In post #5 he concludes that Saez-Zucman truly are motivated by political objectives which are grounded in the view that wealth of the rich is ill-gotten or that the rich have a disproportionate, negative influence on politics.

Saez and Zucman want to confiscate billionaires’ wealth, because they think billionaires have too much political power, billionaires all got their money unjustly, and somehow though big government cronyism is the problem, bigger government is the answer.

Cochrane rejects this view.

Debt, Deficits, and MMT

One of the American Economic Association sessions in this year’s ASSA Meetings focused on “Modern Monetary Theory” (MMT) and (maybe somewhat unfairly in the same session) on last year’s presidential address by Olivier Blanchard, which suggested that persistently low interest rates on public debt render government budget constraints non-binding.

Greg Mankiw concluded in his paper that “MMT contains some kernels of truth, but its most novel policy prescriptions do not follow cogently from its premises,” in line with my own assessment.

Papers by Richard Evans, Michael Boskin, Jasmina Hasanhodzic, as well as by Johannes Brumm, Laurence Kotlikoff, and Felix Kubler argued that Blanchard’s conclusions are not robust, for various reasons.

Redrawing the Map of Global Capital Flows

Redrawing the Map of Global Capital Flows: The Role of Cross-Border Financing and Tax Havens, by Antonio Coppola, Matteo Maggiori, Jesse Schreger, and Brent Neiman:

We start with the dataset of global mutual fund and exchange traded fund (ETF) holdings provided by Morningstar and assembled in Matteo Maggiori, Brent Neiman and Jesse Schreger (2019a, henceforth MNS). For each position in the data, we link the security’s immediate issuer to its ultimate parent. The resulting data can then be used to create a mapping that transforms cross-border positions from a residency to nationality basis and that sheds light on how global firms finance themselves. …

First, in the case of bonds, positions are almost always reallocated away from Bermuda, the Cayman Islands, and other tax havens. Under nationality, these positions are often associated with developing countries like Brazil, China, India, and Russia, which may reflect the fact that developing countries find it easier to issue offshore than onshore, where the legal system and institutional quality may be of concern to foreign investors. Reallocating positions from tax havens to developed countries is also common, though, perhaps because tax havens allow them to access international investors with less onerous rules governing the withholding of taxes on interest payments. These patterns may also reflect tax-driven profit-shifting, whereby one unit of a company raises money at a low interest rate in a low-tax regime and loans it at a higher interest rate to an affiliated unit in a high-tax regime.

Second, in the case of equities, we find that many developed-country investments in tax havens are actually associated under nationality with China. Many of these positions are in securities issued through Variable Interest Entities (VIE), a structure designed to avoid China’s capital controls and the legality of which may rest on tenuous ground. Relatedly, we see a large share of equities reallocated by our algorithm away from Ireland and to developed countries, an adjustment reflecting the popularity of “tax inversions” there.

Third, in the case of asset-backed securities, for several investor countries, we find large reallocations toward the domicile of the investor, often because the underlying assets are found there. For example, our reallocation matrix records that 73.4 percent of U.S. investment in Cayman Islands’ asset-backed securities should instead be thought of as U.S. domestic investment, largely because those securities are backed by U.S. mortgages.

Sand Dollar

The Central Bank of the Bahamas introduces CBDC, according to a press release (December 2019).

The intended outcome of Project Sand Dollar is that all residents in The Bahamas would have use of a central bank digital currency, on a modernized technology platform, with an experience and convenience—legally and otherwise—that resembles cash. It is expected that this will allow for reduced service delivery costs, increased transactional efficiency, and an improved overall level of financial inclusion. The anonymity feature of cash is not being replicated, although the Sand Dollar infrastructure would incorporate strict attention to confidentiality and data protection.

Men and Women

On Marginal Revolution, Alex Tabarrok reported (in December 2019) that

[m]en and women are different. A seemingly obvious fact to most of humanity but a long-time subject of controversy within psychology. New large-scale results using better empirical methods are resolving the debate, however, in favor of the person in the street. The basic story is that at the broadest level (OCEAN) differences are relatively small but that is because there are large offsetting differences between men and women at lower levels of aggregation. Scott Barry Kaufman, writing at Scientific American, has a very good review of the evidence:

On the Declining Political Support for Economic Unions

In an NBER working paper, Gino Gancia, Giacomo Ponzetto, and Jaume Ventura propose a theory of declining public support for economic unions: Broad gains from trade in differentiated goods make way for distributive conflict due to specific factors:

… this is partly due to the growth of trade between countries that are increasingly dissimilar. … political support for international unions can grow with their breadth and depth as long as member countries are sufficiently similar. However, differences in economic size and factor endowments can trigger disagreement over the value of unions between and within countries. The model is consistent with some salient features of the process of European integration and statistical evidence from survey data.

Treasury Direct

A common argument against retail central bank digital currency (CBDC) is that CBDC would undermine financial stability by allowing the general public to swiftly move funds from banks to a government account. But in several countries such swift transfers are possible already today—in the US through Treasury Direct.

(The argument also has conceptual flaws, see the paper On the Equivalence of Public and Private Money with Markus Brunnermeier.)

U.S. Money Markets

For over a year the federal funds rate has increased relative to the rate the Fed pays on excess reserves. In mid September 2019, the federal funds rate increased abruptly, triggering the Fed to inject fresh funds. In parallel, the repo market rates spiked dramatically.

On the Cato Institute’s blog, George Selgin argues that structurally elevated demand collided with reduced supply. He mentions explicit and implicit regulation; Treasury General Account (TGA) balances; the NY Fed’s foreign repo pool (Japanese banks); and the administration’s $1 trillion deficit which required primary dealers to underwrite newly-issued government debt.

The bottom line is that regulators have managed to raise the biggest banks liquidity needs enough to compel them to sit on most of the banking system’s seemingly huge stock of excess reserves, and to do so even as repo markets present them with an opportunities to earn five times what those reserves are yielding just by lending them out overnight.

… So there you have it: a host of developments adding to banks’ demand for excess reserves, while others gradually chipped away at the stock of such reserves. Add a spike in primary dealers’ demand for short-term funding, a coinciding round of tax payments that transferred as many reserves to the TGA, and binding intraday liquidity requirements at the banks holding a large share of total system excess reserves, and you have the makings of last month’s perfect repo-market storm.

David Andolfatto and Jane Ihrig concur. On the Federal Reserve Bank of St. Louis’ On the Economy Blog, they already argued in March 2019 that banks feel compelled to hoard reserves rather than lending against treasuries:

Why should banks prefer reserves to higher-yielding Treasuries? One explanation is that Treasuries are not really cash equivalent if funds are needed immediately. In particular, for resolution planning purposes, banks may worry about the market value they would receive in the sale of or agreement to repurchase their securities in an individual stress scenario.

Consistent with this possibility, Federal Reserve Vice Chair for Supervision Randal Quarles noted, “Occasionally we hear that banks feel they are under supervisory pressure to satisfy their [high-quality liquid assets] with reserves rather than Treasury securities.”

To quantify this liquidity consideration, a recent post on the Federal Reserve Bank of New York’s Liberty Street Economics blog suggests that the eight domestic Large Institution Supervision Coordinating Committee’s banks collectively may want to hold $784 billion in precautionary reserves to cover their immediate liquidity needs in times of stress.

Andolfatto and Ihrig argue that the precautionary reserves hoarding by banks could substantially be reduced if the Fed offered a standing repo facility:

The Fed could easily incentivize banks to reduce their demand for reserves by operating a standing overnight repurchase (repo) facility that would permit banks to convert Treasuries to reserves on demand at an administered rate. This administered rate could be set a bit above market rates—perhaps several basis points above the top of the federal funds target range—so that the facility is not used every day …

With this facility in place, banks should feel comfortable holding Treasuries to help accommodate stress scenarios instead of reserves. The demand for reserves would decline substantially as a result. Ample reserves—and therefore the size of the Fed’s balance sheet—could in fact be much closer to their historical levels.

A standing repo facility could effectively impose a ceiling on repo rates. And as Andolfatto and Ihrig argue it would also have other benefits. In a follow up post, Andolfatto and Ihrig emphasize that,

[w]hile U.S. Treasuries are given equal weight with reserves in the calculation of high-quality liquid assets (HQLA) for the LCR, they are evidently not considered equivalent for resolution purposes.

Internal liquidity stress tests apparently assume a significant discount on Treasury securities liquidated in large volumes during times of stress, so that Treasuries are not treated as cash-equivalent. We have heard that banks occasionally feel under supervisory pressure to satisfy their HQLA requirements with reserves rather than Treasuries.

On the NewMonetarism blog, Stephen Williamson offers a longer-term perspective. He appears more skeptical as far as bank liquidity requirements as a possible explanation for the recent interest rate spikes are concerned. In Williamson’s view a floor system that requires even more reserves in the banking system than currently present is ineffective and should be replaced. He writes (my emphasis):

Before the financial crisis, the Fed intervened on the supply side of the overnight credit market by varying the quantity of its lending in the repo market so as to peg the fed funds rate. … a corridor system, as the central bank’s interest rate target was bounded above by the discount rate, and below by the interest rate on reserves, which was zero at the time. But, the Fed could have chosen to run a corridor by intervening on the other side of the market – by varying the quantity of reverse repos, for example. Post-financial crisis, the Fed’s floor system is effectively a mechanism for intervening on the demand side … With a large quantity reserves outstanding, those financial institutions holding reserves accounts have the option of lending to the Fed at the interest rate on reserves, or lending in the market – fed funds or repo market. Financial market arbitrage, in a frictionless world, would then look after the rest. By pegging the interest rate on excess reserves (IOER), the Fed should in principle peg overnight rates.

The problem is that overnight markets – particularly in the United States – are gummed up with various frictions. … Friction in U.S. overnight credit markets … is nothing new. Indeed, the big worry at the Fed, when “liftoff” from the 0-0.25% fed funds rate trading range occurred in December 2015, was that arbitrage would not work to peg overnight rates in a higher range. That’s why the Fed introduced the ON-RRP, or overnight reverse-repo, facility, with the ON-RRP rate set at the bottom of the fed funds rate target range, and IOER at the top of the range. The idea was that the ON-RRP rate would bound the fed funds rate from below.

… if total reserves outstanding are constant and general account balances go up, then reserve balances held in the private sector must go down by the same amount. The Fed permits these large and fluctuating Treasury balances, apparently because they think this won’t matter in a floor system, as it shouldn’t. … Another drain on private sector reserve balances is the foreign repo pool. … if the problem is low reserve balances in the private sector, those balances could be increased by about $300 billion if the Fed eliminated the foreign repo pool.

… The key problem is that the Fed is trying to manage overnight markets by working from the banking sector, through the stock of reserves. Apparently, that just won’t work in the American context, because market frictions are too severe. In particular, these frictions segment banks from the rest of the financial sector in various ways. The appropriate type of daily intervention for the Fed is in the repo market, which is more broadly-based. If $1.5 trillion in reserve balances isn’t enough to make a floor system work, without intervention through either a reverse-repo or repo facility, then that’s a bad floor system. … Make the secured overnight financing rate the policy rate, and run a corridor system. That’s what normal central banks do.

Some background information:

  • NY Fed commentary on monetary policy implementation.
  • Description (2009) of the primary dealer system, by Barry Ritzholtz.
  • NY Fed staff report (2015) on US repo and securities lending markets, by Viktoria Baklanova, Adam Copeland and Rebecca McCaughrin.

In the FT, Cale Tilford, Joe Rennison, Laura Noonan, Colby Smith, and Brendan Greeley “break down what went wrong, what happens next, and whether markets can avoid another cash crunch” (with many figures).

This post was updated on November 21, 11:09 pm; and on November 26 (FT article).

India’s Unified Payments Interface

In the FT, Benjamin Parkin reports about the transformation of India’s payments landscape.

Behind the boom is an innovation launched by the Indian government in 2016: the unglamorous sounding Unified Payments Interface, or UPI, which allows immediate mobile payments directly between bank accounts.

Conceived as a public utility, the service is transforming India’s cash-dependent economy into fertile soil for mobile-money apps. … Both the volume and value of transactions had more than doubled in a year.

Harvard’s Admissions Policy

A paper by Peter Arcidiacono, Josh Kinsler, and Tyler Ransom offers some glimpses.

The lawsuit Students For Fair Admissions v. Harvard University provided an unprecedented look at how an elite school makes admissions decisions. Using publicly released reports, we examine the preferences Harvard gives for recruited athletes, legacies, those on the dean’s interest list, and children of faculty and staff (ALDCs). Among white admits, over 43% are ALDC. Among admits who are African American, Asian American, and Hispanic, the share is less than 16% each. Our model of admissions shows that roughly three quarters of white ALDC admits would have been rejected if they had been treated as white non-ALDCs. Removing preferences for athletes and legacies would significantly alter the racial distribution of admitted students, with the share of white admits falling and all other groups rising or remaining unchanged.

Where the Phillips Curve is Alive, Contd

In an NBER working paper, Laurence Ball and Sandeep Mazumder question the puzzles of first, missing disinflation and subsequently, missing inflation in the Euro area. From the abstract:

… we measure core inflation with the weighted median of industry inflation rates, which is less volatile than the common measure of inflation excluding food and energy prices. We find that fluctuations in core inflation since the creation of the euro are well explained by three factors: expected inflation (as measured by surveys of forecasters); the output gap (as measured by the OECD); and the pass-through of movements in headline inflation. Our specification resolves the puzzle of a “missing disinflation” after the Great Recession, and it diminishes the puzzle of a “missing inflation” during the recent economic recovery.

See also the paper by James Stock and Mark Watson.

Spyware for Sale

NSO Group “creates technology that helps government agencies prevent and investigate terrorism and crime to save thousands of lives around the globe,” according to the technology group’s website.

But according to the FT (article, article, article), NSO has (also) helped governments around the world to target journalists and dissidents.

The University of Toronto’s Citizen Lab knows more—and offers advice on how to take precautions.

BIS Stablecoin Report

The BIS has published a report on stablecoins. On Alphaville Izabella Kaminska approves but argues that the report does not contain novel points. One aspect discussed in the report concerns the benefit of stablecoins for cross-border payments; it may be limited unless technology is able to address the key friction:

A major obstacle to the interlinking of domestic payment systems and/or the development of shared global payment platforms is differing legal frameworks across jurisdictions and the associated uncertainty about the enforceability of contractual obligations resulting from participation in interlinked or shared payment platforms operating across borders.

See the VoxEU series on the topic.

BIS Innovation Hub Centre in Switzerland

From the SNB’s press release regarding the newly established BIS Innovation Hub Centre in Switzerland:

The Swiss Centre will initially conduct research on two projects. The first of these will examine the integration of digital central bank money into a distributed ledger technology infrastructure. This new form of digital central bank money would be aimed at facilitating the settlement of tokenised assets between financial institutions. Tokens are digital assets that can be transferred from one party to another. The project will be carried out as part of a collaboration between the SNB and the SIX Group in the form of a proof of concept.

The second project will address the rise in requirements placed on central banks to be able to effectively track and monitor fast-paced electronic markets. These requirements are arising in particular from the greater automation and fragmentation of the financial markets, but also from the increased use of new technologies.

Thomas Jordan and Agustín Carstens signed the Operational Agreement on the BIS Innovation Hub Centre in Switzerland yesterday.

Costs and Benefits of Unconventional Monetary Policy

The BIS has issued two reports that assess the implications of unconventional monetary policies.

The report prepared by the Committee on the Global Financial System discusses

… a number of unconventional monetary policy tools (UMPTs). After a decade of experience with UMPTs the report takes stock of central banks’ experience and draws some lessons for the future.

The report focuses on four sets of tools: negative interest rate policies, new central bank lending operations, asset purchase programmes, and forward guidance. It offers a summary of central banks’ shared understanding of the efficacy of these tools across countries, as well as the way that they were sequenced and coordinated.

The report concludes that, on balance, UMPTs helped the central banks that used them address the circumstances presented by the crisis and the ensuing economic downturn. It identifies side effects, such as dis-incentives to private sector deleveraging and spillovers to other countries, but does not consider them sufficiently strong to reverse the benefits of UMPTs.

The report also discusses whether, and under what circumstances, these tools could be useful in the future. Central banks report that the tools have earned a place in the monetary policy toolbox, but they also highlight that their use should be accompanied by measures that mitigate their potential side-effects. They also highlight that under the circumstances when the tools can be helpful, they need to be used in decisively but in a context that includes a wider set of policies as to avoid overburdening the central bank.

The report prepared by a Markets Committee study group argues that

… some balance sheet-expanding policies were specifically aimed at improving market functioning, and that they delivered on this front. The potential for adverse side effects arose most clearly at a later stage, when asset purchase programmes were introduced to provide monetary stimulus at the effective lower bound for interest rates. But side effects rarely tightened financial conditions in markets to a point that would have undermined policy effectiveness.

That said, the report finds that some market malfunctioning did arise. In bond markets, adverse effects were mostly associated with asset scarcity, but any such effects were often temporary, in part due to mitigating policies. In money markets, market functioning issues (for example in interbank reserve trading) arose from the abundance of reserves. Yet, other wholesale money markets remained robust and central banks retained sufficient control over short-term rates, typically by introducing new tools. The report acknowledges that prolonged use of large balance sheet policies may have longer-term adverse effects on the market ecosystem, but these are hard to measure at this point.

Entertainment TV, Politics, and Cognitive Skills

In the July issue of the American Economic Review, Ruben Durante, Paolo Pinotti, and Andrea Tesei argue that entertainment TV has shaped Italian politics and affected the cognitive skills of viewers. From the abstract:

We study the political impact of commercial television in Italy exploiting the staggered introduction of Berlusconi’s private TV network, Mediaset, in the early 1980s. We find that individuals with early access to Mediaset all-entertainment content were more likely to vote for Berlusconi’s party in 1994, when he first ran for office. The effect persists for five elections and is driven by heavy TV viewers, namely the very young and the elderly. Regarding possible mechanisms, we find that individuals exposed to entertainment TV as children were less cognitively sophisticated and civic-minded as adults, and ultimately more vulnerable to Berlusconi’s populist rhetoric.

How to Prevent Cash Hoarding when Interest Rates are Strongly Negative

On swissinfo.ch, Fabio Canetg explains how the Swiss National Bank prevents banks from hoarding cash rather than holding reserves at the central bank (which pay negative interest). He points to the following sentence in the SNB’s December 2014 press release (my emphasis) and he speculates that banks could, in principle, implement similar schemes to keep depositors from withdrawing cash:

The threshold currently corresponds to 20 times the minimum reserve requirement for the reporting period 20 October 2014 to 19 November 2014 (static component), minus any increase/plus any decrease in the amount of cash held (dynamic component). The change in the amount of cash held is calculated as the difference between the average cash holdings during the most recent reporting period for which the minimum reserve requirement is determined prior to the reference date (cf. section 5 below) and the cash holdings of the corresponding reporting period in a given reference period.

The Bank of England’s “Future of Finance Report”

Huw van Steenis’ summarizes his report as follows (my emphasis):

A new economy is emerging driven by changes in technology, demographics and the environment. The UK is also undergoing several major transitions that finance has to respond to.

What this means for finance

Finance is likely to undergo intense change over the coming decade. The shift to digitally-enabled services and firms is already profound and appears to be accelerating. The shift from banks to market-based finance is likely to grow further. Ultra low rates, new regulations and the need to invest in updating their businesses mean many UK and global banks are struggling to make their cost of capital. Brexit and political and policy changes around the world will also impact the shape of financial services. Risks are likely to shift.
Regulators and the private sector have to collaborate in new ways as technology breaks down barriers. Finance is hugely important to the UK and the right infrastructure can support new finance.

What we ask the Bank of England to do

Shape tomorrow’s payment system
Enable innovation through modern financial infrastructure
Support the data economy through standards and protocols
Champion global standards for markets
Promote the smooth transition to a low-carbon economy
Support adaption to the needs of a changing demographic
Safeguard the financial system from evolving risks
Enhance protection against cyber-risks
Embrace digital regulation

Mark Carney’s June 2019 speech. See also the 2018 US Treasury report on financial innovation.

FedNow and Fedwire

The Federal Reserve Banks will develop a round-the-clock real-time payment and settlement service, FedNow. The objective is to support faster payments in the United States.

From the FAQs (my emphasis):

… there are some faster payment services offered by banks and fintech companies in the United States, their functionality can be limited. In particular, due to the lack of a universal infrastructure to conduct faster payments, most of these services rely on “closed-loop” approaches, meaning that users signed up to one service cannot exchange payments with users signed up to other services. Other services target ubiquity by relying on users’ bank accounts, but they may face challenges reaching enough banks to allow any two users to exchange payments. Moreover, these services typically use traditional retail payment methods to move funds between accounts. These methods result in a build-up of financial obligations between banks …

… fragmented market for end-user faster payment services, with services that may provide faster payment functionality in some circumstances and for some specific uses, like person-to-person payments, but that do not have sufficient reach to advance the U.S. payment system as a whole. The Federal Reserve’s goal in announcing the planned actions is to provide a much broader scope of access to safe and efficient faster payments throughout the country.

… the European Central Bank, Banco de México, and the Reserve Bank of Australia have looked to support the development of faster payments in their jurisdictions by providing services that enable payment-by-payment, real-time settlement of retail payments at any time …

First, the Federal Reserve Banks (the Reserve Banks) will develop the FedNowSM Service, a new interbank 24x7x365 real-time gross settlement (RTGS) service with integrated clearing functionality, to directly support the provision of end-to-end faster payment services by banks (or their agents). Second, the Federal Reserve will explore the expansion of hours for the Fedwire® Funds Service and the National Settlement Service (NSS), up to 24x7x365, subject to further analysis of relevant operational, risk, and policy considerations, to support liquidity management in private-sector RTGS services for faster payments, as well as provide additional benefits to financial markets beyond faster payments.

… Board has concluded that private-sector real-time gross settlement (RTGS) services for faster payments alone cannot be expected to provide an infrastructure for faster payments with reasonable effectiveness, scope, and equity. In particular, private-sector services are likely to face significant challenges in extending equitable access to the more than 10,000 diverse banks across the country.

the service will settle obligations between banks through adjustments to balances in banks’ master accounts at the Reserve Banks; these funds will be eligible to earn interest and count toward banks’ reserve requirements. Consistent with the goal of supporting faster payments, use of the FedNow Service will require participating banks to make the funds associated with individual payments available to their end-user customers immediately after receiving notification of settlement from the service. The service will support values initially limited to $25,000

… the FedNow Service will be available to banks eligible to hold accounts at the Reserve Banks …

By expanding Fedwire Funds Service and NSS hours, the Federal Reserve would provide further support to private-sector RTGS services for faster payments based on a joint account.

Some decision makers at the Fed believed that the Fed lacks authority to regulate banks operating payment systems in order to coerce them to offer access also to smaller banks.

Nordhaus on Climate Change

In his Nobel lecture (reprinted in the June issue of the American Economic Review), William Nordhaus concludes that we should focus on four goals:

First, people around the world need to understand and accept … Those who understand the issue must speak up and debate contrarians who spread false and tendentious reasoning. …

Second, nations must establish policies that raise the price of CO2 and other greenhouse-gas emissions. …

Moreover, we need to ensure that actions are global and not just national or local. … The best hope for effective coordination is a climate club, which is a coalition of nations that commit to strong steps to reduce emissions along with mechanisms to penalize countries who do not participate. …

Finally, … [d]eveloping economical low-carbon technologies will lower the cost of achieving our climate goals. Moreover, if other policies fail, low-carbon technologies are the last refuge—short of the salvage therapy of geoengineering—for achieving our climate goals or limiting the damage.