Last week, I sat down with @Jenniferisms
3 Things You Need to Know Right Now about the Fed and Stocks
http://t.co/RKF7QUXIDV
11 minutes ago
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BW2: Are we back to a new stable Bretton Woods regime of global fixed exchange rates?
What is the hottest current policy debate among academic geeks, policy wonks and market gurus? The Bretton Woods 2 hypothesis: i.e. the view that the world is effectively back to a regime of global fixed exchange rates pegged to the US dollar like the original Bretton Woods regime that lasted from 1945 to 1973. Global fixed exchange rates? This BW2 hypothesis has been forcefully advanced by three economists affiliated with Deutsche Bank, namely David Folkerts-Landau (Global Head of Research at DB), Peter Garber (Global Strategist at DB) and Michael Dooley (formerly head of EM research at DB and now back to academia at UC Santa Cruz). David, Peter and Mike are three extremely smart folks and when they speak and write, people listen to them. They have recently written four papers (An Essay on the Revived Bretton Woods System; The Revived Bretton Woods System: The Effects of Periphery Intervention and Reserve Management on Interest Rates & Exchange Rates in Center Countries; Direct Investment, Rising Real Wages and the Absorption of Excess Labor in the Periphery; and The US Current Account Deficit and Economic Development: Collateral for a Total Return Swap ) where they argue that the international financial system is experiencing today the reemergence of a new Bretton Woods regime of global fixed exchange rates (Bretton Woods 2 or BW2). In this view, this new BW2 regime will allow the U.S. to finance its large current account deficit at a low cost for a long time; consequently, the United States growing external indebtedness poses few immediate concerns. So, while everyone else is worrying about the US current account deficits and the global imbalances, the three DB gurus tell us not to worry about them and enjoy the US current account deficit.
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The employment report, the US $ and the US current account deficit
The dismal employment report today – a miser increase in jobs of 96K in September – led to the expected textbook asset markets reaction: stocks fell, bond prices rallied and long yields fell while the dollar sharply depreciated. In spite of the continued economic soft patch and the dollar weakening, the US current account deficit keeps on growing (with only a modest improvement in the trade balance in July) as the fiscal deficit is still out of control: we are on the way to record current account deficit of over $600 billion in 2004.
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Bush and Kerry Effects on the Stock Market and Bond Market
Recent conventional wisdom on the financial markets impacts of a second Bush administration or first Kerry administration is that Kerry would be good for the bond market (pushing yields down) while Bush will be good for the stock market.
This conventional wisdom is only partially correct. It is certainly the case that fiscal deficit reduction will be more significant during a Kerry administration as one of the key elements of deficit reduction will have to be an increase in taxes (something that Kerry plans to do while Bush would like to make his unsustainable tax cuts permanent). Deficit reduction will ensure, over time, that bond yields do not creep up excessively because of unsustainable fiscal deficits. Note that bond yields have remained low so far, in spite of growing deficits, because of low short rates (the Fed Funds rate is still only 1.75%), softness in the economy and the labor market, more stable inflation outlook and the massive purchases of Treasuries by Asian central banks.
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Steve Roach on the Global Imbalances…and China’s FX regime…
Steve Roach, chief economist at Morgan Stanley, correctly pointed out this week that the global current account imbalances are unsustainable and cited, in that context, my paper with Brad on the US current account deficit as providing the “best forecasts” of the future trends in the US current account. He also agrees with our view that the “Bretton Woods II” new regime of fixed exchange rates (the dollar axis between US and Asia) is not sustainable. In addition to the points in our paper, he stresses how this new regime is creating severe financial problems for China.
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The IMF on Global Financial Stability: Underestimating Systemic Risk?
The IMF published today its Global Financial Stability Report, its semi annual assessment of financial markets and vulnerabilities. It is a high quality document with lots of food for thought. Compared to previous times, the IMF seems to be less concerned about the risks of a “systemic financial crisis”. It argues:
“While it is obviously feasible that one or the other financial institution, such as a hedge fund or even a bank, might succum to serious mistakes in risk management or to outright fraud, such incidents should be isolated cases with limited, if any, contagion to the system as a whole.
Short of a major and devastating geopolitical incident or a terrorist attack undermining, in a significant and lasting way, consumer confidence, and hence financial asset valuations, it is hard to see where systemic threats could come from in the short run.”
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My new book with Brad Setser “Bailouts or Bail-ins?” is in Print and Readable Online
My new book with Brad Setser on “Bailouts or Bail-ins? Responding to Financial Crises in Emerging Economies” is now in print.
The book has been published by the Institute for International Economics, jointly with the Council on Foreign Relations; see this link for a preview of the book.
All the chapters of the book are available in Read-Only PDF format online from the IIE site. This means that you can read them online but not print them. Thus, to have a hard copy you will have to purchase the book.
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My new paper with Brad Setser on “The U.S. as a Net Debtor: The Sustainability of the U.S. External Imbalances”
I have just finished and posted online a new paper with Brad Setser on “The U.S. as a Net Debtor: The Sustainability of the U.S. External Imbalances”.
Brad and I just published this week our book on financial crises in emerging market economies. But the U.S. is increasingly looking like a vulnerable emerging market economy given its huge current account deficits and unsustainable external debt accumulation. Thus, it seemed appropriate for us to focus our attention on the financial vulnerabilities of the U.S., after having studied for years the financial vulnerabilities of emerging markets.
Here is below the Executive Summary of the paper. The full text of the paper can be found on my Global Macro Web Site at:
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CBO Deficit Forecast for 2005-2014: $2.3 Trillion or More Realistically $6.35 Trillion?
Most of the media reporting on the new CBO budget forecast has concentrated on Bush administration failure to cut the deficit by half over the next four years. Based on the CBO forecast, the deficit will fall from 3.6% of GDP this year to 2.1% of GDP in five years; and it will be equal to a cumulative deficit of $2.29 trillion in the decade to 2014. However, what has been missed by most reporters, but is clear from the details of the CBO report, is that the deficit will be much larger than 2.1% of GDP in 2008 and that the cumulative deficit over the next ten years is more likely to be $6.35 trillion rather than $2.29 trillion. Based on the more realistic scenarios about fiscal policy outlined by the CBO itself, the 2014 budget deficit will be equal to 5% of GDP (or $894 billion), sharply up from the 2004 forecast of $422 (3.6% of GDP).
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My International Macro Policy Course at Stern/NYU
The academic school year is starting this week at Stern/NYU and I will teach an MBA course on International Macroeconomic Policy: Theory and Evidence from Financial Crises. The course has its own home page; syllabus, lecture notes, handouts, materials, links are all online at
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To Raise or Not To Raise? Reading into Greenspan Hamletian Mind
As Greenspan sips through long reams of obscure economic data (are cardboard production data a good leading indicator of economic activity?) while relaxing daily in his bathtub, he is pondering whether he should increase the Fed Funds rate at the September 21st FOMC meeting. Here is what he is mumbling in his mind, in between a bubble bath and endless wonky economic statistics:
“Well, the September 21st decision will be a real tough one, the last one before the elections! I thought that the economy was perking up; and then we hit this Q2 “soft patch”! But is it really a soft patch as we have been claiming in public or the beginning of a deeper deceleration of the U.S. and global economy? Japan is also slowing down (see the latest GDP, employment, housing spending and deflation figures) and figures from Europe are the usual mixed bag with overall softness and a sub-part Q2 growth of 2%. So, I am usally as kriptic in public as Delphi’s oracle but on this one I am a bit schizophrenic myself even in private. I haven’t really figured out what to do! I feel like Hamlet: to raise or not to raise?
