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  • Marketplace Whiteboard: ETFs Explained

    Paddy Hirsch says that investing in exchange-traded funds is relatively easy. But their "simplicity" is what makes them so dangerous. He explains ETFs at the Marketplace Whiteboard :
  • Banks Increasing Lending, But Not Necessarily Risk

    It has taken some time to restart borrowing, and lending, after the Great Recession, but consumers are taking on more debt. For three straight quarters, total consumer debt has risen, note at Liberty Street Economics. But is this the result of banks now being less risk averse? According to some recent work by the New York Fed 's Basit Zafar , Max Livingston , and Wilbert van der Klaaw , that does not seem to be the case. From Liberty Street Economics : To assess the demand for credit and measure how much of that demand was met, we classify our respondents into four groups. In February 2014, 40 percent of respondents reported not applying for any type of credit over the past twelve months because they didn’t need it (satisfied consumers); 40 percent of respondents reported applying for some type of credit and being approved (accepted applicants); 13 percent reported applying for some type of credit and being rejected (rejected applicants); and 8 percent reported not applying for credit despite needing it because they believed they would not be approved. This last group represents latent demand for credit; we refer to them as discouraged consumers. The leftmost two bars in the chart below show that the distribution of respondents in February 2014 looked quite similar to that in May 2013 (the results of which we discussed in a previous post ): we see a slight increase in satisfied consumers from May to February and a slight decrease in accepted applicants. Note that the SCE is a rotating panel, so the respondents in the two surveys will be different; however, we use weights to ensure that the statistics reported in this post remain representative of the population of U.S. household heads. The picture, however, varies radically when split by credit score. The chart above shows that individuals with lower credit scores (those with credit scores below 680) were more likely to report that they were rejected, and much more likely to report that they were discouraged, than their more creditworthy counterparts. In February, 22 percent of respondents in the low-credit-score group were discouraged, versus 3 percent in the middle-credit-score group, and zero percent in the high-credit-score group (those with scores of above 760). Furthermore, the chart shows that credit experiences got markedly worse for the low-credit-score group in February 2014 compared with May 2013: 57 percent of this group reported either being denied credit or being too discouraged to apply in February this year, versus 47 percent in May of last year. This result contrasts with the experiences of their more creditworthy counterparts, which were largely unchanged since May 2013. These patterns suggest that although banks may be increasing their lending activity, they are not necessarily taking on more risk, as the risky population has not seen an improvement in its ability to obtain credit. Read Rising Household Debt: Increasing Demand or Increasing Supply? here .
  • Marketplace Whiteboard: Guidance

    One of the ways publicly traded companies manage expectations is through forward guidance. That's how a company like Google can report a drop in profit without seeing its stock price take a hit. But, as Paddy Hirsch explains in this Marketplace Whiteboard episode, if you are providing forward guidance, you better get it right, or shareholders will feel misled rather than guided.
  • Marketplace Whiteboard: Indexes as Baskets

    If you have students who can’t quite get their heads around how indexes work, Paddy Hirsch is ready to help. In his latest Marketplace Whiteboard , your mate Paddy tells us to just think of indexes as baskets:
  • Draghi on Eurozone's 'Path from Crisis to Stability'

    Well, isn't this a change. At this year's annual World Economic Forum in Davos, European Central Bank President Mario Draghi spoke about reduced risks and "dramatic recovery" in Europe's economies. In this interview with Philipp Hildebrand , Draghi talked about how Europe has moved to more stable footing, and addresses the risks ahead (including deflation):
  • Bank of England Governor Mark Carney on Need for Stimulus, And Risks in Stimulus Measures

    Given that he is Canadian, was educated in the U.S., and is now governor of the Bank of England, Mark Carney might be as qualified as anyone to speak to global economic challenges (or at least for English-speaking economies). In an interview with Charlie Rose , Carney spoke to a particular challenge for central banks: to promote additional stimulus while cutting down on the risks that stimulus measures can create. Here is an excerpt from the interview: Here is the full episode:
  • Fitch Warns Lawmakers on Debt Rating

    Fitch Ratings announced yesterday that it is watching the actions (or inaction) of U.S. lawmakers closely. With the Congress struggling to come to a deal that would raise the debt ceiling, the U.S.'s perfect AAA rating is in jeopardy. In the Washington Post , Zachary Goldfarb reports on the possible fallout A critical question is whether the Treasury Department will be able to pay bondholders if Congress fails to raise the debt ceiling on time. Many on Wall Street have suggested that the department would endeavor to do so, given the consequences of missing payments. But Fitch expressed no such confidence Tuesday. “The Treasury may be unable to prioritise debt service, and it is unclear whether it even has the legal authority to do so,” analysts wrote. If the government does in fact miss a payment on the federal debt, Fitch and other credit- rating firms say they will automatically downgrade the United States to a “default” rating — which would force numerous funds that hold Treasury bonds to sell. Fitch said it could still downgrade even if the debt ceiling is resolved, saying that a short-term solution might not be enough to shore up investor confidence. That is what Standard & Poor’s did in 2011 after a similar impasse. A second downgrade would be important because many firms can hold only investments rated AAA by at least two of three major rating firms. Obama administration officials cited the Fitch action to underscore that Congress needs to move quickly to raise the $16.7 trillion debt ceiling. A senior Treasury Department official who was not authorized to speak on the record said that “the announcement reflects the urgency with which Congress should act to remove the threat of default hanging over the economy.” If investors start to panic, the Treasury Department could have trouble as soon as Thursday, when it must refinance more than $100 billion in debt. If it gets past that benchmark, the situation becomes gloomier. Read As U.S. faces potential downgrade, markets flash alarm over debt-ceiling impasse here .
  • Planet Money Graph: Break Down of U.S. Debt

    Lawmakers are gathering at the White House, ostensibly to try to find a way to reopen the federal government. If negotiations fail to lead to some sort of resolution, the government won't be able to pay some of its debts. This has led NPR 's special forces econ unit--the Planet Money team--to put together a helpful graph. Here is the breakdown of the U.S. Debt: Click here for more coverage from Planet Money.
  • IMF Global Financial Stability Report and 'New Risks to Financial Stability'

    The latest Global Financial Stability Report is out from the IMF . The good news cited in the report is that most markets are changing for the (long-term) better, as the global financial system "under[goes] a series of transitions along the path toward greater financial stability." The bad news is that periods of transition can also be periods of vulnerability. And so the report focuses a bit on what will happen globally when (and we now know this is not happening in the next few months) the U.S. pulls back from its accommodative monetary policy. IMF Financial Counsellor José Viñals shares the good news/bad news thinking: Here's more from the report. Financial stability challenges are also prevalent in many emerging market economies. Bond markets are now more sensitive to changes in accommodative monetary policies in advanced economies because foreign investors have crowded into local markets and may withdraw. Emerging market fundamentals have weakened in recent years, after a protracted interval of credit expansion and rising corporate leverage. Managing the risks of the transition to a more balanced and sustainable financial sector, while maintaining robust growth and financial stability, will be a key undertaking confronting policymakers. As central banks elsewhere consider strategies for eventual exit from unconventional monetary policies, Japan is scaling up monetary stimulus under the Abenomics framework, aiming to pull the economy out of its deflationary rut. Successful implementation of a complete policy package that features fiscal and structural reforms would reinforce domestic financial stability, while likely boosting capital outflows. But substantial risks to financial stability could accompany the program if planned fiscal and structural reforms are not fully implemented. Failure to enact these reforms could lead to a return of deflation and increased bank holdings of government debt, further increasing the already-high sovereign-bank nexus. In a more disorderly scenario, with higher inflation and elevated risk premiums, the risks to both domestic and global financial stability could be greater still, including rapid rises in bond yields and volatility, and sharp increases in outflows. In the euro area, reforms implemented at the national level and important steps taken toward improving the architecture of the monetary union have helped reduce funding pressures on banks and sovereigns. However, in the stressed economies of Italy, Portugal, and Spain, heavy corporate sector debt loads and financial fragmentation remain challenging. Even if financial fragmentation is reversed over the medium term, this report estimates that a persistent debt overhang would remain, amounting to almost one-fifth of the combined corporate debt of Italy, Portugal, and Spain. Assuming no further improvement in economic and financial conditions which would correspond to a more adverse outcome than the cyclical improvement built into the October 2013 World Economic Outlook baseline scenario, some banks in these economies might need to further increase provisioning to address the potential deterioration in asset quality of corporate loan books. This could absorb a large portion of future bank profits. Recent efforts to assess asset quality and boost provisions and capital have helped to increase the loss-absorption capacity of banks, but further efforts to cleanse bank balance sheets and to move to full banking union are vital. These steps should be complemented by a comprehensive assessment and strategy to address the debt overhang in nonfinancial companies. Read the full report here .
  • Kenneth Rogoff on Potential Economic Cost of Incivility in Washington

    Nobody is arguing that the shutdown of the U.S. federal government is not hurting the dollar and U.S. business, but it has yet to spell economic disaster. "At least for now," Kenneth Rogoff writes at Project Syndicate , "the rest of the world seemingly has unbounded confidence." But that is unlikely to last, Rogoff notes. Consider what happened when the Federal Reserve misplayed its hand with premature talk of “tapering” its long-term asset purchases. After months of market volatility, combined with a reassessment of the politics and the economic fundamentals, the Fed backed down. But serious damage was done, especially in emerging economies. If the mere suggestion of monetary tightening roils international markets to such an extent, what would a US debt default do to the global economy? Much of the press coverage has focused on various short-term dislocations from counterproductive sequestration measures, but the real risk is more profound. Yes, the dollar would remain the world’s main reserve currency even after a gratuitous bout of default; there is simply no good alternative yet – certainly not today’s euro. But even if the US keeps its reserve-currency franchise, its value could be deeply compromised. The privilege of issuing the global reserve currency confers enormous advantages on the US, lowering not just the interest rates that the US government pays, but reducing all interest rates that Americans pay. Most calculations show that the advantage to the US is in excess of $100 billion per year. There was a time, during the 1800’s, when the United Kingdom enjoyed this “exorbitant privilege” (as Valéry Giscard d’Estaing once famously called it when he served as French President Charles de Gaulle’s finance minister). But, as foreign capital markets developed, much of the UK’s advantage faded, and had almost disappeared entirely by the start of World War I. CommentsView/Create comment on this paragraphThe same, of course, will ultimately happen to the dollar, especially as Asian capital markets grow and deepen. Even if the dollar long remains king, it will not always be such a powerful monarch. But an unforced debt default now could dramatically accelerate the process, costing Americans hundreds of billions of dollars in higher interest payments on public and private debt over the coming decades. Read America's Endless Budget Battle here .
  • Andrew Ross Sorkin Looks Back at the Response to the Global Financial Crisis

    In this short video at the New York Times , DealBook columnist Andrew Ross Sorkin gives his take on what we've learned five years on from the near-meltdown of the global financial system. His conclusion: that if (when?) the next giant financial crisis hits, the same response options will not be on the table.
  • Glenn Hubbard: Avoiding Next Great Financial Crisis Requires Clear Policy Framework

    Writing at The Atlantic , Glenn Hubbard gives his assessment of efforts to fix the financial sector and avoid a crisis like the one that peaked five years ago. Hubbard, now dean of the Columbia Business School, was chairman of the Council of Economic Advisers for President George W. Bush. He points to monetary policy during the Bush presidency as the primary cause for the crisis. In fixing the crisis, he argues for a response that is not simply technical, but rather provides a "policy framework." Hubbard: Five years ago, a massive failure on the part of financiers and financial regulators precipitated the fall of Lehman Brothers and nearly crashed the global economy. Today, investors, taxpayers, and elected officials are entitled to ask: Are we safer now? At one level, yes. We are both healthier and smarter. We are healthier because both banks and households have repaired their balance sheets, improving the economy’s ability to withstand future shocks. We are smarter, because we have discarded the myth that the Federal Reserve can easily clean up the fallout from financial excesses and replaced it with an attitude of vigilance and caution about financial excesses. This raises another question: have we created public policies that make us safer? It is hard to say. We know more today about how Washington can inflate bubbles. Government-sponsored enterprises encouraged excessive risk-taking in housing finance. Easy monetary policy in the early 2000s not only kept mortgage interest rates low, but also encouraged investors to reach for yield and amplify that reach with leverage. If investors perceive low rates to be lasting, the incentive for leverage is particularly great. Fed officials focused on low rates as coming from a global savings glut, without emphasizing large flows in to the United States from global banks, particularly European banks. The Fed did not restrain the housing bubble, and it was not alone. The European Central Bank stood back as credit surged in peripheral European economies. And, of course, tax policy encouraged leverage. Since the crisis, the Dodd-Frank Act increased transparency in many derivatives – a good thing. But it also made a complex system of bank and nonbank regulators more complex and created a class of systemically important banks (and even non-banks), codifying “too big to fail.” It did not – nor did other legislation – seriously address reform of housing finance or direct the central bank to focus more on financial stability. Writing the Act’s web of rules will take years. Globally, an emphasis on higher capital requirements leaves open questions of how one measures the risks taken against that capital – recall the sovereign bonds were deemed “riskless” for that purpose before the crisis – or how to limit the incentive for “shadow banking” forms of intermediation to grow outside more heavily regulated sectors. Read How to Stop the Next Financial Crisis: The Fed Might Be Our Last Great Hope here .
  • The Predictability of Bubbles Popping and Financial Crises Ensuing

    Didier Sornette tracks financial crises, and his dragon-king just torched our black swan. Sornette wants us to recognize that some events are far more predictable than we have come to believe. Pull up some archival news footage from September 2008 and the prevailing tone is one of shock and surprise. The global financial crisis came, seemingly, out of nowhere. In this T ed Talk , Sornette argues that there are many warning signs for financial crises. We just have to be looking for them, and we have to know what to look for.
  • An Evolving Global Risk Environment

    The designers at Mercer/Think have taken some of the top-line data from the World Economic Forum 's Global Risks 2013 report and put them into this helpful visualization. It serves as a nice entry point to the report, and also a good conversation starter. Take a look: The full size graphic is available here . And don't forget to read the full report, here .
  • World Economic Forum: Global Risk Report 2013

    The World Economic Forum 's annual report on top global risks is out. It is, as usual, an unsettling report. And as with last year's report, the top two risks from the World Economic Survey of business and policy leaders, in terms of likelihood, are severe income disparity and chronic fiscal imbalances . Major systemic financial failure and water supply crises remain the top risks in terms of impact. But it is interesting to look at how the top risks have changed over the last five years. From the report: This video offers a nice summary of the report and its focus on three core cases: You can access the full report here .