Fed Credit Policy: What is a Lender of Last Resort?

Discussions of the Fed׳s financial crisis lending – and its role as “Lender of Last Resort” more generally – often overlook the distinction between monetary policy and credit policy. Central bank actions constitute monetary policy if they alter the quantity of the bank׳s monetary liabilities, but constitute credit policy if they alter the composition of the bank׳s portfolio without affecting the outstanding amount of monetary liabilities. In the 19th century, Henry Thornton and Walter Bagehot advocated Lender of Last Resort policies as a means of expanding the money supply when the demand for money surged in a crisis. In contrast, the Fed׳s recent crisis lending for the most part left its outstanding monetary liabilities unaffected, and thus represented credit policy, not Lender of Last Resort activity. Credit allocation in a crisis is potentially costly because it affects market participants׳ beliefs about the likelihood of future central bank rescues, which in turn reduces their incentive to protect themselves against financial distress and thus exacerbates financial instability. Credible limits on credit policy thus are critical to central banks׳ core policy mission. One path to establishing such limits is to create “living wills” that detail how to resolve large, complex financial firms without government support.     

Learning a population distribution

This paper introduces a dynamic Bayesian game with an unknown population distribution. Players do not know the true population distribution and assess it based on their private observations using Bayes׳ rule. First, we show the existence and characterization of an equilibrium in which each player׳s strategy is a function not only of the player׳s type but also of experience. Second, we show that each player׳s initial belief about the population distribution converges almost surely to a “correct” belief.     

Lessons from a century of FED policy: Why monetary and credit policies need rules and boundaries

Wide operational and financial independence given to monetary and credit policies subjects the Federal Reserve to incentives detrimental for macroeconomic and financial stability. The absence of a monetary policy rule created go-stop incentives that produced inefficient volatility of both inflation and unemployment during the Great Inflation. Fed credit policy has undergone massive “mission creep” since the Fed was established. Being debt-financed fiscal policy, Fed credit policy beyond ordinary temporary lending to solvent depositories creates friction with the fiscal authorities and jeopardizes the Fed׳s independence. An ambiguous boundary of expansive Fed credit policy creates expectations of Fed accommodation in financial crisis—that blunts the incentive of private entities to take protective measures beforehand (to shrink counter-party risk and reliance on short-term finance, and build up equity capital) and blunts the incentive of the fiscal authorities to prepare procedures in advance to act systematically in times of credit turmoil. These points are illustrated with reference to the 2007–09 financial crisis. Part of the problem is that the independent Fed does not have the same incentive as the 19th century Bank of England to follow Bagehot׳s Rule. The paper concludes with a set of principles to preserve a workable, sustainable division of responsibilities between the independent central bank and the fiscal authorities.     

Measuring the effects of fiscal policy

Measuring the effects of discretionary fiscal policy is both difficult and controversial, as some explicit or implicit identifying assumptions need to be made to isolate exogenous and unanticipated changes in taxes and government spending. Studies based on structural vector autoregressions typically achieve identification by restricting the contemporaneous interaction of fiscal and non-fiscal variables in a rather arbitrary way. In this paper, we relax those restrictions and identify fiscal policy shocks by exploiting the conditional heteroscedasticity of the structural disturbances. We use this methodology to evaluate the macroeconomic effects of fiscal policy shocks in the U.S. before and after 1979. Our results show substantive differences in the economy׳s response to government spending and tax shocks across the two periods. Importantly, we find that increases in public spending are, in general, more effective than tax cuts in stimulating economic activity. A key contribution of this study is to provide a formal test of the identifying restrictions commonly used in the literature.     

江苏省农村社会保障体系构建探析——基于SWOT分析框架

中国正处于市场化、工业化、城镇化的社会转型时期,农村社会保障体系的构建是一个迫切的现实问题。江苏省农村社会保障体系构建的优势有经济持续高速增长、政府高度重视、财政支出结构不断优化等,劣势有存在制度性障碍、社会保障支出水平较低、老龄化趋势明显等。江苏省农村社会保障体系需要在法律制度、政策体系和筹资方式上做出相应的调整。     

Designing monetary policy committees

We integrate monetary policy-making by committee into a New Keynesian model to assess the consequences of the committee׳s institutional characteristics for inflation, output, and welfare. Our analysis delivers the following results. First, we demonstrate that transparency about the committee׳s future composition is typically harmful. Second, we show that short terms for central bankers lead to effective inflation stabilization at the expense of comparably high output variability. Third, larger committees generally allow for more efficient stabilization of inflation but possibly for less efficient output stabilization. Fourth, large committees and short terms are therefore socially desirable if the weight on output stabilization in the social loss function is low. Fifth, we show that a central banker with random preferences may be preferable to a central banker who shares the preferences of society.     

Impact of firms׳ policies on Chinese industrial purchasers׳ ethical decision making

This article investigates the impact of firms׳ policies with respect to procurement, sales, and interfirm personal relationship (guanxi) on industrial purchasers׳ inclination to adopt gray procurement (a particular type of unethical behaviors in industrial purchasing) using data from industrial purchaser’s in China. The effect of a firm׳s purchasing policy on purchasers׳ behavioral intention towards gray procurement was, in addition to the direct effect, mediated by the purchasers׳ ethical judgment of the practice. The application of double standards (i.e., a firm forbids gray procurement by its own purchasers but tolerates its salespersons offering inducements to its customers׳ industrial purchasers) had both main effects and moderating effect on the purchasers׳ ethical judgment of the practice, which increases the purchasers׳ behavioral intention towards the practice. The two moderating effects of guanxi policy counteracted each other in direction, so jointly the effect of guanxi policy on the purchasers׳ intention may depend on the relative strength of the two moderating effects.     

Imperfect credibility and robust monetary policy

This paper studies the behavior of a central bank that seeks to conduct policy optimally while having imperfect credibility and harboring doubts about its model. Taking the Smets–Wouters model as the central bank׳s approximating model, the paper׳s main findings are as follows. First, a central bank׳s credibility can have large consequences for how policy responds to shocks. Second, central banks that have low credibility can benefit from a desire for robustness because this desire motivates the central bank to follow through on policy announcements that would otherwise not be time-consistent. Third, even relatively small departures from perfect credibility can produce important declines in policy performance. Fourth, the risk premium shock represents an important potential source of model misspecification. Finally, as a technical contribution, the paper develops a numerical procedure to solve the decision-problem facing an imperfectly credible policymaker that seeks robustness.     

北京地方财政可持续发展的协整分析

地方财政可持续发展是财政收入、财政支出、经济发展三位一体的系统平衡与协调。本文对北京市1978-2012年的财政收入、财政支出和经济增长的协整检验结果表明其财政可持续发展能力比较好;Granger因果检验结果表明经济快速增长是北京市财政可持续发展的关键,但财政收入弹性较小、财政支出对经济的刺激作用不明显是影响财政可持续发展的深层问题;最后,从提高财政收入质量、提高财政支出效益和加强财政监管三方面提出了提升北京市财政可持续发展能力的建议。     

Validating an agent-based model of the Zipf׳s Law: A discrete Markov-chain approach

This study discusses the validation of an agent-based model of emergent city systems with heterogeneous agents. To this end, it proposes a simplified version of the original agent-based model and subjects it to mathematical analysis. The proposed model is transformed into an analytically tractable discrete Markov model, and its city size distribution is examined. Its discrete nature allows the Markov model to be used to validate the algorithms of computational agent-based models. We show that the Markov chains lead to a power-law distribution when the ranges of migration options are randomly distributed across the agent population. We also identify sufficient conditions under which the Markov chains produce the Zipf׳s Law, which has never been done within a discrete framework. The conditions under which our simplified model yields the Zipf׳s Law are in agreement with, and thus validate, the configurations of the original heterogeneous agent-based model.     

Innovation through boundary management—a case study in reforms at Matsushita electric

In fiscal 2001, Matsushita electric, a traditional Japanese manufacturer of general electrical appliances, recorded the largest loss in its history. Then, following drastic structural reforms, the company's business results experienced a rapid V-shaped recovery. By transforming its product development strategy from the old technology-led type to a customer-led type and implementing far-reaching organizational reforms, Matsushita emerged as a global leader in the field of digital household appliances. The source of Matsushita's new product development capability was founded on the formation of a number of strategic communities (SCs), which represent the organizational boundaries within and outside Matsushita Group companies, and the organizational integration of these SCs. In this paper, the author uses a detailed case study to describe the mechanism of boundary management that enabled Matsushita electric to simultaneously establish a new market position and achieve competitively advantageous capability in the hi-tech field of digital appliances by balancing vertically integrated SCs and horizontally integrated SCs.     

The shadow costs of repos and bank liability structure

Making use of a structural model that allows for optimal liquidity management, we study the role that repos play in a bank׳s financing structure. In our model the bank׳s assets consist of illiquid loans and liquid reserves and are financed by a combination of repos, long-term debt, deposits and equity. Repos are a cheap source of funding, but they are subject to an exogenous rollover risk. We show that the use of repos inflicts two types of indirect (“shadow”) costs on the bank׳s shareholders: first, it induces the bank to maintain higher liquid reserves in order to alleviate the additional default risk; second, it adds to the cost of long-term debt financing. These shadow costs limit the bank׳s appetite for cheap but unstable repo funding. This effect is, however, weakened under poor returns on risky assets, access to deposit funding and the depositor preference rule. We also analyze the impact of a liquidity coverage ratio, payout restrictions and a leverage ratio on the bank׳s financing choices and show that all these tools are able to curb the bank׳s reliance on repos.     

创新养老服务发展模式 完善养老服务体系建设

伴随着人口的快速老龄化,养老服务的发展建设也愈加迫切,然而当前我国养老机构主要是政府主导的模式,无法满足目前养老服务的现实需求。基于此,笔者通过调查养老服务走在全国前列的南京市民政局和数家养老机构,提出了更新服务观念、转变政府角色、调整管理模式、完善财政政策、发展居家养老的由政府引领、民间管理的养老服务模式,以期进一步完善养老服务体系。     

Simulating fundamental tax reforms in an aging Japan

This paper studies in a quantitative way the macroeconomic and welfare effects of introducing progressive expenditure taxation, in a situation of the aging of the Japanese population. It undertakes a simulation analysis taking account of the general equilibrium effects of intragenerational inequality, which increases with a transition to an aging society. The simulation results suggest that progressive expenditure taxation has advantages over progressive labor income taxation on the grounds of efficiency and equity. Thus, a shift to progressive expenditure taxation can overcome the large welfare loss that would occur under the current tax system as Japan ages.     

The fiscal and monetary response to COVID‐19: What the Great Depression has – and hasn't – taught us

Although some regard the New Deal of the 1930s as exemplifying an aggressive fiscal and monetary response to a severe economic crisis, the US fiscal and monetary policy responses to the COVID‐19 crisis have actually been far more substantial – and, so far, much more effective in reviving aggregate spending. Although many fear that these responses, and the large‐scale increase in bank reserves especially, must eventually cause unwanted inflation, the concurrent sharp decline in money's velocity has thus far more than offset any inflationary effects of money growth, while forward bond prices reflect a general belief that inflation will remain below 2 per cent for at least another decade. Notwithstanding the growth of the Fed's balance sheet, Fed authorities can always check inflation by sufficiently raising the interest return on bank reserves. Nonetheless, recent developments have heightened the risk of ‘fiscal dominance’ of monetary policy at some point in the future.     

An optimal multiple stopping approach to infrastructure investment decisions

The energy and material processing industries are traditionally characterized by very large-scale physical capital that is custom-built with long lead times and long lifetimes. However, recent technological advancement in low-cost automation has made possible the parallel operation of large numbers of small-scale and modular production units. Amenable to mass-production, these units can be more rapidly deployed but they are also likely to have a much quicker turnover. Such a paradigm shift motivates the analysis of the combined effect of lead time and lifetime on infrastructure investment decisions. In order to value the underlying real option, we introduce an optimal multiple stopping approach that accounts for operational flexibility, delay induced by lead time, and multiple (finite/infinite) future investment opportunities. We provide an analytical characterization of the firm׳s value function and optimal stopping rule. This leads us to develop an iterative numerical scheme, and examine how the investment decisions depend on lead time and lifetime, as well as other parameters. Furthermore, our model can be used to analyze the critical investment cost that makes small-scale (short lead time, short lifetime) alternatives competitive with traditional large-scale infrastructure.     

The evolution of U.S. monetary policy: 2000–2007

A vector autoregression with time-varying parameters is used to characterize changes in Federal Reserve policy that occurred from 2000 through 2007 and describe how they affected the performance of the U.S. economy. Declining coefficients in the model׳s estimated policy rule point to a shift in the Fed׳s emphasis away from stabilizing inflation over this period. More importantly, however, the Fed held the federal funds rate persistently below the values prescribed by this rule. Under this more discretionary policy, inflation overshot its target and the funds rate followed a path reminiscent of the “stop-go” pattern that characterized Fed behavior prior to 1979.     

International business cycles and risk sharing with uncertainty shocks and recursive preferences

This paper analyzes the effects of output volatility shocks on the dynamics of consumption, trade flows and the real exchange rate, in a two-country, two-good world with consumption home bias, recursive preferences, and complete financial markets. When the risk aversion coefficient exceeds the inverse of the intertemporal substitution elasticity, then an exogenous rise in a country׳s output volatility triggers a wealth transfer to that country, to compensate for the greater riskiness of the country׳s output stream. This risk sharing transfer raises the country׳s consumption, lowers its trade balance and appreciates its real exchange rate. In the recursive preferences framework here, volatility shocks account for a non-negligible share of the fluctuations of net exports, net foreign assets and the real exchange rate. These shocks help to explain the high empirical volatility of the real exchange rate and the disconnect between relative consumption and the real exchange rate.     

Rules for a lender of last resort: An historical perspective

The Federal Reserve was established in 1913 to be a lender of last resort. Paul Warburg, its principal architect had in mind that a U.S. central bank would follow Bagehot׳s strictures ‘to lend freely at a penalty rate’ in the face of a scramble for high powered money. Yet the Federal Reserve Act never spelled out how the Fed was supposed to act as an LLR. This omission came to the fore in the Great Contraction 1929 to 1933 when the Fed failed to prevent four banking panics which turned a serious recession into the Great Contraction. Reforms in the 1930s corrected some of the Fed׳s failures but clamped down on financial activity for 40 years. The financial crisis problem returned in the 1970s with financial liberalization. The Fed abandoned Bagehot׳s strictures and adopted the ‘Too big to fail’ doctrine and ‘creative ambiguity’. This policy shift contributed to moral hazard and created new threats to financial stability with the rise of the ‘shadow banking system’. The subprime mortgage crisis prompted the Fed to take unprecedented LLR activities which have opened up a Pandora׳s box of perils. The Fed has moved away from rules based policy in its LLR function.