Wednesday, September 24, 2008

Let me tell you another story

The story Paulson told yesterday was this: "I'm sorry my colleagues on Wall Street have brought the world to the brink of collapse, but there you are. We need $700 billion immediately to prevent catastrophe [a meltdown in a couple of days--Thursday evening spiel to the congresspeople] [the slow descent into world-wide economic depression--yesterday to the Banking Committee]. The story clearly has to do the the actions of real people, and that is what accounts for the outrage.

The story Bernanke had been working on was a different story--not about actual people and particular financial institutions, but about the Central Bank management of prices in the economy as a whole ("monetary economics"). Krugman tells the "Japanese" part of that story: The central bank buys short-term government debt (equivalent of T-bills in the US case) from the banks in exchange for cash, and this lowers the interest rates in the interbank market, which is supposed to then trigger follow-on cuts in interest rates the banks charge on loans to customers and in the economy generally. Then when rates were already zero, the central bank continued to buy the equivalent of T-bills, giving the banks even more cash, well over the required reserves (so-called "quantitative easing"). But the banks still failed to lend to customers.

Here's where the story gets interesting. Krugman, in a blurb a couple of days ago, re-tells that story in "monetary economics" terms: (Liquid reserves, or cash credits in a bank's account with the central bank, are considered to be part of the so-called "monetary base", because banks are allowed to lend to customers based on a ratio of those reserves). What happened in the zero-interest case in Japan, in Krugman's terms, was that "an increase in the monetary base" didn't have any economic effect. Why, he asks. The obvious answer lies in the behavior of the banks. They were not prepared to lend at all, in the face of falling real estate prices, and they knew no other lending skills than those of lending against real estate; they were not traditionally well-versed in the assessment of risks of general business corporations. In the prevailing jargon, the problem was "structural". But Krugman (see the "Japan" section of his web-site) at the time said no: The problem could be solved without considering the "structural" side. The problem (as he now elaborates) was that cash and T-bills had become functional equivalents, so that the increase in cash to the banks was offset by less T-bills in their hands, hence in functional terms the "monetary base" wasn't actually being expanded. If you put that story beside the real story, namely the continued lending-strike by the big Japanese banks, you can start to see what this branch of economics is all about: It is about inventing an abstract argle-bargle language that will take the really-existing behaviour of the big financial institutions, consider it to be part of the natural order of things, and explain how that natural order works in argle-bargle terms. In this case, the argle-bargle terms having to do with central bank manipulation of prices in the economy as a whole. (Raising the price of T-bills in the interbank market equals lowering their yield: "relative prices" in that sense).

I think this sheds some light on what happened yesterday in Congress. Bernanke added to his prepared statement, or substituted for it, remarks showing his understanding of what the current problem is in terms of prices. He said it should be possible to set up mechanisms to figure out the value of the assets in question in "hold-to-maturity terms", the implication being that this would legitimately prop up the prices to be paid for these assets and avoid the phenomenon of "fire-sale prices". (It isn't an all clear why hold-to-maturity calculations would result in prices higher than the current bids, but that is another question). Obviously, and many people have pointed this out, the real motive here is to bail out the institutions that hold these assets, by paying them high prices for them. But my point here is the more general one of trying to understand how Bernanke is trying to go at this--"intellectually" so to speak. He is trying to prop up prices, not in the sense of bailing out the really-existing holders of those assets, but rather as a macro-economic issue: How to prevent a form of asset-deflation. In just the same way that Krugman dismissed or shelved the "structural" or real-world side of the Japanese problem in the late 90s, Bernanke in this case is trying to wave the magic wand of argle-bargle over the structural or real-world side of what has been going on with the selling, tranching, re-selling and so on of these so-called "assets", and treat this as a theoretical anti-deflation price management story, something central banks are expected to think about, or at least talk about, all the time. (His problem in being taken seriously was unfortunately for him personified in the guy he was sitting next to).

Obviously professional economists are expected to be able to switch back and forth seamlessly between the argle-bargle side and the structural side, so for instance Bernanke can try and show how you could figure a big price for these "mortgage-related assets" to prevent price-deflation, all the while not letting people forget that this is critically important because the holders of these "assets" happen to be also the masters of the universe.

I don't know if I've made any of that clear, but in any event for my part I also think this helps with an understanding of the whole phenomenon of academic involvement in the current affairs more broadly. Take the American military involvement in the Middle East, and Iraq in particular. Continued involvement is going to be justified in various ways, but the arguments are in a way similar to those of Bernanke et al for propping up Wall Street, in the sense that they are argle-bargle, and their aim of that is to skate over the structural or real-world issues in the interests not necessarily of a particular ideology even, but mainly just as a cloak or a covering for the actions of the particular interest-group in question. For "COIN-based training and support for the Iraqi military" you could read "support for sectarian death-squads", and so on. Translating from the argle-bargle back to the various underlying realities is an endless task. The feeling is of bailing out a boat that has already sunk.


Blogger Nell said...

The feeling is of bailing out a boat that has already sunk.

I can see why you're taking a break, or "restructuring", or whatever argle-bargle suits best for "I'm too depressed to keep saying the same things again and again."

Thanks for all the translation so far.

2:12 PM  
Blogger Nell said...

Also, many thanks for this good one:

[Bernanke's] problem in being taken seriously was unfortunately for him personified in the guy he was sitting next to.

2:14 PM  

Post a Comment

<< Home