Is there a credit channel?

An important argument at the moment is whether or not the so-called credit channel exists. When central banks carry out quantitative easing, and even more so in the case of a “credit easing” policy like the one George Osborne announced recently, a major reason for it is that they are trying to reduce the price (i.e. the real-terms interest rate) and increase the supply of loans to businesses. This being their effective cost of capital, this should encourage them to invest, and thus to increase aggregate demand. This is the New Keynesian account; the monetarist one is that creating an expectation of future inflation creates a disincentive to hold onto cash.

But there is a criticism of the credit channel that works like this: as banks actually create credit, they are only loosely constrained by its supply. Instead, they supply just as much as their customers demand. If the customers are businesses, they are more likely to worry whether their new venture is a good one or not. If it’s a winner, whether it’s a winner with a carrying cost of 4% or 6% isn’t a primary consideration. If it’s a loser, it’s a loser no matter what the interest rate. The bank operates in one of two states – essentially, risk-loving or risk-averse. In the risk-loving state, it expands its balance sheet as fast as its customers demand credit. In the risk-averse state, it digs in and hoards cash. Therefore, there is no credit channel, and the transition between the two states is something like the Minsky model of financial crisis.

Now, I responded to Daniel Davies (who made exactly this argument on the blog he is still keeping private – surely it is time for an Occupy Dsquared movement) on the grounds that if a big, price-insensitive buyer like a central bank can cause a dramatic turnaround in the market for Swiss francs, it could by the same logic flip the bank from state 2 back to state 1 if it went in hard enough.

Here is a data point: the refusal rate for British SMB loans tripled from 2007 to 2010. This could be used in either sense – the credit channel side would argue that this shows that, yes, the supply of credit to the business sector has been choked off, the demand first side would argue that SMB lending is a terrible business to be in at the moment because there’s no demand for their products. The problem is, however, to what extent agency is with the sell- or the buy-side.

On the other hand, the UK business sector excluding finance and real estate was a net saver through the boom years; surely that’s got to be a problem.

The ECB is still very much in the game

It was widely reported last week that the Bundestag had “ruled out” or set a “red line” against any further ECB intervention in the market for government bonds. This is nonsense, and based on the common practice of not reading German. The vote, which for a start was a vote taken after debating a statement from Angela Merkel and not anything more concrete, expressed the Bundestag’s agreement with a text containing three statements. The first of these is under the heading “Sachverhalt” (Factual Background) and summarises the current state of play with regard to the EFSF.

The second is headed “Vor diesem Hintergrund stellt der Deutschen Bundestag fest:” (In the light of these facts, the Bundestag understands/recognises/realises) and contains the statements that the Bundestag (I’ll use the abbreviation, Bt. from here on) knows that the EFSF must be used more efficiently, and that it is aware that leveraging it carries a risk, that the existing instruments will be used and that the EFSF shall only be used under the terms of the treaty creating it, and finally, that “with the entry into force of the EFSF, the continuation of the ECB Secondary Market Program is no longer necessary”.

Note that, well, the opinion of the Bt. is a jolly one to have. It explicitly doesn’t say that “The ECB SMP shall not be continued”, and of course the ECB is banned by its charter from accepting any instructions from politicians. Also, this clause – which is the one that was doing the work – is in the first section of the resolution, which merely takes note of its content as facts.

The second section begins very differently: “Der Deutsche Bundestag fordert die Bundesregierung auf:” (The Bt. calls on the Federal Government to…). You will note that we have moved from merely taking note of the facts and expressing an opinion, to a demand from the legislature, which is the supreme power in the German constitution, that the executive do something. There is no reference to the SMP in this section of the document. The only reference to the ECB in it refers to the fact that it is forbidden to buy government bonds direct from government, rather than buying them in the open market or accepting them as collateral on the discount window. This neither rules out continued ECB intervention, nor does it even rule out the EFSF buying bonds from governments and then selling them to the ECB (or, if it gets its bank licence, posting them for rediscount).

On Friday, of course, the rate on Italian paper hit 6% and, as has repeatedly happened before, the ECB presses rolled into action. In fact, it seems that the ECB is operating an implicit decision-rule that it will buy whenever the rate on Italian debt hits 6%. There’s a nice discussion here of the semantics of Merkel’s use of the words “firewall” and “Schutzwall” – the most common meaning of the first is something which selectively permits access to a network, and the second manages to combine both Nazi and East German connotations in one sweeping infelicity.

But it seems to me that the ECB is operating something more like an electric fence. Cows will try to push through the electric fence a few times, unwisely prodding it with their sensitive noses and getting zapped. But then they will leave well alone. The question is how often you need to zap a bond trader before they get the point.

UK shadow chancellor, Ed Balls, for one, got the point faster than either the cows or the bond trader:

I think the most important thing in the markets today is that the European Central Bank has actually intervened and bought Spanish and Italian debt and that shows that the ECB is doing its job. But fundamentally will there be the scale of financial backing for sovereign countries like Italy? We don’t know. What will the actual details of this plan be? We don’t really know. What is going to be the bank recapitalisation? We don’t know. Will the European economy grow next year? That’s really in doubt…I don’t think it’s sensible for Britain to make bilateral contributions to a euro bailout fund. The ECB should be doing this job.

Meanwhile, perhaps we should all worry more about the fact that the European Council communiqué promised “very specific measures” to boost competitiveness and growth, without naming any very specific measures. It’s reminiscent of the famous company launched during the South Sea Bubble to “carry on an enterprise of great advantage, but no-one to know what it is”. But this is the opposite – the South Sea Anti-Bubble, even if the original South Sea Company was in fact a device to inflate away government debt.

Update: Mooo!

Science Fiction?

“What do I think about the legacy of Atatürk, General? Let it go. I don’t care. The age of Atatürk is over.”
Guests stiffen around the table, breath subtly indrawn; social gasps. This is heresy. People have been shot down in the streets of Istanbul for less. Adnan commands every eye.
“Atatürk was father of the nation, unquestionably. No Atatürk, no Turkey. But, at some point every child has to leave his father. You have to stand on your own two feet and find out if you’re a man. We’re like the kids that go on about how great their dads are; my dad’s the strongest, the best wrestler, the fastest driver, the biggest moustache. And when someone squares up to us, or calls us a name or even looks at us squinty, we run back shouting ‘I’ll get my dad, I’ll get my dad!’ At some point; we have to grow up. If you’ll pardon the expression, the balls have to drop. We talk the talk mighty fine; great nation, proud people, global union of the noble Turkic races, all that stuff. There’s no one like us for talking ourselves up. And then the EU says, All right, prove it. The door’s open, in you come; sit down, be one of us. Move out of the family home; move in with the other guys. Step out from the shadow of the Father of the Nation.
“And do you know what the European Union shows us about ourselves? We’re all those things we say we are. They weren’t lies, they weren’t boasts. We’re good. We’re big. We’re a powerhouse. We’ve got an economy that goes all the way to the South China Sea. We’ve got energy and ideas and talent – look at the stuff that’s coming out of those tin-shed business parks in the nano sector and the synthetic biology start-ups. Turkish. All Turkish. That’s the legacy of Atatürk. It doesn’t matter if the Kurds have their own Parliament or the French make everyone stand in Taksim Square and apologize to the Armenians. We’re the legacy of Atatürk. Turkey is the people. Atatürk’s done his job. He can crumble into dust now. The kid’s come right. The kid’s come very right. That’s why I believe the EU’s the best thing that’s ever happened to us because it’s finally taught us how to be Turks.”

The Dervish House by Ian McDonald, pp. 175-76

Jesus, Mary and Joseph

From the BBC

In 1971 Manoli [Pagador], who was 23 at the time and not long married, gave birth to what she was told was a healthy baby boy, but he was immediately taken away for what were called routine tests.

Nine interminable hours passed. “Then, a nun, who was also a nurse, coldly informed me that my baby had died,” she says.

They would not let her have her son’s body, nor would they tell her when the funeral would be.

Did she not think to question the hospital staff?

“Doctors, nuns?” she says, almost in horror. “I couldn’t accuse them of lying. This was Franco’s Spain. A dictatorship. …”

“The scale of the baby trafficking was unknown until this year, when two men – Antonio Barroso and Juan Luis Moreno, childhood friends from a seaside town near Barcelona – discovered that they had been bought from a nun. “

The scandal is closely linked to the Catholic Church, which under Franco assumed a prominent role in Spain’s social services including hospitals, schools and children’s homes.

Nuns and priests compiled waiting lists of would-be adoptive parents, while doctors were said to have lied to mothers about the fate of their children.

The name of one doctor, Dr Eduardo Vela, has come up in a number of victim investigations.
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In 1981, Civil Registry sources indicate that 70% of births at Dr Vela’s San Ramon clinic in Madrid were registered as “mother unknown”.

He refused to give the BBC an interview. But, by coincidence, I had recently given birth at a clinic he founded, so I was able to book an appointment with him.

We met at his private practice in his home in Madrid. The man painted as a monster in the Spanish media was old and smiley, but his smile soon disappeared when I confessed to being a journalist.

Dr Vela grabbed a metal crucifix which had been standing on his desk. He moved towards me brandishing it in my face. “Do you know what this is, Katya?” he said. “I have always acted in his name. Always for the good of the children and to protect the mothers. Enough.”

Babies’ graves have been dug up across the country for DNA-testing. Some have revealed nothing but a pile of stones, while others have contained adult remains.

Are these crimes limited to Spain?

If you’re not scared, you’ve not been properly briefed

So, if Neal Stephenson, J.G. Ballard, Charlie Stross, and Mervyn Peake had collaborated on a movie about the near future of the global economy, perhaps we’d have something about Chinese property developers trying to create the perfectly blank fascimile of a mid-century European suburb in the outskirts of Shanghai, not too far from Ballard’s old concentration camp at the Lunghua airfield, when a massive financial crisis erupts across the Internet. After the Party shuts off access to the major banks, the developers turn to high yield paper traded in Hong Kong, until rates spike and even Hong Kong brokers won’t touch it no more. But plungers plunge, it’s what they do. Shark gotta swim. The music’s playing and while it’s playing, we’re dancing, as someone said.

That’s when they notice the people from Wenzhou, who have a deeply dodgy but robust store-credit network going back to the days when any private business at all was illegal and who knows, maybe even further, back to the chaos of the Civil Wars. They’re in all kinds of business so long as it’s shady and they look out for each other, and they lend money. You wouldn’t be that far wrong if you thought you’d seen them in the movies before, just not as Chinese. More pasta, less mantou. So they roll over the loans.

But this is all can-kicking; the ballroom days are over. Nothing goes quite like a bubble. And pretty soon the Wenzhou guys are in trouble themselves. Colourful identities in shoe-biz are hopping out of tall buildings and pizza-ing the sidewalk. And here’s the kicker. You kick loans out the front door, you gotta turn them over out the back. The deal is the same for Citigroup and dodgy bookies. So they set up “trusts” with big names and float them in Hong Kong…and the Royal Bank of Scotland is a big investor.

No. No. That’s not the kicker. The kicker is this – the big deal, the hacienda if it hadn’t been a nightclub, the daddy, is a whole suburb designed by one Albert Speer.

I’m making none of this up. It’s not old man Speer, of course – it’s his son, also an architect like his grandad and his great-grandad, who was commissioned to build a German town in Shanghai’s globo-shed airport’n'datacentre belt. Trouble, he took that mean they wanted a town like a real German town, all post-war and either Christian or Social Democratic and square and energy efficient. They wanted Rothenburg ob der Tauber, or at least a lot of flickwerk fachwerk. Old Speer would have wanted something different – waiting for the end, he imagined he’d rebuild Germany in aluminium prefabs built by the idled Junkers aircraft industry, very Bucky Fuller, and even tapped up some of his staff to join him in his new practice.

About the Chinese property bubble and the increasing role of the mob, here’s Pat Chovanec. You’ll observe he’s getting a wee taste of the wumaodang in comments.

On Wenzhou and the property bubble, and spiking rates for speculation on margin like in ’29, JamesP at Jamie Kenny’s place. Some more general dread.

Here’s China Daily on sweatshop shoemaker-loansharks dropping out of skyscrapers. Wenzhou sounds like a mashup of Sicily and Leicester. With Chinese people. (Here, take one of these tabs, it’ll make sense.)

Here’s Bloomberg – hey, Bloomberg, even AFOE readers take that seriously – with great detail on Chinese shadow banks and RBS. More RBS, from the FT.

Finally, all that stuff about weird buildings and Albert Speer? I wasn’t kidding. Der Spiegel, auf deutsch. You bet.

That’s how it worked out for Sweden

At Crooked Timber, they’re discussing a Tobin tax. Andrew F. asks:

How well did this work out for Sweden?

In the ruins of the city once known as Stockholm, ragged survivors barter rotting fish for scraps of used toilet paper outside the scorched hulk of the former Riksbank, that was once the oldest central bank in the world. Many have hacked out their own eyes with shards of plastic rather than see the desolation and depravity they brought upon themselves. “Would we hadn’t done it! The Tax that Dare Not Speak Its Name has reduced us to things lower than beasts!”

Elsewhere, corpses litter what were the chic alleys of hipster Södermalm, marking out the last desperate and insane brawls over crispbread and Cheap Monday products, clearly fought to the knife or rather to anything that would take an edge, in that grim night without darkness.

In the darkened concrete bunkers of what used to be one of the world’s largest Internet exchange points, Netnod, we found the rotting bodies of sysadmins still surrounding a router that appeared to have exploded, as if some sort of wave of pure evil had exploded across the wires from the hearts of a million bloggers the moment the first transaction tax was assessed.

And they tell me it’s worse in Skane. That’s how it worked out for Sweden.

(Although, the Greek source quoted here seems to be thinking along the same lines:

“If we default, it’s not just the domino effect. It will make Argentina look like small game. This place will become worse off than Bangladesh. People will be killed for a sandwich as they cross the road. It will be that bad.”

)

Sunshine club members’ newsletter…

From William Keegan’s column in the sadly reduced business section of the Observer, a newspaper that used to be worth buying just for its business section, it looks like the sunshine club has got another member, ex-MPC man Christopher Smallwood of Lombard Street Research:

In Lombard Street Research’s Monthly Review for September, the economist Christopher Smallwood reminds us that “a currency system with Germany at its core necessarily displays a strong deflationary bias. For a monetary union to work well, it needs to be operated on the basis of ‘symmetrical obligations’ among the members. But if the strong surplus country is perpetually unwilling to take expansionary action, all necessary adjustments within the system have to be made by deficit countries taking deflationary action.”

Smallwood points out that Greece, Portugal, Spain and Italy have suffered a rise in costs relative to Germany and some of the northern economies of up to 30%….

Meanwhile, the BANKERS! remind us that something like 15% of German GDP is accounted for its intra-eurozone trade surplus. Also, note that Jürgen Trittin and the Greens are calling for a Northern European fiscal reflation, according to the transcript of the EFSF debate.

Speaking of the Observer and bankers, Heather Stewart quotes the IMF:

“The large number of ‘underwater’ mortgages poses a risk for a downward spiral of falling house prices and distress sales that further undermines consumption and labour mobility,” it warned, calling for courts to be allowed to write off a proportion of mortgages where borrowers have got themselves in trouble; for the taxpayer-backed mortgage guarantors Fannie Mae and Freddie Mac to encourage writedowns; and for an extension of state-level programmes to support troubled homeowners.”

The IMF is now arguing for unilateral cramdown by the GSEs.