financial instabilities, asset prices and crises: theories and policies
DESCRIPTION
FINANCIAL INSTABILITIES, ASSET PRICES AND CRISES: THEORIES AND POLICIES. Marc Hayford and A.G. Malliaris Loyola University Chicago Association for Social Economics Program Atlanta, Georgia, January 2 – 5, 2010. Focus of the Paper. Financial Instabilities Asset Bubbles Financial Crisis - PowerPoint PPT PresentationTRANSCRIPT
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FINANCIAL INSTABILITIES, ASSET PRICES AND CRISES:
THEORIES AND POLICIES
Marc Hayford and A.G. MalliarisLoyola University Chicago
Association for Social Economics ProgramAtlanta, Georgia,
January 2 – 5, 2010
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Focus of the Paper• Financial Instabilities
• Asset Bubbles
• Financial Crisis
• Monetary Policy
• What Theories? What Policies?
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Financial Instabilities• Challenging to define• Financial stability means the efficient
allocation of funds to investment opportunities
• F. Mishkin: adverse selection and moral hazard
• G. Kaufman: bank soundness• Slow return to the pre-shock state• Keynes: capitalism is unstable
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Financial Instabilities
• Financial instabilities increase uncertainty and generate risks
• Valuation risks: valuing securities during a financial distress
• Macroeconomic risks: deterioration of the real economy with high social costs
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Proposed Definition
• Let X = R + F denote a vector of real and financial variables that are endogenous
• Let I and U denote exogenous and random variables
• An economy f(X, I, U) is stable if shocks to any of the variables do not translate to significant deviations from trend GDP.
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Asset Price Bubbles
• Controversial Topic• Kindleberger: “An Upward Price
Movement Over an Extended Range that then Implodes”
• Soros on Reflexivity• Keynes, Minsky, Shiller on Animal Spirits• Preconditions for Bubbles?
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Evolution of Bubbles
• Some Deflate• Some Crash• Some Do not Affect the Real Economy• Some Cause Serious Economic Damage
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Monetary Policy
• Price Stability
• Economic Growth
• Risk Management Approach to Financial Instabilities
• Reservations of Anna Schwartz
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Bubbles and Monetary Policy
• Two Questions
• Normative: Should Monetary Policy Target Asset Prices?
• Positive: Does Monetary Policy Target Asset Prices?
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The Normative Question• Greenspan, Bernanke and Gertler: The
Fed Should Not Target Asset Prices
• Cecchetti and Others: React Cautiously
• Filardo: Deflate Bubbles
• Roubini: Burst Bubbles
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Positive Question
• Hayford and Malliaris: Fed Policy Encouraged the Bubble
• Greenspan: Appears to Have Tried
• Using an Axe to Do Brain Surgery
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Conceptualizing the Debate
• Monetary Policy is Symmetric: increase Fed funds as bubbles grow and decrease them when they crash
• Monetary Policy is Asymmetric: ignore bubbles until they burst, then lower Fed funds to minimize problems to the real economy (Greenspan’s put)
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The Asymmetric Approach
• Greenspan’s clarification• Some support from the historical record• Central Bankers appear skeptical about
the theoretical simulations• Targeting bubbles may destabilize the real
economy• There is no political consensus for
targeting bubbles
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Origins of the Credit Crisis
• Among various causes, consider the role of monetary policy
• Did the Fed contribute to the housing bubble?
• Yes (Taylor); No (Greenspan)
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Productivity and Real Fed Rates
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What Theories?• Schumpeter, Fisher, Keynes, Kindleberger
and Minsky tradition• Classical, Friedman, Lucas, Great
Moderation, Greenspan, Bernanke tradition
• Reformulation in current debate on bubbles and monetary policy
• Micro theories: Kane, Mishkin, Allen, Gale• Social and Psychological theories
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What Policies?
• Lender of Last Resort• Macro-Prudential Regulation: Systemic
risks• Do Not Act Until We Understand• Yellen: Linkages Between Regulation and
Monetary Policy• Micro Financial Regulation• Shiller: Humanize and Democratize
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Conclusion
• Difficult Task to Integrate Theories
• Even Greater Challenge to Introduce Optimal Economic Policies and Regulation