The British origins of the US endowment model

David Chambers, Elroy Dimson 20 October 2014

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In recent years much attention has been given to the so-called ‘Yale model’, an approach to investing practised by the Yale University Investments Office in managing its $24 billion endowment. The core of this model is an emphasis on diversification and on active management of equity-orientated, illiquid assets (Yale 2014). Yale has generated returns of 13.9% per annum over the last 20 years – well in excess of the 9.2% average return on US college and university endowments. Other leading US university endowments have followed this model (Lerner et al. 2008).

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Topics:  Financial markets

Tags:  investment, endowments, university endowments, college endowments, Universities, Keynes, asset management, diversification, Great Depression, Great Recession, buy-and-hold, equity investing, portfolio management, Yale, Cambridge

Monetary alchemy, fiscal science

Jeffrey Frankel 29 January 2013

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The year 2013 marks the 100th anniversary of two major institutional innovations in US economic policy:

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Topics:  Global crisis Macroeconomic policy

Tags:  monetary policy, Federal Reserve, fiscal policy, Great Depression, Keynes

Expectations and asset prices: Keynes meets Hayek

Giovanni Cespa, Xavier Vives 18 September 2012

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The financial crisis has vividly put into question the alignment of asset prices and fundamental values. For an example of this, look no further than at the current decision made by the ECB president, Mario Draghi, to launch a courageous programme (dubbed Outright Monetary Transactions) to prop up the prices of short-term bonds issued by EU member states that ask for the help of the European stability funds (EFSF and ESM).

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Topics:  EU policies Frontiers of economic research Monetary policy

Tags:  ECB, Keynes, Eurozone crisis, sovereign bonds, Hayek

Mr Keynes and the moderns

Paul Krugman 21 June 2011

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It’s a great honour to be asked to give this talk, especially because I’m arguably not qualified to do so.[1] I am, after all, not a Keynes scholar, nor any kind of serious intellectual historian. Nor have I spent most of my career doing macroeconomics. Until the late 1990s my contributions to that field were limited to international issues; although I kept up with macro research, I avoided getting into the frontline theoretical and empirical disputes.

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Topics:  Macroeconomic policy

Tags:  Krugman, liquidity trap, Keynes

Macroeconomic paradigm shifts and Keynes’s General Theory

Matthew N Luzzetti, Lee E. Ohanian 31 January 2011

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This month marks the 75th anniversary of the publication of Keynes’s The General Theory of Employment, Interest, and Money (Keynes 1936). The impact of the General Theory is unquestionable. It became the dominant paradigm through the 1960s and today’s policymakers still cling to many of the General Theory’s tenets.

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Topics:  Frontiers of economic research Macroeconomic policy

Tags:  Great Depression, Keynes, economic thought

Ambulance economics: the pros and cons of fiscal simuli

Max Corden,

Date Published

Wed, 01/13/2010

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Download CEPR Policy Insight No. 43 from the CEPR website here.

Tags
global crisis, Keynes, fiscal stimuli

Ambulance economics: A new CEPR Policy Insight

Max Corden 13 January 2010

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The world economy has had a heart attack; the heart and arteries are the financial sector (Caballero 2009). Ambulance economics is about the immediate, urgent, but temporary rescue process in the form of fiscal stimulus policies. The aim is to prevent the recession that resulted from financial panic and a possible breakdown of the monetary system from turning into another Great Depression.

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Topics:  Macroeconomic policy

Tags:  global crisis, Keynes, fiscal stimuli

The theory of the fiscal stimulus: How will a debt-financed stimulus affect the future?

Max Corden,

Date Published

Tue, 05/19/2009

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fiscal stimulus, Keynes, automatic stabilisers

The crisis and its impact on the economics profession

Robert J. Gordon interviewed by Romesh Vaitilingam,

Date Published

Fri, 01/30/2009

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<p><strong>The crisis and its impact on the economics profession<br />
</strong></p>
<p>&nbsp;</p>
<p class="MsoNormal"><em>Romesh Vaitilingam interviews Robert Gordon for Vox<o:p></o:p></em></p>
<p><em>January 2009</em></p>
<p><em><o:p></o:p>Transcription of an VoxEU audio interview<o:p></o:p> [http://www.voxeu.org/index.php?q=node/2928]</em></p>
<p><strong>Romesh Vaitilingam: </strong>Welcome to Vox Talks, a series of audio interviews with leading economists from around the world. My name is Romesh Vaitilingam and today's interview is with Professor Robert Gordon of Northwestern University. Bob and I met at the American Economic Association's annual meetings in San Francisco in January of 2009, where we spoke about policy responses to the economic crisis, and the challenges to a number of dominant schools of thought in modern macroeconomics. We began by talking about the causes of the crisis:</p>
<p><br />
<strong>Robert Gordon: </strong>We're now pretty familiar with the causes of this initial US event that has spread around the world at a very surprisingly rapid rate of speed. In a very nice column a few months ago Alan Blinder wrote about the six fingers of blame and it starts with households which had mortgages they couldn't afford, the mortgage brokers who compensated by the volume of transactions they could complete and push mortgages out the door, getting fees for that in regard for riskiness of what they just created, then the sales of these mortgages into mortgage backed securities which were sold and resold. And finally with additional blame going to the rating agencies of these securities that vastly understated their riskiness. <br />
We had not only a housing price boom which supported US consumer spending through massive amounts of mortgage equity withdrawal through the continuing refinance of houses, but we also had the accompaniment of this housing price boom by extensive leveraging of the economy. That is, a great increase of the ratio of total debt to GDP. For a while it was supported by housing price inflation, and also stock market price increases, and once that turned around then the whole thing imploded, and we're dealing with something really quite unique now, which is financial deleveraging. It's a little bit analogous to the Great Depression where failures of banks robbed individual households of their lifetime savings, because in those days, the bank was where you put your saving, and when a bank fails that means your deposits are wiped out. But of course when your deposits are wiped out, you can't spend.<br />
Now we have a different process by which rationing in the financial markets is cutting into household spending and spending by businesses - the refusal of banks to grant loans. It's a little bit analogous also to the Great Depression in the sense that we now have banks receiving capital from the government and refusing to lend it, building up their excess reserves. It was a characteristic of the US in the late 1930's, that there was a huge amount of excess reserves held by the banks beyond those that they were required by the reserve requirements and the Federal Reserve.<br />
Now I want to emphasize the word rationing because the idea of quantity rationing is the hallmark of what we can call non-market clearing macroeconomics. Ironically that had a much more long lived and successful period as a school of thought in Europe and the UK than it did in the US, where macroeconomics began in the 1970's to pursue one dead end after another.<br />
The first dead end in US macroeconomics was the Lucas idea that business cycles came about through price surprises that prices went up compared to what people expected and only then did output rise in a business expansion, and that was shot down with the inability of the practitioners to find data to support it.<br />
Then we had starting in the early 1980's the real business cycle theories which eliminated demand and made business cycles depend entirely on supply - reductions in productivity. And while that is a way of looking at the role of oil shocks and slow productivity growth in the 1970's, it leaves out prices and it leaves out demand, and has absolutely no ability to explain for instance, the Great Depression, and certainly no relevance today.<br />
So what we have is a revival, not yet recognized widely of non-market clearing macroeconomics which you can think of really as old fashion Keynesianism. Not the Keynes innovations in the last 25 or 30 years, which struggle to find convincing microeconomic reasons for price stickiness or price rigidity, but rather the old fashioned idea that, well, prices move slowly so that means that changes in spending automatically come out as changes in quanities. And individual agents are not maximizing utility and maximizing profits, but they are restrained by these constraints from spending all that the business firms would like to produce, and the individual worker is constrained from as working as much as he or she might like by the unavailability of jobs.<br />
So it's like a door closes in your face and you're not able to make the kinds the choices that the modern macro market clearing economists have focused on so much in the last two or three decades.<br />
It's not widely recognized that the current situation has created that shift on the ability of alternative models to provide convincing explanations, but I think as this worldwide event evolves, we'll begin to see a change in the way that economics is taught. Initially we'll find it at the undergraduate level. Graduate teaching is extremely tied to the research that the professors are doing and they're going to be unwilling to give up their cherished notions of market clearing and what are called dynamic general equilibrium models, and that was a minority of suggesting this, but the world as it's collapsing screams out for a return of these old fashioned explanations.<br />
Another way in which the crisis is changing the balance of power within economic thinking is the appearance that interest rates in the United States have fallen very close to zero, and therefore the ability of the Federal Reserve through traditional interest rate reductions to stimulate spending has run out of steam. There are two old cliches that also additionally refer to the nineteen thirties, and the latter half of the thirties when the money supply increased very rapidly without any apparent response in spending. Monetary policies like pushing on a string, or you can take a horse to water but you can't make him or her horse drink.<br />
There has been an amazingly rapid convergence of opinion in the United States, essentially ruling out monetary policy as the main actor of policy stimulus and bringing in fiscal policy. And within the two options of fiscal policy, which are to cut taxes or raise spending, there is considerable recognition thanks to good economic research that the Bush tax rebates of 2008 and the Bush tax cuts of 2001 and 2003, in all three of those cases primarily raise saving and allowed households to pay off debt. And with the amount of spending out of these dollars from tax cuts was at best one-third to one-half, certainly not the majority of the amount the government spent, and the amount by which the government deficit increased.<br />
So we now come to a widespread consensus shared by many Republican ex-advisers like Martin Feldstein, in addition to the Democratic advisers of Obama. What we need is fiscal policy and we need fiscal policy that as much as possible is geared to spending, as opposed to cutting taxes. The way in which the spending is going to occur is still unclear, but in my mind there is not yet a recognized clear path to a fiscal stimulus that involves no lags at all, and doesn't involve the much discussed build up of infrastructure, which requires all sorts of design work, and hiring engineers who then draw up plans, who then have put out bids to construction for those construction workers, all that takes a long time.<br />
Instead what should be done is to use the federal government to eliminate the universal constraint in the United States that states and local governments must balance their budgets. So when the state and local governments tax receipts collapse as they are for the moment, they are forced to cut spending. They're forced to fire workers, they cut down on Medicaid, help for the poor to obtain medical care, and they run out of money for unemployment insurance, which is lamentably in part a state program, not entirely a federal program, as it should be.<br />
So, the simplest and most straight forward solution, not widely recognized yet I think, is for the federal government to have immediate large grants of X dollars per person, send them to the states, let the states figure out how much goes to the city of Chicago or the county of Cook as opposed to the state of Illinois. But do it on a per capita basis rather than preferentially favoring whatever states might have a bridge project or a highway project all ready to go, because different states have different levels of skill and organization.<br />
That's what I think both work fastest also the fairest across the whole country. That would include requiring that the planned firing of employees not happen, so you immediately cut through this pervasive rippling out effect of negative demand. Shocks, as we call them. Extend unemployment insurance, which is typically done from six months to nine months, extend it to a year, maybe a year and a half, because it's going to be a long drawn out affair.<br />
As to the consequences and the likely size of this event, in San Francisco with talking to a few people, I've found an amazingly narrow range of views about the ultimate peak of the unemployment rate in the US, to be something like nine percent. That would be four and a half percent higher than it was at the peak of the economic expansion in 2006. And that would also represent just about the same increase in unemployment of four and a half percentage points that occurred in the recession of 1981-2.<br />
If you work out the implications for GDP, the gap between the economy's capacity to produce, which we call potential output, and the actual production of GDP will have to reach nine percent at some point in mid to late 2009. What is most misunderstood and misestimated is the implied duration of all this. If the business cycle doesn't reach its bottom until the late fall of 2009, then we will have had a 24 month recession, which is quite a bit longer than the longest previous post-war recession, 16 months.<br />
We will have the same kind of lagging of unemployment behind the movements of output that occurred in the last two recessions. We might not see the peak of unemployment occur until the end of 2010, two years from now. I don't think the media and standard consensus view as caught up with that. <br />
And I think the GDP gap, that is the shortfall of what we're actually producing compared to our capacity. I think that short fall will last commutatively for four to five years. In the early 1980's it lasted for six years, so there's a fairly rapid evolution of views, that instead of this event being worse than the last few recessions, it's going to be about the same magnitude as the big one of the early 1980's with all of the consequences, but entirely and totally different causes.<br />
The causes of the 1981-2 recessions were completely easy to see. They were Paul Volcker and his disinflation policy that brought short-term interest rates up to 19 percent, and here we have short term interest rates at zero. So it's everything flipped on its head in terms of causes, but the consequences and also the solutions are clear.<br />
There was no consensus about how to deal with the 1982 recession that involved fiscal spending. That was the era of the Reagan tax cuts and indeed there was considerable rearmament, which by accident turned into a fiscal stimulus in the Reagan years. You'll remember Star Wars.<br />
So, I think those are some of the things that one is picking up around the halls of San Francisco that some of your readers might be interested in.</p>
<p><strong>Romesh Vaitilingam: </strong>You see the need for transformation in macroeconomic policy, and further down the line, transformation in the teaching of macroeconomics and research in the area.</p>
<p><br />
<strong>Robert: </strong>The old theories that I am endorsing are there, especially in the elementary and intermediate macro books. They tend to disappear once you get into the graduate level and advanced macro. So, it's already there.<br />
We're going to see a shift from Professors who feel sort of guilty to be teaching this old stuff to be able to sell it enthusiastically and show the students, this is what's happening. And the multiplier, ripple effect really is working its way through the economy. Just because we had the Lehman Brothers fail in September '08 doesn't mean that we aren't going to have consequences in September '09. And, you can pretty much ignore studying inflation or deflation along the way because what is happening is a set of real shocks to the demand for goods and services caused primarily by an absence of credit and unwillingness to lend; which is quite a new cause in an old kind of business.</p>
<p><strong>Romesh: </strong>I know it's not your part of economics, but it's another area that has been rather shocked by its experiences over the last few months, and that's financial economics. What's your view on what's going to happen in that field? Is it being really overthrown by the experiences?</p>
<p><strong>Robert: </strong>I'm not the best person to ask about that, but I think the disillusion that started with Alan Greenspan's own confession that he had confidence that profit maximizing investment firms would do what was best for themselves; when in fact they got caught up in a debt expansion machine that spun out of control and that led to the consequences that we've seen, and it's unraveling; which is unprecedented. It has the potential to take the economy down even more than I have suggested in my own pessimistic remarks.<br />
I might add, for your European audience, that there are a couple of differences between the US and Europe now, which may make the evolution in Europe more difficult. First, you have the much greater reluctance of the European Central Bank to drop interest rates, anything like as fast as the Fed has done. And then you have the limitations on the use of fiscal policy. European Commission, European Union has a much smaller budget as a fraction of GDP than does our Federal Government. It has much less ability to create the kind of spending initiatives that I've suggested, things like grants and aid to nations, for instance, to change their unemployment compensation, or fix their budgets. And the individual European nations are, at least the ones that joined the Euro, are constrained by the Maastricht Treaty, which limits the total size of their deficits.<br />
So, we're going to have huge deficits in the US in 2009 and 2010, which are explicitly going to be financed by the Fed, so there is no crowding out, no need to sell the government bonds to the private sector, because the government is going to buy its own bonds and create money out of thin air. We sometimes call that the helicopter drop. And, on that, fiscal advocates can join together with monetarists like Milton Friedman, because Milton Friedman would be the first to tell you that a helicopter drop with money has got to be successful, because it is simultaneously a fiscal deficit. It's a transfer to the people who are picking up the pieces of paper that fall down from the sky, and it counts as a government deficit. If it weren't for prevailing winds, maybe we should actually get a few helicopters out there and start dropping.</p>
<p><br />
<strong>Romesh: </strong>Final question, Bob. What do you think the standing of the economic profession is in the public mind in the wake of this experience? In the UK, we had the Queen visiting the London School of Economics and asking a professor, 'Why didn't anyone see this coming? Why did no one warn us?'</p>
<p><br />
<strong>Robert: </strong>I think we should divide this up into two parts. I think there are economists, including Paul Krugman and Robert Schiller among the famous ones, and I certainly was preaching in my classes that we were in a housing bubble; that the amount of consumer spending that was being financed by mortgage equity withdrawal would come to a halt promptly when the house prices started turning around and going down. And, that's exactly what happened. We were talking about this back in 2005 and 2006, so I think we understood the excess in the housing market and the rise in house prices relative to people's income could not go on much longer.<br />
What was new, and what the economists missed totally, and any honest economist will miss this, was the extra layer of leveraging and debt that the financial markets created out of this housing boom and the way in which the house of cards would collapse. That was not something on anybody's radar screen.<br />
One thing I might add is that, to the extent that I can tell from my colleagues, the economists were incredibly dense in failing to anticipate the impact on the stock market of the unwinding of the housing problem. Forget about Bear Stearns and Lehman Brothers for a minute. But, it was pretty obvious in 2006 and 2007 that the stock market was going to have a negative response to the unwinding and the squeeze on the consumers.<br />
Back then, we also had this inexorable rise in oil prices, which did come to an end, but certainly it was another reason why the economists who learn from history should have forecast some bad events in the stock portfolios. But, I have met very few economists who acted on that. I bring this up partly because I did act to get out of the stock market, and another name I've mentioned is Robert Schiller, who I think did much the same thing. But I hear economists lament about losing 20 or 30 percent in their retirement accounts the way I do from everyday people who are reported in the newspapers. And, I think that if you want to indict economists for not working the thing through, that's one place to start.</p>
<p><strong>Romesh: </strong>Bob Robert Gordon, thank you very much.</p>
<p>&nbsp;</p>

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