Procyclical bank risk-taking and the lender of last resort
Mark Mink 31 August 2011
While central bank liquidity support is used on a large scale to combat the instability of the banking sector, this column argues that the prospect of receiving such support might well have been one of the causes of the instability. In particular, it shows that the provision of liquidity support stimulates banks to engage in various forms of risk-taking, and to do so in a procyclical way.
Since the outbreak of the global financial crisis in 2007, and particularly since the bankruptcy of Lehman brothers in September 2008, central banks in their roles as lenders of last resort have provided large-scale liquidity support not only to individual banks, but also to the banking sector as a whole. As President Trichet of the European Central Bank explained in November 2009:
International finance Macroeconomic policy
Central Banks, lender of last resort, financial regulation
A balance sheet view on TARGET – and why restrictions on TARGET would have hit Germany first
Clemens Jobst 19 July 2011
The debate over TARGET balances and whether there is an ongoing stealth bailout in the Eurozone has attracted attention from top economists and journalists in the past month. This column argues that the reason why the arguments keep dragging on is the lack of a clear framework for the discussion, something this column aims to provide.
By now most readers of European financial newspapers and blogs will have come across Hans-Werner Sinn’s repeated assertions (see Sinn 2011a and 2011b on this site and his latest here) about Germany’s “stealth bailout” of European peripheral economies and the “ticking time bomb” hidden in the €300 billion claims of the Bundesbank in the Eurozone payment system
EU policies Europe's nations and regions International finance
Germany, ECB, Bundesbank, Central Banks, Eurozone crisis, TARGET
Shell game: Zero-interest policies as hidden subsidies to bank
Axel Leijonhufvud 25 January 2011
The shell game is a roadside con as old as civilisation. This column argues that the same swindle is being performed on a massive scale at the expense of the unsuspecting taxpayer. It says that, with their near zero interest rates, central banks are effectively subsidising the banking sector – with barely a pea passed on to the public.
The two pioneers of modern monetary economics – Irving Fisher and Knut Wicksell – were passionately concerned to find monetary arrangements that would insure against arbitrary redistributions of income and wealth. They saw such distributive effects as offenses against social justice and consequently as a threat to social and political stability.
Financial markets Monetary policy
monetary policy, Central Banks, zero interest rates
Money market freezes and central banks
Max Bruche, Javier Suarez 07 January 2011
During the global crisis central banks have undertaken unconventional measures that some commentators claim go beyond their mandate. This column focuses on central banks intervening in the money markets as a middle man. It argues that such actions can be welfare improving, but are unlikely to be fiscally neutral, thus raising questions about whether they should be left to a central bank.
During the peak of the crisis in autumn 2008, spreads in money markets rose sharply and volumes contracted, forcing many banks into difficulties with their standard liquidity management and refinancing strategies. Central banks reacted by taking deposits from some banks (via deposit facilities and excess reserve accounts) and lending directly to other banks (via various lending facilities) at much larger scale than in normal times.
Global crisis Monetary policy
monetary policy, Central Banks
Sense and nonsense in the quantitative easing debate
John H Cochrane 07 December 2010
Last month, the US Federal Reserve announced a new quantitative easing programme, in which it will inject money into the economy by buying up to $600 billion in long-term government bonds. This column argues that now is not the time to be buying back long-term debt. Given exceptionally low long-term rates, the US government should be <i>issuing</i> it instead.
In November, the Fed started its new “quantitative easing programme”. The Fed will buy up to $600 billion in long-term government bonds, putting $600 billion of extra money in the economy. Defenders think this is the key to reducing unemployment and breaking the economy out of its doldrums. Though the Fed's motives were initially unclear, Chairman Ben Bernanke's 5 December interview on CBS 60 minutes made it clear that fighting unemployment is a crucial motivation.
US, monetary policy, Central Banks
Governments, central bankers, and banking supervision reforms: Does independence matter?
Lucia Dalla Pellegrina, Donato Masciandaro, Rosaria Vega Pansini 12 September 2010
The global crisis has led policymakers in the EU and the US to broaden their central banks' mandates to include greater banking supervision. This column argues that this new responsibility should be seen as an evolution of the central bank specialisation as a monetary agent rather than a reversal of the specialisation trend.
In response to the global crisis, many countries are implementing – or at least considering – reforms concerning the role of the central bank in banking supervisory regimes.
- On July 2010 US President Barack Obama signed into law the so-called Dodd-Frank Act.
The Dodd-Frank Act increases the role of the Fed as a banking supervisor. This is despite the fact that during the discussion of the bill US lawmakers debated whether to restrict some of the Fed’s regulatory responsibilities.
Global governance Monetary policy
monetary policy, Central Banks, financial regulation, global governance
Strengthening the financial system: The benefits outweigh the costs
Stephen Cecchetti, Benjamin H Cohen 20 August 2010
The extent of the damage from the global crisis has forced policymakers to rethink how they regulate finance. This column first examines the long-term impact of stronger capital and liquidity requirements and then estimates the transitional economic impact as the new standards are phased in. It argues that, while such reforms may come at a short-term cost, the benefits of a stronger and healthier financial system will be around for years to come.
Just like an overweight victim recovering from a severe heart attack, the financial system must change its ways. After working tirelessly – and in the end successfully – to stabilise the patient, the world’s central bankers and supervisors are developing a rigorous diet and exercise programme to help avoid a relapse. Yet, now that the immediate danger has passed, a natural scepticism has set in. Does the financial system really need to change its ways? Why bother with all this unpleasant exercise? Are the benefits of more stringent regulation and supervision really worth the cost?
Financial markets Global crisis
Central Banks, financial regulation, global crisis
The low-interest-rate trap
Francesco Giavazzi, Alberto Giovannini 19 July 2010
Should the crisis spur central banks to change how they conduct monetary policy? This column argues that strict inflation targeting, which ignores financial fragility, can produce interest rates that push the economy into a “low-interest-rate trap” and increase the likelihood of a financial crisis.
There is a fundamental flaw in the way central banks set official interest rates. This flaw has created what might be called the “low-interest-rate trap”. Low rates induce excessive risk taking, which increases the probability of crises, which in turn, requires low interest rates to keep the financial system alive. The flaw behind all this is the failure of central banks to take account of the probability of financial crises when setting interest rates.
Global crisis Monetary policy
interest rates, inflation targeting, monetary policy, Central Banks, global crisis
We must escape the grip of short-term funding
Enrico Perotti 05 July 2010
This column argues that government measures to restore confidence in the financial system have achieved a “pause in the panic”, but this is not enough. Governments still need to reverse the dramatic slide of the financial system towards unstable funding – a trend that holds a gun to the heads of governments and central banks.
Last week, the banks won but financial stability lost. Heavy lobbying undermined G20 support for proposals by the Basel Committee to plug a major gap in banking regulation. Measures such as “liquidity buffers” were challenged. Yet these are the sort necessary to contain “liquidity risk” – the inability of financial institutions to refinance their positions in times of distress. This failure was a major flaw in the international policy framework known as Basel II.
Central Banks, financial regulation, Short-term bank funding
Double targeting for Central Banks with two instruments: Interest rates and aggregate bank equity
Hans Gersbach 01 February 2010
Should monetary policy and banking regulation be conducted by separate bodies? This column proposes a new policy framework whereby the central bank chooses short-term interest rates and the aggregate equity ratio while banking regulation and supervision, including the determination of bank-specific capital requirements, would be left to separate bank-regulatory authorities.
The current crisis has placed a fundamental question at the centre of policy discussion: “Should monetary policy and banking regulation be conducted separately?” Opinions differ – see Adrian and Shin (2009), Goodhart (2008), and De Larosière et al. (2009).
Central Banks, financial regulation, equity ratio