I spent the last weeks, among other things, reading Ayn Rand’s Atlas Shrugged. Then I spent a few minutes making a chart about it. Enjoyed the latter more.
No. Not a fan.
When Sir Walter Raleigh was imprisoned in the Tower of London, he occupied himself with writing a history of the world. He had finished the first volume and was at work on the second when there was a scuffle between some workmen beneath the window of his cell, and one of the men was killed. In spite of diligent enquiries, and in spite of the fact that he had actually seen the thing happen, Sir Walter was never able to discover what the quarrel was about; whereupon, so it is said — and if the story is not true it certainly ought to be — he burned what he had written and abandoned his project.
This story has come into my head I do not know how many times during the past ten years, but always with the reflection that Raleigh was probably wrong. Allowing for all the difficulties of research at that date, and the special difficulty of conducting research in prison, he could probably have produced a world history which had some resemblance to the real course of events. Up to a fairly recent date, the major events recorded in the history books probably happened. It is probably true that the battle of Hastings was fought in 1066, that Columbus discovered America, that Henry VIII had six wives, and so on. A certain degree of truthfulness was possible so long as it was admitted that a fact may be true even if you don’t like it. Even as late as the last war it was possible for the Encyclopedia Britannica, for instance, to compile its articles on the various campaigns partly from German sources. Some of the facts — the casualty figures, for instance — were regarded as neutral and in substance accepted by everybody. No such thing would be possible now. A Nazi and a non-Nazi version of the present war would have no resemblance to one another, and which of them finally gets into the history books will be decided not by evidential methods but on the battlefield.
During the Spanish civil war I found myself feeling very strongly that a true history of this war never would or could be written. Accurate figures, objective accounts of what was happening, simply did not exist. And if I felt that even in 1937, when the Spanish Government was still in being, and the lies which the various Republican factions were telling about each other and about the enemy were relatively small ones, how does the case stand now? Even if Franco is overthrown, what kind of records will the future historian have to go upon? And if Franco or anyone at all resembling him remains in power, the history of the war will consist quite largely of “facts” which millions of people now living know to be lies. One of these “facts,” for instance, is that there was a considerable Russian army in Spain. There exists the most abundant evidence that there was no such army. Yet if Franco remains in power, and if Fascism in general survives, that Russian army will go into the history books and future school children will believe in it. So for practical purposes the lie will have become truth.
This kind of thing is happening all the time. Out of the milions of instances which must be available, I will choose one which happens to be verifiable. During part of 1941 and 1942, when the Luftwaffe was busy in Russia, the German radio regaled its home audiences with stories of devestating air raids on London. Now, we are aware that those raids did not happen. But what use would our knowledge be if the Germans conquered Britain? For the purposes of a future historian, did those raids happen, or didn’t they? The answer is: If Hitler survives, they happened, and if he falls they didn’t happen. So with innumerable other events of the past ten or twenty years. Is the Protocols of the Elders of Zion a genuine document? Did Trotsky plot with the Nazis? How many German aeroplanes were shot down in the Battle of Britain? Does Europe welcome the New Order? In no case do you get one answer which is universally accepted because it is true: in each case you get a number of totally incompatible answers, one of which is finally adopted as the result of a physical struggle. History is written by the winners.
In the last analysis our only claim to victory is that if we win the war we shall tell fewer lies about it than our adversaries. The really frightening thing about totalitarianism is not that it commits “atrocities” but that it attacks the concept of objective truth; it claims to control the past as well as the future. In spite of all the lying and self-righteousness that war encourages, I do not honestly think it can be said that that habit of mind is growing in Britain. Taking one thing with another, I should say that the press is slightly freer than it was before the war. I know out of my own experience that you can print things now which you couldn’t print ten years ago. War resisters have probably been less maltreated in this war than in the last one, and the expression of unpopular opinion in public is certainly safer. There is some hope, therefore, that the liberal habit of mind, which thinks of truth as something outside yourself, something to be discovered, and not as something you can make up as you go along, will survive. But I still don’t envy the future historian’s job. Is it not a strange commentary on our time that even the casualties in the present war cannot be estimated within several millions?
Over the years I’ve heard many talk about the story the Bundesbank having ‘negative equity’ in the 1970s. Since that’s not exactly what happened I thought I’d post on this.
What happened was that the Bundesbank had a shortfall of reserves, i.e. they fell below the required level. This would, normally, lead to negative equity. Given, however, that it’s a bit awkward to have one’s central bank being technically insolvent they used a neat accounting trick.
Central banks distribute their earnings to the Treasury, where the amount depends on the state of the economy. Rules are different from country to country; sometimes it’s a fixed amount plus a percentage of earnings, sometimes it’s earnings minus operating costs, etc. [The Fed for example pay a 'voluntary transfer' to the Treasury.] This means that central banks have an equity buffer. It also means that if central bank have persistent losses that buffer can disappear. There are different ways to manage that, here for example is how the ECB does it:
In the ECB’s case, losses can be covered by appropriating the monetary income that would otherwise remain with the Eurosystem’s national central banks. This requires a decision of the Governing Council. To date, whenever confronted with such a choice, the Governing Council has always decided to cover the ECB’s losses with the monetary income of the NCBs, even when in some of these years the NCBs have also suffered losses.
That’s one way. What if central banks go through the buffer? Well that’s what happened in Germany in the 1970s. Instead of asking for an equity injection, the Bundesbank booked on the asset side of the balance sheet a reduction in future distributions of earnings. The Fed did the same thing recently:
The Fed has recently clarified that losses that lead to shortfalls in the reserves (the “surplus”) relative to their required level (see footnote 83) would be registered as an asset that represents the amount of the reduction in future transfers to the Treasury that is needed to rebuild reserves. With this practice, which is allowed by US GAAP (on the presumption that future earnings are sufficiently certain that the claimed value of the asset will be realised), accounting equity would not fall in the face of a temporary negative shock to earnings.
That’s what the Bundesbank did in 1970s, too. It’s not available to every central bank because not every central bank can retain earnings, is sure of having a positive income and so on, but there you have the story.
In fact, of more colourful cases, we have Costa Rica (1980s), Peru (1980s), Thailand (after 1997), Hungary (1990s)* trying the same thing. The result was a little different, though. It’s not a trick for everyone.
What level of financial resources do central banks need? – BIS
* From the BIS: “In these cases, such treatments confused analysis of the underlying economic situation, and contributed directly to a worsening of the central banks’ finances by allowing continued distributions to the government despite significant and growing financial weakness.”
I was assigned a paper on the Shanxi Banks in the late Qing dynasty in China, and how they became the banking centre of their time. You can read the paper here, but I think it is worth flagging why they were so effective in preventing fraud. From the abstract:
The remote inland province of Shanxi was late Qing dynasty China’s paramount banking center. Its remoteness and China’s almost complete isolation from foreign influence at the time lead historians to posit a Chinese invention of modern banking. However, Shanxi merchants ran a tea trade north into Siberia, travelled to Moscow and St. Petersburg, and may well have observed Western banking there. Nonetheless, the Shanxi banks were unique. Their dual class shares let owners vote only on insiders’ retention and compensation every three or four years. Insiders shares had the same dividend plus votes in meetings advising the general manager on lending or other business decisions, and were swapped upon death or retirement for a third inheritable non-voting equity class, dead shares, with a fixed expiry date. Augmented by contracts permitting the enslavement of insiders’ wives and children, and their relative’s services as hostages, these governance mechanisms prevented insider fraud and propelled the banks to empire-wide dominance.
Skin in the game? Let’s continue…
Modern civil libertarians might question some of these governance innovations, but others provide lessons to modern corporations, regulators, and lawmakers.
Well, maybe some of the enforcement…
Matthew Klein has a good post taking down Robert E. Hall’s claim that reserves are lend out. It’s annoying that supposedly intelligent professors and central bank advisors don’t understand how the monetary system works.
He quotes from Hall’s Jackson Hole paper:
Paying an above-market rate on reserves changes the sign of the effect of a portfolio expansion. Under the traditional policy of paying well below market rates on reserves, banks treated excess reserves as hot potatoes. Every economic principles book describes how, when banks collectively hold excess reserves, the banks expand the economy by lending them out. The process stops only when the demand for deposits rises to the point that the excess reserves become required reserves and banks are in equilibrium. That process remains at the heart of our explanation of the primary channel of expansionary monetary policy. With an interest rate on reserves above the market rate, the process operates in the opposite direction: Banks prefer to hold reserves over other assets, risk adjusted. They protect their reserve holdings rather than trying to foist them on other banks. An expansion of reserves contracts the economy.
My emphasis. I don’t know what textbook Hall is reading, but that is so not true. A simple exercise will explain why. Say Bank X think it has too many reserves, and wants to reduce them by buying longer dated US Treasuries. Bank X finds a seller and transfers the money, receiving a bond in return. The seller of the bonds give up the bonds, but receive money in return, which will be deposited somewhere, thus leaving the total amount of reserves unchanged. The only way that the total amount of reserves change is if it is the Federal Reserve selling the bond! If only Hall had read Barnejek’s post from May, we would not have this paragraph.
This shouldn’t be hard. However, Klein is nice to Hall, because he could have kept going. Here’s the next paragraph from Hall’s paper:
The only excuse for not cutting the reserve rate is the belief that short rates would fall and money-market funds would go out of business. This amounts to an accusation that the funds are not smart enough to figure out how to charge their customers for their services. Traditionally, funds imposed charges ranging from 4 to 50 basis points, in the form of deductions from interest paid. A money-market fund using a floating net asset value can simply impose a modest fee, as do conventional stock and bond funds. The SEC may accelerate this move by requiring all money funds to use floating NAVs.
No it is not. Let me give you some reasons and a reading list:
This is just a very quick post. But, errr, tenured professors should now better.
The IMF is out with its review of how the fund did on the whole Greece thing. Joseph Cotterill has a good write up.
I’m still reading through it, but I do want to flack one thing. On page 32 is a proxy for stress in the eurozone:
Lars Christensen has a pretty good post on how Europe’s problems are not fiscal when you compare it to the US. He points out — rightly, I think — that the difference in recovery between the US and Europe is monetary (see Pawelmorski for more). But then there’s this:
The fiscal tightening in the US and the in euro zone have been more or less of the same magnitude over the last four years. So don’t blame ‘austerity’ for the euro zone’s lackluster performance.
But I will, at least partly. The fact that relative difference stems from monetary policy doesn’t exactly mean that the fiscal multiplier is zero now. I think there’s good reason to loosen both where possible.
My piece for FT AV can be found here:
FT Alphaville: What the Danish negative rate experience tells us.
I was going to do something on negative rates, but I’m busy and Nordea has written a good primer, and I still think me and Izzy’s post from July last year when they were introduced is pretty good.
Nordea: Denmark Update: Negative interest rates — the Danish experience
FT Alphaville: The ‘natural experiment’ of negative deposits rates in Denmark
St Louis Fed publication: How Low Can You Go? Negative Interest Rates and Investors’ Flight to Safety [hat tip to Toby Nangle]
I might do a little more tomorrow.
Tracy Alloway pointed me to this cool story today, about a very large arb. It was an arb of the US Treasury vs. TIPs market. Izzy has previously written about it (#1, #2, #3, #4). The trade was rather simple; you took a position in TIPs, hedged out the inflation, and shorted UST. This was the trade:
And the graph of the mispricing:
Now quite a few words have been written about the trade. What I found particularly interesting about the write-up, though, was how the Barnegat Fund was able to keep the position. They did/do three things: (i) hold 50% of the fund as unencumbered collateral, (ii) returned money to investors in 2005 and 2007 when there were no opportunities, but asked for more in 2008 (and got it) when there were lots of opportunities, (iii) and then there’s this:
When you negotiate an ISDA (the governing document for derivatives) with a counterparty, they begin by sending you a proposal that says if you lose 15% in 1 month, 25% in 3 months or 35% in a year, they have the right to close you out of your position. Our documents have clauses of 20% in 1 month, 30% in 3 months or 40% in a year. That is a slight improvement, but not a huge factor. The big advantage we had over our competition was that if the counterparty wanted to terminate us, it would have to be at mid. Standard ISDAs detail how the counterparty can unwind your trades at their side of the market. This is an invitation for profit for the market maker. They can declare where the “bid” is and sell to themselves at insane levels. Most of our hedge fund competition got destroyed in this fashion in 2008. We hit the triggers, just as most others did in 2008, but no one wanted to close us out at mid. In a perfect example, a huge American bank came to us in 2008 and said that they had looked through all of their ISDAs and they had only given this clause away twice in their history. Barnegat had a huge advantage over the market in that sense.
This is really quite something. Barnegat kept their positions, because the banks couldn’t close them out at their own bids, but had to do it at the mid point. Score one for negotiation skills. This reminds me of a certain London whale, but I guess the lesson to take is that (i) there’s a rather big difference between dealer bid/offer and mid point prices, and (ii) read the contracts you sign and prospectuses for stuff you buy.