W9B Outline

1. W9B Outline • Monetary Policy • The FRB Balance Sheet • The Money Multiplier and M Policy • 3) Bank Balance Sheets and Regulation • Small Open Economies and the • Asian Financial Crisis • Bank borrowing and Forex • Fixed Exchange Rates and Forex Reserves • Thai Collapse • Global Financial Flows and contrasting • recommendations for reform.

2. FRB Balance Sheet, May 24 ’04In Billions, with rounding Assets Liabilities+Capital US Securities 714 Notes 689 Gold 11 Reserve 36.5 SDR’s 2.2 Other 27.7 Forex+other 36.8 Capital 18.8 In collection 5.7 Premises 1.6

3. Expansionary M policy Assets Liabilities US Securities U Reserves Up FRB Check Reserves FRB bond M US Treasury Bond Holder Commercial Bank reserves deposit

4. The Money Multiplier M reserves

5. Interest rate targeting Figure 14.06 Interest rate targeting • Fairmodel: • Central bank can • Target only 1: • Interest rate • Money supply • Gov Debt • They target (a)

6. The discount rate and the Fed funds rate Figure 14.05 The discount rate and the Fed funds rate

7. Taylor Rule Is a “rule” describing rather than prescribing FRB action.

8. Figure 14.07 Responses of output, prices, and the Fed funds rate to a monetary policy shock Responses of output, prices, and the Fed funds rate to a monetary policy shock These are the results of A new Keynesian model, Similar to FRBUS A sticky price model with Rad X in financial markets.

9. Federal Reserve Banks Figure 14.03 Location of the Federal Reserve Banks FRB+Treasury Deposit Insurance Bank Regulation Monetary Policy

10. Cost of Bank Rescues

11. US 1996 Bank Balance Sheet

12. FAIR MODEL Fair Model http://fairmodel.econ.yale.edu For instructions on using the FairModel please look at the information in the end of term research paper guide We will look at some of the equations in the Faimodel Which are found in Appendix A (pdf) of the US model. It contains Table A.1 the 6 sectors of the model. Table A.2 the variables in Alphabetical Order Table A.3 the equations of the model Table A1-Equations 1-30 then follow (this ought to be Table A.4) Table A.5 Sources of raw data

13. FAIR MODEL • We will look at Appendix A, Table 3, FairModel’s Equations • Spending Behavior equations 1-3 cons/eq 4housing/eq 12 investment • Price and Output Behavior eq10 and eq12 • FRB Behavior eq 30 Then we will look at the Forecast Memo http://fairmodel.econ.yale.edu/memo/index.htm After that we will run one experiment with the FairModel by how much will lower interest rates increase inflation?

14. FAIR MODEL Then we will look at the Forecast Memo http://fairmodel.econ.yale.edu/memo/index.htm After that we will run one experiment with the FairModel: by how much will lower interest rates increase inflation? Start by naming a data base and copying the base data http://fairmodel.econ.yale.edu/usmodel/index.htm Then pick option 2: monetary policy options allow the interest rate to be exogenous Pushes us to a screen where we put in a new value for the interest rate for future quarters. Hit enter and see the changes on the screen. Then click “commit to changes”.

15. FAIR MODEL Now solve the model (option 8) and examine the results. Graph 1: pick graph one per variable pick the comparison dataset UseBase option select the 5 main variables from the US variable list: GDPR, GDPD, RS, M1, UR, SGP Graph 2: GDPD percentage change Graph3: Y, YS (full employment output by firm sector) (In Fairmodel Y and YS referr only to the firm sector.)

16. Small Open Economies • Worry about “e” and sometimes “fix” it • Need to worry about borrowing by local banks in foreign currencies.

17. Bank Im-Balance Sheets Dornbush: If the currency falls a commercial bank that has borrowed abroad in a foreign currency finds that the value of its liabilities rises (in terms of the domestic currency) while the value of its assets (the loan portfolio) is at best constant.

18. Currency Mismatch 1 At 5 Pesos to the $ this is 500m Pesos The International Financial Crises of the 1990s: Analytics J. Bradford DeLong http://www.j-bradford-delong.net/

19. Currency Mismatch 2 If 10 Pesos Per $, Borrowing Is worth 1,000m Pesos! Suppose that at this stage—with the bank having borrowed heavily abroad in dollars—international currency speculators lose confidence in the peso, and the exchange rate rises from 5:1 to 10:1. The consequences for the bank are disastrous. The $100 million it had borrowed that used to be worth 500 million pesos is now worth 1 billion pesos. The bank is insolvent: its capital is not +200 but –300 The International Financial Crises of the 1990s: Analytics J. Bradford DeLong http://www.j-bradford-delong.net/

20. A Fixed Exchange Rate Supply of Baht $ per Baht S’ 0.04 Demand for Baht D’ 0.02 Expected devaluation causes supply of Baht right, demand left.

21. A Fixed Exchange Rate Excess supply of Bhat must be bought by Thai central bank using $ $ per Baht S’ 0.04 D’ 0.02

22. $ Sale as contractionary Thai M policy Without “sterilization” $ sale by CB will Cause reserves down Money supply down Interest rates up Which will increase the private demand for Baht and reduce the Private supply of Baht Reserves reduced Baht check CB $ Bhat Holder Buys $ from CB Commercial Bank Deposit reduced

23. Finally The central bank ran out of $ But the central bank Bought bonds at the Same time and kept Interest rates low $ per Baht

24. Bank Lending 100 B $ Source: Joint BIS-IMF-OECD-World Bank statistics on external debt http://www.oecd.org/dac/Debt/index.htm

25. When the Baht collapsed it cost twice as much to repay a $ loan

26. Total & Type of Flows to Dev Co. UNCTAD’s World Investment Report 2002

27. Emerging Market Financing IMF Global Financial Stability Report, Dec 2002, Chapter 3

28. Thailand BOP Current account goes from deficit to surplus In millions of USD Source: IMF IFS CD ROM

29. Dornbush on Leverage A PRIMER ON EMERGING MARKET CRISES Rudi Dornbusch

30. Crisis 5 Exchange Rates Source Pacific Exchange Rate Service

31. Political Fallout Politics: Indonesia, fall of Suharto and separation of East Timor. Malaysia: rift between Mathahir and his supposedly chosen successor. Korea and Philippines: severe tensions for new democratic regimes. Thailand: fall of gov. and hastening erosion of Military’s role in gov.

32. Rodrik on Adj 1 Dani Rodrik 1999 The New Global Economy and Developing Countries: Making Openness Work Johns Hopkins/Overseas Development Council

33. Rodrik on Adj 2

34. Rodrik on Adj 3

35. Contrasting Recommendations for Reform Alan Meltzer (Monetarist-New Classical) Eliminate IMF. It just encourages private sector to lend when it should not. Wealthy investors cushioned at the expense of tax payers. The system will take care of itself. Cato J. Asian problems and IMF http://www.cato.org/pubs/journal/cj17n3-10.html Barry Eichengreen (Mainstream Keynesian) Revise IMF Financial meltdowns need organized responses. More preventive, prudential oversight of banking systems. More pre crisis private and IMF credit lines for gov’s. Book: Toward a New Int. Fin. Architecture Lance Taylor (Post Keynesian) Case for a World Financial Authority Move oversight together with Keynes-like reserve creation. http://www.undp.org/rblac/documents/poverty/archit/world.pdf