The Unassuming Economist

Jim Gordon’s frank assessment of the IMF’s 2010 program in Greece was his most notable success in recent years. It received wide coverage in all the major newspapers—the New York Times, Wall Street Journal, Financial Times, The Guardian and The Telegraph—and praise from almost every quarter. It took all of Jim’s diplomatic and drafting skills to produce a report that was fair to his IMF colleagues who had worked on that program and also a fair description of what really happened. As an official IMF document, the assessment had to be written in Fund-ese but Jim (and his team) drafted it in a way that journalists were able to translate it quite easily into English, as The Guardian explicitly did.

A decade earlier, Jim had played a key role in the IMF program for Korea during the Asian Crisis of 1997-98. Though many Koreans have bitter memories of this time, that IMF program was actually a success in helping stabilize the Korean economy fairly rapidly. Jim described the program later in a 2009 article called “The Korean Crisis Ten Years Later: A Success Story”: I hope history will see it his way.

During his stint as the IMF’s representative in India, Jim did some of the early analysis (with Poonam Gupta) on understanding India’s services revolution and on the drivers of portfolio flows into India. These are among Jim’s most cited papers.

So successful was Jim at the IMF’s policy work that it is easy to forget the academic success of his early career. Between 1988 and 1991, Jim published an astonishing seven papers in good journals, including three in the Journal of Public Economics—the leading journal in that field. Many of these papers tackled the question of how best governments should tax and spend when some fraction of its population is prone to tax evasion (and when that fraction itself changes when governments change their policies).

These papers are extensively cited to this day, and their subject matter probably equipped Jim well for dealing with governments—and indeed with IMF departments when he later moved to the IMF’s budget office. I certainly bore the brunt of many a “Aw, come on, you can do better” from Jim as I tried to lie and cheat my way out of out some budget snafu when I was the Research Department’s budget manager.

I will miss Jim on the tennis court. He used his squash skills to hit shots that sailed just inches over the net and at impossible angles. We played outdoors well into the winter—largely at the urging of our crazy Canadian friend Dan Vincent—and Jim always grumbled pleasantly at how silly we all were to be giving in to Dan. One day, after I had been taking some lessons to improve my game at the net, he applauded my play, saying: “Prakash, you’ve become an intimidating presence at the net.” I responded: “Jim, that’s the first time anyone has used the word ‘intimidating’ about me in any context.” His laughter at that will stay in my mind for a long time. Goodbye, Gentle Jim.

From left to right: Prakash Loungani, Sebastian Mallaby, Rana Foroohar, and David Wessel at an IMF Book Forum on Mallaby’s new biography of Greenspan

I had a few interactions with Greenspan in 1997-98 when I was one of the analysts for Asian economies at the Fed. One day in late-1997, he met with a group of us to think through what he should say in testimony to Congress on the Asian crisis. He started talking about the housing boom that had been underway in many of those countries. “It was a case of conspicuous construction,” I blurted out. He loved the phrase and used it in his testimony a couple of times.

My other interactions with him were all on Indonesia and I did not come out looking good in any of them. He had asked me for money supply for Indonesia. I gathered the data on the monetary base and the credit aggregate that he had asked for. But somehow when I added the two I was getting garbage numbers – some errors in my spreadsheet that I couldn’t figure out. Around 6.45 pm – it was a Friday — Greenspan called me himself and said “I’m still waiting …”. I told him what was going on. He said “Just bring up the base and credit numbers and I’ll add them myself over the weekend.” When I got home I told my wife “We’re not eating lunch in this town again. In fact, we’re never eating lunch again as the Fed chair is going to tell everyone I’m an incompetent.” My wife said I should just take the correct numbers on Monday morning because he probably wouldn’t get around to working on them over the weekend. Sure enough, that’s what happened: when I gave him the correct table on Monday, he said with a smile, “The weekend shaped up differently.”

Another time, he asked for detailed sectoral price data for Indonesia. A possible hyperinflation was looming and he wanted to study it in his spare time on the weekends. I dutifully photocopied pages from Indonesian statistical manuals in the Fed library. The names of the sectors were in Bahasa but in all cases but one it was easy to guess the English equivalents. I circled that sector’s name and wrote a note in the margin for my research assistant: “Find out which sector this is – old geezer will want to know.” Some instinct of self-preservation must have kicked in because I then crossed out “old geezer” quite thoroughly and wrote “Chairman”. Somehow the pages with my note still on there made it to Greenspan and came back with a note from him: “You’re right.”

My last interaction with him was while I was still at the Fed but had accepted a job at the IMF. He had asked a small group to brief him on the political situation in Indonesia. At one point he turned to me and asked, “Prakash, what do you think? Is Suharto going to survive?” (As an aside, my boss Tom Connors told me after the briefing: “The Chairman just learned to say your name and say it right. Are you sure you want to go the IMF?”) I had prepped up for Greenspan’s expected question by reading a ton material including all the State department cables. I confidently went in a long explanation of why Suharto would survive. A month later, Suharto was gone. But luckily, so was I.

Former Fed Chair Alan Greenspan is considered by many to be guilty of refusing to regulate financial markets because of an ideological bias; but Sebastian Mallaby’s new biography exonerates him of that charge. The more serious error was on monetary policy, where Greenspan is considered the maestro: Mallaby says Greenspan should have raised interest rates to battle asset bubbles. The more formal commitment to inflation targeting since Greenspan’s retirement has “compounded this problem.”

“With great power comes great responsibility”: Greenspan’s great error 

Sebastian Mallaby’s brilliant new book says that the Fed under Greenspan “brilliantly limited fluctuations in inflation” and deserves credit for this achievement.  But, “Greenspan utterly failed to limit leverage and bubbles, and this failure magnified financial fragility. Because he conducted monetary policy with a view to ensuring price stability, not financial stability, Greenspan allowed this fragility to grow and grow.”

Specifically, Mallaby thinks Greenspan should have raised rates in 2004-05. He does not buy what he calls the “three-part mantra” by Greenspan and his sympathizers that the Fed cannot identify bubbles in real time; that the mess could be better cleaned up when the bubbles went bust; that interest rates would have to be raised by so much that the rest of the economy would have gone bust. He argues that there was enough information to make the judgment that a bubble had developed in housing markets and the cost of clean-up has vastly exceeded the likely damage to the economy from raising rates in 2004-05.

Mallaby concludes that “Greenspan knew that financial stability mattered. But he focused instead on inflation for a simple and not entirely good reason. Controlling asset prices and leverage was hard; fighting inflation was easier … Greenspan choose the path of least resistance.” He says that “as inflation abated and financial excesses started to build up, the chairman should have pivoted to face the new challenge—he should have conducted monetary policy with an eye to stabilizing finance. Failing to execute that pivot was Greenspan’s most consequential error, one that he did not have to make” (my emphasis).

“With limited power comes limited responsibility”: Greenspan and Regulation

In contrast to his harsh judgment on Greenspan’s monetary policy, Mallaby exonerates Greenspan on the charge of failing to push regulation of the new financial markets (derivatives, megabanks, shadow banks and leverage) and moreover for failing to do so for ideological reasons.

By the time Greenspan became Fed chair, “his ideology was mostly gone,” says Mallaby. “The real reasons for Greenspan’s tolerance of the new finance” were two-fold. First, Mallaby writes, Greenspan, like many others of both sides of the ideological spectrum, made the “pragmatic judgment that megabanks, derivatives and securitization might be stabilizing, seeing in them risk-spreading advantages as well as evident pitfalls.” Second, he made the “equally pragmatic judgment that fighting for the new regulation would be politically impossible. It would mean forging a united front among multiple regulatory bodies, and it would involve battling powerful lobbies that had the ear of Congress. With his reflexive passivity, Greenspan had no stomach for this fight.”

Mallaby says Greenspan should not be judged too harshly for this course of action. Would he have made a real difference if he had acted more boldly? “The best guess is that he would not … He was maneuvering in cramped political terrain, boxed in by a clamorous multitude of turf fighters and string pullers and influence peddlers … He should not be condemned, for with limited power comes limited responsibility.”

Implications for the future

Mallaby’s version of events has some somber implications: “Greenspan’s monetary policy, entailing a single-minded focus on inflation is commonly lauded. And yet, as I have argued, focusing on inflation distracted the Fed from the perils of finance. By committing itself more formally to inflation targeting after Greenspan’s retirement, the Fed has unfortunately compounded this problem.”

by Rabah Arezki
From Project Syndicate

Oil prices have plummeted by about 65% from their peak in June 2014 (see chart below), and there is now intense debate about why. One thing we know for sure is that the oil market has undergone structural changes, thus making this latest episode different from previous dramatic price fluctuations.

The collapse in prices has been driven in part by supply-side factors. These include the United States’ rapid increase in shale-energy production in recent years, and the US government’s decision to end a 40-year crude-oil export ban. Moreover, oil output from war-torn countries such as Libya and Iraq has exceeded expectations, and Iran has returned to world oil markets following its nuclear agreement with the world’s major powers. And Saudi Arabia, the largest member of the Organization of the Petroleum Exporting Countries (OPEC), has increased production to defend its market share.

With this glut in oil, many commentators are now asking if OPEC still matters. High demand for oil since 2000 gave OPEC, and Saudi Arabia in particular, significant influence over prices, but it also spurred investments in higher-cost production methods in other locales, such as oil sands mining in Canada and ultra-deepwater oil extraction in Brazil.

Because of the delay between investment and production for conventional oil production, these projects in non-OPEC countries peaked around the same time the oil market began to slow down, and when expectations about future demand for oil started to falter.

This dynamic prompted OPEC to change its response to price fluctuations. In the past, OPEC, and Saudi Arabia in particular, would stabilize the oil market by cutting production when prices fell too low and increasing output when prices rose too high, relative to OPEC’s price target. This time around, however, at a November 2014 OPEC meeting, Saudi Arabia blocked a motion by other members to reduce production in response to falling prices.

The Saudis have instead boosted output, resulting in immense pressure on higher-cost non-OPEC producers. Saudi Arabia seems to be taking a lesson from a 1986 price-fluctuation event, when massive, unprecedented production cuts in response to increased production by non-OPEC countries failed to stabilize oil prices.

Another factor keeping prices down is that non-OPEC producers have significantly reduced their costs. But this is likely a one-time event. In theory, as the chart below shows, the cost of producing oil is usually assumed to be constant and determined by immutable factors such as the type of oil and the geographical conditions where it is extracted.

Continue reading here.