Coppola Comment

Ever since the secured overnight repo rate (SOFR) spiked to 10% in September, there have been dire warnings that these exceptional movements show the financial system is fundamentally broken. The story goes that the post-crisis financial system is so dysfunctional that it is unable to operate without continual injections of money from central banks. The Fed's attempt to reduce the $4.2tn of reserves it added to the financial system in three rounds of QE has dangerously destabilised the financial system, so it has now had to re-start asset purchases to restore the lost reserves and refloat tottering banks. It's fair to say that much has changed since the financial crisis. Prior to 2008, banks maintained far lower levels of reserves than they do now, typically at or just above their reserve requirement. They borrowed reserves from each other in the unsecured interbank market to settle customer deposit withdrawals and securities transactions. The Federal Reserve intervened ...

Daiwa Securities has forecast Armageddon. They say that over-investment in China in recent years has created a debt bubble so great that Chinese authorities would not able to manage its collapse, resulting in a debt deflationary spiral which would make 2008 look like a walk in the park. Such a meltdown would, in their words, "send the global economy into a tailspin". But they also outline another scenario, in which China's economy undergoes a nasty, possibly prolonged recession, from which it will emerge with lower growth. Which of these scenarios will play out? Well, as I discuss in my latest Forbes post, it really depends what Chinese authorities do. They insist that "everything is under control". But are they actually in the wrong trousers? Read my analysis and conclusions here . Related reading: Never mind Greece, look at China Lessons for China from Japan China's economy: no collapse, but it's serious and so are the politics - Georg...

 Greece's banks have been closed since 29th June. The closure followed the ECB's decision not to increase ELA funding after talks broke down between the Greek government and the Eurogroup. The closure is doing immense economic damage. The cash withdrawal limit of 60 euros per bank card per day is restricting spending in the Greek economy to a trickle. Media generally focus more on the hardship that the cash limit causes for households: but far worse is the inability of businesses to access working capital and make essential payments. Businesses are failing at a rate of knots. People are losing their jobs. And bank loan defaults are rising rapidly. The closure was, of course, the decision of the Greek government, as was the associated decision to impose partial capital controls. But it is hard to see that they had any choice. Deposits have been draining from Greek banks for months, but when talks broke down the outflows increased to a full-blown bank run. The  ECB's ...

My Forbes post criticising Senator Elizabeth Warren's attempt to restrict Fed liquidity in a crisis has caused something of a storm. It seems that people can't distinguish between providing unlimited liquidity to the financial system and providing unlimited government funding to banks. The first of these is essential. The second is not. I do not, and never have, supported the second of these. Indeed I was one of the voices soon after the crisis that called for banks to be allowed to fail. But restricting central bank liquidity in a crisis is terribly dangerous. Consider a fire in a closely-built city - let's call it the City of London. Because the houses are very close together - indeed many of them are interconnected - and are made of wood, fire spreads easily. Do you restrict the amount of water the fire brigade can use to put out the fire, even though there is unlimited water available from the nearby river? Do you tell the fire brigade it must only spray houses...

In my last post , I discussed Richard Murphy's " green QE " proposal in the context of a functioning currency union in which the decision to monetise debt would be made by the UK government. But the context of Richard's piece opens the door to a disturbing idea. Some Scottish Nationalists interpreted his proposal as meaning that a fully fiscally autonomous Scottish government could demand that the Bank of England buy Scottish government bonds (whether or not issued by a Scottish Development Bank) in order to prevent Scotland's debt/GDP rising as a consequence of infrastructure investment. The Scottish Nationalists who raised this possibility homed in on this part of Richard's piece: In March 2014 Bank of England Governor Mark Carney confirmed in a letter to Green MP Caroline Lucas that “It is possible that if the Monetary Policy Committee did vote to increase its asset purchases in future, it could expand the range of assets it purchased. Such a decision, ...

At Forbes, more on Russia's currency problems: After the Central Bank of Russia (CBR) established free float with the condition that it would intervene to protect domestic financial stability, the ruble immediately rallied , but then fell again. Many people forecast dire consequences . I admit I was a little worried, but I thought the ruble would stabilize once markets became used to the lack of routine intervention from the CBR. After all, the whole point of allowing a free float is to enable the currency to find its own level – and more importantly, restore control of monetary policy to the central bank. When a country operates a fixed exchange rate system, it de facto adopts the monetary policy of whichever country issues the currency to which it pegs its own currency. In the case of the ruble, that is the United States. And as I have noted before , because China has large US$ reserves and a currency peg to the US$, the Fed’s policy is to a degree determi...

Faisal Islam reports that Alex Salmond has demanded “Scotland's share” of the assets of the Bank of England, namely its gold, FX reserves and its holdings of UK debt built up through two rounds of QE: ... @alexsalmond says he wants Scotland's share of the @bankofengland gold reserves and the "gilts that have been built up" ie via QE — Faisal Islam (@faisalislam) September 16, 2014 Salmond didn't mention the liabilities, which is unfortunate since if you take a share of an institution you must take both the assets and the liabilities. The liabilities of the Bank of England are the monetary base of the United Kingdom – sterling notes & coins and sterling bank reserves. There is a very good reason why Salmond didn't mention the liabilities. He wants to use Scotland's share of the Bank of England's assets to write off Scotland's share of UK debt, leaving Scotland with a debt-free balance sheet at independence: There is an idea th...

Another in the Bulgarian banking series at Forbes. Two months on, CorpBank is still closed and there is no end in sight. Depositors are angry, bondholders are nervous after the bank's recent default, and the Bulgarian authorities are making increasingly desperate attempts to find the money to reimburse depositors and - perhaps - recapitalize the bank so it can be reopened. Meanwhile, Tsvetan Vassilev, the bank's majority owner, is in hiding after an international arrest warrant for him was issued on charges of embezzlement. And Delyan Peevski's power base becomes ever larger.... Read the article here . Depositors protesting about CorpBank's closure. Picture credit: Novinite

I'm always astonished when someone argues that financial transmission mechanisms don't matter - that somehow money produced by the central bank magically "flows" to the real economy without restriction. I don't think this argument is remotely supported by the evidence: transmission mechanisms do matter, and when they are blocked, restricted or diverted, the effect of central bank reflation on the real economy is much reduced. I should be clear here that by "transmission mechanism" I do not necessarily mean banks: investors, companies, markets and fiscal authorities are all means by which money flows around the economy, and they too can restrict, block or divert the flow of funds from the central bank. Here is Giles Wilkes arguing that transmission mechanisms don't matter, using Smaug the Dragon to illustrate his point. The deflationary effect of Smaug's gold hoarding has previously (and elegantly) been discussed by Frances Woolley . In th...

Markets are a gullible lot. In my latest Forbes post I explain how they have been comprehensively outflanked by a very clever Bank of England governor:  In his  speech at the Mansion House  last week, Mark Carney appeared to indicate that interest rates might rise sooner in the UK than markets have been expecting. Predictably, media and market hawks seized upon this as indication that rates will rise towards the end of 2014. Sterling rose, gilt yields rose and the yield curve steepened. This was, of course, exactly what Carney wanted.... Read on here .   (picture: Carney speaking at the Mansion House dinner. Courtesy of the Wall Street Journal)

The UK's Funding for Lending scheme is being changed. The Bank of England and HM Treasury have announced that in future, funding obtained through the FLS may only be used to support business lending, not residential mortgages. And to encourage bank lending to businesses even more, the fees for FLS collateral enhancement are being cut. There has been much talk of a housing bubble in the UK. Personally I am unconvinced, but there is no doubt that the residential property market is stronger than it was. And more broadly, consumer credit is increasing. Up till now the FLS has not distinguished between categories of lending: it could be used to support any lending, although it was hoped that it would particularly be used for business lending. The Governor of the Bank of England argues that broad support for consumer credit is no longer needed, and that the FLS should now be restricted to business lending. I don't disagree. In fact I think the FLS should have been restricted to b...

Consumer price inflation in the Eurozone has been below the target of 2% and falling for quite some time. But until now, the ECB has been sitting on its hands. Inflation some distance below target didn't appear to bother it - most likely because the (unbelievable) forecasts for Eurozone recovery created inflation expectations in the 1.5 - 2% range, so it saw no need to act on what was assumed to be a temporary problem. So why did the ECB, in a complete reversal of its previous stance, suddenly cut the refi rate to 0.25%? Well, Eurozone consumer price inflation has touched a record low of 0.7%, driven by falling energy prices and stagnant prices in other sectors. But inflation expectations are still where they were before, based on expectation of a strong Eurozone recovery. Here is a Eurostat char t showing Eurozone inflation rates by country as of September 2013: And Reuters reports that German inflation has unexpectedly fallen to 1.2% in October. Well, well. German ...