Over this past week, I have been reading lots about the Bank of England's history. Up until World War I, bank governors typically held office for only two years (click here). However, during the tumultuous years from 1920 to 1944, Montgau Norman held the position of Governor. Since then, Governors have typically served for a decade. In the past, Governors were a mixture of City merchants and Bank insiders.
Notably, the Bank's current Governor (Mervyn King) and its future Governor (Mark Carney) both have PhDs in economics. However, unlike King, Carney has 13 years experience working in the financial sector. What is the ideal background for the Bank's Governor? Some fear that academics are too far removed from commerce to be good Governors. Others fear that individuals who have never previously worked for the Bank of England make poor Governors. Robert Peston fears that Carney is another Goldman Sachs alumnus in a very important position.
XKCD have produced a fantastic infographic of the US Congress, which looks at ideological slants and the events which seem to have affected the make-up of the Congress. It is notable how economics and finance have affected US politics. For example the Panic of 1873, the Bimetallic issue of the 1890s, and the Great Depression are highlighted in the infographic.
China has experienced an unprecedented period of economic growth. Never before has an economy grown so quickly over a sustained period of time. Admittedly, China was starting from a very low base after the policy disasters of Chairman Mao. But what about China's future economic growth? If the gowth in China or any of the BRIC economies slows then that spells trouble for the economies of the West.
Many commentators are turning bearish about China and the BRICs. The US Conference Board's prognosis for the BRICS is very bleak (click here). Matthew Yglesias sees political corruption as a reason to be bearish, but the great unexploited inland possibilities in China as a reason to be bullish. Niall Ferguson sees economic inequality and the demographic timebomb as reasons to be bearish about China. Daron Acemoglu and James Robinson are also bearish because China has not built inclusive and democratic institutions which will enable it to sustain its economic growth (click here). In…
Mergers are notorious for producing bad returns for investors. Another example of this has emerged today with Hewlett-Packard writing off $5bn in its latest accounts from its 2011 merger with Autonomy, a British technology and software company. HP are claiming accounting irregularities (fraud), which meant that it overvalued the company. Autonomy's founder, however, is claiming that HP simply destroyed value after the merger! You can read BBC and Guardian coverage here and here.
Walter Mischel ran a series of famous experiments in the late 1960s where he tested the ability of children to control their impulse for immediate gratification. He simply put them in a boring office with a marshmallow or Oreo sitting on a plate. The kids were told that if they did not eat it that they would get another marshmallow / cookie in 15 minutes. Below is a short video of the experiment.
At the time, Mischel surmised that the kids who ate the marshmallow immediately or soon after the clock started running were unhappy at home and had behavioural difficulties. However, he also tracked his 653 subjects over time and found that the kids who were unable to control their need for gratification performed very poorly in school relative to those who delayed their need for gratification. They also underperformed in later life. You can read more here.
Why did Mischel find what he did? One possibility is that kids who ate the marshmallow quickly grew up in unstable and untrustwort…
Richard Thaler in his book with Cass Sunstein discusses small interventions that policy-makers or firms can make to 'nudge' citizens / customers. Thaler discusses his key insights into human behaviour and public policy in the 18-minute video below. One example he discusses is the Urinal Fly firm which came up with the idea of painting a fly unto urinals in order to keep public bathrooms cleaner by reducing spillage by 85%!
How can Western governments reduce their debts without implementing austerity programmes? One obvious way is to run a mild inflationary policy (3 to 4%) for a decade This would substantially reduce the real value of the principal which has to be repaid. Another way to reduce the government's debt burden would be to monetise it i.e., have the central bank buy government bonds with newly-created money. At present, the Bank of England holds £375bn of UK government debt. The accumulated interest on this debt (approx. £30bn) has been reclaimed by the Treasury, which ultimately reduces the amount the government has to borrow. In other words, the government is effectively paying no interest on its debt! However, there is an even more radical way for the government debt burden to be reduced - the Bank of England could simply forgive the £375bn debt which it holds! What would stop it from doing so?
Over the next number of weeks, I plan to have several posts on behavioural economics. Behavioural economics has a different view of what constitutes economic man than neoclassical economics and it attempts to apply insights from psychology as well as neuroscience to economics. Kathleen Vohs has done some interesting work on the psychological consequences of money. She and her co-authors have conducted a series of experiments where they find that money changes people's motivation for the better and their behaviour towards others for the worse. You can read their short paper, which was published in Science, here. Below is a video where Vohs talks about this study. The implications of this study for employers and wider society are potentially very huge.
Below is a somewhat far-fetched (but hilarious) animation, which helps illustrate the standard theory of the evolution of money as well as the role of banks and financiers in Western society. It is well worth watching, but it should not be viewed uncritically. For those interested in the movies, there are several references to well-known films.
How quickly do economies recovery after recessions? The answer depends on the nature of the recession i.e., whether the recession was caused by a financial crisis or not. Schularick and Taylor, using data for advanced economies over 140 years, find that financial-crisis recessions are more painful than normal recessions and that the intensity of credit creation in the boom phase of the cycle is related to the severity of the subsequent crisis. You can read their VOX piece here and paper here.
Reinhart and Rogoff have also addressed this issue on VOX - click here. John Taylor challenges their finding here.
Thomas K. McCraw, the Pulitzer Prize-winning business historian and former HBS professor, died at the end of last week (hat tip - Graham Brownlow). You can read obits here and here. He had just recently published a book on the Founding Fathers and Finance.
Unsurprisingly, from my perspective, President Obama was re-elected in the US election. How did Wall St react? The Dow Jones fell by 2.36% and the Nasdaq fell by 2.48%. Why? One possibility is that Obama's re-election means that the fiscal cliff crisis will occur again within a matter of weeks. Another possibility is that Wall St wanted Romney as his policies were pro-business.
Peter Hitchens, the journalist and younger brother of the late Christopher Hitchens, is always controversial, but not always for the sake of it. In his new book on the war on drugs, he argues that rather than fight this war, governments have chosen instead to decriminalise drug taking or have chosen not to enforce the law. There is a fascinating interview with Hitchens about his new book in the Guardian - click here.
Is the taking of drugs not a private issue? No! The externalities that are imposed on wider society by the taking of drugs (legal and illegal) are potentially huge. It is estimated that the abuse of class A drugs alone costs the UK economy £15.3bn per annum. You can read a paper on the economics of drug taking here.
Following on from last week's post, I have been reading a paper in the Journal of Finance by Lyndon Moore and Steve Juh. In this paper, they look at derivative pricing on the Johannesburg Stock Exchange 60 years before the Black-Scholes (1973) formula. They find that long before the development of formal theory, investors had a very good intuitive grasp of option pricing. The implication of their paper is that the innovation of the Black-Scholes-Merton formula does explain the huge growth of the options markets since the 1970s.
The Chicago Plan, which was the idea of a group of University of Chicago economists in the 1930s, was that bank deposits be 100% backed by reserves i.e., government-issued money. This 'narrow banking' proposal would separate the money and credit functions of banking, and mean that all money in an economy would be government-issued money. A recent IMF working paper has argued that such a system would eliminate bank runs, give governments better control of the business cycle, and dramatically reduce public and private debt. Click here for Daily Telegraph comment on this working paper. There is a group in the UK called Positive Money who are campaigning for narrow banking.
From my perspective, the Chicago Plan would mean that banks are risking investor and not depositor money whenever they make a loan. However, the main problem with the Chicago Plan is that near-bank institutions issuing near-money would spring up and circumvent the 100% reserve requirement.
Neuroscientists have recently been looking at how childhood socioeconomic status and maltreatment during childhood affects the development of the brain (click here). Amongst other things, low socioeconomic status and childhood maltreatment can result in deficits in working memory, impaired cognition, a smaller hippocampus, and a larger amygdala. The question for social scientists is whether early intervention or government policy can somehow improve things for those from disadvantaged backgrounds.