monetary policy when interest rates are close to zero

When interest rates hit the zero lower bound: a discussion on uncertainty

When the Fed is constrained by the ZLB, there’s greater uncertainty and the relationship between uncertainty and economic activity is stronger, write Michael PlanteAlexander Richter and Nathaniel Throckmorton.

In December 2008, the financial crisis and the subsequent recession compelled the Federal Reserve to take unprecedented action to reduce the federal funds rate to its zero lower bound (ZLB). Hitting the ZLB was important because the Fed lost its ability to respond to negative economic events with its traditional policy tool. Recent research has shown that the ZLB constraint can have undesirable effects on the economy. Our research shows the constraint can also lead to greater uncertainty about the future economy as well as a much stronger relationship between uncertainty and economic activity.



How democracies die

Since the election of Donald Trump, many have expressed their concern that the United States could slip into an authoritarian backslide. Emily Holland and Hadas Aron react to this claim, most notably asserted in Steven Levitsky and Daniel Ziblatt’s new book, ‘How Democracies Die,’ noting that the decline of one of the most stable, long-lasting democracies in the world can only be compared to the decline of other lasting, consolidated democracies, of which there are none.

How Democracies Die, a book by Steven Levitsky and Daniel Ziblatt, has been garnering much attention in recent weeks. The book warns about the possibility of a slide into American authoritarianism and draws lessons from the collapse of democracies around the world. This new release is part of an ongoing debate on whether Donald Trump is a grave danger to American democracy. Levitsky and Ziblatt are noted political scientists, with decades of important scholarship on democratic and authoritarian regimes. While the global review of cases of democratic decline is thorough and accurate, the comparisons they draw with the American case is part of an increasingly hysterical discourse on American politics by liberal commentators. The cases Levitsky and Ziblatt employ shed little light on current developments in American politics, and they neglect to identify the crucial international shifts leading to democratic decline in vulnerable countries. The United States is a long-standing, consolidated democracy and is not in immediate danger of collapse. However, pointing out the global climate of democratic decline and accurately identifying its causes is an important task.


On impact of far right parties on centre-right parties

Do centre-right parties win back votes from the far right by talking about immigration?

With the rise of far-right parties in Europe during the 2000s, some centre-right parties spotted an opportunity to win back votes by pivoting towards immigration. James F Downes and Matthew Loveless find that they were more successful if they were out of government at the time. Incumbent centre-right parties, on the other hand, struggled to cut through on the issue.



Why social democratic parties fail…

Why the left loses: Explaining the decline of centre-left parties

Are centre-left parties across Europe facing a future of decline? Drawing on a new book, Rob Manwaring and Paul Kennedy argue that an essential element in any robust democracy is an effective centre-left. However, centre-left parties now face a number of major challenges, from the rise of new parties, to the erosion of their traditional support bases, and only by addressing these challenges can their decline be halted.


Six charts that show how much the world has changed since the 2007-08 financial crisis

Alex Mandilaras, University of Surrey

Ten years ago, fretting depositors formed lengthy queues in front of Northern Rock bank branches across the UK after news broke that it needed support from the Bank of England. The country’s fifth-largest mortgage lender, it was in real danger of running out of cash. People were anxious to withdraw their money. They all managed to do so. But not without the intervention of the Bank of England, the UK’s central bank and lender of last resort, which provided emergency funding.

It was the moment the financial crisis first became real to many. Deep-rooted issues with the global financial system had become evident a few months previously with the freezing of lending between banks. It meant that credit was disappearing and institutions like Northern Rock which relied heavily on short-term borrowing from other banks to finance their activities (like providing mortgages) had no chance of survival. The Bank of England had to act and make billions of pounds available to save them from collapse.

Read More: ‘The day the world changed’ – a former trader on how the credit crunch kicked off

The reasons behind the deep freeze of the interbank market are by now well-known. Irresponsible levels of lending by US banks in the form of subprime mortgages led to large numbers of households defaulting on their mortgages when new higher rates were introduced. Then the growing tide of defaults affected house prices as banks dumped repossessed houses onto the market.

Many of these mortgages were bundled together into loans known as mortgage-backed securities, which banks across the globe were heavily invested in buying and selling. So when the value of mortgages plummeted this also destroyed the value of these securities. Banks suddenly found one of their key assets diminished. As a result, they held on to whatever cash they had. The interbank market froze – and not just in the US. The world’s intertwined financial system ensured that fear spread throughout the Western money markets.

The consequences of the resulting financial crisis were very real. In some ways, the world is still dealing with its ripple effects ten years later. The following six graphs attest to this.

1. GDP

One of the main indicators of a country’s living standards is obtained by measuring its economic output (adjusted for price changes) and dividing this by the country’s population. This is known as real gross domestic product (GDP) per person. As the financial crisis unfolded, it caused dramatic falls in real GDP in many countries.

By 2008 the UK, US and Japan were all in recession – their real output had shrunk. Germany followed. Whereas most countries resumed positive growth rates by 2010, Greece continued facing a painful recession for several more years.

2. Unemployment

Recessions correspond to lower levels of economic activity so it is more difficult for people to find jobs. In the UK, the unemployment rate increased from 5.4% in 2007 to 8.1% in 2011. In Greece, where debt levels were very high even before the crisis hit, unemployment peaked at 27.5% in 2013 and has stubbornly stayed above 20% since.

With the help of monetary policy and measures to instil confidence in financial markets, unemployment in the UK, US, Japan and Germany was below 5% by 2016.

3. Interest rates

The main tool used in the conduct of monetary policy is the interest rate. Following the financial crisis, and among other policy measures, central banks have slashed their interest rates in a bid to boost economic activity. The idea is that low rates give little incentive to save and higher incentive to borrow cheaply and invest, thereby getting the economy going.

Japan is the only country that had low interest rates before the recession as it was already dealing with a stagnant economy, yet reduced them further following the crisis.

4. Government spending

To deal with a recession, governments can also consume and invest more themselves. To spend more, however, they need to borrow more than they already do, as raising taxes during a recession to finance government spending would further hurt economic activity.

Additional borrowing by governments has been a controversial issue following the crisis. Many governments chose to pursue austerity policies, instead.

The next graph shows that in the UK, government spending increases post-crisis were, on average, lower than before the crisis. In Greece, there were reductions in public spending. And in the US, too, albeit lower reductions.

5. Government debt

Post-crisis, levels of government debt have in most cases shot up. The recession meant that tax revenues were lower than planned and borrowing increased to makeup for the shortfall. In the UK, debt (as a proportion of GDP) more than doubled, albeit from a very low level by international standards. In the US, the debt ratio exceeded 100% and in Japan it exceeded 200%. Greece is heading in this direction too.

6. Current accounts

A government’s current account includes the value of its exports to the rest of the world minus its imports from it, as well as net income from investments abroad. It’s an important indicator of an economy’s health as it shows whether a country is a net borrower or a net lender.

Greece’s deficit almost disappeared after the crisis, as falling incomes meant fewer imports. In contrast, in the UK, despite the fall in the value of the pound internationally, the current account deficit has increased. Germany’s surplus has overshadowed that of Japan’s every year since 2004 and the difference has become even larger after the crisis.

The ConversationNot all the trends observed in the graphs can be directly attributed to the financial crisis. But the crisis did affect the world’s advanced economies in profound ways. Indirectly, it may even have led to tectonic shifts in how societies view markets, trade, globalisation, politicians, experts and each other. It remains to be seen whether alternatives such as Brexit or the US administration’s protectionist agenda, can deliver what their proponents are hopeful of.

Alex Mandilaras, Senior Lecturer in Economics, University of Surrey

This article was originally published on The Conversation. Read the original article.

Central Banks as Engines of Income Inequality and Financial Crisis

This September 2017 marks the nineth year since the last major financial crisis erupted in 2008. In that crisis investment banks Bear Stearns and Lehman Brothers collapsed. So did the Fannie Mae and Freddie Mac, the quasi-government mortgage agencies, that were then bailed out at the last minute by a $300 billion US Treasury money injection. Washington Mutual and Indymac banks, the brokerage Merrill Lynch, and scores of other banks and shadow banks went under, or were forced-merged by the government, or were consolidated or restructured. The finance arms of General Motors and General Electric were also bailed out, as were the auto companies themselves, to the tune of more than a hundred billion dollars. Then there was the insurance giant, AIG, that speculated in derivatives and ultimately required more than $200 billion in bailout funds. The ‘too big too fail’ mega banks—Citigroup and Bank of America—were technically bankrupt in 2008 but were bailed at a cost of more than $300 billion. And all that was only the US. Banks in Europe and elsewhere also imploded or recorded huge losses. The US central bank, the Federal Reserve, helped bail them out as well by providing more than a trillion US dollars in loans and swaps to Europe’s banking system as well.

by Jack Rasmus