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Stanley Fischer and the twilight of technocracy

Thu, 09/14/2017 - 14:54

IN 2004 Stanley Fischer described the wonder he felt as an economics student in the 1960s. “You had a set of equations”, he said, “that meant you could control the economy.” Technocracy—the dream of scientific government by a caste of wise men—arose in the 20th century, as rapid change rendered the world unfathomably complex; in economics, it came of age in the Keynesian revolution of the 1930s. On September 6th, after a remarkably distinguished career in public service, Mr Fischer, an intellectual heir to Keynes, announced his imminent retirement as the vice-chairman of the Federal Reserve. It is tempting to see in his departure the end of the era and the ideal of technocracy.

A century ago, as physicists unlocked the secrets of the atom and biochemists probed the molecular basis of life, economists sought to systematise their own field. But the growing complexity of their work created a problem: laymen could not make head or tail of it. Government consultation with experts, or the...

Goldman Sachs announces a change in strategy

Thu, 09/14/2017 - 14:54

IT IS not easy to feel pity for Goldman Sachs. Its alumni lord it in pivotal government positions around the world; from every prestigious business school, applicants queue in hope of a job; its senior executives earn eye-watering amounts; and it has a presence, it seems, in every corner of the global economy. Yet these are troubling times for the bank. It is facing fundamental questions about its business model.

Its investors are particularly worried by a precipitous decline in the fortunes of its core fixed-income, currencies and commodities unit (FICC). That is the business from which Goldman’s current leadership graduated. The bank’s president, Harvey Schwartz, used a conference on September 12th to give an unusually detailed account of how it is changing. He outlined plans for igniting growth in an apparently stagnant business, and for preserving profitability despite that stagnation.

One factor in Goldman’s problems has been a change in its staff structure. In the...

The Fed prepares for its balance-sheet—and its board—to shrink

Thu, 09/14/2017 - 14:54

NINE years ago, in the autumn of 2008, the Federal Reserve was fighting a financial collapse. To stave off disaster, it lent aggressively—to banks, to money-market funds, even to other central banks. As a result, its balance-sheet ballooned. At the start of September 2008, the month when Lehman Brothers collapsed, the Fed’s assets totalled $905bn (at the time, about 6% of GDP). By December they had more than doubled in size, to $2.1trn. That was only the start. As its emergency lending unwound, the Fed began purchasing government debt and mortgage-backed securities (MBSs), in an attempt to support the real economy. Three volleys of so-called “quantitative easing” (QE) eventually swelled the balance-sheet to $4.5trn by 2015.

On September 20th the Fed will probably announce that it is putting QE into reverse. It does not intend to sell its assets. Rather, as its securities mature, it will stop reinvesting all of the proceeds. The permitted monthly “run-off” will gradually rise until...

Retail banks’ foreign ventures rarely pay off

Thu, 09/14/2017 - 14:54

NOT everybody—or every business—travels well. Retailers from Walmart to Tesco have faltered in forays into foreign lands. Banks, too, often fancy that success at home can be reproduced abroad. In meeting the needs of big companies, they are often right. Global corporations seem to want global banks. But in retail banking, serving households and small businesses, they are usually mistaken.

Or so concludes a report by Lorraine Quoirez and her colleagues at UBS, examining the performance of seven international banks (BBVA, Citigroup, HSBC, ING, Santander, Société Générale and Standard Chartered). For several measures, such as net interest margins and returns on equity, the Swiss bank’s analysts constructed benchmarks for each firm. The benchmarks are the averages for all banks in countries where the seven are active, weighted by the importance of each market in each bank’s loan book.

Most of the banks fall short on most measures. For example, UBS expects...

Putting a new face on an American banknote is oddly difficult

Thu, 09/14/2017 - 14:54

IT WOULD be hard to find a better example of long-term gridlock in Washington than its treatment of banknotes, whose appearance has essentially been frozen since 1929. The administration of Barack Obama took a half-hearted step towards a new look, proposing the replacement of Alexander Hamilton’s portrait on the $10 bill with a portrait of Harriet Tubman, a former slave who became a civil-war hero.

Problems cropped up at once. It seemed ludicrous to scrap the portrait of the one person on a note who helped create America’s financial system. It did not help that he was also the hero of a smash-hit Broadway musical. So the administration decided instead to replace Andrew Jackson, America’s seventh president, on the $20 bill. But by then it was too close to the election to push the change through.

President Donald Trump has since lent his support to keeping Jackson. In a recent interview, his treasury secretary, Steven Mnuchin, made it clear he had little interest in...

How to protect yourself against the theft of your identity

Thu, 09/14/2017 - 14:54

AS IDENTITY theft has proliferated, so has the number of businesses hoping to make money selling protection against it. Companies such as LifeLock, Identity Guard and PrivacyGuard sell products similar to Equifax’s TrustedID Premier identity-theft protection. That was the service Equifax offered to every American with a Social Security number in the aftermath of its big data breach.

Those who enroll in TrustedID are promised notification if their information is offered for sale on the internet. Their credit reports with Equifax, Experian and TransUnion, the “Big Three” credit-reporting agencies (CRAs), are also monitored for suspicious activity, such as the opening of new accounts or failures to pay a bill on time. If such activity is detected, users can “freeze” their Equifax credit reports, ie, make them unavailable to lenders. And TrustedID offers $1m-worth of insurance to compensate users for losses incurred as a result of identity theft. Equifax is offering the service free for...

The big data breach suffered by Equifax has alarming implications

Thu, 09/14/2017 - 14:54

UNTIL something goes wrong, few people give much thought to the surveillance they undergo by credit-reporting agencies (CRAs). Yet these agencies’ business is deeply intrusive: quantifying character. They assign individuals credit scores based on how they previously managed debt. The scores are then sold to lenders. In America, Equifax, Experian and TransUnion, the “Big Three” CRAs, have gathered credit histories and identifying information for nearly every adult.

On September 7th Equifax admitted that something had indeed gone very wrong: hackers had gained access to personal information on about 143m people, mostly Americans. It reported that, from mid-May to July, hackers exploited a vulnerability in its website. The data compromised included Social Security numbers (SSNs), dates of birth and driving-licence numbers, and for 209,000 people, possibly their credit-card numbers as well. Equifax also noted that data about some Britons and Canadians may have been stolen.

The...

Initial Coin Offering means investor caution obligatory

Tue, 09/12/2017 - 14:50

HERE is the deal. You can buy an entry in a computer ledger issued by a startup company on the basis of an unregulated prospectus. It is called an “initial coin offering” or ICO. But though the ledger entry is called a coin, you cannot spend it in any shop. And whereas the use of the term ICO makes it sound like an IPO (initial public offering), the process whereby a firm lists on a stockmarket, coin ownership does not necessarily get you equity in the company concerned.

This sounds like the kind of bargain that would appeal only to people who reply to e-mails from Nigerian princes offering to transfer millions to their accounts. But ICOs may well be the most popular investment craze since the dotcom boom of 1999-2000; even Paris Hilton, a celebrity heiress, has jumped on the bandwagon. The list of active, upcoming and recent ICOs on the website “ICO alert” covers 31 pages of A4 paper and includes around 600 companies. More than $2bn has been raised in total.

There is a serious side to the craze, just as there was with the dotcom boom. The technology that underpins digital currencies—the blockchain—is an important development. This is a secure, decentralised ledger that everyone can inspect but that no single user controls. It seems likely to be adapted for use across the financial system—to record property transactions...

Capacity cuts in China fuel a commodity rally and a debate

Thu, 09/07/2017 - 14:44

STEEL ran in Zhang Cheng’s family for three generations. His grandfather mined iron ore. His father got a job in the big state-owned steel mill just outside Jinan, capital of Shandong province. His mother worked in the on-site hospital. And Mr Zhang went to the mill-run school, graduating to a job in its foundry, where, in the heat of the blast furnace, he rolled metal into thin bars for construction. But after nearly two decades in Jinan Steel, he worked his last day there this summer. In the name of “capacity reduction”—a government policy to rein in excess production of steel—the plant stopped operating in July, and Mr Zhang went on the dole.

Since they worked for a state-owned company, the local government has helped him and the 20,000 others who lost jobs find new ones. But it has been a struggle for Mr Zhang, a soft-spoken man. Openings in Jinan are mainly in the service industry—as a waiter in restaurants or an attendant at a station on the new underground. He worries that he...

Why are investors so relaxed about the tensions in Korea?

Thu, 09/07/2017 - 14:44

A ROGUE state has tested what may be a hydrogen bomb and has sent a missile over the territory of a neighbouring country. The American president has promised “fire and fury” if threats continue. The Security Council of the United Nations has been locked in debate. This sounds like the plot of a Hollywood thriller or a paperback potboiler in which the world is heading for conflagration.

But international investors are not thrilled, and seem barely disconcerted, by the crisis on the Korean peninsula. Gold has risen a bit, the yield on Treasury bonds has dropped and the MSCI World equity index has fallen since the start of August. However, the moves have not been huge. Even the South Korean stockmarket, surely the most sensitive gauge of war risk, is well above its level at the start of the year.

What explains this remarkable insouciance? One possibility is that the markets may simply not be very good at assessing political risk. After all, investors failed to foresee either...

A new bond taps private money for aid projects in war zones

Thu, 09/07/2017 - 14:44

A giant leap for impact investing

INVESTORS might be expected to run a mile from a deal on offer in a conflict-torn part of Africa. At best, it will pay an annual return of 7%; at worst, 40% of the original investment is lost. But a dozen social investors have pooled SFr26m ($27m) to finance the world’s first “humanitarian impact bond”, issued by the International Committee of the Red Cross (ICRC). It will pay for three rehabilitation centres to be built and run in the Democratic Republic of Congo, Mali and Nigeria.

The ICRC’s obligations are backed by “outcome funders”, ie, donors, mostly governments. The bond is an example of “impact investing”, in which private investors seek out social and financial returns, and of “blended finance”, in which public funds help them to do so. Variants have included a bond aimed at educating girls in India and a World Bank-led initiative to raise money to respond to pandemics. The novelty in the ICRC’s bond is that the...

Governments need to rethink their attitudes to debt

Thu, 09/07/2017 - 14:44

GOVERNMENTS do not always make the best budget managers. Assuming it avoids an accidental debt default, America will run a bigger budget deficit this year than the last, despite a booming economy. Germany runs a surplus—but scrimps on critical investments and annoys its euro-area neighbours in the process. Japan, cowering under a mammoth public-debt pile, is weighing raising its consumption tax, though the last rise strangled a tenuous economic recovery. It is awkward, therefore, that the role of fiscal policy as a recession-fighting tool is only growing. The next downturn will be a painful and dangerous learning experience for many politicians.

When that comes, at some point in the next few years, the initial policy response is easily foreseeable. Central banks, nimbler than parliaments, will again move first. But markets reckon that two years from now the Fed’s benchmark rate will remain below 2%, the Bank of England’s below 1% and the European Central Bank’s close to zero. Rates can only go so negative before people abandon the banking system for cash. So cuts to interest rates will be limited. By contrast, in the relatively mild recession of 2001 the Fed cut rates by more than six percentage points. Central-bank asset purchases will follow, assuming they are not already happening, as they might well still be in Europe and Japan. Their effects will be less...

Exchange-rate shifts have helped the global economy

Thu, 09/07/2017 - 14:44

STICKLERS for value have plenty of reasons to frown at financial markets. Much feels out of whack, from squashed bond yields to pricey stockmarkets. Yet currency markets, at least, seem to have shifted in line with fundamentals this year. Take the euro, for instance. Since the start of 2017 it has risen by almost 15% against the dollar, to $1.19 (see chart). That has taken it much closer to fair value by benchmarks such as purchasing-power parity (PPP), the exchange rate at which a basket of goods is worth the same in different countries. The OECD puts the euro’s PPP at $1.33. That is quite a stretch from $1.04 in January. “The elastic had to snap back,” says Kit Juckes of Société Générale, a French bank.

Of course, the euro’s revival is a result of more than its being cheap. The anxiety that elections in Europe might bring to power anti-euro populists, such as Marine Le Pen in France, has dissipated. The euro-zone economy has further strengthened, raising the prospect that monetary...

Hurricane Harvey has exposed the inadequacy of flood insurance

Thu, 09/07/2017 - 14:44

THOSE who live on America’s coasts know to prepare for wrathful hurricanes in late summer—nailing plywood to their windows as the storm approaches. America’s property insurers and reinsurers are ready, too, using sophisticated models to track storms and estimate potential losses. But wind is not the only danger from hurricanes. Ask Houstonians who saw their homes inundated by Hurricane Harvey’s 52 inches (132cm) of rain in the six days to August 30th. Or those in tthe path of Hurricane Irma, which, as The Economist went to press, was wreaking havoc across the Caribbean. But whereas wind damage is covered under most standard insurance policies in America, flood insurance is a government-run add-on that far from all homeowners buy. As a result, of over $30bn in property losses in Texas, only 40% may be insured.

The National Flood Insurance Program (NFIP) was set up in 1968, after a series of large losses led private insurers to pull back. Those living within a...

A year on, Wells Fargo cannot shake off its mis-selling scandal

Thu, 09/07/2017 - 14:44

ON SEPTEMBER 8th 2016, Wells Fargo’s reputation plummeted abruptly from that of America’s finest bank to that of yet another dodgy company. It was revealed to have opened an enormous number of potentially unauthorised retail deposit, current (checking) and credit-card accounts. A year on, two questions have yet to be put to rest. How much harm did Wells do to its customers? And how much did the scandal hurt the bank itself?

Wells has not been passive in its response. It has produced report after report on its misdeeds and submitted to investigations by two federal regulators, the Consumer Financial Protection Bureau and the Office of the Comptroller of the Currency. It has purged its chief executive and the head of its retail bank, clawed back executive bonuses, transformed its board and simplified its formerly decentralised structure. It has created a comprehensive process for restitution and settled a class-action suit.

Yet it cannot put the scandal behind it. In...

Russia’s largest private bank is rescued by the central bank

Thu, 08/31/2017 - 14:51

VADIM BELYAEV’S start in business in the mid-1980s was to sell foreign watches on the black market in the Soviet Union. He became a financier, and by 2015 had transformed his bank, Otkritie, into post-Soviet Russia’s largest private lender. Named “Businessman of the Year” by a Russian magazine, he used an English term to describe himself: “Risk-taker”. The risks have caught up with Otkritie. A run on its deposits led this week to its takeover by the central bank (CBR). The rescue is likely to be the largest in modern Russian history.

Russian banking has been plagued by lenders with bad loans and inadequate capital, and “pocket” banks that function as money-laundering hubs for influential businessmen. The CBR has embarked on a campaign to clean up the sector, taking on formerly untouchable banks with powerful shareholders and clients. Since 2013 it has shut down more than 300 banks.

Otkritie rose rapidly, out of a small predecessor bank acquired in 2006. It has expanded...

Of Indian banknotes cancelled last year, 99% are accounted for

Thu, 08/31/2017 - 14:51

ON NOVEMBER 8th 2016, Narendra Modi, India’s prime minister, stunned its 1.3bn people by announcing that most banknotes would soon become worthless. Indians then queued for weeks on end to exchange or deposit their banned money at banks. The comfort for the poor was that the greedy, tax-dodging rich would suffer more, as they struggled to launder their suitcases full of cash by year-end.

Not so. A report from the central bank, the Reserve Bank of India (RBI), on August 30th suggests that of the 15.4trn rupees ($241bn) withdrawn—roughly 86% of all banknotes by value—15.3trn rupees, or 99% of them, have been accounted for. Either the “black money” never existed or, more likely, the hoarders found a way of making it legitimate.

Defenders of the scheme say it is merely one plank of a wider fight against informal economic activity and corruption. Banks have enjoyed an influx of cash. Digital payments are up (from a low base), as issuance of replacement notes has not caught...

Foreign jurisdictions try to lure legal business from London

Thu, 08/31/2017 - 14:51

National treasures

LOFTILY as they may disdain the profit motive, Britain’s judges are, on a national level, money-spinners. English law is often specified as the one under which commercial contracts are to be interpreted and enforced. And disputes often end up being heard in British courts. But, like any business, the law is competitive, and other jurisdictions want to snatch a share of this market. London is mounting its defences.

It has several hard-to-beat advantages: the use of English; a reputation for fairness; the centuries of precedent that lend predictability. Richard Caird, a partner at Dentons, a global law firm, notes that a foreign company can expect an impartial decision in an English court, even if it is pitted against a British firm. Over 70% of cases in the English commercial courts involve a foreign party. In 2015, Britain had a £3.4bn ($5.2bn) positive balance of payments on legal services.

One way for other financial...

On NAFTA, Donald Trump’s most dangerous opponents are at home

Thu, 08/31/2017 - 14:51

EVER game for a fight, President Donald Trump is picking one again with Canada and Mexico, America’s partners in the North American Free-Trade Agreement (NAFTA). On August 27th he tweeted that both were being “very difficult”, adding: “May have to terminate?” His strategy, of getting a better deal by threatening to pull out altogether, is odd. It worsens relations with America’s negotiating partners, at a time when Mr Trump’s plans face just as much opposition at home.

Before April American business was quietly hoping that a Trump presidency would lead to more tax cuts than trade tensions. That changed when news leaked that Mr Trump was poised to withdraw from NAFTA. Suddenly the deal had louder champions in American business, including the energy and technology industries.

Knowing this, Canada and Mexico seem unruffled by Mr Trump’s latest threats as they go into the second round of NAFTA renegotiations on September 1st. Earlier ones prompted panicky phone calls from...

Market concentration can benefit consumers, but needs scrutiny

Thu, 08/31/2017 - 14:51

WHEN Amazon announced in June that it would buy Whole Foods, an upmarket grocer, for $13.7bn, other firms shuddered. The spread of Amazonian tentacles is worrying to those wary of concentrated corporate power. But shoppers entering their local Whole Foods these days find oddly low prices alongside the new stacks of Echoes, Amazon’s voice-activated digital helpmate. This raises a question. Is Amazon hellbent on building a world-straddling monopoly, or merely injecting innovation and competition into yet another new market? For antitrust regulators, the welfare of the consumer is the priority. Yet working out how to protect it is harder than ever.

Competitiveness in most industries is a matter of degree. In the idealised marketplace of economics textbooks, the price people pay for goods equals the cost of producing an additional unit. Any higher, the theory goes, a competitor could cut the price a smidgen, sell another unit and profit. Yet outside commodity markets, most firms can...

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