December 12, 2012

Fed Ties Rates to Joblessness, With Target of 6.5%


Chip Somodevilla/Getty Images
Ben Bernanke, chairman of the Fed, said Wednesday that the agency was nearing the limits of its ability to help the unemployed.

WASHINGTONThe Federal Reserve made it plain on Wednesday that job creation had become its primary focus, announcing that it planned to continue suppressing interest rates so long as the unemployment rate remained above 6.5 percent.

It was the first time the nation’s central bank had publicized such a specific economic objective, underscoring the depth of its concern about the persistence of what the Fed chairman, Ben S. Bernanke, called “a waste of human and economic potential.”

To help reduce unemployment, the Fed said it would also continue monthly purchases of $85 billion in Treasury securities and mortgage-backed securities until job market conditions improved, extending a policy announced in September.

But the Fed released new economic projections showing that most of its senior officials did not expect to reach the goal of 6.5 percent unemployment until the end of 2015, raising questions of why it was not moving to expand its economic stimulus campaign.

At a news conference after a two-day meeting of the bank’s top policy committee, Mr. Bernanke suggested that the Fed was approaching the limits of its ability to help the unemployed.

“If we could wave a magic wand and get unemployment down to 5 percent tomorrow, obviously we would do that,” he said when asked if the Fed could do more. “But there are constraints in terms of the dynamics of the economy, in terms of the power of these tools and in terms that we do need to take into account other costs and risks that might be associated with a large expansion of our balance sheet,” referring to the monthly purchases of securities.

The changes announced Wednesday continue a shift that began in September, when the Fed announced that it would buy mortgage bonds until the job market generally improved.

As it did in September, the Fed sought to make clear on Wednesday that it was not responding to new evidence of economic problems, but increasing its efforts to address existing problems that have restrained growth for more than three years.

In focusing on job creation, the Fed is breaking with its long history of treating the inflation rate as the primary focus of a central bank. But the Fed is charged by Congress with both controlling inflation and minimizing unemployment. And over the last year, a group of officials led by Charles L. Evans, president of the Federal Reserve Bank of Chicago, convinced their colleagues that the Fed was falling short on the unemployment front.

The unemployment rate in November was 7.7 percent — it has not been below 6.5 percent since September 2008 — while the rate of inflation in recent months is lower than the 2 percent annual rate that the Fed considers healthiest.

Imagine that inflation was running at 5 percent against our inflation objective of 2 percent,” Mr. Evans said in a September 2011 speech first describing the proposal. “Is there a doubt that any central banker worth their salt would be reacting strongly to fight this high inflation rate? No, there isn’t any doubt. They would be acting as if their hair was on fire. We should be similarly energized about improving conditions in the labor market.”

That argument was easier to win because inflation is under control, and the Fed expects the pace of price increases to remain at or below 2 percent through 2015. But in perhaps the clearest indication of the Fed’s philosophical shift, the Federal Open Market Committee said Wednesday that it would not relent in its focus on unemployment unless the medium-term outlook for inflation rose above 2.5 percent.

The change was supported by 11 of the committee’s 12 members. The only dissent came from Jeffrey M. Lacker, president of the Federal Reserve Bank of Richmond, who has repeatedly called for the Fed to do less. He says he believes the policies are ineffective and could inhibit the central bank’s ability to control inflation.

The Fed has held short-term interest rates near zero since December 2008, and it said in September that it intended to do so until at least mid-2015. The forecast was intended to reduce borrowing costs by persuading investors that interest rates would remain low for longer than they might have expected.

Mr. Bernanke said Wednesday that the shift to economic targets was not significant in the short term because the Fed still expected its goals to be reached no sooner than mid-2015. He said the bank chose 6.5 percent as its target because analyses showed that full-throttle stimulus beyond that level of unemployment could result in higher inflation.

Stock prices jumped after the Fed released its policy statement at midday, then began falling during Mr. Bernanke’s news conference about two hours later as he insisted that the Fed was not significantly increasing its efforts to bolster the economy. The Standard & Poor’s 500-stock index rose 0.04 percent on the day.

Some of Mr. Bernanke’s colleagues, and some outside economists, argue that telling investors how the economic situation must change in order to warrant a shift in policy might be more convincing, and more potent, than publishing an estimated endpoint.

“The accommodation switch has been turned on,” wrote Michael Gapen, senior United States economist at Barclays. He added that the new guidelines “could very well overcome some of the previous confusion surrounding date-based policy rate guidance.”

The Fed’s asset purchases are intended to reinforce the impact of its interest rate policies in a manner akin to removing seats from a game of musical chairs. Would-be investors in Treasuries and mortgage bonds are forced to compete for the remaining supply by accepting lower interest ratesthat is, they are forced to pay up front a larger share of the money they are entitled to receive as the bond matures, lowering costs for borrowers.

The Fed announced in September that it would expand its holdings of mortgage-backed securities by about $40 billion a month. Those purchases joined the bank’s earlier commitment to buy about $45 billion in Treasury securities each month through the end of December, which has now been extended indefinitely. But instead of financing the purchases by selling short-term Treasuries, the Fed will credit banks that sell the bonds with new reserves, essentially creating money, as it now does in purchasing mortgage bonds.

It decided not to increase the scale of purchases, however, in part because it did not want to undermine the private market by soaking up too much of the available supplyone of the constraints Mr. Bernanke mentioned on Wednesday.

The forecasts published Wednesday show that Fed officials expect the economy to expand 2.3 percent to 3 percent in 2013, slightly below the September forecast of 2.5 percent to 3 percent. Fed officials have repeatedly overestimated the health of the economy and the pace of the recovery, and the latest changes, while relatively small, continue that pattern.

The forecasts remain optimistic in at least one respect: they assume that Congress and the White House will reach a deal to avert scheduled tax increases and spending cuts next year. If that does not happen, Fed officials agree that the impact of the bank’s stimulus campaign will be trivial in comparison to the consequences, and the economy will most likely return to recession. 

viernes, diciembre 14, 2012



Global Capital Rules

Dani Rodrik

13 December 2012


CAMBRIDGE – It’s official. The International Monetary Fund has put its stamp of approval on capital controls, thereby legitimizing the use of taxes and other restrictions on cross-border financial flows.
Not long ago, the IMF pushed hard for countriesrich or poor – to open up to foreign finance. Now it has acknowledged the reality that financial globalization can be disruptive – inducing financial crises and economically adverse currency movements.
So here we are with yet another twist in the never-ending saga of our love/hate relationship with capital controls.
Under the classical Gold Standard that prevailed until 1914, free capital mobility had been sacrosanct. But the turbulence of the interwar period convinced manymost famously John Maynard Keynes – that an open capital account is incompatible with macroeconomic stability. The new consensus was reflected in the Bretton Woods agreement of 1944, which enshrined capital controls in the IMF’s Articles of Agreement. As Keynes said at the time, “what used to be heresy is now endorsed as orthodoxy.”
By the late 1980’s, however, policymakers had become re-enamored with capital mobility. The European Union made capital controls illegal in 1992, and the Organization for Economic Cooperation and Development enforced free finance on its new members, paving the way for financial crises in Mexico and South Korea in 1994 and 1997, respectively. The IMF adopted the agenda wholeheartedly, and its leadership sought (unsuccessfully) to amend the Articles of Agreement to give the Fund formal powers over capital-account policies in its member states.
As long as it was developing countries that were whipsawed by global finance, it was fashionable to blame the victim. The IMF and Western economists argued that governments in Mexico, South Korea, Brazil, Turkey, and elsewhere had not adopted the policiesprudential regulations, fiscal restraint, and monetary controlsneeded to take advantage of capital flows and prevent crises. The problem was with domestic policies, not with financial globalization, so the solution lay not in controls on cross-border financial flows, but in domestic reforms.
Once the advanced countries became victims of financial globalization, in 2008, it became harder to sustain this line of argument. It became clearer that the problem lay with instability in the global financial system itself – the bouts of euphoria and bubbles, followed by the sudden stops and sharp reversals that are endemic to unsupervised and unregulated financial markets. The IMF’s recognition that it is appropriate for countries to try to insulate themselves from these patterns is therefore welcome – and comes none too soon.
But we should not exaggerate the extent of the IMF’s change of heart. The Fund still regards free capital mobility as an ideal toward which all countries will eventually converge. This requires only that countries achieve the threshold conditions of adequatefinancial and institutional development.”
The IMF treats capital controls as a last resort, to be deployed under a rather narrow set of circumstanceswhen other macro, financial, or prudential measures fail to stem the tide of inflows, the exchange rate is decidedly overvalued, the economy is overheating, and foreign reserves are already adequate. So, while the Fund lays out an “integrated approach to capital flow liberalization,” and specifies a detailed sequence of reforms, there is nothing remotely comparable on capital controls and how to render them more effective.
This reflects over-optimism on two fronts: first, about how well policy can be fine-tuned to target directly the underlying failures that make global finance unsafe; and, second, about the extent to which convergence in domestic financial regulations will attenuate the need for cross-border management of flows.
The first point can be best seen using an analogy with gun controls. Guns, like capital flows, have their legitimate uses, but they can also produce catastrophic consequences when used accidentally or placed in the wrong hands. The IMF’s reluctant endorsement of capital controls resembles the attitude of gun-control opponents: policymakers should target the harmful behavior rather than bluntly restrict individual freedoms. As America’s gun lobby puts it, “Guns don’t kill people; people kill people.” The implication is that we should punish offenders rather than restrict gun circulation.
Similarly, policymakers should ensure that financial-market participants fully internalize the risks that they assume, rather than tax or restrict certain types of transactions.
But, as Princeton economist Avinash Dixit likes to say, the world is always second-best at best. An approach that presumes that we can identify and directly regulate problematic behavior is unrealistic.
Most societies control guns directly because we cannot monitor and discipline behavior perfectly, and the social costs of failure are high. Similarly, caution dictates direct regulation of cross-border flows. In both cases, regulating or prohibiting certain transactions is a second-best strategy in a world where the ideal may be unattainable.
The second complication is that, rather than converging, domestic models of financial regulation are multiplying, even among advanced countries with well-developed institutions. Along the efficiency frontier of financial regulation, one needs to consider the tradeoff between financial innovation and financial stability. The more of one we want, the less of the other we can have. Some countries will opt for greater stability, imposing tough capital and liquidity requirements on their banks, while others may favor greater innovation and adopt a lighter regulatory touch.
Free capital mobility poses a severe difficulty here. Borrowers and lenders can resort to cross-border financial flows to evade domestic controls and erode the integrity of regulatory standards at home. To prevent such regulatory arbitrage, domestic regulators may be forced to take measures against financial transactions originating from jurisdictions with more lax regulations.
A world in which different sovereigns regulate finance in diverse ways requires traffic rules to manage the intersection of separate national policies. The assumption that all countries will converge on the ideal of free capital mobility diverts us from the hard work of formulating those rules.

Dani Rodrik is Professor of International Political Economy at Harvard University’s Kennedy School of Government and a leading scholar of globalization and economic development. His most recent book is The Globalization Paradox: Democracy and the Future of the World Economy.    
Copyright Project Syndicate -

December 12, 2012 7:10 pm
Asia: Sparring partners
Protests in China against Japan’s attempts to secure a group of islands are taking a toll on both
Chinese demonstrators set fire to a Japanese national flag during a protest over the Diaoyu islands©AFP
Inflamed passions: demonstrators in Wuhan burn a Japanese flag during protests across China over disputed islands in the East China Sea

At first it looked as if the fears of managers at Aeon, the Japanese retail group, might prove unfounded. Early on a Saturday, 3,000 angry protesters appeared outside its Jusco shopping centre in a suburb of the eastern Chinese port city of Qingdao but marched past without testing the lines of police sent by local officials.

The respite was only temporary, says Hiroshi Ono, Aeon’s director of business planning in the city. By late that September morning, an even larger crowd was back to protest against Tokyo’s purchase of a group of disputed islands in the East China Sea. This time protesters surged through the building’s doors and across its more than 60,000 sq m floorspace in a frenzy of smashing and looting. Staff fled and the Chinese store manager escaped with the help of security guards and police.

The scene, echoed that same day at Japanese businesses in the suburb and in a handful of cities across the country, came as a stunning challenge to assumptions that have underpinned business and economic ties between China and Japan. Past diplomatic crises have never provoked public protests of such scale or fury and have had little impact on commerce. When it came to Sino-Japanese ties, Chinese analysts used to say: “Politics are cold, but economics are hot.”

After September 15, which some shocked Japanese executives in Qingdao refer to as “9/15”, it is clear that business is no longer immune to the effects of political tensions. About Y700m in damage was done to the Aeon mall alone and Japan’s government estimates that riots across China in that month may have caused losses of up to Y10bn to Japanese businesses.

Far more costly is the impact of calls for a boycott of Japanese goods, which has dealt a blow to producers of cars and consumer goods – and to their Japanese suppliers of everything from brake pads to engine lubricant.

Sales of Toyota vehicles, for example, were down 49 per cent year-on-year in September. Japanese overall exports to China fell 12 per cent in October from a year earlier to Y948bn, leaving Japan with its biggest seasonally adjusted monthly deficit with its neighbour since records began in 1979. Visits by Chinese tourists – a bulwark of Japan’s tourism industry since last March’s nuclear crisis slid about one-third in October compared with the same month in 2011.

Meanwhile, Japanese companies have been hit by unofficial bans from trade exhibitions, making it harder to reach customers. They have also suffered delayed approvals from Chinese regulators for international mergers.

“In China you have to go through the government for all kinds of things, and that is getting more difficult,” says Takamoto Suzuki, a China expert at Mizuho Research Institute. “Japan and China both recognise that they must get along economically ... but China is a country where politics affect everything.”

The disruption of economic links matters far beyond China and Japan. Together, the world’s second- and third-largest economies account for nearly a fifth of global gross domestic product. Their business sectors have become increasingly integrated links in international supply chains.

For neighbouring nations such as the Philippines, which also has territorial disputes with China, the economic chill is a worrying reminder that their own commercial ties could be at risk.

Nor can investors assume the friction is temporary. While some analysts say China’s new Communist party leadership will probably be keen to ease tensions, Japan’s general election on Sunday is likely to result in a rightward shift and a tougher tone to foreign policy. And many Japanese nationalists are outraged by the now frequent challenging by Chinese state vessels of Tokyo’s control of the waters around the disputed islands, which Tokyo calls the Senkaku and Beijing the Diaoyu. “It looks like the Senkaku problem is going to continue,” Mr Suzuki says.

That is bad news for Japan as it struggles through a double-dip recession that began in the second quarter of this year. Its contracting population means the prospects for domestic market expansion are limited and many policy makers and business leaders pin their hopes for growth on emerging Asia, with China at its head.

Last week, the Asian Development Bank cut its forecast for Japanese growth this year from 2.3 per cent to 1.7 per cent, citing in part the impact of the island dispute on exports to China. Hiromasa Yonekura, chairman of the Keidanren, Japan’s influential business lobby, has called on Tokyo to act to repair ties. He has criticised as “hard to understandTokyo’s official position – that there is no sovereignty dispute over the Senkaku.

. . .

But the dispute has implications for China’s economy as well. The scenes in Qingdao and other cities are prompting some Japanese businesses to rethink China strategy. A Japanese executive in Qingdao, where at least 10 businesses with direct links to Japan were attacked on September 15, says there has been a marked fall in the number of companies visiting the city to pursue potential investments.

More than 22,000 Japanese companies are operating in China and many play an important role in supplying machinery and parts crucial to the success of Chinese export industries. Others increasingly supply China’s growing consumer markets and services such as logistics management.

Rising Chinese labour costs have already prompted many to seek ways to reduce their reliance on the country. In an interview with the Financial Times in October, Carlos Ghosn, chief executive of Nissan, said the carmaker would press ahead with planned Chinese investment but that a protracted breakdown in Sino-Japanese relations could slow expansion.

A retreat by the Japanese would cut exposure to some of the world’s best technology, manufacturing and logistical expertise. Such expertise could be crucial if China is to turn itself into a developed economy.

The Chinese manager of the ransacked Qingdao shopping centre, operated by Aeon in a joint venture Aeon with a Chinese partner, says he has learnt a lot about modern management from the Japanese.

“We need to keep an open attitude to learning advanced things from outside, wherever they come from,” says the manager, who prefers not to be named. “We should especially seek to co-operate with this kind of famous and advanced Japanese company.”

The attack on the Aeon centre also highlights the fact that it was Chinese people who felt the most direct impact of the anti-Japanese riots. It is partly Chinese-owned and its staff are locals. And while Qingdao residents largely echo Beijing’s anger over the island dispute, most deplore the assaults on businesses and say the worst looting was the work of opportunists.

Li Kun, a manager at a Qingdao Nissan dealership whose largest outlet was trashed, says local authorities are paying for repairs but that Beijing should also make up for the more costly losses in sales. “To us, the government didn’t plan properly and didn’t respond properly [to the protests]” Mr Li says.

A manager at another Qingdao Nissan dealership shielded his outlet from protesters with a banner proclaiming Chinese ownership of the islands and backing a “resolute boycott of Japanese goods”.

But plunging sales since have prompted him to seek a new job with a company that sells South Korean and French cars. “My income is down by a half and I have to think about my family,” says the manager. “I’m also worried that this kind of thing could happen again.”

Some in China fail to recognise the consequences for their own nation of disruption of economic ties with Japan, says Jia Qingguo of Peking University.Both sides suffer harm and it is hard to say which side suffers more,” he says. “It may be that the damage to China is greater.”

Still, even the Qingdao Nissan dealership manager says fears of economic losses should not stop patriotic Chinese from using boycotts and other forms of economic pressure to force Japan to back down over a dispute generally seen as a matter of national dignity. Many nurture resentment over Japan’s occupation in the 1930s and 1940s. They say their country is now strong enough to challenge Tokyo over islands they believe were stolen in the 19th century.

Zhou Yongsheng of the China Foreign Affairs University insists Beijing has the upper hand when it comes to the economic consequences of the island tensions. “It’s a big cost to China, but because China’s economic fundamentals are strong and its growth potential is strong, it is a cost that China can absorb,” he says. “Japan cannot absorb the cost.”

. . .

It will be some time before a final bill is calculated, however. Much depends on whether Tokyo and Beijing can find a way to put the island dispute aside. There are encouraging signs: last month they agreed with South Korea to launch formal talks on a three-way trade agreement. And Chinese authorities have kept a lid on public anti-Japanese protest since the riots.

Japanese companies that do not sell products directly to consumers report that boycott calls have had little impact on their business with the Chinese. Even some of those most af­fected by the protests remain upbeat.

Qingdao’s Aeon shopping centre reopened last month, and is full of shoppers slurping noodles in the food court and browsing fashion outlets. Some shareholders express concern about the risks of new investment, Mr Ono says, but Aeon still plans to add to its 50 shopping centres and supermarkets in China and Hong Kong. “We are looking at a pace of about 10 stores a year,” he says.

There is also a tentative revival in Japanese car sales, suggesting patriotic sentiment and fears Japanese products will make their owners a target, may be fading. “If Japanese products are cheap and good, then people will buy them,” says Mr Jia. “Things won’t go back completely to how they were before, but after a while the effect will lessen considerably.”

Still, with no solution to the Senkaku dispute in sight, there is little doubt that the Sino-Japanese economic relationship will remain vulnerable to diplomatic flare-ups.

At the Blue Island department store in eastern Beijing, a shop assistant selling televisions says sales of Toshiba and Sony, the Japanese brands, were still down by about half two months after protests.

Customers start looking at the Sonys, then come over to the Philips,” the assistant says. “They know that Philips is Dutch and that China doesn’t have any territorial issues with the Netherlands.”

Copyright The Financial Times Limited 2012.