On Good Coffee, Jazz, and Economic Data

Let us discuss those things this Cafe loves to talk about.

First, coffee. Finally New York City took their coffee seriously. This is actually a problem for almost all of American cities, that is, low per capita good coffee places. Come on, if you think Illy is the best coffee you can get, then you're in a serious need for better taste caffeine.

Unlike their counterparts in Europe, America needs much more good coffee -- and bread, I must add.

Second, jazz. Brad Mehldau is about to issue a new album, Highway Rider (HT: Sisil). It looks promising and you can listen to some of the sample here. Mr. Mehldau is one of Cafe Salemba's favorites for contemporary jazz --along with Joshua Redman and Branford Marsalis, to mention some. Of course we also listen to Vampire Weekend and Arctic Monkey, while on Lady Gaga, there's been a wide disagreement amongst us.

In this new album, apparently Mr. Mehldau is back to his old style as in Largo album. He seems indeed really good in expressing the melancholy of journey in life.

Third, economic data. Google launched visualization of the World Development Indicators subset (HT: Tyler Cowen). Any serious development economist must have been familiar with this data set at one point or another. The visualization is fun too. You can now see how good (or bad) Indonesia is, relative to other countries, using a real data --not an appeal to emotion.

When Wen Sneezes

Not so long ago, you may recall, when Alan Greenspan sneezes, the world catches cold.

Last Friday, when Wen Jiabao sneezes, I wonder, who catches cold?

Coffee Article of the Day

As your barista, I have tried to provide some timely, popular, yet pretty sensible articles that may help you to get some ideas on what is going on in now troubling US financial market --so that you have some good starts at any cocktail conversation. As interesting as they may look, those are media report or blog's posting. For education purpose (hell, yeah), you need to consult peer-reviewed journal article, that usually takes more time to publish.

As the time goes, now some articles are there. I found one by Brunnermeier of Princeton, in JEP (forthcoming). Don't yawn. Contrary to what you usually get in an economic journal (those Greek alphabets, in case you are not familiar with econ journals), this one is highly readable.

(HT: Håring and Storbeck)

The US Stabilization Policy Proposal

As read in In An Uncertain World by Robert Rubin, in the Asia crisis chapter, Larry Summers was there to push stabilization policy. He even flew to Jakarta, talked to Soeharto, and, despite his credential, was left speechless against that old man.

Now, as the US economic crisis seems more and more resemble the Asia crisis ten years ago, I can't help to think why they are not confident to adopt similar policy for fiscal conservatism, more market based reform, and good governance. If it works for us, it likely would work for them, too.

And it did and does work for us.

How Much Is An Un-shameful Bonus?

So Obama was furious with 18.4 bn dollar bonuses for Wall Street executives and people quickly join the fray and share the rage.

But, first off, we need to get it, at least conceptually, right on how labor (executive included) should be paid. Economics tells one needs be paid according to their marginal productivity --how much additional value of product one creates once he/she is joining production process. But this is technically difficult. In a joint production, can you really separate the marginal product of your labor and marginal product of, say, the computer that you use?

Thus the best way would be to look at the opportunity cost of hiring you --how much employer are actually willing to pay you, after considering any other best alternative in a competitive market. In other words, the market price. You may enter efficiency wage argument to adjust for some market imperfection, but the bottom line is that market will tell how much you are worth.

Now, enter the government with their bailout plan.

Among other things, what the government does obscures real value of hiring you because some of your marginal product is now provided by the government. Since the government help your company, you seem not as worthless as you actually are --you screw up thing, but somehow the government help you along the way by making your company doesn't go out of business. If the government don't bail your company out, your overspending firms would go bust, and the only way to stay afloat is then to keep your bonuses in check.

But as the government decided to step in, the market is distorted and you are overpaid. This is very much predictable trade off of any government bailout. You give up the ability of market in allocating resources for another objective --like saving the whole financial system.

Whether it is a fair trade is another story. The government -- as now major shareholder of US banking system -- has all the reasons and rights to complain, nonetheless it is surprising that the administration seems not prepared for this consequence of their very own action.

Or maybe it is just a political statement that has to be judged based on its own term. I don't know.

The AIG Saga

If even after that hangover from the New Year's Eve party receded, you still find yourself not knowing what to do to spend the rest of the holidays, I'd like to offer you a small healthy dose of reading that will not ruin your joyful feeling.

From the last year's one of the biggest financial fiasco, a trilogy of AIG's (and American taxpayers') journey to hell (The Beautiful Machine, A Crack in The System, and Downgrades and Downfall), from The Washington Post.

It's a wonderful journalistic work (based on, I guess, mostly interviews and legal documents) that introduces you to the state of the art --well, before the crash obviously--, of some arcane financial securities, the rise of quants and risk modeling, and money - helluva lot of money.

It's also a great story line for a movie, I believe, in which I already imagine Jack Nicholson, Sean Penn, Philip Seymour Hoffman, and Michael Douglas to star. But I still can't figure out who should play Alan Greenspan.

Don Paulson Way

Michael Corleone in the classic Godfather once said:

I'll make him an offer he can't refuse. You see, Johnny, we feel that entertainment is going to be a big factor in drawing gamblers into the casinos.

Last Monday, I can imagine Treasury Secretary told the nine US largest bank's executives:

I'll make you an offer you can't refuse. You see, folks, we feel that banking is going to be a big factor in drawing the economy out of the depression.

By that, the US effectively partially nationalize their banking system. How cool (and scary) it is.

But how can he make sure that they will lend the capital they just got? Another mafia-way?

What A Monday

Another negative news from here, DJIA was closed at slightly below psychological benchmark of 10K, dropped by 369 points low -a recovery from 700 point low at around 2.45 pm. The future is also negative as reported by Financial Times:

The Chicago Board Options Exchange Volatility index, known as Wall Street’s “fear gauge”, surged 18.7 per cent to 53.60, above 50 for the first time in its 18-year history.

In Indonesia, the same paper reads:

The decline in commodity prices took its toll particularly in Indonesia, where the composite index finished 10.03 percent lower at 1,648.74 points, its biggest one day percentage fall since October 2002 after bomb blasts hit Bali, killing more than 200 people. PT Bumi Resources, coal producer, slid 32 per cent to 2,175 rupiah and PT Astra Agro Lestari, a plantation company, lost 23 per cent to 10,000 rupiah.

I think this is probably the end of the commodity boom and easy money from international market.

NKOTB or Sarah Palin?

This morning, on the metro, I read this line from a column in the Express, the commuter's free paper.

Had I known that VP debate would be tonight and that Sarah Palin would be the Republican candidate, I would have told my girl, "Hell, no, I'm not goin to no NKOTB concert on the night of this historical debate!"

--(a blogger who) attended NKOTB concert Thursday night, after buying tickets a couple months ago

I could not help but grinning.

Barking Up The Wrong Tree

It was not just until two days ago that I realized here the laymen's opposition to the bailout, that was quickly taken up by politicians in the House to vote down the plan, was based on serious flaw: they think that the bailout is all about giving the taxpayer money to the undeserved Wall Street, the crooks who had just messed the things up.

You may agree or disagree with the plan, but I think it is imperative to at least understand that this is about how to deal with credit market, the heart of the economy that keeps its lifeblood flowing, that doesn't work. One lesson from the 1930 Great Depression and 1998 Asian Crisis is that the failure to do so will bring a prolonged credit crunch and output contraction. It could become indeed very nasty.

Unlike our fellow laymen, when economists disagree on that plan, they generally fall into three positions. First, the bailout lacks of convincing economics argument and detail to credibly support its claim to deal with the severely depressed credit market --and you can use different institutional setting. Or, second, they think that even without bailout, albeit painful, the current credit market will be able to recover by itself without plunging into the economic armageddon, the great depression. Or, third, the benefit of bailout doesn't add up with the cost, including the problem of (future) moral hazard.

To get you informed to the pro-bailout standpoint, these leader column and briefing from The Economist may help. Also apparently David Leonhardt has been trying to educate The Times' readers in his column here.

Uh Oh

It was the Black Monday of 2008, as the House of Representative rejected (no kidding)the bailout plan.

Along with the flip-flops of this kind of politicial drama, enter the episode of uncertainties. No good.

Will the capital flight follow?

Wall Street (Not So Much) Update

The US economy crisis is now getting more dramatic as the politicians in Congress enter the stage. The market is still very fragile as the stock index went roller-coaster, while some economists in the field start to develop the alternative of the Paulson plan --which is somewhat too late at this stage, I believe.

I am diligently taking note particularly on how they'll get rid of toxic assets and at what price they're gonna buy them --and what's the impact to their macro economic variables in the near future . This episode is too important to be skipped. So far nobody has yet talked about, probably, the most interesting part of the suspense, namely, the unregulated very very big credit default swap market.

And if you asked me what's the impact to Indonesian economy, I'd say that I don't even know what's gonna happen to the US economy, let alone to Indonesia.

Stay tuned.

Alternative to (Mis) Using the Taxpayer Money

So the US government planned to launch probably the most expensive bailout ever by buying up the distressed mortgage to rescue the economy.

But Luigi Zingales of Chicago has different idea:

As during the Great Depression and in many debt restructurings, it makes sense in the current contingency to mandate a partial debt forgiveness or a debt-for-equity swap in the financial sector. It has the benefit of being a well-tested strategy in the private sector and it leaves the taxpayers out of the picture. But if it is so simple, why no expert has mentioned it?

The major players in the financial sector do not like it. It is much more appealing for the financial industry to be bailed out at taxpayers’ expense than to bear their share of pain. Forcing a debt-for-equity swap or a debt forgiveness would be no greater a violation of private property rights than a massive bailout, but it faces much stronger political opposition.

I think it's a worth-to-consider proposal to save capitalism and prevent the US to become the USSRA.

HT: Marginal Revolution

Freakonomics Digest The Current Turmoil

If you want to grasp some good ideas on what is happening in Wall Street these days in common laymen lingo, Freakonomics guest bloggers Doug Diamond and Anil Kashyap have an excellent piece here.

While waiting for a more elaborated academic working papers or journal articles --that might take months or years -- on this fascinating period, this writing should rightaway go to the FEUI's syllabus for Monetary/Banking/Financial Institutions courses.

And to the national press corps too.

And The Panic (may) Begin

Things are getting tensed here as the panic starts to unfold. Today, despite 85 billion USD of the US government bailout to AIG (that's around 10 percent of Indonesian GDP at purchasing power parity), the Dow Jones Index fell by 449 points. All the big names in financial world seem in trouble. The share price of Citi and Goldman Sachs were deeply down, Morgan Stanley is in a very big mess, and possibly would follow Lehman's or Merrill Lynch's suit. The more local-based institutions like Washington Mutual and Wachovia share the same critical situation.

I have been talking to several economists here, and yet, it seems that nobody really knows what the heck is really going on in Wall Street now. Not enough information to feel either optimistic or pessimistic, which is the least kind of situation that you want to have.

Let's see tomorrow. Good night and good luck.

Update: Just read today's Kompas headline online, in the second line of the first lead paragraph, the daily said:

Lehman Brothers went bankrupt due to the carelessness of the CEO Richard Fuld, who is dubbed as "the gorilla".

Umm, err... well, maybe (scratching my head). But what does it precisely mean? The rest of the article doesn't help me to understand this gorilla's fault, too.

Update 2, I've just learned from The Economist's Free-Exchange that AIG bailout might affect Manchester United too. They have to change the new logo (now the US Dept of Treasury) on their official jersey.

Wall Street Gone Wild

When I wrote the previous posting, I never thought that Lehman would file for bankruptcy and Merrill Lynch was sold. The financial market was bad, but I never expect those giants to go under --at least, not that quick. But in the last two days, we've seen the Wall Street gone wild.

Which brings me to a question: does the series of the US government bailouts work at all? We know ex post that the bailouts to Bear Stearns and Freddie Mac and Fannie Mae do not prevent the adverse effect of the subprime mortgage fiasco to the whole structure of financial market as seen from the fall of Lehman and Merrill. But do we know ex ante that should the government not bail them out at that time, things would get better?

The two presidential candidates here, being a politician, are quick to blame and ask for more regulations on the market. But I think the best regulation, as unfortunate as it may sound, is to let the market send companies, even as big as Lehman, to bankruptcy if it's deemed necessary. At the moment, market painfully learns that nothing is too big to be failed --which is a very good lesson, by the way --so next time they themselves need to ensure that everything is in check, even without regulatory bodies that at times were simply dysfunctional and full of political clouts.

Yet it seems that the US government, perhaps after observing 500 points Dow Jones Index drop in as single day without any improving sentiment at sight, may have different idea. The latest news tells that for the time being the Fed asked Goldman Sachs and JP Morgan Chase to help AIG, the deep-troubling big insurance company in the country.

Stay tuned.

A Kind of Déjà vu --In a Reversed Course

Prior the 1998 Asia financial crisis, money flew in from the US and any other developed countries to then the rosy Asian capital market. Then when it turned out that the Asian economies did not live up to expectation, --and fueled by god-knows a sudden lost of confidence--, the investors frantically pulled out the money. Asia went to a devastating crisis.

Now ten years later, the US government bailed out and took over Freddie Mac and Fannie Mae. Of course they did it to prevent the collapse of their huge domestic housing market, as well as their financial market related to it. But so much for the problem they may face, it doesn't justify the radical step for a take-over. The government can just provide more channels to capital without effectively nationalizing the agencies. Arguably, there might be something bigger than that.

And that is the Chinese Central Bank --along with other Asian counterparts-- factor. As the Chinese has been investing 340 billion USD to the agencies' perceived as risk-free government backed securities, any slight doubt against the US government and its economy to live up to expectation would lead them to move the money out of the country. And that would be catastrophic, even to the US economy, since the very large chunk of capital inflow to US comes from the Chinese and petrodollar countries.

Washington clearly understands that the Uncle Sam can not afford to have those capital fled and suffer the way Asian countries did ten years ago, so they stepped in to restore the market confidence.

To make a stronger case on how much now Asian money is being important force in the US economy, let us look at the latest crisis in the Lehman Brothers. The free fall of Lehman's share price in the last two days was mainly due the fact that they can not close the deal with the Korean Development Bank to provide the much needed capital.

Of all countries, it's Korea, the country that went deep under ten years ago as the US investors, perhaps including Lehman, pulled the capital out of the country, that their refusal put Lehman, a very mighty financial firm of the world, on the brink of collapse --and perhaps the whole US financial market, too.

Now you see, this becomes very interesting. Stay tuned on this dangerously alarming period for the US economy and financial market and how the US government may, or may not, manage to get out of troubles.

And the US now is Keynesian

Something odd is going on here in the US. As you know, the country suffers from the excessive borrowing and lending, on sub-prime mortgage, the bubble went bust and seemingly dragged the economy down to recession.

I feel a kind of dejavu. Apparently the US does not learn the very same lesson from the series of Asia and Latin America crisis. And even more surprising, US administration took different set of policies than what they had suggested to the rest of the world on how to overcome recession, that is, tighter monetary and fiscal policies.

Instead they go for relaxing policies and launch an aggressive economic stimulus plan. In this package, the Fed cut of key interest rate (monetary) and tax rebate plan (fiscal).

Whether you agree with this Keynesian counter-cyclical policy or not is a matter of not only empirical, but also difference in school of thought. Some argue that economy needs a bail out (from government) to get out from the mess, the others prefer to let the (market) economy pays for its mistake.

The debate aside, apart from the positive response from stock market index, we do not know yet the impact of such stimulus scheme on output. Nevertheless as Krugman, Hausmann, and Landsburg point out, the tax rebate plan is likely doomed to failure by design. The bulk of rebate would go to relatively financially OK household, so it would not be spent, hence little multiplier effect (Krugman); or it is less likely to put American into work, and enhance domestic investment (Hausmann and Landsburg).

If US economy were truly resilient, dynamic, and strong --as many of us would like to believe--, I think it's time for them to be tough in this difficult time, the way we, East Asians, stood up and recovered, following their very own prescription.

Ben, The Decider

I like this Godfather-like picture of Ben Bernanke in the front cover of this week's New York Times Magazine. So cool, as if the whole US economy depends on his words.

The article is also very educating. It gives you a glimpse on how a central banker has to deal with unemployment-inflation tradeoff, and beat the market expectation. Hopefully, amidst the now enormous pressure from US public and media, he would not get mental breakdown like Britney Spears --a very sorry of her.

Holiday's Coming

And it's time to look more closely into, well, sub prime mortgage crisis. Especially when Larry Summers (in pdf, but short) said that even with recent bail-out policy measures, up to one million foreclosures are expected to come in the next two years. 

That's a lot. 

Ben Bernanke also gave his insight. If you're the one to decide, would it be a bail out, or not?