Friday, October 31, 2008

Kuwaiti bank ratings shifting to negative

The fundamental credit outlook for the Kuwaiti banking system is stable to negative. This reflects, on the one hand, the still good operating environment and the sector's good financial fundamentals, but on the other hand, Kuwaiti banks' high exposure to the weakening domestic real estate market, some earnings quality concerns, the banks' indirect exposure to local equity markets and tightening conditions on international credit markets, says Moody's Investors Service in its new Banking System Outlook for Kuwait.
"On the one hand, we recognise that the correction in residential real estate prices during 2008 has yet to translate into any evident deterioration in the quality of Kuwaiti banks' loan portfolios. However, if market pressures were to persist, non-performing loans would likely start to rise from their still low levels. Bank lending is over-collateralised but this is not in itself sufficient to provide adequate comfort in the event of protracted market weakness. In addition, foreclosure procedures remain largely untested," says Mr Kyriakides.

Most Kuwaiti banks still have modest risk profiles, in Moody's view, as they tend to offer relatively plain vanilla products, while open positions in different currencies or direct exposures to market risk are limited as a result of the central bank's instructions.

Is this any way to open a mall?

The Nation, out of Abu Dhabi, has very thorough report of the last minute (literally) delay in the opening of Dubai Mall. Gulf News, out of Dubai, has a terse story along with another on the same date headlined Dubai Mall is Finally Here. And another titled Traffic chaos in run-up to opening of Dubai Mall.

Dubai debt roundup

1. The National
The Government’s aim was for the sector to account for a quarter of gross domestic product by 2010.

Achieving that, however, depends on a continuing inflow of people to occupy the properties being built. So far, immigration has delivered. The UAE’s population has been growing about six per cent a year, and is on track to rise from 4.5 million last year to more than five million by the end of next year, according to the Ministry of Economy.

This summer, the ratings agency Fitch warned that the economy was vulnerable to any decline in immigration, a concern echoed by its peers. “Domestic demand for property is insufficient,” said Farouk Soussa, director of sovereign ratings at Standard & Poor’s in London. Without demand from abroad, he said, “we would see a strong ­correction in housing prices”.

The trouble is that construction to accommodate this influx has been financed by borrowed money. Lots of it. Dubai’s debts now exceed the size of its economy, according to Moody’s Investors Service. “Lots of Dubai’s construction boom was financed with borrowed money,” said Brad Setser, an economist at the Council on Foreign Relations in New York. “I suspect credit growth will be more constrained, which may cause a host of knock-on problems.”

The International Monetary Fund says Dubai is in no danger, but concerns among investors have sent the cost of insuring the debt of Dubai-backed companies up four-fold since May.
2. Gulf Daily News
Standard & Poor's Ratings Services has revised its outlooks on six banks in the Gulf to stable from positive.

At the same time, it affirmed its long- and short-term counterparty credit ratings and various debt ratings on these banks.

"The banks we took the rating actions on are Emirates Bank International, National Bank of Dubai, Kuwait Finance House, Burgan Bank, Bank Muscat and BMI Bank," the agency said.

"The outlook revisions mainly reflect the less supportive environment in which these banks operate," said Standard Poor's credit analyst Emmanuel Volland.
3. Gulf News
Dubai World chairman Sultan Ahmad Bin Sulayem said the group has not cancelled any project because of the current market troubles.

"We as a company have not cancelled any project," Bin Sulayem said at a bankers' lunch organised by Emirates NBD bank. About the local property sector, he does not see a general fall in prices and expects demand for real estate to continue outstripping supply.

Thursday, October 30, 2008


Financial Times gets a letter:

Sir, Roula Khalaf, in her review of Christopher Davidson’s The Vulnerability of Success, cites the author as pointing out that a road linking Abu Dhabi and Dubai was not built until the mid-1990s (“Glitzy Dubai has a darker side”, October 20).

I drove a Pontiac Firebird from Amman in Jordan to Dubai via Abu Dhabi 20 years earlier, in 1976. There was a reasonable road all the way, with the exception of a stretch between the Qatar and Abu Dhabi borders which was unpaved desert. But the excellent dual carriageway between Abu Dhabi and Dubai was by far the best paved road of the whole journey.

It is surprising that Mr Davidson, as a “rare expert on the UAE”, and your Middle East editor should both make such a simple and checkable factual error.

R.C.F. Martin,
Tonbridge, Kent, UK

Having read it, I can attest there is much more in Davidson's book although much would be difficult to confirm since it relies on personal interviews and correspondence with unnamed sources. Nor is there any general discussion of these sources and interviews.

The nature of the road linking Abu Dhabi and Dubai keeps coming up in criticism of the book. Davidson got that wrong, and it is a fairly straightforward fact to check. Abu Dhabi and Dubai were more developed and more connected than that misstatement of fact would suggest. Still, I can only say one has to read the book in its entirety and make a personal assessment of its credibility. Whether I would cite it as a reference on facts that I could not otherwise corroborate is another matter.


IEA long term oil market forecast due mid November

The International Energy Agency releases World Energy Outlook 2008 on November 12. The Financial Times yesterday published two articles based on a draft version of the outlook and the IEA says, appear "to be based on an early version of a draft from several months ago that was subsequently revised and updated."

The FT wrote, "Output from the world’s oilfields is declining faster than previously thought, the first authoritative public study of the biggest fields shows. Without extra investment to raise production, the natural annual rate of output decline is 9.1 per cent." has more.


Wednesday, October 29, 2008

Can the Federal Reserve prick bubbles?

Tyler Cowen wonders.

I'm dreaming dreams,
I'm scheming schemes,
I'm building castles high.
They're born anew,
Their days are few,
Just like a sweet butterfly.
And as the daylight is dawning,
They come again in the morning.

I'm forever blowing bubbles,
Pretty bubbles in the air.
They fly so high,
Nearly reach the sky,
Then like my dreams,
They fade and die.
Fortune's always hiding,
I've looked everywhere,
I'm forever blowing bubbles,
Pretty bubbles in the air.

Tuesday, October 28, 2008

Dubai real estate: mixed messages

WSJ Blog:
A six-year real estate boom in Dubai that spurred a $475 billion building frenzy has ended, according to agents who say sales are collapsing amid fears that the global economic downturn will hit the sheikdom.
“Our commissions have fallen by up to 70% recently,” said Khaled Daji, an agent at Al Jabal Real Estate. “The most hit are the projects under development and those luxurious high end. We plan to survive for another six months to see how this crisis unfolds.”

But the city’s biggest developers like Emaar Properties PJSC and Nakheel are adamant that sales remain robust. Mohammed Alabbar, Emaar’s chairman and one of the architects of Dubai’s real estate boom, said in the company’s third-quarter statement that “we are very confident of our company’s fundamentals and future growth.”

That hasn’t stopped investors dropping the company’s shares.


UAE's National Media Council

Christopher Davidson and Peter Hellyer join in some point, counterpoint.

Davidson's next book on the UAE is Abu Dhabi: Oil and Beyond. That will make three overlapping books. The other two are Dubai: Vulnerability of Success (Columbia University Press, 2008) and The United Arab Emirates: A Study in Survival (Lynne Rienner Press, 2005).


Brother replaces brother at Gulf Bank

Moody’s warned it could downgrade the bank, the country’s second biggest lender.

Kutayba Al Ghanim replaced his brother Bassam Al Ghanim as chairman of Gulf Bank after depositors on Monday started to withdraw deposits from the stricken bank. It was the first known bank run in the region during the crisis and came despite the Kuwaiti central bank’s pledge to support the bank and guarantee all bank deposits in the country.
Abu Dhabi Commercial Bank in the United Arab Emirates and Gulf International Bank and Arab Banking Corporation in Bahrain last year reported writedowns on US investments.

Few other institutions have admitted to subprime losses, but many have started to take mark-to-market losses on investment portfolios due to plunging regional and international equities. The MSCI Gulf index has lost nearly half its value this year.
CPIFinancial has more on the possible downgrade:
Moody's says the losses sustained by the bank appear to have involved complex instruments. The agency said, “This therefore raises questions as to whether the underlying risks assumed by customers, and by extension by the bank, were properly identified and managed.”

The bank's announcement of the unexpected losses resulted in a run on customer deposits, which prompted the Kuwaiti authorities to guarantee deposits not only in Gulf Bank but in all of the country's banks.

Although the run appears to have been modest in absolute figures, Moody's notes that it represented a flight of retail customer funds that could have a longer-term impact on the bank's business franchise.

Monday, October 27, 2008

WSJ: Gulf economies' positives in current turmoil

any assessment of their future should take into account the region's achievements in the past five years of plenty -- not least a forecast $150 billion in budget surpluses for 2008.
unless oil does fall below $30 a barrel, the International Monetary Fund reckons most Gulf states can comfortably balance their budgets because they've marshaled their finances better than in previous booms. Another sign of that is the estimated nearly $2 trillion in assets that the Gulf's sovereign wealth funds have under management. The Gulf states are also running more diversified economies thanks to the partial opening up of financial markets and encouraging foreign investment in property and utilities, though much activity remains in state hands.
The Gulf's dollar currency pegs appeared a big handicap only a few months ago.

Now they seem like an advantage as the dollar surges against major currencies and makes up for some of the sudden drop in oil prices and takes the heat out of domestic inflation just as local demand eases.

Goldman Sachs visits Emirates Economist

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Grape Shisha

Unbeknownest to me, Grape Shisha has been back for several months giving blog "commentary of the changing face of the United Arab Emirates." Check it out. I've added Grape Shisha back to my blogroll.


Rodrik says now is the time for naked self-interest

Dani Rodrik:
Emerging markets have every right to say that they are being swept under by a crisis that is not their own doing. But the real reason the rest of the world needs to move on this front is naked self-interest. Combine a deep recession in the advanced countries with an uncontrolled depreciation of emerging-market currencies, and the pressure to erect trade barriers in the U.S. and Europe will be impossible to withstand. A vicious cycle of unemployment and protectionism feeding on each other a la 1930s could transform the deep recession everyone is already expecting into a second great depression. It can get worse.
Regarding great depressions Greg Mankiw writes, "We have indeed learned a lot over the last 80 years. But you should take that economic forecast, like all others, with more than a single grain of salt."

And, the question must be broached: Did the author of Ben Bernanke's ESSAYS ON THE GREAT DEPRESSION engineer the current market turmoil?

Sunday, October 26, 2008

Kuwait saves bank

FT: "The Kuwait central bank stepped in to support Gulf Bank, which was hit by losses from trading in currency derivatives after the dollar rose, prompting the government to announce it would guarantee local bank deposits."

The dollar has risen.

Wall Street Journal:
The Kuwait intervention is the first bank rescue in the oil-rich Gulf, which until now had seemed relatively immune to the current crisis. It came as local markets across the region continued their steep selloffs. With oil prices down more than 50% from their July highs, the explosive, petroleum-fueled growth of the Gulf now looks suddenly vulnerable at the same time as international and local investors are pulling back sharply.

Kuwaiti investors follow the indicator boards showing the downturn of shares prices at Kuwait Stock Exchange on Sunday.

...And in Dubai, real-estate brokers in the Mideast boomtown said they are seeing signs of price weakness for the first time in years, as financing dries up and speculators bow out of the once red-hot market.... A significant property-market correction in Dubai could crimp government finances, slowing or halting the debt-fueled economic expansion.
"Given the overriding paternalism of the public sector, it seems unlikely that governments are yet ready to tolerate high-profile bankruptcies or defaults," says Tristan Cooper, vice president for Moody's Investor Services in Dubai.
The sudden softening could be an early warning of deeper problems for Dubai, which has fueled its recent supercharged growth through debt. Amid today's financial crisis, overseas borrowing and refinancing are much more difficult, raising questions about Dubai's ability to pay back its loans.

Government and private corporations here have invested heavily in the property sector. Fitch Ratings estimates that government-owned or partially government-owned developers control some 50% of new property development due to hit the market in coming years. Meanwhile, banks, many of them partly government-owned themselves, have been lending heavily to developers and investors.

If home prices here tumble, that would further strain revenue and finances for a handful of government-controlled entities increasingly reliant on hard-to-come-by overseas borrowing.
Analysts have been forecasting a downturn in prices for months. Earlier this month, property consulting firm Colliers International said Dubai property prices rose 16% in the second quarter. That was much slower than the 42% price rise in the first quarter. Regional bank EFG-Hermes said last month that it expects prices to peak next year and fall -- as much as a cumulative 20% -- by 2011.

Bashar Al Natoor, a Fitch analyst in Dubai, warned in a report in July that the fresh supply of new property may exceed demand and weigh on the market starting in 2009. Now, he says, the ramifications of the global financial crisis are also likely to take a toll, as would-be buyers scramble for financing.
"Nobody wants to buy," says Lillian Gold, a property consultant at Blue Horizon Real Estate in Dubai. "Everyone wants to sell."

Saturday, October 25, 2008

Dubai bye-bye?

Dubai is no longer the haven investment bankers thought it would be. When heads started to roll last year in New York and London, the joke was: “Shanghai, Mumbai, Dubai or bye-bye.” Not any more. Now, bloated investment banking teams sitting in some of the world’s most expensive office space look ripe for downsizing.

In the last few years, Western banks have rushed to cash in on the oil-fed boom around the Persian Gulf. Dubai’s tax-free status and relaxed interpretation of Islamic norms made it a natural destination for banks looking to set up regional headquarters. Banks including Morgan Stanley and Citigroup expanded rapidly.

Yet the huge fees have not materialized quite as expected.
Bankers in the United States and Britain hoping to relocate to the gulf are left with little to be optimistic about. Their peers ensconced in deluxe offices in the Dubai International Financial Center are already feeling nervous and vulnerable. For them, the new saying might just be “Dubai bye-bye.”

Speculators bet oil price will fall

``It certainly seems to me that we could get down to $50 a barrel,'' Adam Sieminski, Deutsche Bank's chief energy economist, said in a Bloomberg Radio interview today. ``You could look at the OPEC cut as a sign of weakness, not strength.''

The cost of the option jumped on speculation that an output cut announced today by the Organization of Petroleum Exporting Countries, which supplies about 40 percent of the world's oil, won't be enough to stem plunging prices.
economix explains the classic theory behind why it is difficult to collude to hold down production.

Net Oil Exports produces this telling chart. Discussion here.


Friday, October 24, 2008

She wants to grab your private pension...

... if you live in Argentina.

She is Argentine President Cristina Kirchner:
Hemmed in by the global financial squeeze and commodities slump, Argentina's leftist government has seemingly found a novel way to find the money to stay afloat: cracking open the piggybank of the nation's private pension system.
Having stiffed creditors as recently as 2001, it has few prospects of returning to international lending markets soon. Economists who were critical of the nationalization proposal said it reinforced Argentina's image as a renegade in financial circles.

The private pension system was created as an alternative to state pension funds in 1994, when conservative President Carlos Saúl Menem ran Argentina and free-market policies were in vogue in Latin America.
Read more here.

Wednesday, October 22, 2008

Bank failures following oil busts: Will history repeat?

Oil fell to $70 per barrel today further suggesting the oil price boom is over. In that context, consider this quote from 2006,
"The worry is about unsophisticated players entering the [financial] market and destroying its reputation," says Mr Abdulmalik of Arcapita, whose shareholders are Saudi, Kuwait and Qatari businessmen. Only one of eight or 10 banks established [in the Gulf] during the early 1980s oil boom has survived, he notes.
My emphasis on "established."

More from the same article from the Financial Times dated October 19, 2006:
In the private sector, bankers say that a new generation of better-educated professionals has become more reluctant to hand over earnings to foreign banks and is looking to invest it itself. "In the past they would just give the money and put it in the US. Now they want to do their own deals or they want deals that bring strategic benefit to them," says one banker.

In Saudi Arabia, the recent creation of the Capital Markets Authority opened up a new opportunity to set up non-commercial banking institutions and led to a flood of applications for brokerage, asset management and investment firms.

"The critical factor was also IPOs [initial public offerings] which started people thinking that there's an exit strategy," says Brad Bourland, chief economist for the Riyadh-based Samba, a leading local bank. "Several private equity firms were started and have attracted investors."

Economists are celebrating the expansion of the financial industry. But some bankers warn of the risks in the rapid proliferation of investment companies in what are still underdeveloped markets.

Adam Smith (the Institute) says not to worry

The Adam Smith blog points to an item that suggests the financial meltdown isn't such a big deal, and that societies that encourage risk taking follow faster growth paths.

Romain Rancière, Aaron Tornell and Frank Westermann

How big is the current US bailout? The $700 billion bailout bill is equivalent to 5% of GDP. Adding to it the cost of other rescues – Bear Stearns, Freddie Mac and Fannie Mae, AIG – the total bailout costs could go up to $1,400 billion, which is around 10% of GDP. In contrast,

  • Mexico incurred bailout costs of 18% of GDP following the 1994 Tequila crisis.
  • In the aftermath of the 1997-98 Asian crisis, the bailout price tag was 18% of GDP in Thailand and a whopping 27% in South Korea.
  • Somewhat lower costs, although of the same order of magnitude, were incurred by Scandinavian countries in the banking crises of the late 1980s. 11% in Finland (1991), 8% in Norway (1987), and 4% in Sweden (1990).
The bailout costs that the taxpayers are facing today can be seen as an ex post payback for years of easy access to finance in the US economy. The implicit bailout guarantees against systemic crises have supported a high growth path for the economy – albeit a risky one. In effect, the guarantees act as an investment subsidy that leads investors to (1) lend more and (2) at cheaper interest rates. This results in greater investment and growth in financially constrained sectors – such as housing, small businesses, internet infrastructure, and so on. Investors are willing to do so because they know that if a systemic crisis were to take place, the government will make sure they get repaid (at least partially).
I add: How do investors know "the government will make sure the get repaid"? Because ex ante the costs of not doing so fall on the voters who elect the government.

Lehman Brothers visits the Emirates Economist

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Does Wall Street's bust threaten Dubai's boom?

Dubai and its real estate market are vulnerable to an international economic downturn, especially compared with many of its Gulf neighbors. As the region's premier business, transportation and tourism hub, it is by definition more entwined with the global economy. And in tight times, Dubai lacks the windfall oil profits that have enabled sister emirate Abu Dhabi, for example, to amass a financial cushion in sovereign wealth funds totaling hundreds of billions of dollars.

But Dubai's biggest risk is its daring reliance on debt to drive its breathtaking building boom. Last week, Moody's estimated that in 2006, the most recent year for figures, Dubai's government and public-sector company debt was at least $47 billion, a staggering 103% of GDP.
Even before the global crunch, banks in the United Arab Emirates (UAE) were being hit this year by an outrunning stampede of billions of UAE dirhams — so-called hot money that one report valued at $55 billion — led by speculators giving up on hopes that the country would de-peg its currency from the U.S. dollar.
An underlying reason for the relative lack of panic so far is that Dubai real estate remains a financial haven for wealthy individuals from riskier nearby countries like Iran and Pakistan.
In the event of a systemic threat, Dubai can probably rely on super-rich Abu Dhabi for a bailout.
Sometimes bailouts are done out of pity, such as for flood victims. Even if those victims willfully chose to live in a flood plain and did so because they knew they'd be bailed out since those around them would take pity on them.

My thinking is it wouldn't be pity that would motivate a bailout of Dubai. And if it is not pity, then it would have to be self interest. The question then is, why would it be in Abu Dhabi's self interest to bailout its rival? The answer may be that it would gain some de facto control over Dubai, Inc. Or it could be that it would do so to prevent another party -- e.g., Saudi Arabian investors -- from bailing out Dubai and gaining influence there. Or it could be to arrest the spread of an adverse financial contagion.

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Tuesday, October 21, 2008

Local banks made margin calls in wake of Lehman bankruptcy

Zawya: A banker pointed out that banks need money.
Some banks have huge investments either in local property financing or global stock markets, and these investments exceed banks' capabilities, so they are going in for long-term products with a higher interest rates to drag money in.

Varouj Narguizian, General Manager of Bank of Sharjah, said: "I suppose what happened is that these banks have received margin calls to cover their situations especially in the global stock markets as a result for the recent credit crunch. What they did locally is that they transferred their problem to their investors."

He said if the situation continues it will negatively impact the local banking sector and will lead to a deeper liquidity gap even with the government efforts to support the market with huge amounts of money.

Narguizian believes that banks should have been transparent about their investments to the investors. He urged investors who cannot comply with the margin call to approach the UAE Central Bank.

Sunday, October 19, 2008

Dubai's debts and the perception of federal bailout support

FT (October 12th):
Dubai’s debt has soared to about 100 per cent of gross domestic product and continues to grow, leaving it vulnerable to an economic slowdown, according to Moody’s.

In a report obtained by the Financial Times, the ratings agency says Dubai would lack the financial muscle to cover its debt in the event of a systemic shock, such as a real estate collapse or an adverse geopolitical event, making it reliant on Abu Dhabi to bail it out.

“Moody’s will therefore be increasingly factoring the potential for federal support ... given that Dubai is likely to require federal support in the event of a larger-scale systemic bail-out,” the report says.
Dubai’s leadership also says the emirate has thrived through previous world crises and has no plans to slow down the city’s breakneck speed of development.

Moody’s does not rate Dubai’s government, but six government-related bodies have received A1 to A3 ratings on the perception of federal support.
The United Arab Emirates authorities, Moody’s notes, have a record of supporting failing banks in crises over the past three decades.

Officials in Abu Dhabi, whose assets dwarf Dubai’s public-record liabilities of $47bn (€35bn, £28bn) say they can be relied on to bail out struggling Dubai institutions....
Perhaps Abu Dhabi's interests are reinforced by experience with the outside influence the alternative might bring. In his book, Dubai: The Vulnerability of Success, Christopher M. Davidson discusses the episode in Sharjah in the 1980s (p. 254):
[A]lthough by the late 1980s Sheik Zayed had stepped in and taken care of Sheik Sultan's debts, this was not enough to prevent the collapse of Sharjah's four commercials banks in 1989 after the Sharjah government defaulted on loans of over $500 million. Most worryingly, the UAE Central Bank was unable to intervene and the door was left open for a Saudi consortium to step in and provide a rescue package. Significantly, for Sharjah, this financial assistance came at a considerable price, as Saudi Arabia gained much greater influence in the emirate....


Markets are increasingly complex and that makes for unintended consequences

Saturday, October 18, 2008

Gulf salaries lag cost of living

Gulf Talent has released its annual survey of salaries and cost of living, Gulf Compensation Trends 2008. Some findings:
  • Average salaries in the Gulf increased by 11.4% this year, compared to 9.0% last year
  • Sectors enjoying the highest pay rise were construction and banking
  • Job categories having the biggest raise were Engineering and Finance
  • Drivers of pay rise include growing competition for talent, weak US dollar, and rising inflation particularly in rents
  • Average rents in the Gulf increased by 19% this year
Read the press release, and the full report. From the press release:
The UAE and Qatar topped the list of pay rises with increases of 13.6% and 12.7% respectively.
From the full report:
Inflation %, 2008 forecast

Bahrain 9.0%
Saudia Arabia 11 .2%
Oman 13.5%
Kuwait 13.5%
Qatar 14.2%
UAE 15.2%

Source: Economist Intelligence Unit

Friday, October 17, 2008

Dubai Islamic Bank's former CEO detained

The former chief executive of Dubai Islamic Bank has been detained as part of a probe into alleged financial irregularities at the bank’s real estate subsidiary, Deyaar.

Saad Abdul Razak, who has also left his current post with Investment Corporation of Dubai, was taken into custody two weeks ago as the probe broadens, but the nature of the allegations are unclear, said a person aware of Mr Abdul Razak’s situation.

Mr Abdul Razak who last year left Dubai Islamic Bank to join ICD, the emirate’s holding company for state owned assets, is one of five people under investigation for alleged financial irregularities at Deyaar.
Police have also arrested executives from other state linked institutions, such as developers Nakheel, Sama Dubai and mortgage provider Tamweel, as the graft probe has flung its net across companies in the emirate’s fast growing real estate sector.
Also see coverage by the national paper, The National.

He is listed as a member of the board of directors of Dubai World where you can find a biography of Saad Abdul Razak.

Thursday, October 16, 2008


BBC: "A British man and woman have been sentenced to three months in jail in Dubai after being found guilty of having sex on a beach. ... They were fined 1,000 dirhams (£160; $350) and will be deported after serving their sentences."

McCain: Obama is not an Arab, he's a decent family men

Truth is stranger than fiction.

The set up (comes at the end):

The conclusion:

Wednesday, October 15, 2008

How will oil-producing states fare with il prices at 13 month low?

AFP: "The price of oil slumped below 72 dollars on Wednesday, its lowest level for more than 13 months, as recession fears raised concerns about a prolonged drop in energy demand, analysts said. U.S. crude was down $3.76 a barrel at $74.87 by 11:04 a.m. EDT. It touched a session low of $74.62, its lowest since September last year."

Of course that's still pretty high.

Back on September 21, based on a Dow Jones Newswire story, Gulf Times reported:
Saudi Arabia, the world’s largest oil exporter, will need crude prices to remain above $49 a barrel to avoid a fiscal deficit, a senior International Monetary Fund official has said. “If it goes below that level we would start seeing a fiscal account deficit,” Mohsin Khan, director of Middle East and central Asia at the IMF, told Dow Jones Newswires.
“Saudi Arabia’s break-even price is the highest among the Gulf Co-operation Council Countries because they are spending on a lot of projects right now, and oil money is used to fund these projects,” he said.
“The UAE will have a fiscal balance at an oil price of $23, if it goes below they would run a deficit. For Qatar, the break-even price is $24 a barrel,” Khan said. Kuwait’s break-even price is $33 a barrel, he added.

The figures, to be published in the IMF’s next regional outlook for the Middle East and Central Asia, also show that other countries in the region are already running a fiscal deficit with current oil price levels.

“Iran’s break-even price is $90 a barrel, and that is a big issue in Iran right now,” Khan said.

“If prices dip below $90 a barrel, and we have seen it touch $89 earlier this week, then they would have to tighten their public expenditure policy, and probably cut subsidies, which would be an issue for the government there – the public would not be content,” he said.

Iraq has the highest break-even price in the region, according to the IMF figures. The war-torn country needs prices above $110 a barrel to balance its books.
Speaking of Iran, here's how low prices look from Venezuela.

Tuesday, October 14, 2008

Would you know a bubble if you saw one?

The financial crisis emanating from the US is largely rooted in a housing price bubble fueled by low interest rates, rules that allowed zero down and more. Or, as with all bubbles, it certainly looks like a bubble in hindsight.

How about in Dubai? Consider this article from the Wall Street Journal in August 2008:
Property prices, meanwhile, have risen on average by 79 percent since 2007 and 25 percent in the first six months of 2008, according to New York-based investment bank Morgan Stanley.

Home prices on Nakheel's Palm Jumeirah - one of three separate man-made-island clusters in the shape of palm trees off the coast of Dubai - have risen more than 600 percent since sales started in 2002, with some villas that were sold for $700,000 five years ago now attracting offers of more than $3.5 million, according to Dubai-based property agent Better Homes.

"There is a general consensus that certain sectors of the real-estate market in Dubai are currently being driven by speculation rather than market fundamentals," said Craig Plumb, head of research at property and investment-management company Jones Lang LaSalle in Dubai.

Although RERA is looking at measures to restrict flipping, developers also are imposing tougher resale rules. Homeowners at Nakheel's Trump International Hotel & Tower have to wait a year before they can sell their units on the secondary market, and Emaar Properties is restricting secondary sales of its properties until buyers have paid 30 percent of the total cost.
Of course Morgan Stanley itself has been in the news since August 2008.



If the US is the engine that keeps the world economy going, is this what has stock markets spooked?
Liberals will make a full-bore push for European-style economic policies.
Obama will try to straddle the two camps [liberal and moderate Democrats] — he seems to sympathize with both sides — but the liberals will win. Over the past decade, liberals have mounted a campaign against Robert Rubin-style economic policies, and they control the Congressional power centers. Even if he’s so inclined, it’s difficult for a president to overrule the committee chairmen of his own party. It is more difficult to do that when the president is a Washington novice and the chairmen are skilled political hands. It is most difficult when the president has no record of confronting his own party elders. It’s completely impossible when the economy is in a steep recession, and an air of economic crisis pervades the nation.

What we’re going to see, in short, is the Gingrich revolution in reverse and on steroids. There will be a big increase in spending and deficits. In normal times, moderates could have restrained the zeal on the left. In an economic crisis, not a chance. The over-reach is coming. The backlash is next.
Is this what markets are looking to down the road?

US economists give thumbs up to latest US move

A roundup of economists' views on the US bank recapitalization move. Good, helpful reading even for the non-economist.

More about the plan.

Thanks to Marginal Revolution for the links. Tyler Cowen of MR writes,
In the current version of globalization the equilibrium seems to be that non-guaranteed banking systems are swiftly penalized and turned into zombies. This suggests, by the way, that undoing current bank guarantees, when recovery comes, won't be as easy as we might have thought.
That statement applies to the guarantees in the UAE where the leadership has said that these guarantees will last three years. Was period chosen to assure depositors they would last at least that long. When the guarantee was first announced the period was not stated; I wonder how many depositors had doubts about how long the guarantee was good for or whether it was meant to be forever?

Nobel Prize winner interviewed on financial crisis

Paul Krugman, interviewed on PBS Newshour:
PAUL KRUGMAN: If you read deep into the Nobel Committee's discussion of my work, they do talk about the work I've done on economic crises. And, in fact, I did a lot of work on trying to understand crises in places like Indonesia and Argentina, which, unfortunately, is relevant.

It does turn out that some of the same mechanisms, some of the same sort of domino effects that lead to financial collapse have been operating in the United States and the rest of the world, so there is a connection to some of my academic work, but not the trade work.

JIM LEHRER: Yes. Any satisfaction at all in being right about the calamities that were coming?

PAUL KRUGMAN: You know, better to have been right than to have not seen anything of it, but, no, I mean -- I'm terrified by, you know, I -- I did not expect to be seeing anything in my lifetime that was reminiscent of the 1930s and I'm not gratified to be living through it, thank you. I'd rather have been wrong in this case.
There was also this on the same program:
Well, Joseph Stiglitz, after a horrible week last week, a hugely positive today, market up about 936 points. What do you think was the key thing to turn the markets today?

JOSEPH STIGLITZ, Columbia University: I think it was the concerted action in Europe and the fact that finally -- finally -- the Paulson, the Bush administration is beginning to consider the equity-injection approach that has been used in other countries around the world and that has been adopted in Europe.

The contrast between the slowness with which the Bush administration has approached the problem and the speed with which the U.K., for instance, has been able to produce a program and then already implement it is really stark.

And I think the fact that that kind of approach can be implemented quickly has been very reassuring.

JEFFREY BROWN: Martin Feldstein, we talked so much last week about the need to inject confidence into the markets, into the system. Is there reason for confidence today?

MARTIN FELDSTEIN, Harvard University: There's more reason for confidence. There's certainly reason for the individual saver, depositor to be confident, both about their bank deposits and also their money market mutual fund balances.

But I don't think that the program that we've heard is going to provide enough confidence to generate substantial interbank lending or lending from the banks to the wider economy.

JEFFREY BROWN: What are its shortcomings?

MARTIN FELDSTEIN: Well, simply injecting equity by itself isn't going -- there isn't going to be enough equity injected to make other financial institutions and other investors in the commercial market willing to provide lots of additional funds to the major banks that are holding impaired securities.

What the Europeans are doing that we're not doing is providing some kinds of credit guarantees on top of that.

But the fundamental thing in my mind about the situation in the United States that makes us very different from Europe is that our bad mortgage paper, our bad assets in these financial institutions, is being driven by the foreclosures and defaults in the residential real estate market.

Deposit guarantees: UAE clarifies and expands

WAM (October 13)
Cabinet's decision on banking deposits guarantee lasts for three years (urgent)

Oct 13, 2008 - 09:37 -

WAM Abu Dhabi, Oct, 13th, 2008 (WAM) -- The decision taken by the Federal Cabinet today to guarantee banking deposits will last for three years, a source at the Ministry of Finance announced today.

In a statement to Emirates News Agency (WAM), the source added that the guarantee of deposits in the national banks would also include foreign banks which have significant operations in the UAE.

WAM is the federal government news agency.

Monday, October 13, 2008

Leading introductory economics texts scarcely mention the cycles of manias, panics and crashes

David Warsh at Economic Principals:
How peculiar is it that the leading introductory economics texts scarcely mention the cycles of manias, panics and crashes that have been a familiar feature of global capitalism since its emergence in the seventeenth century?

No propensity to bubble or bail is among the ten big ideas that govern economics in N. Gregory Mankiw’s text, for example. Ben Bernanke, in the book he wrote with Robert Frank before he became chairman of the Fed, discusses the 1990s banking crisis in Japan, the episode in the US and the Argentine collapse in 2001, along with the Great Depression, on which he is an expert; he even mentions in passing the “reckless lending” that led to the US savings and loan crisis in the 1980s: but the tendency to repeated financial crises is not remarked, and neither “bubble” nor “credit crunch” appear in the glossary.

There’s a lucid discussion of banking panics in Paul Krugman’s principles text with Robin Wells; he asks whether the Fed should have sought to puncture the stock bubble of the late ’90s: but the “sovereign debt bomb” of the ’70s and the S&L crisis of the ’80s have disappeared in the dim mists of time. Even Karl Case and Ray Fair don’t make much of a case for the perennial nature of crises (at least in my edition), though Case, of Wellesley College, and his colleague Robert Shiller, of Yale University, have played a prescient and central role in the analysis of the real estate crash.
My favorite principals author's (Mankiw) book is just out in its 5th edition; I rather doubt there's much if any change from the previous edition on the subject. But if he had to do it over again there'd be some. You'd certainly expect him to say so if it did; he's not.

Krugman today received the Nobel Prize in Economics, for his work in the new trade theory, location theory and economic geography. Tyler Cowen at Marginal Revolution says Krugman has work relevant to the current financial crisis:
He could have been cited for his work on currency crises as well. ... He has been influential in pushing the United States toward a bank recapitalization plan. ... Some of Krugman's thinking on the liquidity trap -- a key issue today for the crisis -- can be found here.

Sunday, October 12, 2008

Academics offer rescue plan advice; consensus emerging: recapitalize banks

Wall Street Journal:
The government's plan to buy equity in financial institutions, announced Friday by Treasury Secretary Henry Paulson, is an idea that many academic economists have championed from the start of the crisis.

Many economists believed that the heart of the government's initial plan to pay $700 billion for toxic assets was aimed at the wrong target. Purchasing mortgage securities from banks wouldn't do anything to kick-start lending and get credit flowing again, they said. Rather, banks would use the proceeds they got from the Treasury to pay off debtors, and those debtors would use the proceeds to buy safe assets.

They said a wiser course -- the one the Treasury now seems to have come around to -- was for government to rebuild the badly depleted cash levels on bank balance sheets. That would cushion institutions against future losses, giving them the wherewithal to lend again. Other hitches in the original plan include coming up with a price for mortgage securities that is above the "fire sale" level they would draw on the open market, but not so high that taxpayers end up getting taken for a ride.
Harvard University economist Gregory Mankiw, former chairman of the Council Economic Advisors under President George W. Bush, suggested that the government could set up a recapitalization plan that works like a matching grant. If a financial institution attracted new capital from private investors, it would be able to access an equal amount of government capital.

"The private sector rather than the government would weed out the zombie firms," he wrote on his blog.
Barry Eichengreen, an economic historian at the University of California, Berkeley, sent an email to, the Internet portal of the Centre for Economic Policy Research, a European economic-research network, asking economists to submit brief essays on ways government leaders could tackle the financial crisis.

By the next day, VoxEu had produced a booklet of 14 essays by 18 economists. As of Friday, when the Group of Seven finance ministers and central bankers met in Washington, the booklet [Rescuing our jobs and savings: What G7/8 leaders can do to solve the global credit crisis] had been downloaded more than 10,000 times.

UAE guarantees bank deposits, interbank lending

Oct. 12 (Bloomberg) -- The United Arab Emirates guaranteed all deposits with local banks, including the country's two- largest lenders Emirates NBD and National Bank of Abu Dhabi, to ensure that credit continues to flow.

The measure, which also includes a guarantee of all inter- bank lending in the U.A.E., is designed to ``ensure continuity of economic growth and protect the national economy,'' state- owned Emirates News Agency reported, citing Prime Minister Sheikh Mohammed bin Rashid Al-Maktoum.

Twenty four local and 28 foreign banks operate in the U.A.E., where record oil revenue has spurred an economic boom. The seizure of global credit markets in the past few weeks has crimped lending in the local interbank market as well, prompting the U.A.E. central bank to set up a 50 billion dirham ($13.6 billion) fund to boost liquidity last month.
About 77 percent of U.A.E. bank loans are backed by assets.

Arabs own 8 percent of the bank deposits while other nationals own 17 percent, the central bank said today. Lending by U.A.E. banks surged 49 percent in the year to June.

Australia, New Zealand and the United Arab Emirates have said they will guarantee all the deposits in their banks.

Australia's Prime Minister Kevin Rudd said the guarantee would be for the next three years.

The government of New Zealand has offered a two-year guarantee.


Dubai mortgage lenders in merger talks (October 5) - Financial Times
Two government-controlled mortgage lenders in Dubai are discussing a merger, a sign that political pressure and strained liquidity may spur the consolidation of the finance industry in the United Arab Emirates.

Tamweel is one of the companies embroiled in a widespread corruption probe....
Emirates 24|7 (October 13)
Amlak Finance and Tamweel plunged 9.73 and 9.8 per cent respectively. The latter pair have both plunged more than 60 per cent in 2008. "Domestically, we are waiting for the third quarter results to reassure investors that the UAE economy is in good shape, particularly in the banking sector," said Khalek. Other analysts believe these will have little effect and predict the market slide may continue amid sustained overselling.
Both UAE markets are expected to make further declines today, although the UAE Central Bank's decision to guarantee all bank deposits is likely to lighten the mood.

However, in the current hysterical atmosphere, this could yet be seen as a negative development because it implies that bank deposits were indeed at risk prior to this announcement.

Friday, October 10, 2008

Feta accompli?

Foreign Policy blog:
Lebanon plans to charge Israel with violating a food copyright by marketing provisions such as hummus and falafel as Israeli, Fadi Abboud, the president of the Lebanese Industrialists Association announced Monday. Abboud contends that these foods are historically Lebanese, and that Israel's appropriation of them has cost the Levantine country profits "estimated at tens of millions of dollars annually."

Lebanon's case will likely rely on "the feta precedent," said Abboud. Six years ago, Greece was able to win a monopoly on the production of feta cheese from the European Parliament by proving that the cheese and had been produced in Greece under that name for several millennia.

Thanks to Chris Blattman for the hummus story.

What are the chances Dubai will default?, II

Following on my post yesterday (What are the chances Dubai will default?), the Economist today has an article in the same vein:
Sheikh Muhammad bin Rashid al-Maktoum, the energetic ruler of the second largest emirate of the seven that make up the United Arab Emirates (UAE), has chosen to diversify, especially into real estate, as his way forward. Investors in Dubai property have done well in recent years, enjoying returns of roughly 80% since early last year.
Then, over the summer, Morgan Stanley issued a note which said that Dubai property prices would fall by 10% by 2010. Quite simply, there may not be enough demand for the wave of new property coming onto the market. To a society used to easy returns, this was a shock. The report coincided with a withdrawal of deposits and investments from the UAE by speculative investors who had previously been betting that local currencies would shoot up as Gulf states let go of their dollar pegs to deal with double-digit inflation. But things did not work out like that. The dollar strengthened, so the bet failed and speculative flows went home. As a result, there was less cash sloshing around in the Gulf.

It was the wrong time, then, for a slew of corruption allegations. Since April, investigations have centred on Dubai Islamic Bank, an institution with a history of problems, and on various mortgage lenders and developers.
In another sign that not all is well, the Dubai authorities merged two Islamic mortgage lenders, Amlak Finance and Tamweel; the latter is one of the firms involved in the investigation.
The ructions may also strain relations between Dubai and Abu Dhabi, which still has the biggest money bags because it has most of the oil—and may no longer be willing to sit back and let Sheikh Muhammad and his men make all the running. Sheikh Muhammad seems to get on well with Sheikh Khalifa bin Zayed al-Nahyan, Abu Dhabi’s ruler. But financial arrangements between the two emirates are opaque. Sheikh Muhammad may need to be more deferential to his fellow ruler.
Dubai is not going to go bust. The state controls the larger property developers and can alter supply and demand by releasing land when and how it wants.
Two or three questions suggest themselves. Can Dubai just open the demand tap, making it even easier for foreigners to buy, and maintain residence? Do those who are betting on Dubai assume that Abu Dhabi would bail them out; and, if so, are they right?

One trusts Dubai is no Iceland.

Thursday, October 09, 2008

What are the chances Dubai will default?

“Investors are now pricing in a real estate crash, that the banking sector is in trouble and that Dubai will default,” says Mohieddine Kronfol, managing director of Algebra Capital.

This from an article in today's Financial Times. More:
Shares in Emaar, a Dubai government-controlled developer, have fallen by more than 60 per cent this year, wiping Dh56.4bn ($15.3bn) off its market capitalisation.
Defying the world credit crunch, one of the Persian Gulf's leading developers pledged Sunday to keep taking the boom city of Dubai up and up -- announcing plans for a skyscraper that would be the world's tallest, at two-thirds of a mile high.
Economists estimate that property prices in the United Arab Emirates will fall 10 to 20 percent over the next two years.
Gulf Arab property firms launched $100 billion of new projects on Monday, but the news failed to restore investor confidence as fears grew that the global credit crunch is biting and the local real estate market overheating.


Wednesday, October 08, 2008

McCain and Obama are economic isolationists

Both the candidates are Jekyll and Hyde, emphasizing working with allies on foreign policy, but playing the xenophobia card when it comes to economic exchange. Daniel Drezner in the National Interest:
What was odd was that this hopeful vision of America’s role in the world clashed badly with their rhetoric on the global economy. When talk turned to economics, the rest of the world was viewed as a scary, scary place.

Both candidates lamented the fact that the United States was borrowing so much from China (Obama added Saudi Arabia for good measure). Obama stressed that he wanted to offer incentives, “so that you can buy a fuel efficient car that’s made right here in the United States of America, not in Japan or South Korea.” McCain warned against returning to the protectionist policies of the Great Depression, but he also warned that some of the $700 billion trade deficit, “ends up in the hands of terrorist organizations.” The candidates fell over each other stressing the need to develop energy independence—which most energy specialists believe is little more than a pipe dream.

Some of these economic security concerns are valid, but the tone of the responses suggested a mismatch between the candidates’ vision of world politics and the world economy. They see the United States playing a positive role in security issues. On the global economy, however, the language was much more zero-sum.

Foreign economic policy is related to foreign policy—it’s hard to get cooperation on matters of high politics while claiming that other actors in the world are economic threats. Both candidates recognized the relationship between a strong military and a strong economy. It was surprising, then, that neither John McCain nor Barack Obama realize that economic isolationism will cost them goodwill in dealing with the trouble spots of the world.

Monday, October 06, 2008

Frank loses me

In the previous post I cited Robert Frank's essay on the financial mess in yesterday's New York Times.

While I agree with much of what he wrote I didn't follow him on the non-financial economic examples he gave. He gives conditions for a particular kind of market failure:
This particular type of market failure occurs when two conditions are met. First, people confront a gamble that offers a highly probable small gain with only a very small chance of a significant loss. Second, the rewards received by market participants depend strongly on relative performance.

These conditions have caused the invisible hand to break down in multiple domains. In unregulated housing markets, for example, there are invariably too many dwellings built on flood plains and in earthquake zones. Similarly, in unregulated labor markets, workers typically face greater health and safety risks.
I see the application to speculative market bubbles. But it would take some unpacking to see the relevance of the two conditions to the two examples -- building in a flood plain, and worker safety risks. They both sound bad, but what is the failure as long as the cost and benefits are privately borne?

In the case of building in a flood, what's the relevance of relative performance? Also, to get a failure don't you have to assume the government will bail out flood "victims"? -- this time inconsistency problem is of course relevant to the financial crisis too.

As to worker safety, as there are no informational asymmetries firms give worker the level of safety they are willing to pay for out of the compensation.

Perils of chasing the mutual fund with the highest recent return

Sunday's Washington Post has regular feature where three investment experts are asked a specific question to guide personal finance. Many times there's variation in their answers. This Sunday -- last week being the week that was -- they all had the same answer.

The question was:
What is the biggest mistake investors make?

Some excerpts of the answers:
Greg Evans, first vice president, investments, at the Millstone Evans Group of Raymond James and Associates in the District.

The biggest mistake investors make over and over again is to pile into the asset class or classes that have done the best over the past few years at inflated prices.

Psychology comes into play as people tend to do what others are doing.


Stuart Ritter, certified financial planner for T. Rowe Price Associates.

It's believing that the behavior of markets the last few weeks, months or years will be the same in the future.


Wayne Zussman, president of Triton Wealth Management in Annapolis, Md.
Because the best-performing asset class varies from year to year and is not easily predictable, having a portfolio of different asset classes is more likely to meet your goals and reduce the volatility and risk factors within your portfolio.
Read their full answers here.

And yet, the paper stokes the "chase the return" mentality in its feature business article that same day.

It's not wise to chase the fund that had the highest returns last year. But people do (contrary to the predictions of economic theory!). A larger question is what incentives does this behavior create for fund managers? Economist Robert Frank, writing in Sunday's New York Times presents a theory:
If one fund posts higher earnings than others, money immediately flows into it. And because managers’ pay depends primarily on how much money a fund oversees, managers want to post relatively high returns at every moment.

One way to bolster a fund’s return is to invest in slightly riskier assets. (Such investments generally pay higher returns because risk-averse investors would otherwise be unwilling to hold them.) Before the current crisis, once some fund managers started offering higher-paying mortgage-backed securities, others felt growing pressure to follow suit, lest their customers desert them.
The new mortgage-backed securities were catnip for investors, much as steroids are for athletes. Many money managers knew that these securities were risky. As long as housing prices kept rising, however, they also knew that portfolios with high concentrations of the riskier assets would post higher returns, enabling them to attract additional investors. More important, they assumed that if things went wrong, there would be safety in numbers.
A high proportion of investors are simply unable to stand idly by while others who appear no more talented than them earn conspicuously higher returns. This fact of human nature makes the invisible hand an unreliable shield against excessive financial risk.
Read Frank's essay here.

The "safety in numbers" point is important. It's part of the moral hazard that exists in the system: participants anticipate the government will step in with a rescue. And they are correct in that belief: once a crisis exists the government will step in. As Tyler Cowen says, "ex post the bailout is always on its way so this is simply something we have to live with."

NYT on Dubai and the world financial mess

The New York Times sees some problems for Dubai, but on the whole thinks Dubai will get through these times with just a few scratches. Some excerpts:

as recession looms in the West, cracks are appearing in the oil-fueled boom that has made Dubai, with its futuristic skyscrapers on the turquoise waters of the Persian Gulf, a global byword for unfettered growth.

Banks are reining in lending, casting a pall over corporate finance and building plans. Oil prices have been dropping. Stock markets across the region have been falling since June. After insisting for days that the oil-rich Persian Gulf region was fully “insulated” from financial troubles abroad, the Emirates’ Central Bank made about $13.6 billion available on Sept. 22 to ease credit problems, in an echo of bailout measures in the United States. Already, some bankers are saying it is not enough.

Some of Dubai’s more extravagant building projects — the ever-bigger malls, islands and indoor ski slopes — are likely to be dropped if they do not already have financing lined up, bankers say. The credit crisis could also reduce demand from buyers, who will have a harder time getting mortgages.

The shrinkage will be more severe if the financial crisis worsens in the West. Property prices and rents, which have remained steady until now, are widely expected to start dropping soon.

At the same time, investor confidence has been harmed by a long string of high-level corporate scandals, jeopardizing Dubai’s long-term ambition of becoming a regional financial capital.
In fairness, Dubai still looks rosy when set against the financial turmoil elsewhere. Although it lacks the oil wealth of its sister emirate Abu Dhabi, Dubai has huge budget and current account surpluses, and the government of the Emirates federation is able and willing — like its Persian Gulf neighbors — to inject an almost unlimited amount of money into the system to ease credit problems.
Many analysts say the slowdown in Dubai’s economy, assuming it does not worsen to a slump, will make the city’s growth more sustainable and healthy by reducing its dependence on loans and speculation.

Similarly, the authorities hope that recent arrests in corporate scandals will root out the culture of corruption that plagues so many Arab countries. Some of those arrested have been Emiratis with connections to the ruling family, in a gesture clearly intended to send the message that no one is exempt.
At worst, if the global economy worsened and some Dubai banks failed, there would be a firm crutch to lean on.
Read NYT: Boomtown Feels Effects of a Global Crisis.

Saturday, October 04, 2008

$38.5 million paid for CO2 permits

The Regional Greenhouse Gas Initiative $38.5 million in its initial auction of pollution permits:
The ten Northeast and Mid-Atlantic states participating in RGGI have designed the first market-based, mandatory cap-and-trade program in the U.S. to reduce greenhouse gas emissions. The states have committed to cap and then reduce the amount of CO2 that power plants in their region are allowed to emit, limiting the region’s total contribution to atmospheric greenhouse gas levels.

Under the RGGI process, the then participating states will stabilize power sector CO2 emissions at the capped level through 2014. The cap will then be reduced by 2.5 percent in each of the four years 2015 through 2018, for a total reduction of 10 percent.

The ten states participating in RGGI are Connecticut, Delaware, Maine, Maryland, Massachusetts, New Jersey, New Hampshire, New York, Rhode Island and Vermont.
Read the entire press release here. The RGGI website is here.

Greg Mankiw argues that a carbon tax is preferred to a cap-and-trade auction.

Friday, October 03, 2008

Gas lines and runs

By imposing price limits, government makes an explicit choice in favor of gas lines, in order to keep the price of whatever gas is available within reach of lower-income consumers. That may be a popular decision, but it is hardly a market failure.
That's Geoffrey S.W. Styles at Energy Outlook explaining why the Southeast US has experienced gas shortages. Read it all. Via Knowledge Problem where this in person experience with gas lines is worth reading.


Lynne Kiesling on recapitalization of banks

A consensus is emerging amongst economists about what should be done about the financial mess -- and it's not $700 billion plans to buy up debt.

Wednesday, October 01, 2008

A second open letter from economists

Real Time Economics (reproduced in full):

Last week, a large group of prominent economists sent a letter to lawmakers opposing the Treasury’s plan to purchase troubled assets. Today, a separate group of economists have come out in support of the plan. Full text of the letter follows:

September 30, 2008

To the Speaker of the House of Representatives and the President pro tempore of the Senate:

As economists, we write to support the plan before Congress dealing with the financial crisis. We are well aware that the proposed intervention entails very large sums and considerable risk for American taxpayers, albeit upside as well as downside risk.

Ours is a mixed, private-public economic system. Even in normal times, our government is heavily involved in the economy and holds a considerable claim on the private sector via the tax system. That said, none of us would counsel government arrangements of the proposed type in normal times. Today’s situation is far from normal. Nor, unfortunately, is it unprecedented.

Our country has weathered significant financial crises over the years. It will weather this one as well. The main lesson learned from prior crises is that timely and aggressive government intervention can restore confidence and galvanize the private sector to take mutually reinforcing and economically beneficial actions. This ability of the government to set the economy on a healthy path makes the proposed intervention much less risky than would otherwise seem to be the case.

We call upon all members of Congress to support this important legislation knowing full well that doing so is neither easy nor guaranteed of success. *

Signed by*

Richard J Arnould, University of Illinois
Henry Aaron, The Brookings Institution
Bahram Adrangi, University of Portland
Lanny Arvan, University of Illiniois
Alan Auerbach, University of California at Berkeley
Lawrence Ausubel, University of Maryland
Kathy Baylis, University of Illinois
Valerie R. Bencivenga, University of Texas, Austin
Douglas Bernheim, Stanford University
Dan Bernhardt, University of Illinois
John Bigelow, The Princeton Economics Group
Douglas Blair, Rutgers University
Alan Blinder, Princeton University
Emily J. Blanchard, University of Virginia
Michael Boskin, Stanford University
Ricardo Caballero, MIT
Domingo Cavallo, Fundación Mediterránea, Argentina
Christophe Chamley, Boston University
Joaquin Cottani, LECG, LLC.
Peter Cramton, University of Maryland
Robert H. Dugger, Tudor Investment Corporation
Todd Easton, University of Portland
Everett Ehrlich, ESC Company
Niall Ferguson, Harvard University
Jeffrey Frankel Harvard University
Daniel Friedman, University of California, Santa Cruz
Donald Fullerton, University of Illinois
K.C. Fung, University of California
Eric Furstenberg, University of Virginia
Robert Hall, Stanford University and the Hoover Institution
Daniel S. Hamermesh, University of Texas at Austin
James Harrigan, University of Virginia
James Henry, Sag Harbor Group, Inc.
Firouz Gahvari, University of Illinois
Richard Gilbert, Compass Lexecon
John Goodman, National Center for Policy Analysis
Lawrence H. Goulder, Stanford University
Seung-Hyun Hong, University of Illinois, Urbana-Champaign
William Johnson, University of Virginia
Joseph Kasputys, Global Insight, Inc.
Justine Kilpatrick, retired
Roger Koenker, University of Illinois
Laurence J. Kotlikoff, Boston University
Howard Kunreuther, University of Pennsylvania
Arvind Krishnamurthy, Northwestern University
Kevin Lang, Boston University
Barton Lipman, Boston University
Michael Manove, Boston University
Preston Mcafee, Caltech
Robert Margo, Boston University
Walter W. McMahon, University of Illinois
David G. Mathiasen, United States Senior Executive Service
Joe Minarik, Committee for Economic Development
Len M. Nichols, New American Foundation
Van Doorn Ooms, Committee for Economic Development (retired)
Jon Orsag, University of Southern California
Christina Paxson, Princeton University
Thomas J. Prusa, Rutgers University
Salim Rashid, University of Illinois
Bruce Reynolds, University of Virginia
Hugh Rockoff, Rutgers University
Alice M. Rivlin, The Brookings Institution
Isabel Sawhill, Brookings Institution
Elliot Schwartz, Committee for Economic Development
Neil Sheflin, Rutgers University
George P. Shultz, Stanford University
Hal Sider, Compass Lexecon
Alan Spearot, University of California, Santa Cruz
Eric Toder, The Urban Institute
Eric Van Wincoop, University of Virginia
Luis M. Viceira, Harvard University
Ingo Vogelsang, Boston University
Eugene N. White, Rutgers University
Roberton C. Williams III, University of Texas at Austin
Robert Willig, Princeton University
Sidney G. Winter, University of Pennsylvania

* We are signing as individuals and not as representatives of our organizations, which are mentioned for identification purposes only.

Did accounting rules fuel the crisis?

Washington Post:
Some economists are attributing much of the current financial crisis to something as mundane-seeming as accounting.

The Securities and Exchange Commission and the Financial Accounting Standards Board have just made an announcement that, dry as it sounds, may mean a great deal: "When an active market for a security does not exist, the use of management estimates that incorporate current market participant expectations of future cash flows, and include appropriate risk premiums, is acceptable."

The SEC is not telling holders of hard-hit mortgage-backed securities that they can willy-nilly slap any value on them they want.

What the SEC is saying is: You can take other factors into account when valuing them.

There is no market right now for the worthless mortgage-backed securities -- that's one of the reasons we're in this crisis. That means financial institutions that are holding them must value them well below their former value, sometimes near zero. That makes the institutions themselves worth much less.

Accounting is not something that ordinary taxpayers think about much, but it could hardly be more important to businesses: It's the value they place on what they own, what they owe and what they can sell.

An odd-sounding accounting phrase at the heart of this is something called "mark-to-market" accounting. Many think that if this requirement were ended, the crises could be eased.

Simply put, mark-to-market accounting requires companies to set the value for the assets they own at the price they could fetch on the open market right now. The prices must be "marked to market;" hence the phrase.
The government believes that those assets will be worth something soon -- that's why they want to buy them in the $700 billion Wall Street rescue plan. But under mark-to-market rules currently required, they are worth almost nothing, threatening those who hold them with insolvency.

If I understand the argument correctly, there was an appropriate realization in the market that mortgage backed securities were, on average, overvalued and populated with more lemons than previously believed. The market for MBSs has dried now because buyers are afraid they are being sold a lemon -- an MBS whose fundamentals worth less than the average value of MBSs. In this environment the underlying average value of the MBSs as a whole is greater than the market price at which they trade. Mark-to-market may be a market-based accounting rule, and that sounds good; but it isn't in this environment.

Update, October 3. A Tyler Cowen reader turns up a paper from 2006 that argued mark-to-market can lead to adverse and unnecessary contagion.