FONDAD Conference

[Warren Mosler <mosler@xxxxxxxx>]

I happened to attend a conference last year on the 98 debt crisis.
The following highlights contain examples of what I would call
a lack of fundamental, operational knowledge of senior officials.
Perhaps it this defficiency in general that is most responsible for
current policy around the world.

This is from the copy of the transcript I recently received:


Comment on "Diagnostics Before Remedies in Formulating New Strategies
for Dealing with Instability," by Jan Kregel

comments by Ariel Buira:

Let?s take another case, the case of a freely floating exchange rate and
interest rates that are market-determined; and this is also my own
experience of another period. Often, the interest rates are far higher
than the central bank would like them to be, but it is unable to bring
them down substantially in the short term. Sometimes it takes more than
twelve months to really bring them down. The central bank has to pursue
a policy that helps to restore confidence, which does not mean by
definition that it has to follow a tight monetary policy. It may simply
follow what one could call a neutral policy. That is a policy which is
based on a reasonable estimate of demand for money plus some reasonable
projection of inflation. Let?s say that this is a reasonable monetary
programme. Of course, if you go beyond that, and the monetary policy
becomes expansionary, it will scare markets and capital will flow out.
So you have a relatively narrow range in which to move.

(snip)

from floor discussion:


Warren Mosler was critical of Mohammed Ariff?s statement that Malaysia
needs foreign capital and FDI. "Why do you need these nominal transfers
if you are a net exporter of a country, unless you need real imports in
order to make your country work? Perhaps you have everything you need
internally and it can be organised internally through domestic policy,
through local currency policy. Perhaps the need for dollars really is
not there. When you borrow external currency, it doesn?t matter who the
lender country is, you are setting up a short position in that currency.
So when Malaysia borrows dollars, it is placing itself in a position of
risk because it is getting short of dollars. You have to be sure you
have a good reason to do this."
Mosler also criticised the idea that a country should export its way out
of a recession. "Recession means a reduction of growth. Exporting your
way out of a recession means all of your people are creating products to
give to somebody else, while getting nothing in return in terms of the
real standard of living. In the case of Malaysia as an exporter of
resources, it means that your own resources are being transformed into a
product that is sent to foreigners for their material benefit. So when
you export your way out of a recession, you have decided to put your
people to work for someone else. In a sense, you have become the world?s
slaves and this is a serious condition."

Mohamed Ariff disagreed and explained why it makes sense for Malaysia to
export its way out of the recession. "We need to do this because there
is an excess capacity of about 30 percent in the manufacturing sector.
Most of the industries are producing at 70 percent of their capacity.
The domestic economy cannot absorb this excess capacity in the system
without additional demand. In fact, in case of the domestic sector, we
found that all the sales have picked up in the first quarter, but
production is not rising, because they are simply running down the
inventories. We must use this excess capacity, and we can do that with
an increase in external demand."
John Williamson basically agreed with Warren Mosler?s critique of the
idea to export your way out of a recession and gave the example of
China. "Exporting your way out of a recession depends on the strength of
your foreign position. If sending all of your resources abroad is not
bringing the necessary liquidity to the country, then it is better to
expand at home. China still has a large current account surplus, which
does not seem to be eroding, and its exports continue to expand. It has
a high level of reserves which yield a modest level of interest income,
so why on earth would they pile up more reserves in order to get out of
a recession when they appear to have policy instruments that enable them
to expand domestic demand?"
Zden_k Drábek, on the other hand, agreed with Mohamed Ariff that
export-led growth would be a sensible policy to follow for both Malaysia
and China. "John Williamson made me think about Warren Mosler?s earlier
comment that free trade is bad under certain circumstances. John, you
now seem to argue along with Warren that export-led growth is not good.
In the context of Malaysia, it seems to me export-led growth is
sensible. I agree that since China is building up current account
surpluses, it might make more sense for them to stimulate domestic
demand. But this is not a wise policy given the major agenda for
economic policy reforms, particularly in the state-enterprise sector. I
am not sure that inducing growth of domestic demand would be that
helpful in China, and perhaps export-led growth remains a good
strategy."

(snip)


Hungarian Policies and Contagion

Warren Mosler shifted the discussion to György Szapáry?s comment. "When
you talk about short-term interest rates jumping in Hungary, it is more
a technical than a political question. When you are floating within the
band, the interest rate is something that the central bank has to decide
on in all cases. For example, when you have excess clearing balances in
the banking system, which is a somewhat normal situation, the clearing
balances have nowhere to go. Sitting with excess clearing balances is a
zero-interest condition in the interbank market, so the central bank
will act to offset the operating factors that have led to the excess
clearing balances. In the process, an interest rate for money market
intervention has to be determined, whatever form that takes. Once you
hit the lower band -- and if you look at the chart, the jumping of the
rates is coincident with hitting the lower band -- the clearing balances
have a second alternative. The Treasury securities have to compete with
the option to convert at the central bank, and the interest rate goes
from being determined exogenously by individuals making a decision, to
becoming an endogenous function of the market. The spot rate and forward
rate differential become the interest rate and a market-driven interest
rate results, based on the notion that the market wanted the currency to
go down a little further -- which is impossible because of the band. So
the forward rate goes down to where the market wants it. I am not
criticising the policy, my point is that the jump in interest rates was
a purely technical issue.

You also talked about ?sterilised intervention?. On the same technical
level, I want to oppose this to ?unsterilised intervention?, of which I
am not sure whether it actually exists. When you are in a floating
situation and want to intervene, you might buy a certain quantity of
foreign currency in the market, which I know is not Hungary?s policy
now. When you buy the foreign currency, you add clearing balances to
your member banks? accounts, and if you don?t offer some alternative to
clearing balances, the interest rate would go to zero. So unsterilised
intervention would be effectively a zero-interest rate in the money
market. If you want to support your interest rate target, be it 15
percent or whatever, any intervention implies sterilisation. So I would
suggest that because you don?t generally want a zero-interest rate, all
intervention is going to be sterilised intervention. There really is no
distinction between sterilised and unsterilised intervention, apart from
the zero-interest rate condition which was obviously not what you were
trying to do.
You also argued that the sterilised intervention was to keep the excess
liquidity from creating inflation. Again, I think the situation here is
a technical and not an economic event. The difference in liquidity is
the point. You have given the clearing balance an alternative, by
offering a repo or a government security or some place to park a
separate account. A repo is a interest bearing separate account at the
central bank rather than a clearing balance which is not interest
bearing. The asset remains, the agent that had the clearing balance now
has a clearing balance that pays interest, which you can call a repo or
a Treasury bill or whatever you want to call it. His net worth has not
changed, his ability to spend has not changed, so there is no economic
effect."
Bill White strongly disagreed with Warren Mosler. "When you get capital
inflows of this sort, and the central bank intervenes and builds up
excess reserves in the domestic banking system, the interest rate does
not automatically go to zero. There is an increase in the supply
function and there is a demand function for excess reserves. That demand
function for excess reserves may or may not be interest elastic. The
real worry that we face at that moment, if we go back to a Keynesian
view of the world, is that the demand function for excess reserves may
be highly inelastic and you cannot get the interest rates down at all.
This is essentially what is going on in Japan where they continue to
pump reserves into the system and the banks are prepared to sit on them.
When the interest rate does go down, it makes them even more willing to
sit on them because the opportunity costs are very low."

In his reply, György Szapáry agreed with Warren Mosler that sterilised
intervention kept interest rates higher -- "that was the policy because
we did not want domestic demand to increase" -- but stressed that it was
interesting that after the Russian crisis, interest rates went up to the
level of Poland and Czech Republic and remained there. "And that brings
in John?s question which is that it is not like conventional wisdom that
you have a fixed exchange rate together with lower interest rates, and a
floating exchange rate together with higher real interest rates.


Appendix

List of Participants in the Conference on ?The Management of Global
Financial Markets: Challenges and Policy Options for Emerging Economies,
the EU and the International Institutions?, held at the National Bank of
Hungary, Budapest on 24-25 June 1999


Mr. Mohamed Ariff Executive Director, Malaysian Institute of Economic
Research, Kuala Lumpur

Mr. Age Bakker Deputy Director, De Nederlandsche Bank, Amsterdam

Mr. Jack Boorman Director, Policy Development and Review Department,
International Monetary Fund, Washington D.C.

Mr. Ariel Buira Ambassador of Mexico in Greece, former Deputy Governor
of the Central Bank of Mexico, Athens

Mr. Kálmán Dezséri Senior Research Fellow, Institute for World Economics
of the Hungarian Academy of Sciences, Budapest

Mr. Zden_k Drábek Counsellor, Economic Research and Analysis, World
Trade Organization, Geneva

Ms. Éva Ehrlich Research Director, Modernization, Infrastructure and
Services Division, Institute for World Economics of the Hungarian
Academy of Sciences, Budapest

Mr. Ádám Farkas Managing Director in charge of the International Capital
Markets, National Bank of Hungary, Budapest


Mr. Ricardo Ffrench?Davis Principal Advisor on Economic Policy,
UN-Economic Commission for Latin America and the Caribbean, Santiago

Mr. Pál Gáspár Director, Central and Eastern European Office,
International Center for Economic Growth, Budapest

Ms. Stephany Griffith?Jones Senior Fellow, Institute of Development
Studies, Brighton, Sussex

Mr. Barry Herman Chief International Economic Relations, Department of
Economic and Social Information and Policy Analysis, United Nations, New
York

Mr. András Hernádi Research Director, Japan, East and Southeast Asia
Division, Institute for World Economics of the Hungarian Academy of
Sciences, Budapest

Mr. András Inotai General Director, Institute for World Economics of the
Hungarian Academy of Sciences, Budapest

Mr. Jan Kregel High Level Expert in International Finance, UNCTAD.
Professor of Political Economy, University of Bologna

Mr. Martin Mayer Guest Scholar, Economic Studies, The Brookings
Institution, Washington D.C.

Mr. Rohinton Medhora Senior Specialist Economics, Programs Branch,
International Development Research Centre, Ottawa

Mr. Kálmán Mizsei Chief Investment Officer, American Insurance Group,
Budapest

Mr. Warren Mosler Managing General Partner, Adams, Viner and Mosler,
West Palm Beach, Florida

Mr. Roger Nord Regional Representative in Central Europe, International
Monetary Fund, Budapest

Mr. György Surányi Governor, National Bank of Hungary, Budapest

Mr. György Szapáry Deputy Governor, National Bank of Hungary, Budapest

Mr. Elemér Terták Chairman of the Board, Daewoo Bank of Hungary Ltd.,
Budapest

Mr. Jan Joost Teunissen Director, Forum on Debt and Development, The
Hague

Mr. William White Economic Adviser and Head of the Monetary and Economic
Department, Bank for International Settlements, Basle

Mr. John Williamson Chief Economist, South Asia Region, The World Bank,
Washington D.C.

Zsolt Darvas Senior Economist, National Bank of Hungary, Budapest