Transcript after - Kleykamp in Taiwan

--- US Federal Government Fiscal Deficits began to grow in 2002
--- During 2000s C and G increased, now it must be I and NX increasing
--- Need to Rebalance
--- When Obama took over in 2009 fiscal situation was grim
Fiscal Deficits Projected to Grow out to 2040 under Bush budgets
Debt to GDP Ratio Rising at an Alarming Rate projected under Bush
budgets
Why the bad fiscal situation?
--- Spending on prescription drug benefits, war expenditures
--- Revenues down due to Bush tax cuts in 2001 and 2003
Federal government revenues lowest since 1950s
Policy decisions 2001- 2008 caused ½ of the increase in
deficits and debt
---Tremendous fiscal challenge of Medicare, Medicaid, and Social
Security Retirement
(next 20 years) the problem is aging of the population
(after 20 years) the problem is rising health care costs
Note: health costs grew 2.3% faster than
per capita GDP growth 1975-2007
--- % of disability recipients doubled since 1985
Obama team places blame of fiscal crisis on the Bush Administration
Bush Administration added Billions and Worsened the Forecast
Effect of ARRA on the Deficit only a Short Run Phenomenon 2-3% of GDP
Economic Effect of Deficits Depend on Two Things
--- State of the Economy (Weak Economy Strong Output Effects,
Strong Economy Crowding Out Effects, Interest Rates only slightly
impacted)
--- Magnitude and Persistence of Deficits (Moderate Deficits in
Weak Economy poses no problem, Continued Deficits Drive up
Interest Rates)
US is close to average and therefore will be able to continue borrowing
Discussion of Deficit/GDP and Debt/GDP Dynamics (page 148 of ERP 2010)
During this time of recession, sharp fiscal contraction in not desirable.
Need is for long run steady correction of the drivers of fiscal imbalance
Immediate reduction in spending or increase in taxes could cause a
double dip recession as in 1937-1938
Gradual deficit reduction is better as a policy
Three areas to improve the long run deficit picture
--- comprehensive health care reform
--- eliminate tax cuts for the wealthy
--- eliminate wasteful spending
Health Care
(This week a Federal judge ruled parts of Obama Care unconstitutional – on to
the Supreme Court for a final judgment)
Taxes
(Note that Obama has changed his mind on this one – all
Bush tax cuts extended for 2 years)
Wasteful Government Spending (This one is popular and useless)
After the Great Depression, the US created a good system of financial
regulation.
----- In the period 60 years before the Great Depression there were 7 banking
panics
----- In the period 80 years after the Great Depression there were none of the
level of the Great Depression
Problems came with
----- Savings and Loan Crisis in the 1980s
----- 1998 collapse of Long Term Capital Management
----- 2001 collapse of Enron
System of regulation was becoming outdated
----- Fall of Lehman Brothers September 2008
----- Freezing of short term credit markets
Short Term Actions by Fed and
Administration (Chapter 2)
Need for Long Term Planning for
Financial Reform (Chapter 6)
Financial Intermediation – Getting Funds from Lenders to Borrowers
Adverse selection (asymmetric Information) and Moral Hazard (Too Much Protection)
Financial Intermediation One Means of Solving These
Types of Financial Intermediaries
----- Banks, Securities Firms, and Insurance Companies
----- Mutual Funds and Pension Funds (Money Market Mutual Funds)
----- GSEs and Federally Related and Private Mortgage Pools
----- Federal Reserve
----- Hedge Funds
Financial Crisis results from a sudden and
widespread increase in asymmetric
information
--- Central Bank cannot act quickly across all institutions
--- Bank runs are rational meaning bank panics are rational
--- Central banks used to solve liquidity problems not solvency
problems, but both become mixed together in a crisis
--- Deposit insurance helps reduce the problem of asymmetric
information (US deposit insurance up to $250,000)
Four Major Gaps in Current Financial Regulatory System
----- Many new financial institutions (hedge funds, mortgage pools, etc.)
----- Overlapping jurisdictions and competitive regulation
----- Regulators specialized, regulated multi-markets
----- Regulators focused on micro-environment
Of the four gaps, the last gap is most important and reforms are needed
Three Types of Financial Contagion
----- Confidence Contagion
----- Counterparty Contagion
----- Coordination Contagion
5 Basic Financial Regulatory Reforms