Global Economic Snapshot

The New America Foundation hosted a conference call with financier and author George Soros this morning during which he shared ideas from his recent book, A new Paradigm for Global Financial Markets: The Credit Crisis of 2008 and What it Means. Soros said, albeit with some chagrin, that the current financial crisis "pulled him out of retirement." Apparently it pulled him far enough to write a new book about boom and bust cycles, regulation of credit, and the current financial turmoil. I wonder whether his book was due to some sense of social obligation or he was just drawn by the excitement of the current crisis. Given his philanthropic efforts, I suspect it was a combination of both.

I want to make three comments after listening to the call. First, George Soros came off as charming, self-effacing and brilliant. His analysis of booms and busts are correct and insightful, but not revolutionary. And finally, his prescriptions for policy action are not concrete, but they get at the heart of the problem of our current regulatory structure. There is little need to comment on the first topic, so I'll skip right to the second two.

Italy is moving towards another election and subsequent new government. The economic challenges facing the victorious political coalition will be daunting. With declining international competitiveness and a rising euro, a huge and growing budget deficit and a rapidly aging population, the Italian economy faces overwhelming obstacles to growth. To complicate the recovery, there is no consensus on reform proposals, which range from privatizing state-owned assets to deregulating labor markets and downsizing government payrolls.

Snapshot asks, what are Italy's best options for economic reform?

Reuters - The Italian Deficit
Wall Street Journal - The Italian Fix
Guardian - Italian Manufacturing
Adnkronos - Italy as Seen by a Chinese Correspondent
BNP Paribas - Italian Business Confidence Continues to Deteriorate

The first proposal to reform the financial system since the subprime crisis was announced yesterday by Treasury Secretary Hank Paulson. The proposal aims to create a regulatory environment in which "capital can seek out its most productive uses in an efficient matter." Before his time as Treasury Secretary he worked as co-chief executive at Goldman Sachs, where he argued for reduced regulation and consolidation of regulatory agencies. Yesterday's proposal sought to combine regulatory agencies and expand the powers of the Fed.

Snapshot asks, what parts of the Paulson plan will survive?

Business sentiment rose in both Germany and France according to recent monthly surveys, pushing the dollar to new lows and bolstering support for the eurozone economic outlook. Although European banks have been damaged by the sub prime crisis, the recent business sentiment surveys indicate it may have limited effect on the eurozone economy. This may be in part due to Germany's smaller financial sector and limited exposure to the great uncertainty in markets in the U.S. and U.K.

Snapshot asks, how will Europe weather the financial crisis?

The price of rice has increased dramatically in the first two months of 2008 according to the Food and Agriculture Organization of the United Nations. Gloria Macapagal Arroyo, the president of the Philippines, recently reached an agreement with Vietnam to guarantee a steady rice supply. Other Asian leaders are also trying to secure their imports. For much of Asia, industrialization has taken precedent over investment in agriculture causing shortfalls in rice production. Factories have taken precedent over rice patties and investment in machinery over research in agriculture.

Snapshot asks, will the rush to industrialize continue to push rice prices higher?

The upswing in market sentiment after the rescue of Bear Stearns may soon come to an end. Highly leveraged financial institutions, which use large amounts of borrowed money, may still face unexpected losses as the housing market and consumer confidence continue to fall. Institutions have taken more losses on underlying assets, causing them to be even more highly leveraged than before. As underlying assets fall in value, many derivative products will also be written down.

The Fed's move to protect Bear Stearns last week may only be a preview of what is to come. Last weekend, the Federal Reserve Bank of New York held the mortgage backed securities of Bear Stearns as collateral. This weekend, the Financial Times reported that the Federal Reserve, European Central Bank, and the Bank of England are discussing the purchase of some of the $6 trillion in mortgage backed securities (MBS).

Snapshot asks, are the risks this poses to the taxpayer outweighed by the stabilization of financial markets?

Financial Times - Central banks float rescue ideas
Financial Times - US can learn from Japan's crisis
Bloomberg - Fed May Buy Mortgages Next, Treasury Investors Bet
Bloomberg - Federal Home Loan Banks May Buy $100 Billion of Mortgage Bonds

The Taiwanese presidential election Saturday of either Kuomingtang (KMT)'s Ma Ying-jeou or Democratic Progressive Party (DPP)'s Frank Hsieh will likely bring further economic integration between China and Taiwan. The China-friendly KMT favors deeper economic ties with China than the DPP, but both parties appear to be leaning toward economic liberalization policies such as relaxing the control on the 40% of capital cap on Taiwanese investment into China, facilitating tourist travel, and allowing the struggling Taiwanese banking sector to invest in China. Signs from Beijing indicate they are also willing to support increased economic ties.

Snapshot asks, will greater economic ties bring Taiwan closer to China's political orbit?

JPMorgan Chase - Taiwan: the post-election economic landscape
Bloomberg - Taiwan Election Will Thaw China Ties, Sooner or Later
Financial Times - Taiwan Reverses Ban on China Investment
Hoover Institution - Election 2008 and the Future of Cross-Strait Relations

Market volatility has sky rocketed to the highest level in 70 years according to Standard & Poor's. At the same time, Merrill Lynch's monthly survey indicates that many fund managers believe equities are undervalued in absolute terms. Yet falling house prices, new credit concerns, and rising inflation may pull markets down further.

Snapshot asks, is recent volatility a sign that markets are bottoming out or that they are waiting for more bad news to take another plunge?

Chicago Board Options Exchange - Volatility Index
Bloomberg - U.S. Stock Volatility Climbs to Highest in 70 Years, S&P Says
Merrill Lynch - Fund Manager Survey Finds Cash Hitting New High as Stagflation Fears Take Hold
Financial Times - Overview: Turmoil follows Fed's Bear rescue

Over the weekend, the government provided liquid assets to Bear Stearns and held $30bn of Bear's most questionable assets - mortgaged backed securities. In addition, the Fed opened the discount window to include investment banks and dropped interest rates by another 75bp. These signs indicate that the Fed has pulled out all the stops to provide stability to financial markets. To date, the Fed has made $650bn available. But, there is also an implicit guarantee that the Fed will provide more money to other struggling financial institutions. Had these measures not been taken, the financial system may have become completely crippled and had disastrous effects on the "real economy."

Snapshot asks, should tax payers, who will ultimately pay for these losses, support this rescue?