Two Items of Interest

First, I'm a bit late with this, but for those of you who haven't sought it out already, PNC Bank has it's CPI (Christmas Price Index) up and running, showing the price changes in the gifts from the carol, The Twelve Days of Christmas.  As always, it's an interesting way to explore how an index works and how the various components fit together to provide a single measure. What's particularly interesting is how many of the components showed no change this year.

Second, today's edition of The Wall Street Journal had a great micro-parody of a macro-event (the recent financial crisis). It's well worth a look and good for a chuckle.

All of my classes are entering their last week of the semester. I suspect the same applies to many of you. So in case I don't get another chance to post before the new year, I wish you happy holidays and more good economic resources.

Extreme Hyperinflation

Zimbabwe must hold the record.  See this story in today's edition of The Wall Street Journal.  (And it only has that value as a "collector's item.")

Money & Central Banks

I don't know how many of you generally listen to National Public Radio's This American Life.  I don't always catch it, but I usually enjoy it when I do.

This weekend they had a really interesting episode on What is Money? It does a good job explaining how money is just a tool and has value only to the extent that we believe in it. The episode began when a number of NPR reporters started to wonder about the money that was "lost" in the recent down market.  It meanders through how Brazil addressed its inflation problem in the 1990s by creating a virtual currency. And it winds up with a discussion on how the Federal Reserve usually creates money and what it did differently during this last crisis (think "lender of last resort").

It will take you an hour to listen to, but it will be worth your time even if you only get some great short anecdotes to use in your classroom.

Let me know what you think.

On the Homogeneity of Money

Today's lesson in money comes courtesy of the comic strip Frazz.



One of the fundamental characteristics of money is homogeneity. That essentially means each monetary unit is the same as every other unit. They are interchangeable. This concept is sometimes hard for some people to understand - especially the very young. They often view banks as warehouses. They may believe that if you deposit five $1 bills in your account, the teller takes those five bills and puts them in a drawer with your name on it. When you withdraw five dollars, the teller will give you the same five bills.

Those of us with more experience know that isn't true. That your five dollar bills are intermixed with others and they circulate. The chance of receiving bills is very, very remote.

But because money is homogenous, it helps to make a fractional reserve banking system possible. As long as everyone doesn't demand their money at the same time, money can be lent. Those wanting to withdraw funds can be given any cash on hand.

But when too much is lent and there's a demand for funds, a fractional reserve system can become illiquid. That's one reason for a central bank. The discussion can go much farther from here, but the lesson in the cartoon is that the money we put in is not necessarily the same money we take out. The deeper discussion may be why.

Deflation and Fisher Equation

Many of us use the Fisher Equation: Real interest rate = Nominal interest rate - Inflation rate. Many more of us don't know that Fisher was thinking about a specific market.

This article in the October issue of Monetary Trends by the Federal Reserve Bank of St. Louis provides some historical context. But more importantly, it puts the equation into current context by providing another view of the complex challenge the Fed faces as it deals with a slow economy coupled with the possibility of renewed inflationary pressure. I strongly recommend it for that section on monetary policy in your macro sections.

And share your thoughts. Is this usable with your classes? Or too "high-end"?

Reserves Don't Necessarily Lead to Loans

One of the analogies we often use when teaching monetary policy is "pushing on a string". The idea behind the analogy is that banks are imperfect transmission mechanism. The Fed can loosen policy in an effort to stimulate the economy, but just because the Fed loosens doesn't mean the economy will respond quickly - other parties (banks and borrowers) have to respond to the conditions and take up the slack.

Here is a good, short piece from the Federal Reserve Bank of St. Louis's Monetary Trends that should help explain that a bit more thoroughly, using the current economy as an example.

Read it through and share your thoughts. Would this help your students better understand the transmission mechanism and how it can limit the effectiveness of policy? Would you use it directly with your students, or just as your own background?  And if you wouldn't use it, what is missing?

Wealth Transfer and Credit Cards

National Public Radio's Planet Money program had this story on credit card reward programs, yesterday. It's about who uses credit cards, who pays for the benefits, and who receives them. The piece is based largely on this paper from the Federal Reserve Bank of Boston.

My question is "Is this news?" We learn in Economics 101, "There's no such thing as a free lunch." The fact that using credit cards has a cost is something that should be understood by all students, whether in an economics or personal finance course.  Many people don't understand just how significant the revenues from these fees are to card-issuing banks.

This is why some stores will try to charge different prices for cash and for credit from time to time. Those stores are trying to properly allocate the cost. (A quick search indicated a cluster of stories on this back in 2008 when gas prices spiked.)  And it's why retailers have tried repeatedly to get legislation to limit the fees.

As always, I welcome your comments.

Trilemma of International Finance

In a recent post, Greg Mankiw pointed to his piece published in The New York Times this past weekend. In it, he discusses what he refers to as the Trilemma of International Finance. Mankiw notes there are three goals for financial policy-makers. The trilemma arises because you can choose two, but in doing so you forfeit the third. (Doesn’t that present an interesting aspect of opportunity cost?)

Where this article can be of particular value to the classroom is during discussion about open economies, foreign exchange and policy in macroeconomics. Mankiw points out that the U.S. has opted for one combination, China for another and the Eurozone for a third. In doing so, he presents a rubric for analysis to help students understand the trade-offs inherent in policy. If you haven't already seen it, I highly recommend it.

Lizzie Borden's Axe and Unintended Consequences

Today's issue of The Wall Street Journal has an informative article (free content at this writing) on the front page. The subject is the financial reform bill now before Congress and the impact it could have a group many of us don't consider when thinking about derivatives markets - farmers.
It seems that how Congress chooses to deal with derivatives could impact farmers' ability to hedge risk for their operations. Farmers use a type of derivative known as a future to help them control costs.

The article reminded me of an article I wrote for the economic education newsletter, ON RESERVE, when I was with the Chicago Fed. It was written in the mid-1990s so it is somewhat dated; but it followed on the heels of a derivative-driven problem in Orange County, CA. I began each article with a relevant quote, and part of the quote I used for that issue on derivatives said "Lizzie Borden's axe was never on trial." The point then, like now, is that the tool doesn't cause the problem. The problem arises from how people choose to use the tool.

Regardless of how Congress acts on the issue of derivatives in the financial reform bill, it needs to consider behavior - not the tool. I welcome your thoughts, as always.

Debt Issues...Micro and Macro

I've been busy with my online courses and I hope to get busier. 

Nevertheless, here is a comic that, in my opinion, offers all kinds of possibilities as a discussion starter.


The first and third panels carry the weight. 

The first panel can be related to expectations, the business cycle, and employment. (For those of you unfamiliar with the strip, Gene is the soon-to-graduate college age son of the couple you see.)

The third panel can be used to illustrate credit, debt & deficits, normative statements, business cycle, animal spirits, expectations, and behavioral economics.  And those just hit me in the first minute.  Do you see other possibilities?  If so, please share.

How We Save Money

For those of you teaching personal finance, here is an engaging graphic from VisualEconomics that shows how Americans choose to save money. I think it lends itself, not only to discussions about saving, but about to risk/reward and opportunity cost.

What do you think?

The Euro and ECB

A couple days ago, The Washington Post had an piece by Ezra Klein on the ramifications of the European debt situation on the future of the European Central Bank (ECB). I found it particularly insightful on two counts.

The first was the institutional barriers that make the ECB so difficult to manage. Specifically, each of the member countries has different views towards inflation and unemployment, which means a single policy (which focuses on inflation), is going to be unpopular in many of the member countries, particularly if they are experiencing differing economic conditions. In that respect, it is not unlike the Federal Reserve, which must formulate policy across a geographically and economically diverse nation. The advantage the Fed has is that the U.S. view on those conditions has had more than two centuries to approach something like consensus. The ECB hasn't had that luxury, even for its oldest members.

The second insight was the ECB's reversion to buying debt. Like the Fed, it is basically restricted from buying debt in the primary market (direct from government). As a result, it resorted to buying debt in the secondary or open market (individuals and institutions that had already purchased government debt).

If you're interested in the functioning of central banks, I strongly recommend you read Klein's piece.

Follow-up to Central Banking

Yesterday, I posted some resources on central banking. Here is one more in the form of a podcast from the VoxEu web site.

It's an interview with Sir Howard Davies, a director of the London School of Economics. And while it focuses on the European Central Bank for the most part, there are a lot of general lessons for consideration. Instead of a beach read, consider it "beach running" material for your mp3 player.

Exchange Rates

One of the lessons in teaching exchange rates to students rests on the fundamental economic issue of "compared to what?" A currency is "stronger" or "weaker" compared to what? Is that strength or weakness a reflection of one country, the other country or the countries compared to each other? Consequently, this little limerick by Dr. Goose speaks volumes.

Credit on the Personal and Macro Level

A couple of items caught my eye this morning. Both dealt with forms of credit and how these forms relate to the current state of the economy. The first was this article in The Washington Post. The story provides a brief insight into the history of the credit card, as most of us are familiar with it. It goes back to 1981 when the state of South Dakota allowed banks to charge whatever interest rate they wanted on credit cards. This changed the availability and use of credit cards from its previous, more restricted, role.

But the article also examines how credit card losses in the most recent recession have impacted issuing banks; and how new legislation may impact banks' choices on who gets cards. The article makes a convincing argument that credit was too easy, and that this ease led to misuse. And the misuse put many individuals into circumstances that could not withstand an economic downturn and an interruption in income. I understand the logic, but I'm not sure the entire history of the role of credit in this downturn is ready to be written.

And that's because of another interesting piece of the puzzle is brought up in this post on the Voxeu web site. The author is an economist at the Federal Reserve Bank of Boston. And his research is in the role of housing equity in the credit market. Specifically, he looked at how homeowners were using equity in their homes in the period prior to the housing collapse. I have often heard arguments that individuals used escalating home values as collateral for home equity loans and lines of credit, using that credit as if it were an ATM to fund rising standards of living - essentially a mechanism for extracting the wealth from the wealth effect.

The author says his research doesn't support that explanation. Indications are that people were not treating their homes as ATMs to finance current consumption - at least not at the levels previously thought. Rather, his evidence shows that what was extracted may have been used to finance residential and household investment to a greater extent than was previously thought.

All of this made me think of an old but interesting book that I have recommended before and will recommend again: Money of the Mind by James Grant. It more than 15 years old and is in need of a new edition. But the history of credit in the United States from the early 19th to the late 20th century is an interesting one. And there is much in the book that provides a set-up to the current situation. I'll put it on my carousel at left in case anyone is interested. I found it an interesting read and if you like weightier subject-matter, I would even call it a "beach read."

Online Savings Accounts

For those of you teaching personal finance, here is a good visual from the Visualeconomics site. It shows the various characteristics to be considered when looking for online savings accounts, and then does some comparisons. I would think you could use the same matrix for examining savings accounts in general and/or alternatives for saving.

I Wonder Who He Is Writing To?

Household Debt

Here are some interesting graphics about the level of U.S. household debt over time. (HT to Chartporn for the link.)

How would you use them? I see some immediate application for personal finance courses. But would the information also be helpful in a regular economics course when discussing levels of debt in an economy, or the topic of loanable funds?

More on Greece

The German periodical Der Spiegel has this very good article with some very handy graphics (HT A&L Daily). You can use them in conjunction with the ones mentioned in my post from a couple days ago. What I (and others) like about these is they show that the money is not owed to other nations (implying governments) but to banks and financial institutions. This makes the role of private financial markets clearer, and should bring home the potential for a possible banking crisis.

CDs

For those of you looking for a graphic to help your personal finance students understand CDs (not compact discs, that's so 90s - Certificates of Deposit), check out this item at Visualeconomics.com.