Alwyn Young at UPF

Alwyn Young (LSE) was here on Monday, speaking in the CREI Macro seminar. He gave his talk about the positive side of AIDS - how a reduction in fertility, induced by the spread of AIDS in Africa, creates the resources with which to soften the blow of the disease. Together with his earlier article "Gift of the Dying", I think this is some of the boldest thinking in development economics. This time, I wasn't so convinced. Young shows how fertility declines rapidly in countries that are suffering particularly badly from the epidemic, but the causal channels remain slightly vague. I am not sure that country-specific trends are a good way to get rid of omitted variables. Of course, from a policy perspective, you don't really have to think that this is causal - that the AIDS epidemic really causes people to reduce their fertility. As long as the two trends coincide, for whatever reason, the countries in question have additional resources that can be used to alleviate suffering and to combat the disease.

Final fine-tuning of the courses

We had to make one final change in our courses, affecting terms 2 and 3. The course on "Conflict, Wars, and Aid" will now be available via the electives option in term 3, and is going to be taught by Marta Reynal-Querol. Formerly an economist at the World Bank, Marta is one of the prides and joys of the department. She recently won a five year ERC starting grant for young researcher - one of two for the department, and worth more than a million euros. These are the first of their kind awarded in Europe, by the new research funding body modelled on the NSF.
At the same time, we have added a class on the economics of immigration in term 2, taking the place of this class. It's going to be taught by our colleague Francesc Ortega Carandell. Francesc has worked on the redistributive impact of immigration, and has recently analysed the effect of migration on house prices. As I cycle through Barcelona on my way to work, I find it hard to think of a more topical addition to the class list.

Bubble mess and monetary policy

Am I the only one who is confused? We have debated for about a decade if monetary policy should take asset prices into account - going back to Greenspan's "irrational exuberance" speech at least. And very clever people, like Bernanke and Gertler, wrote clever papers arguing it's a bad idea. I looked at what happened when a central bank intervenes to bring down the stock market - as the German central bank did in 1927 (published here). My conclusion was that it was an unnecessary disaster - there was no bubble, and the intervention that sent the German stock market down by a quarter by year-end did real damage to the economy. Capital-raising by undercapitalized firms came to an end. Investment turned down the year after, and weakly-capitalized firms went under in the Great Depression much more quickly. My conclusion - targeting asset prices can be seriously bad for your economic health. Only ex post do we know if something is a bubble. Bernanke, when he became governor of the Boston Fed, mentioned my research in his first speech, concluding that interventions are a bad idea.

Well, a few years on, I am no longer quite sure. Let's take the different points of the "no intervention" idea in turn: a) you never know if it's froth b) even if it is, intervening may not work c) if it does, the collateral damage may be awful. True, if I say bubble, you can say "bad model" - every claim that prices are too high comes from some model, and the models can be pretty poor. But that doesn't mean that we have no idea about what periods of overpricing look like. If you see P/E multiples north of 30 (or infinity - no earnings, as on NASDAQ), or rental yields around 2% (Spain today), the prior should be that these are abberrations. I am also no longer so convinced that nothing can be done.

It's probably a bad idea to use interest rate policy, but there are other means. Instead of using interest rates, we can think about time-varying regulatory minima. Capital requirements could be made to fluctuate counter-cyclically, as per the Goodhart proposal. In housing markets, for example, we could use a simple rule that says "raise the down payment requirement every time rental yields dip below 5%", or something to that effect. While we have to live with a one-size-fits-all interest rate policy in Europe, mortgage markets are still national (try to get a German bank to finance your house in Spain - fat chance). We should encourage active guidance for national mortgage lenders, to take the different cycles into account. Finally, I think that stabilizing the prices of assets such as housing is beneficial overall -- there is much less risk of overshooting than in shares, and the welfare costs of pricing an entire generation out of adequate housing are phenomenally large. Next time you think "disaster" when the IMF tells you that Spanish house prices are set to fall by 20% or thereabouts, think of all the happiness it will buy for families that are living in cramped conditions. Combine that with very ugly redistributive implications of house price bubbles, and the pain of thousands of households defaulting on their mortgages and losing their homes, and I think we should consider a experimenting with better intervention just a little bit. Now, if only I could think of a good equivalent to raising the down payment in housing for equity markets...

Pictures from CREI

One of my important functions at CREI (you see, we all wear lots of hats here) is to act as the "official" photographer. The new building called for a small photo-shoot, and so did Robert Barro's visit last week. He gave two talks about his recent work on the frequency and impact of macroeconomic disasters. In particular, he argues along the lines of Rietz (1988) that disasters are common enough to explain why risky assets such as stocks yield as high a return as they do - what some call the "equity premium puzzle". The picture in the upper left shows him in conversation with Jordi Gali, director of CREI, during a recent lunchtime talk. You can see some more pictures of the new CREI building and of my beautiful colleagues here.