Institute ForNew Economic Thinking
ESCAPING THE DEBT ADDICTION: Monetary and macro-prudential policy in the post-crisis world
Adair Turner Senior Fellow, Institute of New Economic Thinking Center for Financial Studies
Institute ForNew Economic Thinking
Center for Financial Studies Frankfurt, 10 February 2014
www.ineteconomics.org | www.facebook.com/ineteconomics 300 Park Avenue South - 5th Floor New York, NY 10010
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Banks create credit, money and purchasing power
Loan to entrepreneur
Bank
100 Credit to entrepreneurs deposit account
100
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Dynamics of real GDP and credit (Year on year % change)
Source: Monthly Bulle3n, European Central Bank, January 2014
Real GDP Real credit to households Real credit to NFCs
United States United Kingdom
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Household deposits and loans: UK 1964 – 2009
Source: Bank of England, Tables A4.3, A4.1
0% 10% 20% 30% 40% 50% 60% 70% 80% 90%
100%
1964 1967 1970 1973 1976 1979 1982 1985 1988 1991 1994 1997 2000 2003 2006 2009
% of G
DP
Securi3sa3ons and loan transfers Deposits
Loans
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Private and public leverage cycles: US
Source: McCulley and Pozsar
1915 1925 1935 1945 1955 1965 1975 1985 1995 2005 0
50
100
150
200
250
Financial Repression
Housing bu
rsts
WWII en
ds
Private debt as a % of NGDP Public and
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Private domestic credit as a % of GDP: 1950 – 2011
Advanced
Emerging
Source: Financial and Sovereign Debt Crises: Some Lessons Learned and Those Forgo>en, C. Reinhart & K. Rogoff, 2013
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China: total social finance to GDP
100
120
140
160
180
200
220
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013
% of G
DP
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Non-financial private sector* credit outstanding: % of GDP
0 50 100 150 200
Brazil
China
India
Hungary
Indonesia
Korea
Mexico
Russia
South Africa
Turkey
2002
2007
2012
Source: BIS, Ci3 Research *Households + corporates
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4.9%
7.1% 6.5%
13.9%
0%
2%
4%
6%
8%
10%
12%
14%
16%
Real GDP Growth Real DomesLc Private Credit Growth
1996-‐2003 2004-‐2011
Source: IMF, Haver Analy3cs, Ci3 Research
Real annual credit and GDP growth in emerging markets: 1996-2011
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Total German private sector leverage: 1991 - 2010
0
20
40
60
80
100
120
140
160 1991-‐Q1
1991-‐Q4
1992-‐Q3
1993-‐Q2
1994-‐Q1
1994-‐Q4
1995-‐Q3
1996-‐Q2
1997-‐Q1
1997-‐Q4
1998-‐Q3
1999-‐Q2
2000-‐Q1
2000-‐Q4
2001-‐Q3
2002-‐Q2
2003-‐Q1
2003-‐Q4
2004-‐Q3
2005-‐Q2
2006-‐Q1
2006-‐Q4
2007-‐Q3
2008-‐Q2
2009-‐Q1
2009-‐Q4
2010-‐Q3
Private sector debt as % of GDP
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Private credit to GDP and growth
Source:"Reassessing the impact of finance and growth“, S. Cecchetti and E. Kharroubi, BIS Working Paper No. 381
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Credit and asset price cycles
Expectation of future asset price increases
Increased credit extended
Low credit losses: high bank profits • Confidence reinforced • Increased capital base
Increased asset prices
Increased lender supply of credit
Favourable assessments of
credit risk
Increased borrower demand for credit
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The Dilemma
Pre-‐crisis path of nominal GDP growth
Pre-‐crisis path of credit growth
4% -‐ 5%
10% -‐ 15%
If central banks had raised interest rates to slow credit growth …. this would presumably mean slower nominal GDP growth?
We seem to need Ċ ˃ NGḊP to ensure adequate NGḊP … but this produces financial instability and post-‐crisis recession
2% real growth
2% infla3on
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Categories of debt: UK, 2009
227
1235
243
232 Primarily producLve investment
Some producLve investment and some leveraged asset play
Mainly purchase of exisLng assets
Pure life-‐cycle consumpLon smoothing
Other corporate
Commercial real estate
ResidenLal mortgage (including securiLzaLons
and loan transfers)
Unsecured personal
£bn
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Corporate loans by broad sector: 1987 – 2008
Source: ONS, Finstats
Note: Part of the increase in real estate lending may be due to re-‐categorisa3on of corporate lending following sale and lease-‐back of proper3es and PFI (public finance ini3a3ve) lending, but we do not think these elements are large enough to change the overall picture. Break in series from Q1 2008 due to inclusion of building society data. Sterling borrowing only.
0%
5%
10%
15%
20%
25%
30%
35%
Q1 1987
Q1 1989
Q1 1991
Q1 1993
Q1 1995
Q1 1997
Q1 1999
Q1 2001
Q1 2003
Q1 2005
Q1 2007
Q1 2009
% o
f G
DP
Non-commmercial real estate PNFC lending Commercial real estate lending
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The dominance of real estate in bank lending
Total bank credit to domesLc private sector
Mortgage credit
Mortgage credit as % of total
129% 74% 57%
206% 131% 64%
155% 78% 50%
175% 101% 57%
122% 78% 64%
130% 91% 70%
+ Commercial real estate at typically
around 20% -‐ 25% of total lending
Source: Jordá, Schularick and Taylor, “BeAng the Home”, forthcoming 2014
(*Bank and non-‐bank combined)
*
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Three conceptually distinct functions of lending
Finance of new capital investment
• Enabling inter-‐temporal shij of consump3on within life 3me income
Finance of purchase of exisLng assets
Finance of increased consumpLon
• Non-‐real estate • Commercial real estate • Residen3al real estate • Human capital
• Real estate • Collec3bles • Exis3ng business assets – e.g. Leveraged Buy Outs
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National non-financial assets as a % of GDP
Source: Blue Book 2013 Source: Vermoegensbilanzen 1991-‐2012 Desta3s
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UK household net worth £trillion: 2012
4.5 1.5 1.3 4.3
3.2 0.1 7.6
Houses, other buildings and land
Loans Deposits & currency
Real estate + net monetary assets
Other financial assets – claims against business debt and equity
Other -‐ mainly cars
TOTAL
Source: ONS Na3onal Banking Sheets
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Variation in land value per hectare: UK 1983 – 2010
UK
Source: Blue Book 2013
10
9
8
7
6 5
4
3 2
1
£ million
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Credit extension and house prices
House prices 2000 – 2007 Household debt as a % of GDP 2000 – 2007
Source: BEA; ONS; ECB
0
20
40
60
80
100
120
Q1 2000 Q1 2001 Q1 2002 Q1 2003 Q1 2004 Q1 2005 Q1 2006 Q1 2007 %
GD
P US UK Spain Ireland
0
50
100
150
200
250
Q1 2000 Q1 2001 Q1 2002 Q1 2003 Q1 2004 Q1 2005 Q1 2006 Q1 2007
Inde
x: 2
000
= 10
0
Spain US UK Ireland
Source: Ministry of Housing (Spain), S&P (US), DCLG
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Interactions between credit categories and effects
Increased apparent wealth
Reduced saving:
increased consumpLon
Increased price of
exisLng real estate
Increasing credit supply / demand
Equity withdrawal mortgage supply & demand
Boom in new real estate construcLon
Increased prices for new real estate
Borrower and lender net worth, confidence and expectaLonal
effects
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Inequality, demand and credit
Rich have higher marginal
propensity to have than poor
Rising inequality
DeflaLonary impetus – growth on NGDP falls
DeflaLonary impetus offset:
• NGDP growth maintained
• Growth in credit intensity
• Rich lend to poor
• Central banks facilitates
Savings not matched
by ______
investment
+
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Changes in housing wealth: UK 2003 – 2013
Households with no mortgage debt
Buy-‐to-‐let landlords
Households with mortgages
£bn
556
434
-‐59
Source: Savills, Private landlords gain the most from rising property market, Financial Times, 18 January 2014
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Global current account balances as a % of world GDP
-‐2
-‐1.5
-‐1
-‐0.5
0
0.5
1
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
United States Germany+Japan Developed Rest OPEC Developing Rest China
Source: IMF BOPS
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Eurozone current account deficits: 2000 – 2008
% o
f GD
P 20
00 –
200
8
Source: Interna3onal Monetary Fund, World Economic Outlook Database, October 2012
-‐16
-‐14
-‐12
-‐10
-‐8
-‐6
-‐4
-‐2
0
2000 2001 2002 2003 2004 2005 2006 2007 2008
%
Year
Greee
Ireland
Portugal
Spain
Greece Ireland Portugal Spain
% of G
DP
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Decomposition of cumulative capital inflows: Spain (% of 2007 GDP)
0%
10%
20%
30%
40%
50%
60%
Jan-‐02
Jun-‐02
Nov-‐02
Apr-‐03
Sep-‐03
Feb-‐04
Jul-‐0
4 De
c-‐04
May-‐05
Oct-‐05
Mar-‐06
Aug-‐06
Jan-‐07
Jun-‐07
Nov-‐07
Apr-‐08
Sep-‐08
Feb-‐09
Jul-‐0
9 De
c-‐09
May-‐10
Oct-‐10
Mar-‐11
Aug-‐11
Jan-‐12
Jun-‐12
PRIVATE INFLOWS TARGET Liab. TOTAL INFLOWS TARGET 2 Liabili3es to ESCB
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Sectoral financial surpluses/deficits as % of GDP: Japan 1990 – 2012
Source: IMF, Bank of Japan Flow of Funds Accounts
-‐15
-‐10
-‐5
0
5
10
PNFCs Government
%
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Japanese government and corporate debt: 1990 – 2010
Source: BoJ Flow of Funds Accounts, IMF WEO database (April 2011), FSA calcula3ons
% GDP
0
50
100
150
200
250
1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 20010
Bank lending to non-‐financial corporates General Government debt
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35
50
65
80
95
110
125
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
Source: OECD Na3onal Accounts
Household PNFCs Public
Shifting leverage: private and public debt-to-GDP
Spain
50
60
70
80
90
100
110
120
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
Source: OECD Na3onal Accounts
US
Household PNFCs
%GDP %GDP
20
45
70
95
120
145
170
195
220
2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
% GDP
Household PNFCs Public
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Policies required to achieve more stable growth
Reduc3on in inequality or at least reduced pace of increase in inequality Reduc3on in global current imbalances between surplus and deficit na3ons
! Remove biases to credit crea3on in deficit countries ! Remove biases to excessive savings in surplus countries
Integrated set of monetary, macro-‐pruden3al and fiscal policies to lean against ‘too much of the wrong sort of debt’.
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Monetary, macro-prudential and fiscal policies to combat excessive debt creation
Level as well as rate of growth of leverage a key indicator
But no precise threshold for ‘too high’ leverage can be defined
Tax on credit intermedia3on – or at least removal of tax biases in favour of debt
• Recognises the adverse externality of debt crea3on
• Major poli3cal difficul3es given winners and losers
• Dangers of arbitrage via shadow banking
Preemp3ve interest rate rises to lean against credit/asset price cycles
But insufficient due to heterogeneous interest rate elas3city of credit demand
Much higher bank capital ra3os Would require parallel ac3on to prevent shadow bank based arbitrage
Encourage equity and hybrid contracts Unlikely to occur spontaneously without government support
Manage the mix of credit by category
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Managing the mix of credit by category: possible policies
Increase capital risk weights for real estate finance above those indicated by private assessment of risk
Addresses the externality of lending against real estate
Loan-‐to-‐value or loan-‐to-‐income limits on real estate lending
Borrower constraint since lender constraints imperfect
Underwri3ng mortgage standards to prevent reliance on price rise assump3ons
Introduced by UK FCA
Constraints on high interest consumer lending
• Danger of illegal alterna3ves • Constraints on marke3ng preferable to prohibi3on
Banks with dedicated focus on non-‐real estate business finance
To avoid crowding out of investment or trade finance
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Real yields to maturity on UK indexed linked gilts
Source: Bank of England Sta3s3cs, Zero coupon real yields
10-‐year Yield 20-‐year Yield
-‐2
-‐1
0
1
2
3
4
5
1-‐Mar-‐85
1-‐Mar-‐86
1-‐Mar-‐87
1-‐Mar-‐88
1-‐Mar-‐89
1-‐Mar-‐90
1-‐Mar-‐91
1-‐Mar-‐92
1-‐Mar-‐93
1-‐Mar-‐94
1-‐Mar-‐95
1-‐Mar-‐96
1-‐Mar-‐97
1-‐Mar-‐98
1-‐Mar-‐99
1-‐Mar-‐00
1-‐Mar-‐01
1-‐Mar-‐02
1-‐Mar-‐03
1-‐Mar-‐04
1-‐Mar-‐05
1-‐Mar-‐06
1-‐Mar-‐07
1-‐Mar-‐08
1-‐Mar-‐09
1-‐Mar-‐10
1-‐Mar-‐11
1-‐Mar-‐12
1-‐Mar-‐13
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Velocity of money circulation
Source: BoE, BoJ, Datastream
0.0
0.5
1.0
1.5
2.0
2.5
3.0
Q4
1980
Q2
1982
Q4
1983
Q2
1985
Q4
1986
Q2
1988
Q4
1989
Q2
1991
Q4
1992
Q2
1994
Q4
1995
Q2
1997
Q4
1998
Q2
2000
Q4
2001
Q2
2003
Q4
2004
Q2
2006
Q4
2007
Q2
2009
Q4
2010
UK (M2) Japan (M2)
Velocity of Money (Nominal GDP/M4)
00.20.40.60.8
11.21.41.61.8
2
Q4
1980
Q2
1982
Q4
1983
Q2
1985
Q4
1986
Q2
1988
Q4
1989
Q2
1991
Q4
1992
Q2
1994
Q4
1995
Q2
1997
Q4
1998
Q2
2000
Q4
2001
Q2
2003
Q4
2004
Q2
2006
Q4
2007
Q2
2009
Q4
2010
Japan (M4) UK (M4)
Velocity of Money (Nominal GDP/M2)