Michael Brandl > Macro Updates > Archives > May 1, 2003

May 1, 2003

Happy May Day everyone.  Here are some interesting developments over the past two weeks:

U.S. economy still slugglish.  The Fed’s Beige Book describes economic growth as “lackluster” for March and first two weeks of April.  The Commerce Department put 2003Q1 GDP annual growth rate at an anemic 1.6%, slightly more than the 1.4% annual rate for 2002Q4.  Most of the increase was due to increases in consumer spending and new housing starts.  Business capital and inventory spending remained weak.  The Index of Leading Economic Indicators fell again in March.  Initial jobless claims were the big culprit here.

 On the other hand, in his Congressional testimony on Wednesday, Fed Chairman Greenspan suggested the economy should grow more quickly in the second half of the year.  He again stated that uncertainties abound and it is not completely clear where the economy is headed.  He also suggested that inflation could become too low; suggesting the Fed is more likely to cut rates in the future than raise them.

 Greenspan once again stated that he was in favor of tax cuts only if spending is reduced as well.  This line of thinking got him into trouble with the White House in the past; however last week the President stated he thought Greenspan should be reappointed for another term.  Yet, at age 77, one has to wonder how much longer Greenspan will stay at the helm of the Fed.

Rebuilding Iraq (Part II).  In the last Macro Update, I suggested the need to reform the Iraqi economy is as important as rebuilding Iraq politically.  This triggered a fair amount of controversy as some interpreted this as my suggesting we “impose” our American economy on Iraq.  I was suggesting nothing of the kind.  Capitalism is not a strictly American concept.  It must, and has, been adapted to local customs, tastes, and cultures.  Where it has been successful, capitalism and markets are molded by local cultures, not the other way around. 

 Now onto the details.  First in terms of monetary issues, Iraq needs a stable currency.  This may seem obvious, but how should it be done?  Simply adopting the dollar as the new Iraqi currency probably will not work, nor would the Euro.  Not initially, at least.  So look for perhaps a currency board-type of basket peg to both the Euro and dollar.  The key question is:  for how long?  Remember, currency boards are not a long term solution.  Eventually Iraq will either have to float or dollarize, with floating being more likely.  In order to have a successful float, Iraq needs a strong, politically independent central bank along with a stable, well capitalized and well run commercial banking sector.

 Another monetary issue will be the oil revenue question.  How should this oil revenue be shared with the Iraqi people without destroying the incentive to invest and invent?  That is the $64 dollar question.  The track record has not been good.  Perhaps an international “trustee” needs to be found.  But who?  Not the Americans, it would look too much like “imperialist war victors.”  Plus, would you really trust the State Department with that money?  I wouldn’t.  See Newt Gingrich’s recent comments on the failures of the State Department.  So, who?  How about Norway?  They seem to handle their oil revenues rather effectively. 

 Speaking of the U.S. State Department, when will Americans realize how this institution has failed them around the world?  It has now been three years since the Meltzer Commission pointed out how the State Department has corrupted both the IMF and World Bank. 

Indian bank runs.  A few weeks ago there was a bank run on ICICI Bank, the second largest commercial bank in India.  In Mumbai (formerly Bombay) depositors lined up at branches and used ATMs to withdraw funds from ICICI on false rumors that the bank had liquidity problems.  The bank runs didn’t even make the news here in the U.S.  Why?  Because the Reserve Bank of India (the central bank in India) did its job as a lender of last resort.  That and the fact that the management of ICICI did not panic and responded to the crisis in a very professional manner helped end the bank panic quickly.  Unlike many of Cooperative Banks in India, which have been poorly run and have seen depositors loose their money, ICICI and many of the commercial banks in India are relatively well run.  The episode demonstrated the maturity of the Indian financial markets, but also points to the need for continued reform (More of these poorly run cooperative banks need to be closed).  I can only hope that other emerging markets will learn from India.