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• W651734982 abstract "Stochastic Optimal Control and U.S. Financial Debt Crisis Jerome L. Stein New York: Springer-Verlag, 2012, 180 pp. At one point during recent financial crisis queen of England reportedly asked economists at London School of Economies a seemingly straightforward question: Why did academic economists fail to foresee crisis? This question earl be broadened to include central banks, International Monetary Fund, and technical specialists on Wall Street (quants). Jerome L. Stein, professor of economies (emeritus) and research professor in Department of Applied Mathematics at Brown University, has written a timely book that provides a cogent and convincing answer to this question. He devotes one chapter to why Federal Reserve and Fund failed to anticipate crisis, and another chapter to failure of quants and their mathematical models to properly measure risks associated with new financial instruments that they had invented. Unlike burgeoning literature on debt crisis, this book develops a theoretically well-based measure of optimal debt that provides a yardstick against which to compare actual debt level. As latter rises significantly above benchmark, there is a growing risk that debt has become unsustainable--a financial bubble has been generated that is increasingly likely to collapse. Stein applies this approach to show that asset values became vastly out of line with fundamentals of U.S housing market and with balance sheet of American International Group (AIG), insurance and financial firm. Stein's approach generates an early warning signal of impending financial collapse that he also applies to bubble in agricultural land prices in 1980s. In addition, he provides a timely analysis of financial crisis in Europe and makes a strong case that it reflects just as much excessive private debt as an overindebted government sector. In chapter 2, Stein discusses why Fed and Fund were oblivious to signs of an emerging bubble in U.S. housing market and risk this posed to wider financial system. One reason for this failure was lack of adequate economic models, but he does not describe models then in use or explain their failure. core of Stein's argument is that file Fed was not predisposed to attempt to identify financial bubbles because it believed there was no reliable way to do so; pricking such a bubble prematurely could involve unnecessary costs, and preferred strategy was to use monetary policy to mop up after a bubble had burst of its own accord to deal with any adverse macroeconomic fallout. This hands-off approach for dealing with financial bubbles became known as Hole Consensus, named after Jackson Hole, Wyoming, where this view was first enunciated at one of annual summer conferences on monetary economics and policy sponsored by Federal Reserve Bank of Kansas City. Stein notes that Fed was lulled into a false sense of security because this strategy was viewed as successful in dealing with previous bubbles; macroeconomic situation at time of low inflation and sustained growth--dubbed the Great Moderation--was quite benign; and because it was felt that a downturn in U.S. housing sector would not seriously affect broader economy. This sanguine view was clearly revealed when Fed released on January 12, 2012, transcripts of meetings of Federal Open Market Committee in 2006. At June meeting that year, a Fed economist reported, We have not seen--and don't expect--a broad deterioration in mortgage credit quality. Mad, at December meeting, Timothy Geithner, then president of Federal Reserve Bank of New York, said, The softer-than-expected recent numbers don't argue, in our view, for a substantial reassessment of risks to outlook. Stein notes that some people in financial industry, state bank regulators, and Federal Deposit Insurance Corporation warned of dangers in housing market, and he cites Yale economist Robert Schiller, who argued in 2007 that it was not possible to explain boom in terms of such fundamentals as rent and construction costs. …" @default.
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• W651734982 date "2012-09-22" @default.
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• W651734982 title "Stochastic Optimal Control and the U.S. Financial Debt Crisis" @default.
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