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- China's looming property bubble: the opening anecdote about a cabbie-turned-real estate broker reminds me of a few of the stories we heard out of Thailand before their economy bottomed out in 1997. It is only an anecdote, but there are worrying numbers to back it up. China's careful tighting of banks' reserve requirements and mortgage regulations since the beginning of the year also suggest they're paying very close attention - investors seem to think more monetary tightening is on the way.

As a side note, you can be sure that China's decisions regarding the valuation of its currency will have everything to do with their delicate internal economic balancing act, and very little to do with all the noise foreign governments are making.

- The End of An Era: Dani Rodrik believes that the IMF's February policy note - which acknowledged the occasional usefulness of capital controls - signals a huge shift in global economic orthodoxy. I'm not so sure it's as momentous as that, and it's unfortunate that Dani-boy is plugging a re-hash of the Tobin Tax. But I like Dani's suggestion that the IMF, now liberated from denial, can explore more closely when and how capital controls might prove useful.

This is important, because most capital controls aren't usually very good at doing their job. They are certainly no substitute for strong economic policymaking. But sometimes strong policy is not enough: for countries that are currently importing inflation from the low-interest rate economies (see Brazil, and Taiwan, and Scandinavia, and... and...) controls might be required to help slow the capital inflows before they become de-stabilizing. Brazil, for example, has already moved in this direction.

- Reinforcing pre-conceived notions alert!: higher cigarette prices in developing countries will probably reduce smoking. This abstract amuses me both for its inpenetrable language and in the number of times it uses the word "estimate." What is probably absent from this paper is any recognition of the underlying psychological appeal of smoking or the black-market side effects of raising prices on smokes. But hey, they're just economists right?

- Alternative health-care bills (The Onion).

Dept. of Checks and Balances
After refusing to bow to the government's policy whims, the previous head of Argentina's central banker was dropped like a sack of rice. One is not suprised to learn that his replacement is decidedly more cooperative. There has been some debate recently as to whether inflation targeting should be the only goal of central banks (see here). With inflation running about about 32%/year, Argentina does not figure in this debate.

Sacrilege
Adair Turner, the head of Britain's Financial Services Agency (a position not known for siding with the pitchfork-waving anti-capitalist crowd) calls into question the prevailing dogma about the value of financial liberalization. Ditto over at the IMF blog, where the notion of capital controls is beginning to take hold as part of a 'reasonable' policy approach.

Mine is 1 louder
Last weekend, the Sunday Times published a letter from 20 economists supporting the British Conservatives' plan for fiscal, er, conservatism. This week, 60+ economists responded that the risks of cutting spending are far too high, and could tip the UK back into a recession. So the question is this: are we 1981 or 1997?

Communication Gap
Mobile/cell phone usage, worldwide. I'm guessing that using public transit in Puerto Rico is super-annoying for this reason alone.

There are probably very few activities which are shared by both schoolchildren and our fiscal & monetary policymakers, but blowing bubbles is one of them. The difference being that the kids' bubbles usually consist of soap, are far more entertaining, and cannot cause ruin to entire economies when they pop. But it's the metaphorical asset bubbles that I am more interested in.

Metaphorical bubbles and their non-metaphorical problems
Which brings us to the lead story in last week's The Economist. The editorial worries that the loose monetary policies adopted by major economies (printing money; very low interest rates) has created an environment vulnerable to further asset bubbles. In the short term, the side-effect of cheap money on asset prices is being welcomed by many: the profits are helping the market rebound from its earlier downward spiral and firms' balance sheets are being strengthened as a result.

But there are longer-run issues to be concerned about. As the articles explains, "The problem for [investors] is not just that valuations look high by historic standards. It is also that the current combination of high asset prices, low interest rates and massive fiscal deficits is unsustainable." Eventually the cheap money is going to run out when governments scale back their extraordinary measures - this is not a secret. What is not known, however, is whether the process of scaling back is going to be smooth or volatile. History suggests that we cannot assume a smooth transition.

Carry Trade 2009-?
Not all the evidence points to asset bubbles - see The Economist's other article - at least not for the wealthiest economies. Emerging markets, however, are the destination of a lot of this cheap money, which creates its own challenges. To understand why this is so, let's look back to Nouriel Roubini's November editorial about the Mother of All Carry Trades that began in 2009. The "carry trade" is the practice of borrowing in a cheap currency (the USD, with a near-zero - and sometimes negative - interest rate) and investing in risky assets with higher return. Here's Roubini:

"Let's sum up: traders are borrowing at negative 20 per cent rates to invest on a highly leveraged basis on a mass of risky global assets that are rising in price due to excess liquidity and a massive carry trade. Every investor who plays this risky game looks like a genius – even if they are just riding a huge bubble financed by a large negative cost of borrowing – as the total returns have been in the 50-70 per cent range since March [2009]....
Yet, at the same time, the perceived riskiness of individual asset classes is declining as volatility is diminished due to the Fed’s policy of buying everything in sight... By effectively reducing the volatility of individual asset classes, making them behave the same way, there is now little diversification across markets.

The power to become habituated to his surroundings is a marked characteristic of mankind. Very few of us realize with conviction the intensely unusual, unstable, complicated, unreliable, temporary nature of the economic organization by which Western Europe has lived for the last half century. We assume some of the most peculiar and temporary of our late advantages as natural, permanent, and to be depended on, and we lay our plans accordingly.

Rory's post on the corruption perceptions index below has prompted me to follow up with another global country ranking: the financial secrecy index.

The list is produced by a group called the Tax Justice Network, an independent organization set up by the British Parliament that is unaffiliated with any political party. The list is not as comprehensive as the Corruption Perceptions Index (it only includes 60 countries), but it nevertheless provides an interesting comparison.

Take, for example, the top 15 countries on each list. Countries like Switzerland, Hong Kong, the Netherlands, Luxembourg and Singapore rank among both the least corrupt and the most secretive. At one level this makes perfect sense: why would you entrust your hard-earned, tax-avoiding millions to a country with a reputation for corruption? You want your funds to have both privacy and security.

On the other hand, although lack of corruption is generally a good thing, these countries should not be perceived to be bathing in the light of the Heavens when it comes to financial matters. To the extent that high levels of financial secrecy are facilitating huge sums of money to be transferred away from countries that might actually need them, these financial havens are merely the other half of an equation that permits corruption to rob growing economies of valuable resources.

Another thing which is worth noting on this list is entry #1 and entry #5.
Entry #5 is only interesting because the UK actually receives a good rating on financial secrecy overall. However, because the City of London deals with such huge sums of money, the risks are necessarily higher and the country gets pushed up the list. Sort of put things in perspective.

Now for entry #1: crowning off the financial secrecy index is none other than the United States of America, or more specifically: Delaware.

Apparently, Delaware is such a popular destination for foreign investment because it doesn't tax profits earned outside of the state (and how much money can you make in a state of roughly 800,000 people anyway?) and it does not require companies to be physically present in the state.

Best of all, the state doesn't establish the beneficial ownership information (i.e. the people who actually own the thing) when incorporating the company. The defense offered in the article I link to above is that no other U.S. state establishes beneficial ownership, so why should Delaware? Well when one of the people setting up shell companies in your state is a Russian who happens to be one of the world's largest arms dealers, you may consider adopting this fundamental banking practice. Idiots.

So next time you hear Sarkozy, Brown, or any other Western leader foaming at the mouth as they rant and rave about tax havens prior to a G20 summit, keep this list in mind.

For once, Gordon Brown has managed to up-stage his cross-channel compatriot, Nicholas Sarkozy, at a G20 event. This might have had something to do with the fact that neither Brown nor Sarkozy really belonged at a meeting for Finance Ministers and Central Bank Governors, so the Frenchman had understandably stayed at home. But that technical detail was not enough to stop Gordon Brown, oh no.

In case you missed it, Gordon Brown gate-crashed the G20 meeting in St. Andrews by backing a proposal for a transition tax. (For a backgrounder on the transition tax, see here). This continues the trend of the Prime Minister attempting to use home-turf advantage to blatantly hijack G20 meetings to advance his electoral prospects.

The trouble is, it's not working very well. Remember that $1 trillion dollar figure that emerged from the chaos of the London G20 summit? The one which Berlusconi is said to have described as "the most expensive election campaign ever?" No? Well neither is the British electorate come voting time next year.

At least after the London summit, Gordon Brown managed to temporarily project the image of international statesmanship. With his latest PR stunt, the PM just comes across as desperate. He clearly hadn't bothered to build a coalition for the idea, instead trying to catch his colleagues off-guard. The effect was predictable: representatives from Russia, Canada, the IMF, the ECB and, most singificantly, the United States immediately rejected the proposal. Without the US, the idea goes nowhere.

So Brown backtracked from his position by the end of the weekend, looking very much unlike an international statesman.

Here's the thing: I believe that Brown is sincere in his arguments for a new social contract in which taxpayers do not provide costless insurance for large financial institutions. But the way he has gone about promoting this view smacks of political manipulation and panic. His headline-grabbing attempt over the weekend was yet another episode in the Gordon Brown self-destruction show.

The rest:

The big disappointment for me in the G20 communique from St. Andrews was its deafening silence on the issue of macroeconomic imbalances. The Pittsburgh G20 communique from September impressed me in that it actually included a commitment to address the issue head-on (and somehow China agreed!). The real test for G20 commitments, however, is that they continue to appear is subsequent communiques. So far, this one isn't looking good.

Last week, as Rory pointed out, the idea of a Tobin tax once again appeared in popular economic discussion. This was prompted in large part because Lord Turner, the head of Britain's Financial Services Authority, re-introduced the idea of the Tobin tax as a possible way to keep the City from growing too big - and yes, 4-5% of GDP is probably too big.

So what is this Tobin tax, and does it have merit? This post will take a stab at answering these questions.

What is it?
As the name might suggest, the idea was introduced by Yale economist and Nobel laureate James Tobin in 1972.The Tobin tax consists of a modest ad valorem tax applied to certain financial transactions; proposals for taxation levels range from 0.5% to 0.01%.

The appeal of the tax is two-fold. Firstly, the flat tax would specifically target short-term capital flows. For example, if the yearly cost of a “round-trip” investment is 0.2% (a 0.1% tax, applied twice), then the monthly rate would be 2.4%; the weekly rate, 10%; and the daily rate, 48%. In other words, in order for a round-trip investment of one day to be worthwhile, the return would need to be nearly half-again as big as the initial investment. Over the span of a year, however, the tax rate is considerably less.

Why target short-term capital flows? Although opinions on this vary, one line of thinking is that the flows of short-term capital (hot money) are less productive than longer-term foreign investment. Investors are prone to herd behaviour and often lack full information. Larry Summers called them "IDIOTS" but the technical term is noise traders. Either way, the ability to move money around quickly and at low cost can produce volatility. Volatility is bad when you're trying to use foreign investments to build an economy. If that money just picks up and leaves, you're in trouble.

Indeed, it was precisely this problem which helped cause the Asian financial crisis in 1997-8: the collapse of Thailand's economy made investors panicky about the whole region and they pulled their short-run investments out en masse. At least, they pulled their money out of countries that didn't have capital controls: China, which had controls, was largely unscathed.

Insert the Tobin tax. By placing a fixed cost on the movement of money across borders, you force investors to think harder about their investments - hopefully making them more productive. The tax also provides stability by acting as a buffer against the herd behaviour of international capital markets. Moreover, the tax acts as a significant source of government revenue (which could be good or bad) and, as explained above, wouldn't scare away longer-term foreign direct investment. Great idea, right?

Will it work?
The answer depends upon what your objective is. The fact is, a flat tax on international capital movements is a pretty blunt instrument indeed. Even a 0.1% tax can be a huge cost, and could result in significant market distortions.

For instance, it's possible that a Tobin tax could punish countries that don't use major world currencies. If you want to convert Chilean pesos into Indian rupees to invest in India, you will most likely have to switch the pesos to dollars, then the dollars to rupees. With a Tobin tax in place, it's possible that this transaction will be taxed twice. Bad news for developing countries.

A similar story unfolds with international trade, where firms often hedge their contracts through spot or swap transactions. If these secondary transactions were taxed, international trade - one of the fundamental benefits of market capitalism - could be less appealing.

We could also spend a great deal of time discussing the practical difficulties of implementing such a tax. International coordination at the G20 level would be a minimum for this to be truly effective at slowing hot money and reducing volatility.

If your main concern is to generate revenue, the Tobin tax might still be a good idea. I've seen proposals for using the tax as a way to generate aid money for developing countries. Lovely notion, but Tobin himself explicitly rejected the idea of using the tax primarily as a revenue-generator because the point was to create financial stability.

But if the point is to create financial stability by limiting the size of the financial sector, as Lord Turner suggests, Willem Buiter argues that the Tobin tax is still a lousy idea. A transaction tax would not even begin address the fundamental problems in our financial markets, especially the problem of moral hazard (read his article for more detail, if you're interested).

The appeal of the Tobin tax is understandable: its beauty lies in its simplicity. But it is too blunt a tool to achieve what is being asked of it, and the G20 is rightly focusing on other issues. Nevertheless, this will not be the last we hear of the Tobin tax.

-The 'Tobin tax' is suddenly back en vogue; the FT offers a brief introduction.

-The NYT establishes a connection between the growth of independent media and increasingly open religious debate in Egypt.

-The Economix blog at the NYT asks whether congressional earmarks for public universities, surprisingly the largest recipients of so-called 'government waste', should be considered 'pork'.

-FP Passport offers an unconventional perspective on the al-Megrahi deal, and makes a convincing argument in favor of realpolitik. This short piece is blogging at its best: cutting through the noise to reveal the underlying complexity of international relations.

George Soros makes a great point:

Institutions such as the International Monetary Fund face a novel task: to protect the periphery countries from a storm created in the developed world. Global institutions are used to dealing with governments; now they must deal with the collapse of the private sector. If they fail to do so, the periphery economies will suffer even more than those at the centre.

In a piece on Vox EU, Hadi Soesastro argues that East Asian countries should seize the opportunity afforded by the G20 and integrate their strategic interests and influence into the emerging post-crisis governance paradigm.

The crisis has created an opportunity for new players to bring their plights, interests, and aspirations to bear towards more inclusive global efforts to resolve it.

He argues that East Asia's inward focus over the past decade (with the big exception of China) has limited the region's collective influence and ability to project its strategic interests onto the global economic governance structure. Soesastro points specifically to the creation of a regional monetary fund, borne out of the collective sense of injustice at the hands of the IMF following the East Asian financial crisis.

He also believes, more broadly, that the focus should not be on the reform of existing international institutions. Global governance would instead be more effective if based on regional arrangements that coalesce the interests of developed, emerging and least developed economies within a geographic area. He points to efforts already underway within Latin America and the CIS to develop regional agendas for the G20 forum.

Finally, he identifies the G20 as a vehicle for China to increase its participation in global economic governance:

East Asia’s strategic participation in the G20 provides a framework for China to play an increased role – as a key member of the regional community – in the recovery of the global economy and in shaping global economic governance. In the Chinese language, the word “crisis” is made up aptly of the characters for “danger” and “opportunity”.

Soesastro's rallying cry for East Asia reflects a growing consensus that the G8 has become irrelevant and the post-crisis economic governance paradigm must be inclusive of a broader range of stakeholders, particularly those whose economic power far outweighs their political representation under the current global regime. If macroeconomic imbalances have played a central role in the crisis, the representatives of one half of that equation (i.e. Asian savings, which I know is a horrible oversimplification) should undoubtedly play as large a role in resolving the crisis as any party from the other side of the ledger. Further, trade is vital to East Asian economic growth and integration. Having a vocal advocate for open trade at the negotiating table, at a time when many of the major western countries are swinging towards protectionism, is of paramount importance to preserving the free trade consensus.

While I am skeptical of the ease with which Soesastro envisions a regional convergence of interests on issues like trade and investment (will China's interests always converge so neatly with Japan's?), he nonetheless highlights the enormous opportunity previously marginalized countries are provided by the crisis. Regions like East Asia can exert their collective influence to refashion global economic governance more in line with their own strategic interests. They can also play a vital role in preserving the open flow of trade and capital that has been so vital their own development.

In January I quoted a report by the IIF that predicted 2009 would see a huge decline in capital flows to emerging markets, with Eastern Europe and Russia particularly hard hit. Now we can add a new dynamic to the mix: not only is new money going to stop flowing, but much of Eastern Europe's debt is short-term and will need to be either paid back or rolled over this year. Here's an article that lays out the implications, (via naked capitalism):

Stephen Jen, currency chief at Morgan Stanley, said Eastern Europe has borrowed $1.7 trillion abroad, much on short-term maturities. It must repay – or roll over – $400bn this year, equal to a third of the region's GDP. Good luck. The credit window has slammed shut....

Almost all East bloc debts are owed to West Europe, especially Austrian, Swedish, Greek, Italian, and Belgian banks. En plus, Europeans account for an astonishing 74pc of the entire $4.9 trillion portfolio of loans to emerging markets....

Whether it takes months, or just weeks, the world is going to discover that Europe's financial system is sunk, and that there is no EU Federal Reserve yet ready to act as a lender of last resort or to flood the markets with emergency stimulus....

In Poland, 60pc of mortgages are in Swiss francs. The zloty has just halved against the franc. Hungary, the Balkans, the Baltics, and Ukraine are all suffering variants of this story. As an act of collective folly – by lenders and borrowers – it matches America's sub-prime debacle....

"This is much worse than the East Asia crisis in the 1990s," said Lars Christensen, at Danske Bank.