The financial crisis and U.S. cross-border financial flows

The financial crisis that began in the summer of 2007 caused notable changes in the composition of U.S. cross-border financial flows, especially in the fall of 2008, when the crisis intensified. This article documents three major channels through which financial flows and associated portfolio positions were affected: (1) “flight to safety” shifts away from riskier securities and toward investments in safe and liquid markets, particularly U.S. Treasury securities; (2) unusual flows through the banking system resulting from a shortage of dollar liquidity abroad and a breakdown in interbank markets; and (3) a pullback from cross-border positions during the crisis.Financial crises ; Government securities

The Financial Crisis and the U.S Cross Border Financial Flows The Federal Reserve Bulletin

Federal Reserve Bulletin November 9, 200

ABS Inflows to the United States and the Global Financial Crisis

The “global saving glut” (GSG) hypothesis argues that the surge in capital inflows from emerging market economies to the United States led to significant declines in long-term interest rates in the United States and other industrial economies. In turn, these lower interest rates, when combined with both innovations and deficiencies of the U.S. credit market, are believed to have contributed to the U.S. housing bubble and to the buildup in financial vulnerabilities that led to the financial crisis. Because the GSG countries for the most part restricted their U.S. purchases to Treasuries and Agency debt, their provision of savings to ultimately risky subprime mortgage borrowers was necessarily indirect, pushing down yields on safe assets and increasing the appetite for alternative investments on the part of other investors. We present a more complete picture of how capital flows contributed to the crisis, drawing attention to the sizable inflows from European investors into U.S. private-label asset-backed securities (ABS), including mortgage-backed securities and other structured investment products. By adding to domestic demand for private-label ABS, substantial foreign acquisitions of these securities contributed to the decline in their spreads over Treasury yields. Through a combination of empirical estimation and model simulation, we verify that both GSG inflows into Treasuries and Agencies, as well as European acquisitions of ABS, played a role in contributing to downward pressures on U.S. interest rates.

International Capital Flows and the Returns to Safe Assets in the United States, 2003-2007

Part of the International Finance Discussion Paper

Life -cycle consumption examined.

This set of papers uses new data to construct an empirical measure of the average propensity to consume out of full wealth among older households. Consistent with original neoclassical life-cycle theory, full wealth is defined as the present value of all current and future lifetime resources. This definition implies a simple theoretical expression for the average propensity to consume, with consumption proportional to full wealth. Data now available in the Health and Retirement Study (HRS) allow construction of a credible household-level estimate of full consumption and full wealth. A primary advantage of the average propensity to consume out of full wealth is its theoretical simplicity. First, full wealth is more equally distributed than net worth. Second, the propensity to consume out of full wealth, when compared to the propensity to consume out of income or net worth, has less dispersion cross-sectionally, more consistency over time, and more invariance to circumstances or factors such as pension entitlement, income profile, and past income shocks. Finally, the consumption propensity out of full wealth responds less to unexpected changes in resources, specifically unexpected retirement, than the other consumption measures. Comparing the consumption propensity out of full wealth observed in the HRS to the prediction of a neoclassical model of consumption with uncertainty in mortality and asset returns suggests that heterogeneity in preferences, specifically time preference or the willingness to substitute inter-temporally, is necessary to explain the extent of observed cross-household heterogeneity within the model. Estimates of the model with returns to scale in household size, a fixed cost of working, and household-specific variation in expected asset returns only account for a small portion of the variation in the observed consumption rate. After controlling for subjective mortality, expected bequests, and demographics using survey data, the residual is correlated with the level of wealth and with variables that may indicate an inherent characteristic of patience. Exploring alternative explanations for the heterogeneity, cognitive and planning abilities can help explain the residual heterogeneity in the propensity to consume. In particular, measures of basic cognition, horizon of financial planning, basic financial literacy, and goal-oriented behavior is associated negatively with the unexplained variation in consumption rates. In other words, higher skilled households consume less after controlling for factors in the neoclassical model.Ph.D.EconomicsSocial SciencesUniversity of Michigan, Horace H. Rackham School of Graduate Studieshttp://deepblue.lib.umich.edu/bitstream/2027.42/126799/2/3276271.pd

Consumption response to expected future income

This paper shows empirical evidence in favor of forward-looking household consumption--that consumption today depends directly on household-specific ex-ante expectations of future income. This analysis is unique in using a direct consumption measure combined with an ex-ante household-specific measure of expected future income, constructed from detailed survey and administrative data on Social Security, pensions, and retirement plans. Households with high expected future income spend more today than households that have lower future income but identical current income and net worth. Omitting household-specific future income can cause mis-estimation of key consumption questions. Furthermore, when all three resources for consumption (current income, net worth, and future income) are accounted for, the average propensity to spend out of current income is similar to predictions of optimal consumption under uncertainty in a dynamic stochastic model, although the propensities to spend out of accumulated net worth and expected future income are notably lower in the data than the optimal model. Finally, these data also provide evidence on the effect of risk on consumption while controlling for all three resources. Households with high measured risk aversion consume less out of future income. All households, on average, consume more out of the more predictable sources of future income, such as future Social Security benefits.Consumption (Economics) ; Income forecasting

How did a domestic housing slump turn into a global financial crisis

discussion and critical comment. References to International Finance Discussion Papers (other than an acknowledgment that the writer has had access to unpublished material) should be cleared with the author or authors. Recent IFDPs are available on the Web at www.federalreserve.gov/pubs/ifdp/. This paper can be downloaded without charge from Social Science Research Network electronic library at www.ssrn.com. How Did a Domestic Housing Slump Turn into a Global Financial Crisis