Economics 435: The Financial System

This site provides resources for students in Economics 435 at the University of Wisconsin, Madison for Fall 2021 Semester

(top) 5 year inflation breakeven, and 10yr-3mo term spread, (bottom) VIX and Economic Policy Uncertainty index Source: Federal Reserve Board via FRED, Fed, CBOE via FRED, and author's calculations.

Syllabus | Academic Misconduct | Important Dates | Downloadable Course Materials and Information Sources | Department of Economics Robert M. LaFollette School of Public Affairs |

Instructor
Professor Menzie Chinn
Office Hours: TuTh (2:30-3:30) (provisional subject to change, incl mode)
Office: 7418 Social Sciences Bldg.
Phone: (608) 262-7397
email: mchinn [at] lafollette.wisc.edu
Home Page

Course Syllabus

Econ 435 Syllabus in PDF file.

This course will review the basics of monetary policy, including how the money supply is controlled and the role of the banking system. The course will then cover the principles of asset pricing, the role of collateral constraints and other informational problems in banking, and how those factors induce feedback loops in the macroeconomy. A portion of the course will address the analysis and implications of financial regulation or non-regulation, especially in regard to the financial crisis of 2008. Prerequisites: Econ 301/311 and 302/312, Econ 310. If you have completed Econ 410 with a prior statistics course other than 310, you can enroll with my assistance/authorization.

Notes Regarding Academic Misconduct

Academic Integrity is critical to maintaining fair and knowledge based learning at UW Madison. Academic dishonesty is a serious violation: it undermines the bonds of trust and honesty between members of our academic community, degrades the value of your degree and defrauds those who may eventually depend upon your knowledge and integrity. Examples of academic misconduct include, but are not limited to: cheating on an examination (copying from another student's paper, referring to materials on the exam other than those explicitly permitted, continuing to work on an exam after the time has expired, turning in an exam for regrading after making changes to the exam), copying the homework of someone else, submitting for credit work done by someone else, stealing examinations or course materials, tampering with the grade records or with another student's work, or knowingly and intentionally assisting another student in any of the above. The Dept. of Economics will deal with these offenses harshly following UWS14 procedures: UWS 14: STUDENT ACADEMIC DISCIPLINARY PROCEDURES):

1. The penalty for misconduct in most cases will be removal from the course and a failing grade,

2. The department will inform the Dean of Students as required and additional sanctions may be applied.

3. The department will keep an internal record of misconduct incidents. This information will be made available to teaching faculty writing recommendation letters and to admission offices of the School of Business and Engineering.

If you think you see incidents of misconduct, you should tell your instructor about them, in which case they will take appropriate action and protect your identity. You could also choose to contact our administrator and your identity will be kept confidential.

All students must sign and return this document by email to me: Exam Statement.

Details here:

• Misconduct Statement
• Greivance Procedure
• Accommodations for Students with Disabilities
• Diversity

Important Dates

• Wed, 10/21: Midterm 1
• Wed, 11/18: Midterm 2
• Wed, 12/15: Term paper due date

Course Materials and Sources of Economic Information

Downloadable Course Materials

• Lecture 1 (9/9) [link]
• Lecture 4 (9/21) [link]
• Lecture 5 (9/23) [link] Handout on Covid Economic Crisis in IS-LM (9/25) [link]
• Problem Set 1 (due 9/28 11pm on Canvas), Word version [link]
• Lecture 6 (9/28) [link]
• Problem Set 1 Answer Key (due 9/28 11pm on Canvas) [link]
• Lecture 8 (10/5) [link]
• Problem Set 2 (due 10/15 11pm on Canvas), Word version [link] PDF version [link]
• Fall 2019 Midterm 1 [link]
• Problem Set 2 Answers [link]
• Current Situation and Bubbles/Fads [link]
• Lecture 14, Part 1 (10/26) [link]
• Lecture 14, Part 2 (10/26) [link]
• Midterm 1 Answer Key [link]
• Midterm 1 Histogram/Grading Curve [link]
• Lectures 15-16 (10/28-11/2) [link]
• Problem Set 3 (due 11/4 11pm on Canvas), Word version [link] PDF version [link]
• How does the "equity cost of capital" relate to the pecking order of finance? [link]
• Lectures 17-18 (11/4-9) [link]
• Problem Set 3 Answers (due 11/4 11pm on Canvas) [link]
• Lectures 19-20 (11/11-16) [link]
• Fall 2019 Midterm 2 [link]
• Handout on Taylor Rules (11/16) [link]
• Problem Set 4 (due 11/16 11pm on Canvas), Word version [link] PDF version [link]
• Problem Set 4 Answer Key (due 11/16 11pm on Canvas) [link]
• Paper Assignment (due 12/15 11pm on Canvas) [link]
• Lectures 21-22 (11/23-30) [link]
• Midterm 2 Answer Key [link]
• Midterm 2 Histogram/Grading Curve [link]
• Lectures 24-25 (12/2-7) [link]
• Lectures 25 Part 2 (12/7) [link]
• Lecture 26 (12/9) [link]
• Lecture 27 (12/14) [link]

Required On-line Readings

• [Pref] Preface and Chapters 1-2 of Lost Decades
• [ISLM] IS-LM
• [PCO] Portfolio Crowding Out
• [Blanchard] Blanchard, The Covid Economic Crisis
• [ADAS1] and [ADAS2] Aggregate Demand - Aggregate Supply (ADAS1) and AD-AS with Expectations and Supply Shocks (ADAS2)
• [EHTS] Expectations Hypothesis of the Term Structure, the Liquidity Premium, and Economic Activity
• [Asset pricing] Asset prices, efficient markets hypothesis...
• [BBS] Notes on Bank Balance Sheets
• [CCLM] Notes on CC-LM
• [Ru] Glenn D. Rudebusch, "The Fed's Monetary Policy Response to the Current Crisis," FRBSF Economic Letters 2009-17; May 22, 2009
• [BB] Ben Bernanke, Alan Blinder, "Credit, Money and Aggregate Demand,"American Economic Review 78(2) (May, 1988), pp. 435-439.
• [BGG] Bernanke, Gertler and Gilchrist, "The Financial Accelerator and the Flight to Quality," The Review of Economics and Statistics 78(1). (Feb., 1996): 1-15.
• [CJS] J.D. Coval, J. Jurek, E. Stafford, "The Economics of Structured Finance," Journal of Economic Perspectives 23(1) (Winter 2009).
• [GHKS] David Greenlaw, Jan Hatzius, Anil K Kashyap, Hyun Song Shin, "Leveraged Losses: Lessons from the Mortgage Market Meltdown," paper presented at US Monetary Policy Forum Conference, February 29, 2008.
• [Br] M. Brunnermeier, "Deciphering the Liquidity and Credit Crunch, 2007-2008," Journal of Economic Perspectives 23(1) (Winter 2009).

Additional Optional Readings

• For monetary policy section: Federal Reserve, Guide to changes in the Statement on Longer-Run Goals and Monetary Policy Strategy (August 27) [link]
• For monetary policy section: Federal Reserve, The Federal Reserve's Review of Its Monetary Policy Framework: A Roadmap (August 27)[link]
• For monetary policy section: Aronson, "A more inclusive employment mandate," Brookings Institution (August 28, 2020). [link]
• For monetary policy section: Federal Reserve, System Analytical Work (on the Monetary Policy Framework) (August 27) [link]
• For monetary policy section: Hanson, et al., "Business Credit Programs in the Pandemic Era," BPEA (September 2020). [link]
• For monetary policy section: Driessen, Labonte, "COVID-19: The Federal Reserve's Municipal Liquidity Facility," CRS In Focus (August 14, 2020). [link]
• For monetary policy section: English, Liang, "Designing the Main Street Lending Program: Challenges and Options," Journal of Financial Crises (2020). [link]
• For monetary policy section: Frankel, "Lecture 8: Dynamic Inconstency of Monetary Policy, and How to Address It"[link]
• For monetary policy section: Chinn, Notes on Modern Monetary Theory for Paleo-Keynesians[link]
• For monetary policy section: Brad Delong, "What is Modern Monetary Theory," Jan. 21, 2019[link]
• Jeffrey Cheng, Tyler Powell, Dave Skidmore, and David Wessel, "What’s the Fed doing in response to the COVID-19 crisis? What more could it do?" Brookings Institution, March 30, 2021
• Asso, P.F., Kahn, G.A. and Leeson, R., 2007. The Taylor rule and the transformation of monetary policy.
• "Why the repo market went awry..." Economist Nov. 2, 2019
• Ihrig, Meade, Weinbach, 2015, "Rewriting Monetary Policy 101: What's the Fed's Preferred Post-Crisis Approach to Raising Interest Rates?," Journal of Economic Perspectives, 29(4): 177-98.
• Kuttner, "Outside the Box: Unconventional Monetary Policy in the Great Recession and Beyond," Journal of Economic Perspectives 32(4) (Fall 2018)

• Financial Stability Report (November 2021)
• The world has not learned the lessons of the financial crisis," Economist 6 September 2018
• Financial Stability Oversight Council
• Adrian, Covitz, Lang, "Financial Stability Monitoring," NY Fed Staff Report 601.
• Basel III webpage
• "Bank Regulation: Buffering," Economist (Nov. 15, 2014)
• Baily and Elliott "How Is the System Safer? What More Is Needed?"
• Brunnermeier, et al., "The Fundamental Principles of Financial Regulation," Geneva Reports on the World Economy No 11.
• "Basel III Regulatory Update," Moody's Analytics, June 2012
• Basel Committee on Banking Supervision, Summary of Basel III Reforms, December 2017.
• Basel Committee on Banking Supervision, Basel III: Finalising post-crisis reform, December 2017.
• Basel III Webpage
• "The Dodd-Frank Wall Street Reform and Consumer Protection Act: Background and Summary," Congressional Research Service Report 41350, 2017.
• [ACRW] Viral Acharya, Thomas Cooley, Matthew Richardson and Ingo Walter, "Dodd-Frank: One Year On..." Dodd-Frank One Year On (CEPR/Vox, 2011). backup version on UW server: Dodd-Frank: One Year On
• [DFP] Mathias Dewatripont, Xavier Freixas, and Richard Portes, editors, Macroeconomic Stability and Financial Regulation: Key Issues for the G20 (CEPR, 2 March 2009), pp. 91- .)

• "Down the Rabbit Hole: The beguiling promise of decentralised finance and its many perils," Economist, September 18, 2021.
• "Adventures in DeFi-land," Economist, September 18, 2021
• "Central bank digital currencies: foundational principles and core features," BIS, 2020.
• Auer, Cornelli, Frost, "Rise of the Central Bank Digital Currencies: Drivers, Approaches and Technologies," CESifo working paper, 2020

• Mishkin, "Financial Derivatives," Web Chapter 4
• Zandi, Yaros, "Playing a Dangerous Game With the Debt Limit," Moody's Analytics, September 21, 2021.
• Andolfatto, "What is the yield curve forecasting?" MacroMania, Sept 24, 2018.
• "Free exchange: Bond yields reliably predict recessions. Why?" Economist 26 July 2018.
• Claessens and Kose, "Asset Prices and Macroeconomic Outcomes: A Survey," World Bank Policy Research Working Paper 8259.
• Cecchetti-Schoenholtz textbook website
• Favara, Gilchrist, Lewis, Zakrajsek, "Recession Risk and the Excess Bond Premium," FEDS Notes (April 2016).
• Favara, Gilchrist, Lewis, Zakrajsek, "Updating the Recession Risk and the Excess Bond Premium," FEDS Notes (October 2016).
• Martin Weale and Tomasz Wieladek, "What are the macroeconomic effects of asset purchases?", Bank of England Discussion Paper, April 2014.
• "The slumps that shaped modern finance," The Economist (April 11, 2014).
• Gorton, "The Panic of 2007," paper presented at Kansas City Fed Jackson Hole conference (August 2008).
• Richard G. Anderson, Charles S. Gascon, and Yang Liu, "Doubling Your Monetary Base and Surviving: Some International Experience," Federal Reserve Bank of St. Louis Review, November/December 2010, 92(6), pp. 481-505.
• Aswath Damodaran (NYU) notes on VaR
• Kevin Kliesen, et al., "Disentangling Diverse Measures: A Survey of Financial Stress Indexes" Federal Reserve Bank of St. Louis Review (Sept/Oct 2012).
• Lawrence Summers, "Does the Stock Market Rationally Reflect Fundamental Values?" Journal of Finance 41(3) (July 1986).
• Robert Schiller, "Do Stock Prices Move too Much to Be Justified by Subsequent Dividends," AER 71(3) (June 1981).
• Matthieu Bussiere and Annukka Ristiniemi, "Credit Ratings and Debt Crises," Bank of France Working Papers No. 396 (September 2012).
• Menzie Chinn and Kavan Kucko, "The Predictive Power of the Yield Curve across Countries and Time," NBER Working Paper No. 16398 (Sept. 2010). .
• [pdf]Menzie Chinn and John Kitchen, "Financing U.S. Debt: Is There Enough Money in the World - and At What Cost?" International Finance (2012). .
• "Credit default swaps: Heading towards a more stable system," Deutsche Bank (Dec 2009).
• Interactive Yield Curve
• Menzie Chinn and Jeffry Frieden, "Reflections on the Causes and Consequences of the Debt Crisis of 2008," La Follette Policy Report 19(1) (Fall 2009): 1-5. .
• P. Swagel, 2009, "The Financial Crisis: An Inside View," paper presented at the Brookings Panel on Economic Activity, March 2009

News Reports/Additional Readings

News Sources

• Financial Times online
• New York Times online.
• Washington Post online
• BBC news online
• Reuters online
• Bloomberg online
• The Economist

Tracking the Crisis and Recession

• St. Louis Fed "Tracking the Global Recession
• NY Fed "Timelines of Policy Responses to the Global Financial Crisis

Weblogs and Perspectives

• Econbrowser (UCSD and UW-Madison) blog
• Atlanta Fed's Macroblog
• SF Fed "FedViews"
• Calculated Risk
• Baseline Scenario (MIT and Peterson IIE)
• Greg Mankiw's (Harvard) blog
• Brad DeLong's UC Berkeley blog
• Council on Foreign Relations Geo-Graphics

Economics and Economic Policy Links

• Resources for Economists Extensive links to data sources, working papers and organizations.
• American Enterprise Institute Right of center think tank.
• Brookings Institution Moderate/left of center think tank.
• Peterson Institute for International Economics
• Institute for International Finance Think tank associated with international banks.
• Economic Policy Institute Left of center labor-oriented think tank.

International Organizations

• International Monetary Fund
• Bank for International Settlements Central banks' central bank.
• Organization for Economic Cooperation and Development Developed country research organization.

U.S. Government Agencies

• White House Council of Economic Advisers
• U.S. Department of the Treasury
• Congressional Budget Office Nonpartisan analytical agency of the Congress.
• Federal Reserve Board

Current and Historical Data

• St. Louis Fed economic database Thousands of time series on economic activity, in an easily downloadable form.
• Economist Economic Indicators
• IMF International Financial Statistics (monthly, quarterly, annual)
• Note: IMF, International Financial Statistics, and World Bank, World Development Indicators, available from DISC.
• Economic Indicators Publication of CEA and Congressional Joint Economic Committee contains recent economic data.
• Bureau of Economic Analysis, Dept. of Commerce Data on GDP and components (the national income and product accounts) as well as other macroeconomic data.
• Bureau of the Census, Dept. of Commerce Data on the characteristics of the US population as well as of US firms.
• Bureau of Labor Statistics, Dept. of Labor Data on wages, prices, productivity, and employment and unemployment rates.
• Energy Information Agency, Dept. of Energy Data on on energy (electricity, gas, petroleum) production, consumption and prices.
• Bank for International settlements Effective Exchange Rate Indices.
• Economic Report of the President, various years. The back portion of this annual publication contains about 70 tables of government economic data.
• NBER Data Specialized economic databases created by economists associated with the National Bureau of Economic Research.
• NBER listing of economic releases Compendium of links to economic releases, and archived releases.
• Pacific Exchange Rate Service.
• Federal Reserve Board data Monetary, financial and output data collected by the Nation's central bank.
• Penn World Tables Annual GDP and other data for over a hundred countries, expressed in dollars, after adjusting for differing price levels.
• CME Fedwatch Tool
• Yahoo finance - bond yields
• WSJ bond yields
• Robert Shiller historical stock data
• YCharts Macro and equity market data series.
• Yahoo finance website Current financial data.
• Google finance website Current financial data.
• ino.com Futures data.
• Bureau of Economic Analysis, Dept. of Commerce Data on GDP and components (the national income and product accounts) as well as other macroeconomic data.
• Bureau of the Census, Dept. of Commerce Data on the characteristics of the US population as well as of US firms.
• Bureau of Labor Statistics, Dept. of Labor Data on wages, prices, productivity, and employment and unemployment rates.
• Energy Information Agency, Dept. of Energy Data on energy (electricity, gas, petroleum) production, consumption and prices.