"We risk becoming the best informed society that has ever died of ignorance"
- Rubén Blades

"You can't make up anything anymore. The world itself is a satire. All you're doing is recording it"
- Art Buchwald

"It's getting exciting now, two and one-half. Think of everything we've accomplished, man. Out these windows, we will view the collapse of financial history. One step closer to economic equilibrium"
- Tyler Durden

"It is your corrupt we claim. It is your evil that will be sought by us. With every breath, we shall hunt them down."
- Boondock Saints

Saturday, November 5, 2011

Snapshots Of Economic Crises In Phase Space

From The World Complex:
Part 3 of inference of dynamics is delayed as for some reason I can't open the post and edit.

Today we look at the monthly change in net foreign purchases of US long-term securities. Data comes from the US Treasury site. By net foreign purchases they mean the difference between foreign purchases of US long-dated securities and US purchases of foreign securities.
What I found most surprising is the negative bias. In this chart, a negative number means US purchases of foreign long-dated securities exceeds foreign purchases of US long-dated securities. We note the negative bias becomes quite pronounced beginning in the early '90s (wasn't this the era of the US strong dollar policy?)

The plot below is a reconstructed phase space in two dimensions, using the monthly change in net foreign purchases of US securities, expressed as a percentage, and smoothed by a three point moving average.

What we are looking at is a measure of policy responses to economic crises of the last 30 years. Two things really leap out at me: 1) the size of the response to the Russian crisis in early 1998, which arguably led to the collapse of Long Term Capital Management; and 2) where is the great 2008/2009 crisis?

The net change of about 13000% in a single month reflects foreigners dumping US bonds and the US buying foreign bonds. The actual peak value is higher because I have plotted the phase space using a 3 pt moving average instead of the actual values to reduce noise. Of course the super-spike is so large that any noise has faded into the background.

Notice the straight lines from the tangle near the origin along the axes. It is rare to see straight segments in a phase space portrait--it tells us that the massive change happened over the course of a single observation. Imagine what must have happened to a heavily levered player in such an environment? Well, we hardly need to imagine.

Looking at the last few years, we see the following.
I'm not sure what was going on in late 2005, but the last big crisis had a sudden (albeit small) response.

Since these are percentage changes, it could be that before the 2008-9 crisis really took off there was already a lot of net selling of US long treasuries, so the spike does not appear so impressive.

In conclusion--it looks like the Russian crisis caught monetary authorities by surprise, leading to an enormous response.