Archive for July, 2011
Basic Economics for Financial Journalists and Other Dummies
While driving home last night, I had the miserable experience of listening to a financial journalist being interviewed about the anemic growth numbers that were just released.
I wasn’t unhappy because the interview was biased to the left. From what I could tell, both the host and the guest were straight shooters. Indeed, they spent some time speculating that the economy’s weak performance was bad news for Obama.
What irked me was the implicit Keynesian thinking in the interview. Both of them kept talking about how the economy would have been weaker in the absence of government spending, and they fretted that “austerity” in Washington could further slow the economy in the future.
This was especially frustrating for me since I’ve spent years trying to get people to understand that money doesn’t disappear if it’s not spent by government. I repeatedly explain that less government means more money left in the private sector, where it is more likely to create jobs and generate wealth.
In recent years, though, I’ve begun to realize that many people are accidentally sympathetic to the Keynesian government-spending-is-stimulus approach. They mistakenly think the theory makes sense because they look at GDP, which measures how national income is spent. They’d be much less prone to shoddy analysis if they instead focused on how national income is earned.
This should be at least somewhat intuitive, because we all understand that economic growth occurs when there is an increase in things that make up national income, such as wages, small business income, and corporate profits.
But as I listened to the interview, I began to wonder whether more people would understand if I used the example of a household.
Let’s illustrate by imagining a middle-class household with $50,000 of expenses and $50,000 of income. I’m just making up numbers, so I’m not pretending this is an “average” household, but that doesn’t matter for this analysis anyway.
Expenses Income
Mortgage $15,000 Wages $40,000
Utilities $10,000 Bank Interest $1,000
Food $5,000 Rental Income $8,000
Taxes $10,000 Dividends $1,000
Clothing $2,000
Health Care $3,000
Other $5,000
The analogy isn’t perfect, of course, but think of this household as being the economy. In this simplified example, the household’s expenses are akin to the way the government measures GDP. It shows how income is allocated. But instead of measuring how much national income goes to categories such as consumption, investment, and government spending, we’re showing how much household income goes to things like housing, food, and utilities.
The income side of the household, as you might expect, is like the government’s national income calculations. But instead of looking at broad measures of things such wages, small business income, and corporate profits, we’re narrowing our focus to one household’s income.
Now let’s modify this example to understand why Keynesian economics doesn’t make sense. Assume that expenses suddenly jumped for our household by $5,000.
Maybe the family has moved to a bigger house. Maybe they’ve decided to eat steak every night. But since I’m a cranky libertarian, let’s assume Obama has imposed a European-style 20 percent VAT and the tax burden has increased.
Faced with this higher expense, the household — especially in the long run — will have to reduce other spending. Let’s assume that the income side has stayed the same but that household expenses now look like this.
Expenses
Mortgage $15,000
Utilities $9,000 (down by $1,000)
Food $4,000 (down by $1,000)
Taxes $15,000 (up by $5,000)
Clothing $2,000
Health Care $3,000
Other $2,000 (down by $3,000)
Now let’s return to where we started and imagine how a financial journalist, applying the same approach used for GDP analysis, would cover a news report about this household’s budget.
This journalist would tell us that the household’s total spending stayed steady thanks to a big increase in tax payments, which compensated for falling demand for utilities, food, and other spending.
From a household perspective, we instinctively recoil from this kind of sloppy analysis. Indeed, we probably are thinking, “Spending for other categories — things that actually make my life better — are down because the tax burden increased!!!”
But this is exactly how we should be reacting when financial journalists (and other dummies) tell us that government outlays are helping to prop up total spending in the economy.
The moral of the story is that government is capable of redistributing how national income is spent, but it isn’t a vehicle for increasing national income. Indeed, the academic evidence clearly shows the opposite to be true.
Let’s conclude by briefly explaining how journalists and others should be looking at economic numbers. And the household analogy, once again, will be quite helpful.
It’s presumably obvious that higher income is the best thing for our hypothetical family. A new job, a raise, better investments, an increase in rental income. Any or all of these developments would be welcome because they mean higher living standards and a better life. In other words, more household spending is a natural consequence of more income.
Similarly, the best thing for the economy is more national income. More wages, higher profits, increased small business income. Any or all of these developments would be welcome because we would have more money to spend as we see fit to enjoy a better life. This higher spending would then show up in the data as higher GDP, but the key thing to understand is that the increase in GDP is a natural result of more national income.
Simply stated, national income is the horse and GDP is the cart. This video elaborates on this topic, and watching it may be more enjoyable than reading my analysis.
America 2050: Forget the Forgotten Mode
Half truths, innuendo, and pseudo-science form the basis of a response to my recent Cato paper, Intercity Buses: The Forgotten Mode. The response is produced by America 2050, a project of the Regional Plan Association, a New York City–area regional planning organization. The response’s basic thesis of the response is that intercity buses have a role to play in a “balanced transportation system,” but they are “no replacement for high-speed rail.”
Of course, my report never argued that buses were a replacement for true high-speed rail. But it did show that existing bus schedules in many corridors are faster, more frequent, and charge far lower fares than Amtrak in the same corridors. Of course, there is a “replacement” for high-speed rail: it is called “air travel” and it is far faster and costs about a fifth as much per passenger mile as Amtrak’s Acela.
In any case, America 2050 says my report ignored “one of the most powerful arguments for rail: providing an alternative to highway congestion.” I didn’t address that argument in the paper on buses because, as I’ve shown in other papers, it’s a bad argument. Highways move about 85 percent of all passenger travel and more than a quarter of all ton-miles of freight in this country. If they are congested, maybe we should relieve that congestion rather than spending hundreds of billions of dollars on an elitist rail network that won’t relieve congestion and won’t carry more than a tiny fraction of the number of people (and none of the freight) moved on the highways.
But we can’t fix highway congestion, says America 2050: “providing additional road space does not solve congestion; in fact it creates additional demand for driving.” That’s another bad argument, for four reasons. First, my bus paper never advocated building new roads, and if asked, I would have suggested relieving congestion using congestion pricing of roads before building new capacity.
Atlas Shrugged Comes to Detroit
In a perverse way, I’m glad that there are places such as Greece and Illinois. These profligate jurisdictions are useful examples of the dangers of bloated government and reckless statism.
There also are some cities that serve as reverse role models. Detroit is a miserable case study of big government run amok, so I enjoyed a moment or two of guilty pleasure as I read this CNBC story about the ongoing decay of the Motor City. Here are some excerpts:
Detroit neighborhoods with more people and a better chance of survival will receive different levels of city services than more blighted areas under a plan unveiled Wednesday that some residents fear may pit them against each other for scarce resources.
…[T]he boundaries of the 139-square-mile city aren’t receding. The plan also backs away from forcing the redistribution of what’s left of the population into areas where people still live and where the houses aren’t on the verge of caving in.
…Detroit’s population of about 713,000 is down about 200,000 from 10 years ago, according to U.S. Census figures, and has fallen more than 1 million since 1950. Some areas have fewer occupied homes than vacant ones.
…A 2010 survey found Detroit had 33,000 vacant houses and scores of empty, weed-filled and trash-cluttered lots.
How predictable, I thought. This is what happens when vote-hungry politicians adopt policies that reward people for riding in the wagon and punish the folks who are pulling the wagon.
‘Madder Than Mosquitoes In a Mannequin Factory’
Just for fun, and because it’s a summer Friday afternoon, here’s the text of a court order handed down July 19 by Kentucky judge Martin Sheehan in the case of Kissel v. Schwartz & Maines & Ruby Co. (ScribD, h/t Nicole Black and Daniel Schwartz):
ORDER …the parties having informed the Court that the herein matter has been settled amicably and that there is no need for a Court ruling on the remaining motions and also that there is no need for a trial;And such news of an amicable settlement having made this Court happier than a tick on a fat dog because it is otherwise busier than a one legged cat in a sand box and, quite frankly, would have rather jumped off of a twelve foot step ladder into a five gallon bucket of porcupines than have presided over a two week trial of the herein dispute, a trial which, no doubt, would have made the jury more confused than a hungry baby in a topless bar and made the parties and their attorneys madder than mosquitoes in a mannequin factory;
IT IS THEREFORE ORDERED AND ADJUDGED by the court as follows:
1) The jury trial scheduled herein for July 13, 2011 is hereby CANCELED…
If you’re curious to know more about Judge Sheehan, a quick Google search indicates that he’s a judge who’s thrown out a lawyer’s libel suit against a critic (a prosecutor!) on the ground that it was constitutionally protected opinion; that he’s adopted civility rules to keep lawyers from beating up each other and each others’ clients over much in his courtroom; and that he struck down as unconstitutional an overreaching state law that retroactively sought to restrict where past sex offenders could live. Better and better….
In the Land of the Free…
…the world’s best soccer players can’t go down to the National Mall and kick a ball around.
Barcelona plays Manchester United at FedEx field on Saturday in a friendly rematch of last May’s UEFA Champions League final, which Barcelona won 3-1.
This Week in Government Failure
Over at Downsizing the Federal Government, we focused on the following issues this past week:
- If it is true that a failure to increase the debt limit on August 2nd has the potential to bring about economic Armageddon, shouldn’t we be asking ourselves if it’s a good idea to allow the political class in Washington to continue to collectively play God with our lives?
- The ratchet effect: agriculture edition.
- Chris Edwards testifies to the Senate Finance Committee on federal spending and debt.
- These are the times that try budget analysts’ souls—especially budget analysts who’d like to see Washington dramatically cut spending.
- House Speaker John Boehner’s first budget plan wouldn’t have cut spending. His new plan won’t cut spending either.
- Chris Edwards wants his post office closed.
Follow Downsizing the Federal Government on Twitter (@DownsizeTheFeds) and connect with us on Facebook. We have a new poll up on the Boehner budget plan.
The Convoluted Debate on Drones
The same week U.S. Defense Secretary Leon E. Panetta declared “we’re within reach of strategically defeating al-Qaeda”—an assessment that many believe reflects the efforts of seven years of CIA drone strikes—former director of national intelligence Dennis Blair called America’s “unilateral” drone war in countries like Pakistan, Yemen, and Somalia a mistake. “Because we’re alienating the countries concerned,” Blair said, “because we’re treating countries just as places where we go attack groups that threaten us, we are threatening the prospects of long-term reform.”
Given that our Nobel Peace Prize–winning president has drastically escalated the use of these flying, robotic hitmen, there seems to be some confusion at the White House.
Speaking to attendees at the Aspen Security Forum, Blair said drone strikes in Pakistan should be launched only when America had the full cooperation of the government in Islamabad and “we agree with them on what drone attacks” should target. As explained elsewhere, this author accepts the efficacy of America’s drone war, but with enormous reluctance. That said, part of Blair’s assessment seems wildly out of touch. Why would Washington wait for permission from Islamabad to hunt al Qaeda?
First, individuals either within or with ties to Pakistan’s spy agency have collaborated with insurgents that frequently attack U.S. and coalition troops in Afghanistan. That doesn’t speak well for Blair’s call for joint cooperation. Second, we’ve known for years that elements within Pakistan have thwarted — on several occasions — foreign-led attempts to find and take out terrorists. Even someone who is not wildly enamored with drones understands the argument for employing them unilaterally when confronted with uncooperative governments. Policymakers, however, should be weighing the ability to keep militant groups off balance against the costs of facilitating the rise of more terrorists, particularly in a country as volatile as Pakistan.
We’re In This for the Long Haul
Today POLITICO Arena asks:
Is it the Senate’s turn to take a crack at the debt ceiling?
My response:
Speaker Boehner has both the Constitution and convention on his side — “money bills” arise in the House. In fact, the Constitution is his strongest ally in his struggle to win the support of recalcitrant Tea Party members. They revere the document, after all, and no one has put the point better than Charles Krauthammer in this morning’s Washington Post.
Boehner’s bill, just to be clear, is a far cry from what this debt-ridden nation needs. As my colleague Chris Edwards put it yesterday, even the revised plan “doesn’t cut spending at all.” It “cuts” only from the CBO baseline, which assumes constantly rising spending. If Congress were serious about addressing our deficit and debt problems, Edwards says, it would have “to start abolishing programs, privatizing activities, and making other lasting reforms.”
Absolutely. But now step back and look at the larger context at the moment. As Krauthammer says,
We’re in the midst of a great four-year national debate on the size and reach of government, the future of the welfare state, indeed, the nature of the social contract between citizen and state. The distinctive visions of the two parties — social-democratic vs. limited-government — have underlain every debate on every issue since Barack Obama’s inauguration.
And the terms of that debate have shifted radically since the Tea Party came on to the scene. The “cuts” in the Boehner plan are modest, to be charitable, but there are no new taxes, which in an earlier day would have been taken as essential. And the focus in Congress and in the nation, as long as the Tea Party keeps up the pressure, is not on new programs but on eliminating old ones — when that is possible.
But right there we bump up against constitutional realty. As Krauthammer puts it, “you cannot govern from one house alone.” We’re light years beyond living under the substantive Constitution, which authorizes only limited government, not the out-of-control welfare state that got us into this mess. But we still live under the procedural Constitution, which means that Reid and Obama can block Boehner’s modest plan. Posturing aside, that’s not likely at this late date. Yet if Tea Party members overplay their hand, they play right into Obama’s hand, politically, going into 2012, when the battle over real change will be waged.
No war — and that’s what we’re in — was won in a day. It took 80 years for John Locke’s ideas about liberty to find their way into the Declaration of Independence. It took another 90 years for those ideas to bring an end to slavery. The limited-government ideas that the Tea Party has brought back to the surface are just now being felt in Congress. This is no time to abandon them. But neither is it a time to set the course of events back, perhaps irretrievably, by employing them unwisely. Take what you can, and live to fight another day, on the battlefield that lies just ahead.
John McCain: Ever Confused, Always for War
Sen. John McCain has exhibited personal courage, but his geopolitical judgment is uniformly awful. Over the last 30 years there has been no war or potential war that he has opposed. In 2008 he wanted to confront nuclear-armed Russia over its neighbor Georgia, which started their short and sharp conflict. It would have been ironic had the Cold War ended peacefully, only to see Washington trigger a nuclear crisis in order to back Georgia as it attempted to prevent the territories of Abkhazia and South Ossetia from doing what Kosovo did with U.S. military aid: achieve self-determination (by seceding from Georgia).
Now Senator McCain is banging the war drums in Libya. But he seems to have trouble remembering who are the good guys and who are the bad guys.
Although now crusading against Moammar Qaddafi, two years ago he joined Sens. Joe Lieberman and Lindsey Graham in Tripoli to sup with the dear colonel. There the three opponents of tyranny whispered sweet nothings in the dictator’s ear, offering the prospect of military aid. After all, the former terrorist had become a good friend of America by battling terrorists.
Andrew McCarthy reported on the sordid tale from the WikiLeaks disclosures:
A government cable (leaked by Wikileaks) memorializes the excruciating details of meetings between the Senate delegation and Qaddafi, along with his son Mutassim, Libya’s “national security adviser.” We find McCain and Graham promising to use their influence to push along Libya’s requests for C-130 military aircraft, among other armaments, and civilian nuclear assistance. And there’s Lieberman gushing, “We never would have guessed ten years ago that we would be sitting in Tripoli, being welcomed by a son of Muammar al-Qadhafi.” That’s before he opined that Libya had become “an important ally in the war on terrorism,” and that “common enemies sometimes make better friends.”
Obviously, that was then and this is now. Along the way Senator McCain and his fellow war enthusiasts realized that Qaddafi wasn’t a nice guy after all. Who knew? I mean, he had only jailed opponents, conducted terrorist operations against the United States, and initiated a nuclear weapons program. So earlier this year they demanded that the United States back the rebels, the new heroes of democracy.
Until now, anyway.
What to Read on the Financial Crisis, Part III: Scholarly
Previously I’ve offered suggested readings for understanding the financial crisis. Part II focused on “popular” works. What follows is my list of suggested books, written mostly by academics, that give a more scholarly analysis of the crisis. Also see my Part I. They are, by definition, less accessible than the popular works, but they do generally offer consistent frameworks for understanding the crisis and rely more on explaining underlying forces, rather than focus on individuals. All of these are also written for general audiences. Again this is a highly selective list based upon the writings I’ve found insightful.
1. Getting Off Track, by John Taylor. (4 stars) Short and focused on role of monetary policy in driving housing bubble. While incomplete, a must-read.
2. The Rise and Fall of US Mortgage and Credit Markets, by James Barth. (4 stars) No better single source of data on U.S. mortgage markets and their connection to the crisis. Great reference, a book I come back to repeatedly.
3. This Time is Different, by Carmen Reinhart and Kennethy Rogoff. (5 stars) Read now, do not delay.
4. Fault Lines, by Raghuran Rajan. (4 stars) Solid analysis of the bubble and its political economy. Weak when he ventures into “safety net” discussions, but still a great read.
5. What Caused the Financial Crisis, edited by Jeff Friedman. (4 stars) A collection of essays by different scholars (from John Taylor to Joe Stiglitz). Editor’s intro/overview alone is worth the price of the book.
6. A Call For Judgment, by Amar Bhide. (3 stars) More a corporate finance take on the crisis, interesting and unique read, but also narrowly focused.
7. A Failure of Capitalism, by Richard Posner. (1 star) One of the least original books from one of the most original thinkers. Reminds you that Posner is at heart a micro guy, way off when it comes to macroeconomics (and finance). Skip this one.
8. The Origin of Financial Crises, by George Cooper. (3 stars) Brief and insightful take, focused on monetary and credit policy. Far from only thing you should read, but worthwhile addition.
9. Financial Fiasco, by Johan Norberg. Published by Cato, written by Cato scholar, what more do I need to say.
10. Too Big to Save? by Robert Pozen. (4 stars) Scholarly take from a major player in the financial markets. Somewhat best of both worlds. Lots of useful data.
11. Subprime Solution, by Robert Shiller. (3 stars) Policy solutions don’t really flow from the analysis, but Shiller’s insights into bubbles are always interesting.
12. The Housing Boom and Bust, by Thomas Sowell. (3 Stars) Breezy read from ever entertaining Sowell, but also far too narrow in focus to serve as a primary source.
13. Slapped by the Invisible Hand, Gary Gorton. (3 stars) Too narrow a focus on “shadow banking” but also no better analysis of its role. So if you are going to read several, add this one.
14. Guaranteed to Fail, various NYU professors. (3 stars) Good data and analysis of our mortgage finance system and its role in the crisis.
There are way too many great journal articles to mention, most of which aren’t accessible to the lay reader, but several recent issues of the Journal of Economic Perspectives have contained great reading material on the crisis. Some of these articles are free for download (others are not).
Leave Iraq to the Iraqis
Many advocates of promiscuous military intervention angrily reject the claim that America is an “empire.” Granted, the U.S. doesn’t directly rule its imperial dependents. But Washington policymakers do insist on maintaining a military presence wherever and whenever possible, irrespective of America’s defense needs.
The Obama administration’s attempt to pressure the Iraqi government into “inviting” the U.S. to remain is almost comical. Rather than requiring Baghdad to demonstrate why a continuing American presence is necessary, U.S. officials have been begging to stay. Former Defense Secretary Robert Gates said: “I hope they figure out a way to ask.” His successor, Leon Panetta, recently blurted out: “dammit, make a decision.”
However, it is Washington that should make a decision and bring home America’s troops.
The U.S. continues to garrison Europe, Japan, and South Korea, decades after American forces first arrived. All of these international welfare queens could defend themselves. Despite President Bill Clinton’s promise that American troops would spend just a year occupying the Balkans, an area of minimal security interest to the United States, some troops remain to this day. And uber-hawks talk about maintaining a permanent presence in Afghanistan, as distant from conventional U.S. defense interests as any nation on the planet.
But right now Iraq is exciting the most concern, since the United States is supposed to withdraw its combat forces by year-end. Gen. Jeffrey Buchanan, the top military spokesman in Iraq, said Washington “has committed to an enduring partnership with Iraq,” but it would be easier if the Iraqis spoke up “while we have troops here and infrastructure here.”
From start to (almost) finish, the Iraqi operation has been a tragic fiasco. The United States invaded to seize non-existent WMDs. American forces destroyed the country’s system of ordered tyranny, turning the country into a bloody charnel house, killing hundreds of thousands and forcing millions to flee. Washington’s occupation transferred democracy to Iraq without the larger liberal culture necessary for democracy to thrive. U.S. intervention empowered Iran while destroying Baghdad’s ability to control its own borders.
Yet President Obama wants to stick around, meddling in Iraq’s domestic affairs and defending it in foreign matters.
The United States should not have invaded Iraq. Washington can’t undo the ill effects of the war, but it can avoid the costs of a permanent occupation.
America’s job in Iraq is done. The Iraqis should be left in charge of their national destiny. All U.S. troops should be withdrawn. Washington should stop collecting increasingly dangerous dependencies for its empire.
Boehner’s New Plan Doesn’t Cut Spending
House Speaker John Boehner has revised his budget plan in response to an unfavorable analysis by the CBO. The CBO has examined Boehner’s new plan and finds that it would cut spending by $917 billion over 10 years. Of the total, only $761 billion would be cuts to programs. The rest of the savings would be from reduced interest costs.
Actually, the revised Boehner plan doesn’t cut spending at all. The chart shows the discretionary spending caps in the new Boehner plan. Spending increases every year—from $1.043 trillion in 2012 to $1.234 trillion in 2021. (These figures exclude the costs of wars in Iraq and Afghanistan).
The “cuts” in the Boehner plan are only cuts from the CBO baseline, which is an assumed path of constantly rising spending. If Congress wanted to, it could require CBO to increase its “baseline” spending by, say, $5 trillion over the next decade. Then Boehner could claim that he was “cutting” spending by $5.9 trillion, even though his plan hadn’t changed. You can see that discretionary “cuts” against baselines don’t mean anything.
The way to make real spending cuts is to abolish programs and agencies. But it’s been eight months since a landslide election that focused on the issue of spending cuts, and the Republican leadership hasn’t proposed any major terminations.
Senator Tom Coburn told us exactly where he wants to cut spending in this 620-page report. Senator Rand Paul has detailed $500 billion in specific cuts. Where are the spending cut plans of the other fiscal conservatives in Congress?
Members need to step up to the plate and tell us where they would cut the budget. (For help, they can look here). The reality of ongoing $1 trillion deficits is that Congress has to start abolishing programs, privatizing activities, and making other lasting reforms. Promising to reduce spending growth a bit from projected baseline increases won’t do the job.
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