A study from the American Institutes of Research finds that federal and state governments have wasted billions of dollars on subsidies for students who didn’t make it past their first year in college. The federal total for first-year college drop outs was $1.5 billion from 2003 to 2008.

Due to data limitations, the figures are only for first year, full-time students at four-year colleges and universities. Community colleges have even higher drop-out rates, and part-time students or students returning to college are more likely to drop out. Therefore, the numbers in the report are “only a fraction of the total costs of first-year attrition the nation and the states face.” Moreover, it doesn’t include the cost for students who drop out some time after their sophomore year.

Federal policymakers from both parties are fond of lavishing subsidies on college students. Proponents argue that without federal subsidies, an insufficient number of future workers will possess the skills necessary to compete in a global economy.

However, a Cato essay on federal higher education subsidies argues that students wishing to attend college already have plenty of incentive to save or borrow from private sources:

Supporters of student aid subsidies argue that higher education is a “public good” that would be underprovided in a free market. However, that is probably not the case. People have a strong incentive to invest in their own education because it will lead to higher earnings. Those with a college degree will earn, on average, 75 percent more during their lifetime than those with just high-school degrees. That is a big incentive for people to save or borrow in private markets to pay for their own college costs. There is no “market failure” here.

In fact, higher education subsidies drive up tuition prices:

It is matter of supply and demand. More and more Americans have sought a college education, which has pushed prices higher. Ordinarily, such upward pressure would be restrained by consumers’ willingness and ability to pay, but as government subsidies have helped absorb tuition increases, the public’s budget constraint has been lifted. Peter Wood, a professor at Boston University noted that federal subsidies “are seen by colleges and universities as money that is there for the taking . . . tuition is set high enough to capture those funds and whatever else we think can be extracted from parents.”

But isn’t it great that Uncle Sam is helping put more young folks in college? Not necessarily:

Many of those additional students may not have been ready, or suited, for college. As evidenced by the rising shares of college students who require remedial work. Further evidence of the problem is that institutions have lowered their standards to adapt to the rise in second-rate students. The American Academy of Arts and Sciences reported that from the mid-1960s to the mid-1990s, college grade point averages grew steadily but Scholastic Aptitude Test scores declined. The share of entering college students who complete degrees has also fallen over the decades. In addition, while college attendance is up, overall adult literacy has barely budged over the last 15 years.

The essay also notes that college students devote 3.2 hours to education on an average weekday, versus 3.9 hours to “leisure and sports,” and that the six-year graduation rate for bachelor’s students is only about 56 percent, indicating that many students are not very serious about education.

Just as housing subsidies incentivized people to purchase homes that they otherwise shouldn’t have, higher education subsidies have incentivized people to go to college who weren’t ready or suited for it. In both cases, the cost to taxpayers has been substantial while the alleged benefits have proven illusory.

Higher Education Subsidies Wasted is a post from Cato @ Liberty - Cato Institute Blog

Apparently not. Unlike Douglas MacArthur, Stanley McChrystal has tendered his resignation. President Obama should accept it, and move swiftly to put this unfortunate incident behind him.

This story moved so quickly that I wasn’t able to keep up. In the early morning, we learned that McChrystal had been called to Washington for face-to-face meetings with President Obama (aka The Commander in Chief), and Robert Gates (the SecDef who has built a reputation for sacking generals). McChrystal’s press aide was fired. By early afternoon, others, including those sympathetic to the general, were predicting that he would step down, or that he should be fired if he did not (Eliot Cohen “This is a firing offense”; Peter Feaver “This is clearly a firing offense”).

I won’t repeat what Justin Logan, Malou Innocent, and I said in our statements this morning. It is obvious that Gen. McChrystal showed very poor judgment, and this is not the first time. When his assessment of what was required in Afghanistan (More Forces or “Mission Failure”) was leaked before the president had settled on a strategy, the White House was furious. They felt that he was trying to bully them. Strike one. When he challenged the chain of command with his remarks in London in October, dismissing Vice President’s Biden’s preferred counterterrorism approach as “shortsighted,” Obama summoned him for a private meeting on Air Force One. Strike two. There was more than enough material in the Rolling Stone story to constitute strike three. And four, five, and six.

I urge people to read the story. It might be remembered as the article that put an end to Stanley McChrystal’s storied career. I wonder if the article might serve a broader purpose: undermining the already wavering support for COIN. Look past McChrystal, a man who has given his life to the military, and has much to show for it. Look at the enlisted guys who are just beginning their careers, or the NCOs or junior officers who are in the third or fourth tours (in either Iraq or Afghanistan). They’re growing frustrated. They’re in an impossible situation. They are fighting a war that depends upon strong support here in the United States, and that aims to boost support for a government that no one believes in. And while they understand COIN as preached by McChrystal, they struggle with the rules of engagement that COIN requires.

One soldier shows me the list of new regulations the platoon was given. “Patrol only in areas that you are reasonably certain that you will not have to defend yourselves with lethal force,” the laminated card reads. For a soldier who has traveled halfway around the world to fight, that’s like telling a cop he should only patrol in areas where he knows he won’t have to make arrests. “Does that make any [expletive] sense?” asks Pfc. Jared Pautsch. “We should just drop a [expletive] bomb on this place. You sit and ask yourself: What are we doing here?”

I give up. What are we doing there?

Does McChrystal Rhyme with MacArthur? is a post from Cato @ Liberty - Cato Institute Blog

On the surface the failures of Fannie Mae and Freddie Mac would appear to have little connection to the fiscal crisis in Greece, outside of both occurring in or around the time of a global financial crisis.  Of course in the case of Fannie and Freddie, primary blame lies with their management and with Congress.  Primary blame for Greece’s problems clearly lies with the Greek government. 

Neither Greece or Fannie would have been able to get into as much trouble, however, if financial institutions around the world had not loaded up on their debt.  One reason, if not the primary reason, for bailing out both Greece and the US’s government sponsored enterprises is the adverse impact their failures would have on the banking system.

Yet bankers around the world did not blindly load up on both Greek and GSE debt, they were encouraged to by the bank regulators via the Basel capital standards.  Under Basel, the amount of capital a bank is required to hold against an asset is a function of its risk category.  For the highest risk assets, like corporate bonds, banks are required to hold 8%.  Yet for those seen as the lowest risk, short term government bonds, banks aren’t required to hold any capital.  So while you’d have to hold 8% capital against say, Ford bonds, you don’t have to hold any capital against Greek debt.  Depending on the difference between the weights and the debt yields, such a system provides very strong incentives to load up on the highest yielding bonds of the least risky class.  Fannie and Freddie debt required holding only 1.6% capital.  Very small losses in either Greek or GSE debt would cause massive losses to the banks, due to their large holdings of both.

The potential damage to the banking system from the failures of Greece and the GSEs is not the result of a free market run wild.  It was the very clear and predictable result of misguided and mismanaged government policies meant to create a steady market for government borrowing.

Fannie Mae and Greece’s Problems Enabled by Basel is a post from Cato @ Liberty - Cato Institute Blog

As Jeff Stein notes over at the Washington Post, the declassified summary of the Senate Intelligence Committee’s report on the Christmas underpants bomber ought to sound awfully familiar to anyone who thumbed through the 9/11 Commission’s massive analysis of intelligence failures. Of the 14 points of failure identified by the Senate, one pertains to a failure of surveillance acquisition: the understandably vague claim that NSA “did not pursue potential collection opportunities,” which it’s impossible to really evaluate without more information. (Marc Ambinder tries to fill in some of the gaps at The Atlantic.)  The other 13 echo that old refrain: Lots of data points, nobody managing to connect them. Problems included myopic analysis—folks looking at Yemen focused on regionally-directed threats—sluggish information dissemination, misconfigured computers, and simple failure to act on information already in hand.

Yet you’ll notice that in the wake of such failures, the political response tends to be heavily weighted toward finding ways to collect more dots.  We hear calls for more surveillance cameras in our cities, more wiretapping with fewer restrictions, fancier scanners in the airport, fewer due process protections for captured suspects. Sometimes you’ll also see efforts to address the actual causes of intelligence failure, but they certainly don’t get the bulk of the attention.  And little wonder! Structural problems internal to intelligence or law enforcement agencies, or failures of coordination between them, are a dry, wonky, and often secret business. The solutions are complicated, distinctly unsexy, and (crucially) don’t usually lend themselves to direct legislative amelioration—especially when Congress has already rolled out the big new coordinating entities that were supposed to solve these problems last time around.

But demands for more power and more collection and more visible gee-whiz technology?  Well, those are simple. Those are things you can trumpet in a 700-word op-ed and brag about in press releases to your constituents. Those are things pundits and anchors can debate in without intimate knowledge of Miroesque DOJ org charts.  In short, we end up talking about the things that are easy to talk about.  We should not be under any illusions that this makes them good solutions to intel’s real problems. Hard as it is for pundits to sit silent or legislators to seem idle, sometimes the most vital reforms just don’t make for snazzy headlines.

Collecting Dots and Connecting Dots is a post from Cato @ Liberty - Cato Institute Blog

A day after it was released, here’s a roundup of how the mainstream media are covering the HHS study showing that America’s $100 billion plus investment in Head Start is a failure:

[...crickets...]

Nada. Zilch. Rien du tout, mes amis.

That’s based on a Google News search for ["Head Start" study]. The only media organs to touch on this topic so far have been blogs: Jay Greene’s, The Heritage Foundation’s, the Independent Women’s Forum, and the one you’re reading right now.

Okay. There was one exception. According to Google News, one non-blog — with a print version no less — covered this story so far. The NY Times? The Washington Post? Nope: The World, a Christian news magazine. And they actually did their homework, linking to this recent and highly relevant review of the research on pre-K program impacts.

And for those other publications in the MSM still standing at the edge of the pool: the water’s warm folks, c’mon in.

What’s really interesting, though, is that the HHS had the moral fibre to actually issue a press release about this damning study. That showed courage — and a certain panache. I particularly liked this, from HHS Secretary Kathleen Sebelius: “Research clearly shows that Head Start positively impacts the school readiness of low-income children.”

Umm, yes Ms. Secretary, but the same research shows those effects vanish by the end of first grade. I guess that information is on a need-to-not-know basis. The public needs to not know about it or the administration hasn’t got a snowball’s chance in Kauai of getting American tax payers to throw another $100 billion or so at government pre-K, as President Obama is so very keen to do.

Update:

In my original review of the coverage on this story I missed the blog that first broke the story: Early Ed Watch at the New America Foundation. One thing that distinguishes New America’s supporters of big government pre-k programs from those in the Obama administration is that the former have a good grasp of the implications of this study, writing that: “The next few weeks are probably going to be rocky ones for the Head Start community. Results released today from the Impact Study show that children’s gains from participating in Head Start, documented in a 2005 installment of the study, do not last through the end of 1st grade.”

But if the folks at the NAF recognize this reality, that begs an important question: will they now redirect their efforts to the support of programs whose benefits for disadvantaged children actually grow in magnitude the longer kids stay in school, or will they continue to push for programs like Head Start that have been proven costly failures?

How the Media Are Covering ‘Head Start’s’ Failure is a post from Cato @ Liberty - Cato Institute Blog

Washington Post education columnist Jay Mathews has done it again: lifted my hopes up just to drop them right back down.

In November, you might recall, Mathews called for the elimination of the office of U.S. Secretary of Education. There just isn’t evidence that the Ed Sec has done much good, he wrote.

My reaction to that, of course: “Right on!”

Only sentences later, however, Mathews went on to declare that we should keep the U.S. Department of Education.

Huh?

Today, Mathews is calling for the eradication of something else that has done little demonstrable good — and has likely been a big loss – for American education: the No Child Left Behind Act. Mathews thinks that the law has run its course, and laments that under NCLB state tests — which are crucial to  standards-and-accountability-based reforms — “started soft and have gotten softer.”

The reason for this ever-squishier trend, of course, is that under NCLB states and schools are judged by test results, leading state politicians and educrats to do all they can to make good results as easy to get as possible. And no, that has not meant educating kids better — it’s meant making the tests easier to pass.

Unfortunately, despite again seeing its major failures, Mathews still can’t let go of federal education involvement. After calling for NCLB’s end, he declares that we instead need a national, federal test to judge how all states and schools are doing.

To his credit, Mathews does not propose that the feds write in-depth standards in multiple subjects, and he explicitly states that Washington should not be in the business of punishing or rewarding schools for test performance.

“Let’s let the states decide what do to with struggling schools,” he writes.

What’s especially important about this is that when there’s no money attached to test performance there’s little reason for teachers unions, administrators associations, and myriad other education interests to expend political capital gaming the tests, a major problem under NCLB.

But here’s the thing: While Mathews’ approach would do less harm than NCLB, it wouldn’t do much good. Mathews suggests that just having the feds “shame” states with bad national scores would force improvement, but we’ve seen public schools repeatedly shrug off massive ignominy since at least the 1983 publication of A Nation at Risk. As long as they keep getting their money, they couldn’t care much less.

So neither tough standards nor shaming have led to much improvement. Why?

As I’ve laid out before, it’s a simple matter of incentives.

With punitive accountability, the special interests that would be held to high standards have strong motivation — and usually the power — to demand dumbed-down tests, lowered minimum scores, or many other accountability dodges.  The result: Little or no improvement.

What if there are no serious ramifications?

Then the system gets its money no matter what and again there is little or no improvement.

It’s damned if you do, damned if you don’t!

So what are reformers to do? One thing: Take government — which will almost always be dominated by the people it employs — out of the accountability equation completely. Give parents control of education funds and make educators earn their pay by having to attract and satisfy customers.

Unfortunately, that still seems to be too great a leap for Jay Mathews. But one of these days, I’m certain, he’ll go all the way!

Neither Standards Nor Shame Can Do the Job is a post from Cato @ Liberty - Cato Institute Blog

The House Foreign Affairs Committee is holding a hearing today on the almost 50 year old ban on travel to Cuba. The ban is part of a broader economic embargo in place since the early 1960s that was supposed to bring about change in the island’s oppressive, communist regime.

Instead, the embargo and travel ban have needlessly infringed on the freedom of Americans, weakened our influence in Cuba, and handed the Castro government a handy excuse for the failures of its Caribbean socialist experiment.

I wrote an op-ed recently advocating change in U.S. policy toward Cuba, and delivered a talk on the same theme at Rice University in 2005.

Will Congress finally change this failed U.S. policy?

Tear Down This Wall … between the U.S. and Cuba is a post from Cato @ Liberty - Cato Institute Blog

This morning the National Center for Education Statistics released a new report, Mapping State Proficiency Standards Onto NAEP Scores: 2005-2007.  What the results make clear (for about the billionth time) is that government control of education has put us on a road straight to failure. Still, many of those who insist on living in denial about constant government failure in education will yet again refuse to acknowledge reality, and will actually point to this report as a reason to go down many more miles of bad road.

According to the report, almost no state has set its “proficiency” levels on par with those of the National Assessment of Educational Progress (NAEP), the so-called “Nation’s Report Card.” (Recall that under No Child Left Behind all children are supposed to be “proficient” in reading and math by 2014.) Most, in fact, have set “proficiency” at or below NAEP’s “basic” level. Moreover, while some states that changed their standards between 2005 and 2007 appeared to make them a bit tougher, most did the opposite. Indeed, in eighth grade all seven states that changed their reading assessments lowered their expectations, as did nine of the twelve states that changed their math assessments.

Many education wonks will almost certainly argue that these results demonstrate clearly why we need national curricular standards, such as those being drafted by the Common Core State Standards Initiative. If there were a national definition of “proficiency,” they’ll argue, states couldn’t call donkeys stallions. But not only does the existence of this new report refute their most basic assumption – obviously, we already have a national metric — the report once again screams what we already know:  Politicians and bureaucrats will always do what’s in their best interest — keep standards low and easy to meet – and will do so as long as politics, not parental choice, is how educators are supposed to be held accountable. National standards would only make this root problem worse, centralizing poisonous political control and taking influence even further from the people the schools are supposed to serve. 

Rather than continuing to drive headlong toward national standards — the ultimate destination of the pothole ridden, deadly, government schooling road – we need to exit right now. We need to take education power away from government and give it to parents. Only if we do that will we end hopeless political control of schooling and get on a highway that actually takes us toward excellent education.

Another Education Road Sign Screaming “Stop!” is a post from Cato @ Liberty - Cato Institute Blog

The bad news this morning on the impact of both the federal stimulus and the Cash for Clunkers program should not come as a surprise to anyone who has paid attention to the history of government intervention in the economy.

New data that the jobs created by the stimulus have been overstated by thousands is compelling, but it’s really a secondary issue. The primary issue is that the government cannot “create” anything without hurting something else. To “create” jobs, the government must first extract wealth from the economy via taxation, or raise the money by issuing debt. Regardless of whether the burden is borne by present or future taxpayers, the result is the same: job creation and economic growth are inhibited.

At the same time the government is taking undeserved credit for “creating jobs,” a new analysis of the Cash for Clunkers program by Edmunds.com shows that most cars bought with taxpayer help would have been purchased anyhow. The same analysis finds the post-Clunker car sales would have been higher in the absence of the program, which proves that the program merely altered the timing of auto purchases.

Once again, the government claims to have “created” economic growth, but the reality is that Cash for Clunkers had no positive long-term effect and actually destroyed wealth in the process.

Right now businesses and entrepreneurs are hesitant to make investments or add new workers because they’re worried about what Washington’s interventions could mean for their bottom lines. The potential for higher taxes, health care mandates, and costly climate change legislation are all being cited by businesspeople as reasons why further investment or hiring is on hold. Unless this “regime uncertainty” subsides, the U.S. economy could be in for sluggish growth for a long time to come.

For more on the topic of regime uncertainty and economic growth, please see the Downsizing Government blog.

Feds Giveth Jobs & Cars, Then Taketh Away Again is a post from Cato @ Liberty - Cato Institute Blog

Yesterday, I offered the Fordham Foundation’s Andy Smarick an answer to a burning question: What is the proper federal role in education? It was a question prompted by repeatedly mixed signals coming from U.S. Secretary of Education Arne Duncan about whether Washington will be a tough guy, coddler, or something in between when it comes to dealing with states and school districts.  And what was my answer? The proper federal role is no role, because the Constitution gives the feds no authority over American education.

Not surprisingly, Smarick isn’t going for that. Unfortunately, his reasoning confirms my suspicions: Rather than offering a defense based even slightly on what the Constitution says, Smarick essentially asserts that the supreme law of the land is irrelevant because it would lead to tough reforms and, I infer, the elimination of some federal efforts he might like.

While acknowledging that mine is a ”defensible argument,” Smarick writes that he disagrees with it because it “would presumably require immediately getting rid of IDEA, Title I, IES, NAEP, and much more.” He goes on to assert that I might ”argue that doing so is necessary and proper because it’s the only path that squares with our founding document, but policy-wise it is certainly implausible any time soon.” Not far after that, Smarick pushes my argument aside and addresses a question to ”those who believe that it’s within the federal government’s authority to do something in the realm of schools.”

OK. Let’s play on Smarick’s grounds. Let’s ignore what the Constitution says and see what, realistically, we could expect to do about federal intervention in education, as well as what we can realistically expect from continued federal involvement.

First off, I fully admit that getting Washington back within constitutional bounds will be tough. That said, I mapped out a path for doing so in the last chapter of Feds In The Classroom, a path that doesn’t, unlike what Smarick suggests, require immediate cessation of all federal education activities. Washington obviously couldn’t be pulled completely out of the schools overnight.

Perhaps more to Smarick’s point, cutting the feds back down to size has hardly been a legislatively dead issue. Indeed, as recently as 2007 two pieces of legislation that would have considerably withdrawn federal tentacles from education — the A-PLUS and LEARN acts – were introduced in Congress. They weren’t enacted, but they show that getting the feds out of education is hardly a pipe dream. And with tea parties, the summer of townhall discontent, and other recent signs of revolt against big government, it’s hardly out of the question that people will eventually demand that the feds get out of their schools.

Of course, there is the other side of the realism argument: How realistic is it to think that the federal government can be made into a force for good in education? It certainly hasn’t been one so far. Just look at the following chart plotting federal education spending against achievement, a chart that should be very familiar by now.

Notice anything? Of course! The federal government has spent monstrous sums on education without any corresponding improvement in outcomes!

Frankly, it’s no mystery why: Politicians, as self-interested people, care first and foremost about the next election, not long-term education outcomes. They care about what will score them immediate political points. That’s why federal politicians have thrown ever-more money at Title I without any meaningful sign it makes a difference. That’s why No Child Left Behind imposed rules that made Washington politicians look tough on bad schools while really just pushing more dough at educrats and giving states umpteen ways to avoid actual improvement. That’s why Arne Duncan vacillates between baddy and buddy at the drop of a headline. And that basic reality — as well as the reality that the people employed by the public schools will always have the greatest motivation and ability to influence government-schooling policies — is why it is delusional to expect different results from federal education interventions than what we’ve gotten for decades.

OK. But what about a law like the Individuals with Disabilities Education Act (IDEA)? Hasn’t it helped millions of disabled kids who would otherwise have been neglected by states and local school districts?

For one thing, it is constitutional and totally appropriate under the 14th Amendment for the federal government to ensure that states don’t discriminate against disabled children in provision of education. IDEA, however, does much more than that, spending billions of federal dollars, promoting over-identification of “disabilities,” and creating a hostile, “lawyers playground” of onerous, Byzantine rules and regulations, all without any proof that the law ultimately does more good than harm. And again, this should be no surprise, because federal politicians care most about wearing how much they “care” on their reelection-seeking sleeves, no matter how negative the ultimate consequences may be.

Alright-y then. How about the National Assessment of Educational Progress (NAEP)? Isn’t it an invaluable source of national performance data?

NAEP results are used in the above chart, so obviously I have found NAEP of some value.  But does its usefulness justify ignoring the Constitution? Absolutely not. For one thing, instead of NAEP we could use extant, non-federal tests such as the SAT, ACT, PSAT, Stanford 9, Terra Nova, and many other assessments to gauge how students are doing. And as useful as NAEP may be, it sits perilously close to being as worthless as everything else that Washington has done in education. All that has kept it from being hopelessly politicized is that there is no money attached to how states and local districts do on it. And as Smarick’s boss at Fordham, Chester Finn, testified in 2000, even with that protection NAEP and other supposedly netural federal education undertakings are under constant threat of political subversion:

Unfortunately, the past decade has also shown how vulnerable these activities are to all manner of interference, manipulation, political agendas, incompetence and simple mischief. It turns out that they are nowhere near to being adequately immunized against Washington’s three great plagues:

• the pressing political agendas and evanescent policy passions of elected officials (in both executive and legislative branches)and their appointees and aides,

• the depredations and incursions of self-serving interest groups and lobbyists (of which no field has more than education), and

• plain old bureaucratic bungling and incompetence.

Based on all of this evidence, it is clear that the only realistic avenue for getting rational federal education policy is, in fact, to follow the Constitution and have no federal education policy. In other words, the very realistic Framers of the Constitution were absolutely right not to give the federal government any authority over education, and it is time, right now, for us to stop ignoring them. Doing anything else will only ensure continued, bankrupting failure.

Federal Education Results Prove the Framers Right is a post from Cato @ Liberty - Cato Institute Blog

Even Cuban-Americans appear to have turned against U.S. policy.  Reports the Miami Herald:

A new poll of Cuban Americans shows a strong majority favor allowing all Americans to travel to the island, a major shift from a 2002 survey that showed only a minority supporting the change, the Bendixen & Associates polling firm reported Tuesday.

Executive Vice President Fernand Amandi said he was surprised by the magnitude of the swing in just seven years — from 46 percent in favor in 2002 to 59 percent in the Sept. 24-26 survey. Only 29 percent were opposed in the new survey, compared to 47 percent in 2002.

…A campaign to allow all Americans to travel to Cuba has become a key Washington battleground this year for those who favor and oppose easing U.S. sanctions on the island. Permitting such travel would allow U.S. tourists to visit Cuba. Only Cuban Americans are now allowed virtually unrestricted travel to the island.

At least three bills lifting all restrictions on travel are now before Congress — two in the House and one in the Senate. While most analysts believe the House may well approve some version of the measure, they say it will have little chance of gaining Senate approval because of opposition from Sen. Bob Menendez, a powerful Democrat.

One would think that even the most rabid hawk could agree that a policy which has failed for 50 years has … failed.  There’s no guarantee that ending economic sanctions would spur political liberalization in Cuba.  But after a half century of failure, it makes sense to try something else.

New Poll Shows Support for Lifting Travel Ban to Cuba is a post from Cato @ Liberty - Cato Institute Blog

Jeffrey A. Miron explains in Reason why a government bail-out of most everyone was neither the only option nor the best option:

When people try to pin the blame for the financial crisis on the introduction of derivatives, or the increase in securitization, or the failure of ratings agencies, it’s important to remember that the magnitude of both boom and bust was increased exponentially because of the notion in the back of everyone’s mind that if things went badly, the government would bail us out. And in fact, that is what the federal government has done. But before critiquing this series of interventions, perhaps we should ask what the alternative was. Lots of people talk as if there was no option other than bailing out financial institutions. But you always have a choice. You may not like the other choices, but you always have a choice. We could have, for example, done nothing.

By doing nothing, I mean we could have done nothing new. Existing policies were available, which means bankruptcy or, in the case of banks, Federal Deposit Insurance Corporation receivership. Some sort of orderly, temporary control of a failing institution for the purpose of either selling off the assets and liquidating them, or, preferably, zeroing out the equity holders, giving the creditors a haircut and making them the new equity holders. Similarly, a bankruptcy or receivership proceeding might sell the institution to some player in the private sector willing to own it for some price.

With that method, taxpayer funds are generally unneeded, or at least needed to a much smaller extent than with the bailout approach. In weighing bankruptcy vs. bailouts, it’s useful to look at the problem from three perspectives: in terms of income distribution, long-run efficiency, and short-term efficiency.

From the distributional perspective, the choice is a no-brainer. Bailouts took money from the taxpayers and gave it to banks that willingly, knowingly, and repeatedly took huge amounts of risk, hoping they’d get bailed out by everyone else. It clearly was an unfair transfer of funds. Under bankruptcy, on the other hand, the people who take most or even all of the loss are the equity holders and creditors of these institutions. This is appropriate, because these are the stakeholders who win on the upside when there’s money to be made. Distributionally, we clearly did the wrong thing.

It’s too late to reverse history.  But it would help if Washington politicians stopped plotting new bail-outs.  At this stage, most every American could argue that they are entitled to a bail-out because most every other American has already received one.

Why Promiscuous Bail-Outs Never Was a Good Idea is a post from Cato @ Liberty - Cato Institute Blog

One of the most pernicious public policies aggravating the financial crisis is that of “too big to fail.” The doctrine states that some banks (now financial institutions generally) are so large that their failure would incur “systemic risk” for the financial system. That sounds terrible and it is intended to. Financial services regulators and Treasury secretaries use it to frighten small children and congressmen. How can an elected official vote to incur systemic risk? He must vote to approve the bank bailout of the day. In fact, people who use the term cannot even agree among themselves as to what it means, much less what causes it and, therefore, what the appropriate response would be. I suggest the reader substitute the phrase “too politically connected to fail” whenever he sees “too big to fail.” What follows will then be rendered intelligible.

Too Big to Fail is a post from Cato @ Liberty - Cato Institute Blog

The Obama Administration is presenting a misguided, ill-informed remake of our financial regulatory system that will likely increase the frequency and severity of future financial crises. While our financial system, particularly our mortgage finance system, is broken, the Obama plan ignores the real flaws in our current structure, instead focusing on convenient targets.

Shockingly, the Obama plan makes no mention of those institutions at the very heart of the mortgage market meltdown – Fannie Mae and Freddie Mac. These two entities were the single largest source of liquidity for the subprime market during its height. In all likelihood, their ultimate cost to the taxpayer will exceed that of TARP, once TARP repayments have begun. Any reform plan that leaves out Fannie and Freddie does not merit being taken seriously.

Instead of addressing our destructive federal policies aimed at extending homeownership to households that cannot sustain it, the Obama plan calls for increased “consumer protections” in the mortgage industry. Sadly, the Administration misses the basic fact that the most important mortgage characteristic that is determinate of mortgage default is the borrower’s equity. However, such recognition would also require admitting that the government’s own programs, such as the Federal Housing Administration, have been at the forefront of pushing unsustainable mortgage lending.

While the Administration plan recognizes the failure of the credit rating agencies, it appears to misunderstand the source of that failure: the rating agencies’ government-created monopoly. Additional disclosure will not solve that problem. What is needed is an end to the exclusive government privileges that have been granted to the rating agencies. In addition, financial regulators should end the outsourcing of their own due diligence to the rating agencies.

The Administration’s inability to admit the failures of government regulation will only guarantee that the next failures will be even bigger than the current ones.

Administration Reform Plan Misses the Mark is a post from Cato @ Liberty - Cato Institute Blog

There are two parts to securing a country: making the country secure and making the country feel secure.

The head of U.S. Strategic Command, General Kevin Chilton, failed at the latter when he talked about security in a way that produced the following headline: U.S. General Reserves Right to Use Force, Even Nuclear, in Response to Cyber Attack.

As a theoretical matter, every element of military power should be on the table to respond to attacks. But the chance of responding to any “cyber attack” with military force is vanishingly small. To talk about responding with nuclear weapons simply helps spin our country into a security tizzy.

Politicians and military leaders should stop inflating the risk of cyber attack.

What We Have Here Is a Failure to Communicate is a post from Cato @ Liberty - Cato Institute Blog

Bloomberg reports:

General Motors Corp., facing a probable bankruptcy filing by June 1, is telling 1,100 “underperforming” U.S. dealers they will be terminated as the automaker starts shrinking its retail network.

Most of the closings will occur by October 2010, and none are happening now, Detroit-based GM said today. The targeted outlets will have until the end of the month to appeal the decisions, GM said, without specifying the stores on the list.

The shutdowns are the biggest U.S. automaker’s first step toward paring domestic dealers to a range of 3,600 to 4,000 from 5,969 by the end of 2010.

To be sure, it is a very sad day for thousands of workers and businesses around the country.  But we’re in the midst of a deep recession, which may be nowhere deeper than in the auto sector.  Demand for cars and light trucks has absolutely tanked, which means the economy has an excess supply of inventory, productive capacity, and retail capacity.

Dealerships are closing, as they should be. Chrysler’s in bankruptcy, as it should be. GM is headed for bankruptcy, as it should be.

But this all should have happened long ago…

…long before President George W. Bush had the chance to circumvent the wishes of Congress to give Chrysler and GM more than $19 billion (not including GMAC) from the TARP allotment,

…long before President Obama had the chance to promise billions more and assume a large operational role for the U.S. government in Chrysler’s and GM’s future operations,

…long before President Obama had the chance to create a huge moral hazard by strong-arming Chrysler’s preferred lenders into taking pennies on their loan dollars, while giving preference to claimants of lesser priority,

…long before Ford, Toyota, Honda, BMW, Kia, and the rest of America’s automobile industry were implicitly taxed by the government’s insistence on preventing two firms from exiting the market or substantially reducing their presence in accordance with established bankruptcy provisions.

And most certainly, long before other businesses in other industries started to get the idea that failure is the new success.

An Overdue Reckoning in the Auto Sector is a post from Cato @ Liberty - Cato Institute Blog

The Eli and Edythe Broad and Bill and Melinda Gates foundations have sponsored a report, “Smart Options: Investing the Recovery Funds for Student Success,” on how to spend $100 billion of “stimulus money” on improving America’s schools, according to Jay Mathews in The Washington Post. Ideas include national standards, better teacher evaluations, special help for struggling students, and more.

But let’s try a thought experiment. Bill Gates made his money in software. Eli Broad made his money building houses. Imagine a slightly different universe, say one in which Henry Wallace and Al Gore had become president, and we had monopoly providers of both software and housing. How good do you think the software and the housing would be? And if the U.S. Department of Technology and the U.S. Department of Housing announced that they would be spending another $100 billion, what would happen?

It seems clear that the way to improve housing and software in that world would be to open the fields up to competition, or even to privatize them. A government monopoly provider of software would be lucky to have given us Minitel by now. And monopoly provision of housing was tried in much of the world during the 20th century, with poor results. So if we were afflicted with these albatrosses, surely we’d recognize that deregulation, competition, and privatization would produce better results by far.

So then why don’t we realize it when we’re afflicted with a virtual government monopoly on the provision of education? Why are zillions of smart people studying and debating how to improve the performance of a sluggish, stagnant, tax-funded government monopoly? Maybe we shouldn’t be so sure that we’d see the failure of the software or housing monopoly either. Whatever enterprise the government chooses to monopolize — and there’s really nothing inherent or inevitable about which enterprises that will be — will most likely become a massive bureaucratic undertaking, and we will find it difficult to imagine how the enterprise could be privately run.

But Bill and Melinda, Eli and Edythe, Jay, Barack — the evidence on monopoly vs. competitive provision of services is out there. To a great extent it’s the history of the 20th century. Check it out.

Patching up the Education Monopoly is a post from Cato @ Liberty - Cato Institute Blog

As the bank stress tests are released, it is vital that the public receive specific and detailed information on each financial institution.  The Administration’s and the Federal Reserve’s continued policy of attempting to disguise the differing health of each bank has been a failure.  What is best for the taxpayer and the investing public is sufficient information to separate the good banks from the bad.

For those institutions which lack sufficient capital to remain solvent, they should seek private capital or else be closed and resolved.  Too many taxpayer dollars have already been wasted keeping alive failed institutions.  The Administration’s policy of keeping failed institutions on taxpayer-financed life-support only serves to retard the market’s ability to move assets away from those who do not, or cannot, make productive use of them toward those who can.  It is time to remember that the unparalleled wealth-creating engine of the market depends as much on allowing failure as it does in encouraging success.

Banks passing the stress tests should be allowed and encouraged to re-pay their TARP funds as soon as possible, and with no additional strings attached.  More importantly, the Administration should use any returned TARP funds to pay-down the increasing government debt, rather than be diverted to bailing-out other failed companies.

Bank ‘Stress Tests’ Need Transparency is a post from Cato @ Liberty - Cato Institute Blog