Tuesday, November 20, 2012

What Are Conservatives Getting Wrong About the Economy? (Douthat Reply Edition) | Next New Deal

What Are Conservatives Getting Wrong About the Economy? (Douthat Reply Edition) | Next New Deal

Paradigm Down
I have no interest in seeing a resurgent conservative movement in this country. One reason I was worried about Romney winning the 2012 election and passing the Ryan Plan in January 2013 and Lochnerizing the Supreme Court is because an animal is most dangerous when it is dying and knows it. But it might be helpful for those on the right to get an outsider's perspective.
Douthat argues that conservatives focused too much on those getting "gifts" and other free-loader metaphors. But the most sustained conservative economic arguments of the Great Recession have been reviving the liquidationist, Mellonite approach to the business cycle.  I think that's one important reason Romney and conservatives were unable to put real pressure to President Obama's vulnerability on the economy. They believe the recession is purging the weakness in the economy, doing healthy work, and to the extent the recovery is sluggish it is the fault of activist government and policy attempting to address unemployment.
The House GOP, in particular, has pushed the Mellon-wing, calling for austerity to promote growth, while also pulling back on monetary policy to stimulate the economy. Understanding the "47 percent" and "free stuff" comments benefit from the context of conservative arguments that government policy is the primary reason that unemployment remains high, as all the free stuff allows the unemployed to stay on vacation. If conservatives want to build a new economic paradigm that works for working people, they should probably have some idea on getting unemployment down sometime in the next decade.
Another important conservative focus is running everything the government does through private hands. The conservative movement is not about small government, it is about privatized government. From Bush and Ryan's attempts to privatize Social Security, to turning Medicare into a Groupon, to bringing private industry into the military, every step involves introducing market agents into government processes and pushing market risk to individuals. This continued under Mitt Romney's big policy ideas. He had an idea for taking our system of unemployment insurance and turning it into a system of private unemployment savings accounts. He wanted to fix higher education costs by expanding the for-profit industry, which would "hold down the cost of education," even though they are far more expensive than their non-profit equivalents.
The conservative idea that citizens don't have enough undiversifiable exposure to the risks of the new economy - long-term unemployment, low wages, risks of a large drop in income, globalization, automation etc. - is not one that is going to work going forward. The economic voters Douthat wants to win over see the cronyism of funneling money through private agents, and they think of the market with far more dread and anxiety than entrepreneurial glee. Though they may be ambivalent about more liberal solutions, they certainly don't like the perpetual conservative project of making all of government's functions look more and more like their empty 401(k)s. That might be another place to start for conservatives who want to rebuild their economic ideas.

Thursday, August 2, 2012

Failure of The Ideal

In this post, Peter Radford articulates my evolved understanding of economics so clearly, deftly & succinctly that I had to re-post here in its entirety (with my emphases added in highlight):

The past few weeks have been fraught on a number of fronts.  Two of our most important industries: banking and auto making are decidedly sick.  Unemployment is rising.  Housing is still in the tank. Stores are having a hard time attracting customers.  And the airwaves, news media, and blogosphere are all ablaze with experts, faux experts, and wannabes tossing around every pet theory under the sun. Amidst all this we have a new administration trying to avoid compounding the errors of its predecessors, and yet still trying to plug the holes its sees as the most dangerous.  Its motto is that of medicine: “First do no harm.”
One of the reasons I find all this so compelling, some might say exhilarating, is that we find ourselves at a crucial moment in time.  The policy steps we take and the solutions we use to fix our evident problems will define, most likely, the next two or three decades.  For those of us who have a perspective on what that definition ought to be, now is the time to speak up. Having a voice  on such formative and critical matters is both a privilege and a responsibility. One of America’s most cherished concepts of itself is exactly that: the ability to have a say is democratically available.  The words: ‘We the People’ have concrete meaning and confer a responsibility on all of us to be involved. That’s why I run this blog.  And I am sure that’s why all the others speak up too.
But, as Winston Churchill famously argued, democracy is awfully messy.  So the noise can be raucous.  And the debate heated.  Human relations are, after all, human.  That means they are imprecise, prone to excess, and riddled through with error.  The only thing we all can ever know is that we were most likely mistaken just when we were most certain.
In fact I find certainty, or the notion that one can ‘know’ something with certitude to be a sure indicator of falsehood.
My first exposure to this rejection of certainty came a long time ago when I was studying philosophy. I am naturally skeptical with a deep rooted non-conformist streak that I attribute to my upbringing in Eastern England, which, long ago, was the center of rebellion against both the monarchy and the established church.  Many of the original ‘pilgrims’ so celebrated here in America came from the towns and villages around where I grew up, and I have always felt a deep connection with the New England form of the American story.  So when my education threw me up against Plato I naturally recoiled in horror.
He was wrong and I knew it.  But he was Plato and I was me.  So I tried to understand what I was missing.
Nothing as it turns out.
My savior was Karl Popper who was an emeritus member of the college I attended, and whose attack on Plato, Hegel and Marx – “The Open Society and Its Enemies” – allowed me to breath more easily. He led me to others including Machiavelli, Vico, Hume, and Darwin, and eventually guided me towards an acceptance of the futility or the arrogance inherent in the statement ‘I know’.
I don’t.  Nor does anyone else.  That should engender humility and openness in our enquiries and it should also allow us to embrace the foibles of our species, which is, after all, something of a parvenu on the world stage.  One of the great triumphs of the recent past is that we realize that we know so little and that all we know can be overturned in the future.  Indeed we should seek to overturn it ourselves, because it is the relentless questioning of what we currently accept as ‘truth’ that allows us to press forward and learn more.
Alongside Popper I sit Kant who seems to have spent his entire life trying to impose rigor on the fabric of morality even though he, in a moment of clarity, saw that ‘Out of the crooked timber of humanity, nothing straight was ever made’.  So why did he bother?  Because of his restless need to attempt to establish an ideal?  I think it was more that he desperately wanted humanity not to be hewn from ‘crooked timber’, or rather he saw better than the rest of us that our ‘crookedness’ needed constraint.  Hence his ‘categorical imperative.’
Absorbing all this while at the same time trying to learn economics led me to question what was then emerging as its new standard theoretical basis.  There was far too much certitude built in and not enough humanity.
It is that error: the belief in certainty we are now paying the price for.
Standard economics, the kind you find in most textbooks here in the US, concerns itself with enquiry into the mechanisms and effects of markets.  It asks questions about the ramifications of changes within the systems it studies, and it draws conclusions about the conditions necessary for an economy to reach an optimal allocation of resources.
Rather than studying actual economies and theorizing about actual objects within them, economists prefer to study abstracted models.  These models  are highly simplified and idealized versions of the world and are expressed mathematically as series of connected equations.  The centerpiece of the standard theory is something called General Equilibrium Theory that purports to illuminate the conditions necessary for the achievement of optimal resource allocation.  Surrounding this are bits and pieces that contribute to the whole by eliminating technical problems that interfere with the search for an optimum.  These bits and pieces include such things as revealed preference theory, the efficient markets hypothesis, agent rationality and so on.
This all sounds arcane.  It is.  It is the handiwork of numerous extraordinarily bright people spread over decades.  It is rigorous.  It is thoroughly explored.  It is expressed in enormous detail.
And it is of not much use.
Indeed in many ways it is a simple tautology.
It incorporates certainty in some of its details, and thus can never be representative of a real economy.
One of its central components is that the agents within an economy – Milton Friedman used to refer to them as ‘economic units’, I prefer to call them people – are rational and have full and costless access to perfect information.  That is I know what you know, and we both know everything.  Absolutely. No exceptions.  We are omniscient.  This is a necessary condition for the models to work.  For if I know something you don’t, and I act upon it, there can be no assurance that the result of all the transactions of our economy would yield an optimal outcome.  How would we know it was optimal?  There may be actions we could take that would move us to a better outcome.  But since you are not fully aware of what I know we cannot, either of us, arrive at an understanding of what an optimum may be.
Since they were searching for a model that resulted in an optimum economists were forced into eliminating reality.  They started to tinker with an idealized system.  That way they could explore its allocative properties, and the problems associated with changes to it.  They believed they had established a laboratory within which they could study markets.
The odd thing is that they chose assumptions and axioms that predetermined the outcome: the object in their laboratory was a perfect or idealized market.
So it is not odd that economists became convinced that markets are the ideal method for allocating resources.
They went in a great long intellectual circle: they set up a idealized market in order to ‘prove’ that markets are ideal.
The fact that their assumptions are absurd – do you really know everything? – didn’t matter as long as the outcome was ‘correct’.  And ‘correct’ was determined a priori: markets are better.
This may seem confusing.  Let me re-state it: instead of studying the real world, economists study idealized models.  Those models are descriptions of ideal markets.  From this they determine that markets are ideal.  Other forms of resource allocation, such as central planning, are deemed inefficient by comparison with markets on the basis of these models.
Milton Friedman, in 1953, was famously  forced to defend the absurdity of these assumptions and this whole process of economic theorizing.  It is his assertion that if the outcome is ‘correct’ then the absurdity of the input is irrelevant that I mentioned above.
So that is the state of economics.
The ideal.  Certainty.  Intertwined concepts threaded throughout the edifice.
A natural conclusion to draw from this effort is that markets are always correct in their pricing of something.  If markets are efficient in the sense that Friedman and his ilk argue, then the prices expressed in those markets must, by definition, be ‘correct’.  So a home price in 2002 of $125,000 is correct, and so is the 2007 price of $750,000, for the exact same home.  And so is its price of $500,000 today.
It was this belief that allowed Alan Greenspan to ignore the asset price bubbles of the 1990′s and 2000′s.  He reasoned, from his standard textbook position, that escalating prices were ‘correct’.  Any correction in those prices must be an expression of underlying economic conditions that the market was capturing.
The problem I find with this is that it is vacuous statement.  There is no analytical content in the notion that markets are always correct.  It merely sets up a regress to explore for other phenomena causing change.  For if markets are always correct they are never the cause of anything.  They are simply blind mechanisms expressing something else.  The causes of change must lay outside the system.  To use the word economists have for such things: the causes are ‘exogenous’.
In that case people must be ‘exogenous’, since very few I know have the perfect information economists attribute to them.
That is to say the markets economists study, because they are ideal, have no people in them. The denizens of the models economists study are rational agents.  Not people like you and me.
This bizarre pursuit of the ideal would be quaint and perhaps a little eccentric were it not for the very large fact that the standard models view that markets are ‘always correct’ is a very attractive ideological view also.  It plays directly into the hands of those politicians who want to prevent the use of central planning, i.e. the government, in our economy.
In a way we should not be surprised by this confluence: economics has its origins in the intellectual discussion of the consequences of industrialization.  Most of its early thinking was directed toward understanding the then newly emergent industrial economy and, naturally, many of the problems that attracted analysis were those that vexed politicians of the day. Trade; labor laws; the increasing complexity of society; poverty; wages; and so on represented different problems now that industrialization had irrevocably altered the social landscape. Even the basic components of economic modeling: land, labor and capital belie their origins in the debates of the mid 1800′s.  The newly enriched commercial class longed for intellectual authority.  As modern society shed its aversion to the accumulation of capital it needed new theories to justify the new social structure.  From Aristotle to Aquinas the dominant intellectual tradition was to regard profit as immoral.  This had to be replaced.
In parallel the commercial class wanted to throw off the yoke of government interference.  Levels of taxation; the right to print money; and the respective roles of government and industry had to be worked out.
So starting in France with Boisguillebert and Cantillon; then in Britain with Smith, Ricardo, Malthus, and Mill modern economics began to take shape.  At its core was the ‘magic’ of the market that Smith identified and immortalized with his metaphor of the ‘invisible hand’.  This magic caused the self interest of individuals to be translated into social welfare.  So instead of being venal the desire to make profit became a virtue.
And the commercial class was thus liberated from the Middle Ages.
But economics was not yet obsessed with the ideal.  The great systems of Ricardo and Mill were not rigorous mathematics and they were referred to as ‘political economy’ in recognition of their relationship with current social issues.
The pursuit of certainty began in earnest much later.
As economics matured a growing need for rigor crept in.  The contemporary triumphs of physics and the increased ‘formalization’ – mathematical expression – of science pressed economists toward their own adoption of formal theorizing.  This desire accelerated quickly and decisively in the early 1900′s, such that by mid century mathematical modeling dominated.  Paul Samuelson being the most prominent architect of the new method. Textbooks after him have been highly dependent on mathematics.  Before him, in the work of Alfred Marshall, whose book was the standard text for decades, mathematical analysis was limited and confined to appendices.
With mathematics came rigor.  The subject was no longer ‘political economy’ but rather simply ‘economics’ and the last vestiges of real world human action was hived off when economics and sociology parted company in the 1930′s.  While the leading sociologist of his day, Talcott Parsons, was only too happy to carve out space for the nascent subject of sociology, the split left economics the poorer.  It left thinkers like Veblen, Weber, Durkheim, and more recently Granovetter and Fligstein, looking in at what was increasingly a self-referential and formal exercise in applied mathematics.
And all the while the effort within economics was the exploration of Smith’s magic.
There was one exception: Keynes in the mid 1930′s.  His argument became anathema to standard economists precisely because it built upon the insight that there are times when markets are not efficient. They are not always magical.  Sometimes they can act perversely. Indeed they can spiral out of control.  And the forces that cause this instability are within the system, they are not ‘exogenous’. Keynes thinking represented a shocking, and if correct, devastating critique of the then emerging standard view.  For the next few decades Keynesian economics, because it seemed to describe reality so well dominated public policy, but beneath the surface economic theorists bridled at the notion the the magic was not ideal.  They wanted to recapture certainty.  Eventually the stagflation of the mid 1970′s undermined Keynes. Central to the counter attack was the undoing of the theory that related unemployment and inflation – the so-called ‘Phillips Curve’.  Stagflation seemed to contradict Phillips.  Only policies based upon the idealized system: for instance, the new monetary theories of Freidman, had effect.  The Keynesian domination toppled and the new synthesized and formalized system of the ‘New Clasicists’ reigned supreme.
Now what we have is the sterility of the de-humanized General Equilibrium Theory and its hangers-on.
The consequence has just been played out.
The triumph of the new classicists and their unshakeable faith in markets led directly to Reaganism.  It led to deregulation.  It led to the political view that ‘government was the problem’.  The triumphant world view was that markets, and their magic, if left alone would always produce a better allocation of wealth than any system in which the government played an active role.
Further, an offshoot of the new classical theory, the efficient markets hypothesis, laid the groundwork for modern portfolio theory and the ‘Black-Scholes-Merton’ model for options pricing.  This latter was used, in turn, as the basis for the construction of the market for options.  Up until Black-Scholes-Merton most states in the US regarded options as simple gambling.  So no exchange for trading options could be built.  The model changed that.  The Chicago Exchange for trading options was permitted by the SEC partly because Milton Friedman called and persuaded its then head that the theory underlying options trading was impeccable.  Nobel Prizes were handed out to its developers.
So the derivatives business owes its existence to the relentless pursuit of the ideal and the the belief in certainty the lie at the heart of the new classical system.
This idealized system, Smith’s magic, had moved from being a theory about the world, to being a technology deployed within the world.
But unlike technologies based upon physics or chemistry, this one had inherited a fundamental flaw: its reliance on the absurd assumptions that were necessary to force the new classical models to describe an ideal market.  One outcome of this flaw was that derivatives traders used idealized distributions of probabilities in their own modeling: they employed a Gaussian distribution – the ‘normal’ or ‘bell’ curve – for loss event estimation.  The real world rarely conforms to such a distribution, but it was embedded in the ideal world upon which the derivatives models were based.  That was accepted theory, indeed it was ‘high’ theory. It was inviolate.  No one could assert that it was incorrect.
As we now know that inherited flaw brought our economy to its knees.
It is not a trivial statement to suggest that new classical economic theory was a prime cause of our recent crisis.  I believe it to be the case.  Economic theorists have a responsibility that extends beyond the safety of their classrooms.  It reaches right into the foreclosed homes, lost jobs, destroyed lives, and diminution of wealth that their obsession with ideal markets has wrought.  That they defend themselves with arguments based upon the ideal is testimony to the bankruptcy of their thinking.  
Economists like Barro, Lucas, and Mankiw are culpable. They share a burden along with their predecessors.  They built models to explore markets. Instead they convinced politicians that markets are perfect.  They became blinded by their own mathematics and its elegance.  They built a system unrelated to reality that had little explanatory power outside the ideal, and no predictive power at all.  They gave intellectual credibility to partisan and reckless fiscal policies, to ill thought out deregulation, and to the development of unsafe and unstable derivatives markets.  They created and supported a world view that found expression in thirty years of public policy – through administrations of both political parties – and which still pervades the thinking of our business and governmental elites.
Their ideas have been discredited on a monumental scale.
To say that it is unfortunate that the new classicists triumphed and dominated economics is to minimize the scale of the human cost their pursuit of the ideal caused.
The ideal failed.
As it was always doomed to.
Humans are not ideal.
Theories describing human activity, like that in markets, cannot be based upon an acceptance of certainty.  For there is no certainty.
We need a new economics.  Perhaps based upon evolution, that encompasses behavior, geography, culture, relationships, psychology and above all is inclusive of learning with all its fallibility.  It will be messy and imprecise.  It may elude formalization at the outset.  But it will be real.  For we must rid ourselves of the ideal.
Because this crisis above all else was a failure of the ideal

Monday, June 11, 2012

Did Republicans Deliberately Crash the US Economy?

Saturday, June 09, 2012

Did Republicans Deliberately Crash the US Economy?

Michael Cohen [w/ Mark Thoma commenting]

Did Republicans deliberately crash the US economy?, by Michael Cohen, CIF:
So why does the US economy stink?
Why has job creation in America slowed to a crawl? Why, after several months of economic hope, are things suddenly turning sour?
The culprits might seem obvious – uncertainty in Europe, an uneven economic recovery, fiscal and monetary policymakers immobilized and incapable of acting. But increasingly, Democrats are making the argument that the real culprit for the country's economic woes lies in a more discrete location: with the Republican Party.
In recent days, Democrats have started coming out and saying publicly what many have been mumbling privately for years – Republicans are so intent on defeating President Obama for re-election that they are purposely sabotaging the country's economic recovery ... in order to hurt Obama politically. Considering that presidents – and rarely opposition parties – are held electorally responsible for economic calamity, it's not a bad political strategy.
Then again, it's a hard accusation to prove: after all, one person's economic sabotage is another person's principled anti-government conservatism.
Beyond McConnell's words, though, there is circumstantial evidence to make the case. Republicans have opposed a lion's share of stimulus measures that once they supported, such as a payroll tax break, which they grudgingly embraced earlier this year. Even unemployment insurance, a relatively uncontroversial tool for helping those in an economic downturn, has been consistently held up by Republicans or used as a bargaining chip for more tax cuts. Ten years ago, prominent conservatives were loudly making the case for fiscal stimulus to get the economy going; today, they treat such ideas like they're the plague.
Traditionally, during economic recessions, Republicans have been supportive of loose monetary policy. Not this time. Rather, Republicans have upbraided Ben Bernanke, head of the Federal Reserve, for even considering policies that focus on growing the economy and creating jobs.
And then, there is the fact that since the original stimulus bill passed in February of 2009, Republicans have made practically no effort to draft comprehensive job creation legislation. Instead, they continue to pursue austerity policies, which reams of historical data suggest harms economic recovery and does little to create jobs. In fact, since taking control of the House of Representatives in 2011, Republicans have proposed hardly a single major jobs bill that didn't revolve, in some way, around their one-stop solution for all the nation's economic problems: more tax cuts.
Note to self: 
Here, there needs to be a discussion of the empirical historic track record [and theoretical underpinnings] for tax cuts as a job creation policy.  Based on the evidence I have seen to date, along with the plethora of known fatal flaws in the macroeconomic underpinnings of mainstream neo-liberal/neo-classical theory, tax cuts - alone - as a solution for job creation/restoring & sustaining full employment is at best inadequate and at worst may be wholly self-destructive for modern American capitalism.  But, lacking the data at my fingertips, it will have to wait for a later post.
Still, one can certainly argue – and Republicans do – that these steps are all reflective of conservative ideology. If you view government as a fundamentally bad actor, then stopping government expansion is, on some level, consistent. ...
It is also completely destructive of the very idea of democracy... even for our inspired Constitutional Republic. Those who do not believe in governance cannot but be bad at it.  See Thomas Frank (e.g.,  'The Wrecking Crew' and/or 'What's The Matter With Kansas?').
Presidents get blamed for a bad economy... The obligation will be on Obama to make the case that it is the Republicans, not he, who is to blame – a difficult, but not impossible task.
In the end, that might be the worst part of all – one of two major political parties in America is engaging in scorched-earth economic policies that are undercutting the economic recovery, possibly on purpose, and is forcing job-killing austerity measures on the states. And they have paid absolutely no political price for doing so. If anything, it won them control of the House in 2010, and has kept win Obama's approval ratings in the political danger zone. It might even help them get control of the White House.
Sabotage or not, it's hard to argue with "success" – and it's hard to imagine we've seen the last of it, whoever wins in November.
[Here Mark Thoma comments:

Has the Republican Party's strategy been deliberate? Yes, of course, the things the Party proposes do not fall randomly from the sky, they are the result of GOP choices. So the question of whether they did this on purpose is easy to answer, it's yes.

Is it intended to undermine the president's agenda? Again, of course it is. The alternative would be to support Obama's policies, and they aren't about to do that. So Republicans have been deliberately obstructive, and it would be hard to argue otherwise.

Have they intentionally done harm? This is where flip-flops from what Republicans supported in the past matters.

If they truly believed that all Keynesian type policies are harmful, then blocking them, and in the process blocking any policy at all -- which is essentially what they are doing since they surely know their pet policies have little chance of escaping a veto -- could not be considered an act of sabotage.

The policies may be quite harmful in reality, but if they truly believe they are avoiding harm by blocking stimulus policies it would be hard to accuse them of sabotaging the economy in order to make political gains.

But the fact that they have flip-flopped time and again on policies they supported when Republican presidents were in office and the economy needed help leads to the strong suspicion that blocking Obama's policy initiatives is a political strategy. The strategy is justified by a story about Keynesian economics being harmful that they clearly do not believe in their heart of hearts (witness, for example, Romney worrying about the consequences of the fiscal cliff, or their knee-jerk appeal to Keynesian principles when defense cuts are proposed). They have also concocted a story where a confidence fairy can make austerity work to support their ideological pursuit of smaller government.

But this is quite a departure from the stimulative polices that Republicans presidents have pursued in recent years giving it every appearance of a belief of convenience rather than of true conviction. To me, the refusal to support policies they would have supported had the president been a Republican tells me everything I need to know about whether this is strategic or a true belief.
    Posted by Mark Thoma on Saturday, June 9, 2012 at 10:36 AM]

    Monday, May 14, 2012

    Public art of the day

    Public art of the day

    Who’s Afraid of the Big, Bad National Debt?

    This is a nice - if a bit long - piece from an obscure investment advisor from Lancaster, PA, who actually has a grasp of macroeconomics.  It is so good I had to re-post here in its entirety:

    Who’s Afraid of the Big, Bad National Debt?
    By Ben Strubel

    Who’s afraid of the Big, Bad national debt? Lots of people it seems. And, in case you haven’t noticed, everyone from politicians to investors to think tanks to the media thinks we’re bankrupt.

    “The country is technically bankrupt. If you and I were in business, we would have to declare bankruptcy. Governments print money so they can get away with it. But we are insolvent and the debt will never be paid for.” –Ron Paul

    “No, the U.S. will go bankrupt. It’s just, look at the numbers, it is impossible [to pay back the debt].” –Jim Rogers

    “A chaotic future will be the result if our representatives continue to fail at their fiscal restructuring responsibilities… our nation’s fiscal mess is like a life threatening cancer that is not being treated.” –Robert Rodriguez, FPA Advisors

    “Our nation is going broke, and we are passing the costs of these misguided policies to our children and their children… we are certain to face a financial crisis like Greece or Portugal.” –Heritage Foundation, 2011 Saving the American Dream Plan

    “Nation’s debt passes grim milestone” –MSNBC Headline 1/9/2012
    Even our own government is sure we are broke and our national debt is choking economic growth. Below is a slide from a presentation given to Greg Mankiw’s infamous Harvard EC10 class by Congressional Budget Office Director Douglas W. Elmendorf on February 24, 2012.

    It’s official then: everyone agrees it seems, we are bankrupt. Time to move to Canada before the national debt apocalypse is upon us.

    Before we panic, let’s look at some facts. We will also go over why the CBO’s slides are dead wrong. Curious statistics point to the fact that maybe we aren’t bankrupt after all.

    First, the yield on 10-year treasuries is around 2%. I suspect that creditors would demand a higher interest rate for an entity that was truly bankrupt. In the United States junk bonds (that is, the bonds of companies with dicey finances) currently yield around 7%. But maybe the government bond traders are just idiots, blindly walking into the coming apocalypse.

    Second, there is another strange fact to take into account. We have actually paid off the public national debt. In 2011, we paid off the public debt 6.3 times. During the last ten years, we paid off $473 TRILLION worth of the U.S. public debt and issued that same amount plus an additional $10T+, as you can see in the table below.

    Countries that actually are bankrupt, such as Greece, have a lot of trouble lining up financing. Just look at the ongoing saga over the numerous “bailouts” and debt restructuring talks.

    Facts Against Bankruptcy
    Again, hardly facts that would support the assertion the country is bankrupt. After all who lets a bankrupt entity roll over $437T in debt. Clearly something is different with the United States. The question then is, what is different and why?

    First, let’s talk about how most people view the national debt. They tend to view it just like they would a household or business debt. Indeed almost all politicians and lay people start with an analogy that relates the Federal government to a household (if someone does that, this is your cue that they don’t know what they are talking about and to just ignore everything else they say).

    Let’s see how the debt works for the user of a currency. We will use an example that should be familiar to most: how debt works for a household that takes on mortgage debt.

    A household wishes to buy something (a house) that they do not currently own and cannot afford to pay for entirely at the current time. So, they take out a mortgage loan of, say, $150,000 and they promise to pay back the entire amount of the loan plus interest over a 30-year period. The household is buying something it can’t afford now and paying for it out of future cash flows. They are forgoing future spending in order to purchase something now. We could even construct a scenario where the household’s children or grandchildren were burdened by the debt. Centuries or millennia ago it wouldn’t be uncommon for descendants to be expected to service the debt of a previous generation. In the area where I live, Lancaster, Pennsylvania, we have a large Amish community. Lots of times the Amish loan each other money instead of going to a bank. In the Amish community the debt is passed down to children if not paid off by the parents. So, debt truly could be a burden passed down from generation to generation.

    After a finite amount of time the debt is expected to be paid back in full and the household will be debt free. A substantially similar set of circumstances applies to all entities that are currency users, be they households, businesses, U.S. states, or even countries (such as the Eurozone) that have elected to give up their sovereign currency.

    One of these things is not like the others. One of these things just doesn’t belong. Can you tell which thing is not like the others, by the time I finish my song?

    For countries that are currency issuers such as the United States, UK, Japan, and so forth, the situation is much different. As we will see, what is called the national debt of these countries is a misnomer.

    Let’s start with some of the obvious differences.

    In our household example, the family does not have $150,000 so it is forced to borrow from someone that does. In contrast, the United States Federal government, since it is the sole issuer of the currency, never does or does not have dollars. While it may look like the U.S. is borrowing money from someone, it is not. What happens when the U.S. government spends in excess of tax receipts (called deficit spending) is it simply creates dollars out of thin air. Ben Bernanke does not go hat in hand to China to scrounge up some extra greenbacks and Fed-Ex them back to the U.S. before Obama and Congress write the check on their latest [please choose from one of the following depending on your political orientation: evil-socialist, private-sector-killing spending binge OR latest tax-break-and-earmark gift for rich constituents, big business, and the banks].

    We will look into the process of creating dollars out of thin air in a later section.

    Ricardian Equivalence, the Confidence Fairy, and other Mythical Creatures

    The other major fallacy is that somehow at some point the national debt needs to be paid back and reach zero.

    Again, this may be due to the view that the national debt is somehow like household debt, which must be paid off and reach zero at some point. Households have a finite life span. We all die at some point, and lending institutions are highly interested in being paid back before that happens. The corporate world is a bit different. Corporations in theory have infinite lives. (Although checking the original components of the Dow or any other market index reveals the folly of that assumption.) Some companies, particularly regulated utilities, target set levels of debt and happily would go on being in debt forever.

    The United States is much more like a utility company (if that utility could print their own money) in that it is never planning on ever paying down the debt to zero. In fact, during the Clinton surplus years, there was a confidential memo circulated where the more knowledgeable members of the Clinton government realized that you basically can never pay off the national debt completely because it would destroy the economy and our monetary system.

    This unlimited life span of the debt is one reason that the notion of Ricardian equivalence, the government crowding out the private sector, or the belief in the “confidence fairy,” is false.

    The other reason is the equally absurd notion that consumers are perfectly rational and have perfect foresight of future government taxing and spending policy. Increases in government debt do not automatically need to be paid for down the road. That debt can be rolled over infinitely. The result of government deficits today do not imply anything for the future–not lower government spending in the future and not higher taxes in the future.

    Also false is the notion that any government spending by definition crowds out private sector spending and investment. As long as there are idle goods and services, including labor, available for sale in dollars, the government can deficit spend without crowding out the private sector. Only when all goods and services are being utilized will additional government spending start to “crowd out” the private sector and begin to cause inflation.

    Think about it this way. Right now we have almost 25 million under employed or unemployed people in the United States who are willing and able to work. They are unable to find jobs in the private sector because the private sector simply is not generating enough jobs. There are about four applicants and seven unemployed persons for each job opening.

    If tomorrow the government printed $30,000 and offered an unemployed person that money to clean a national park for a year, then would that crowd out the private sector? No. That is because there are 25 million idle units of labor available. Even a number like paying one million people $30B over the course of a year to perform work wouldn’t crowd out the private sector.

    What about responding to a renewed crisis that the CBO alleges we will encounter now? Suppose we had to go to war with some large adversary. Well, with 25 million people looking for work we certainly won’t have a problem filling out the ranks of an expanded military or going to a factory to produce more military equipment.

    Once we have full employment, once all the factories are at full production, and once all the office space is occupied, more government spending certainly can crowd out the private sector and begin to cause inflation. But deficit spending and the national debt, in and of themselves, do no such thing. It is the state of the real economy that matters, not the deficit.

    Big Savings, Not Burdens, for Our Kids
    The other common myth is that our children and grandchildren are somehow “burdened” by the national debt much like Amish children could be burdened by their parent’s debt. As we saw above the national debt represents nothing more than the savings of the private sector. It is in no way shape or form a burden. Think about it like this:

    The national debt is represented by all outstanding treasury securities (there is some other funky stuff but we won’t get into that here). Most of my clients have some of their accounts allocated to treasuries. You are saving your money and putting some of it in treasuries. These clients clearly view treasuries as an asset, not a debt. For instance, if a client called me tomorrow and wanted to buy a new car, I could sell the treasuries and have the custodian send them the cash. Some of my clients also plan to pass on their assets to their children. Some of those assets will be treasuries. The so-called national debt isn’t a burden that my client’s are passing to their children. These clients are passing on an asset. My clients’ children will be richer, not poorer.

    Most of my clients also believe we need to do something to reduce the national debt and the deficit. (Hey, not all of them read all of my newsletters.) As I said most of them own treasuries. When I point out to them that to reduce the debt would mean the government would raise their taxes and they might be forced to sell their treasuries to satisfy an increased tax obligation, then the light usually goes on that treasuries are an asset for them and not a debt.

    The following graph taken from a presentation by Stephanie Kelton, a professor at UMKC, shows what I am talking about.

    The green is the foreign trade balance, the blue is the private sector balance (that’s you and me), and the red is the government.

    When the government runs deficits it allows the private sector to grow, save, and invest. Quite the opposite of what you hear! But you can see the indisputable proof in the graph. When the government ran a budget surplus, like during the Clinton years, the private sector was forced to stop saving and to start taking on debt. You can see how the blue and red bars reverse.

    Also, think about your own life. After all, the scary campfire stories about the national debt have been told for decades. You were at one point someone’s child or grandchild and the national debt was supposedly being passed on to YOU. How has that national debt affected you? How have you suffered? The answer should be obvious. You haven’t suffered any ill consequences. Neither will any of your descendants. Now think about all the benefits the national debt has bestowed upon you. Perhaps you have inherited some treasury securities at some point or had a relative buy a savings bond when you were a kid.

    Interest Rates, Shminterest Rates
    All that deficit spending may be fine and dandy, but eventually we will lose the confidence of the almighty bond market and interest rates will soar. You have heard this said, I’m certain. The director of the CBO is sure that this will happen. I mean, just look at Japan, they have debt that is more than 200% of GDP and their interest rates are through the roof. Wait a second, that’s not what happened. They are still paying about 1% on the 10-year Japanese Government Bond.

    Just like Japan, we don’t have to worry about interest rates. The Federal Reserve (or in Japan’s case, the Japanese central bank, the Bank of Japan) sets rates. When you buy Treasury securities, you are doing business with the Godfather and he is making you an offer you can’t refuse. Either you accept the rate offered or you take a dirt nap, your choice.


    Well, it works like this:

    When the federal government spends money, it credits private bank accounts and thus creates deposits. If you have $2000 in your bank account and you get a $1000 payment, the government just tells the bank to change the “2” to a “3” and now you have $3000. This $1000 also creates $1000 of excess reserves in the bank.

    Bank reserves are basically any physical cash the bank has in the vault plus money it has on deposit with the Federal Reserve. (You can think of this as money the bank has in its bank.) Banks need reserves to clear financial transactions and to give cash to customers who show up and want to withdraw cash. We have regulations that require banks to hold a certain amount of reserves but even in countries that do not have any reserve requirements such as Canada banks still face a de facto need to hold reserves so they can function.

    If you took that $1000 from the bank and spent it all at the grocery store (I guess you were really hungry!) then that money would be in the grocery store’s bank account and the grocery store’s bank’s reserves would increase. So whether you are out in the economy spending the money or leaving it sit at the bank, that money is still creating excess reserves somewhere in the banking system.

    Everyone likes to earn interest with the money in their bank accounts. Banks want to earn interest on their reserves too. Banks can loan reserves to each other. For example, Bank A might have excess reserves, so it would loan them to Bank B, which needed more reserves.

    What would happen with the excess $1000 in reserves we created if we kept our money in our bank or spent it and put it into another bank? No other bank would need reserves, since we didn’t create an offsetting reserve deficit anywhere in the system. Let’s say previously that banks were loaning reserves out at 1% interest. When we add the extra $1000 to the system, then banks will begin to bid the interest rate down. If we are the bank with the excess $1000 and we want interest, it is better to offer to take only .9% than get nothing. So we will try to undercut some other bank’s offer. That bank will then logically decide it will offer .8% rather than get nothing and it will undercut our offer, and so on until the rates collapsed to 0%. Deficit spending will actually send interest rates collapsing down to zero unless something else is done.

    The fix is simple. The Treasury issues $1000 worth of securities. In fact, the Treasury is required by law to issue an amount of securities to match the deficit. But as you can see, the banks will accept any interest rate offered since it is better than the nothing they would earn as the alternative. That’s why doing business with the Federal government is like doing business with the Godfather, the only choice you get is his. But the Godfather is nice and will let you choose your own interest rate if you want to borrow longer than overnight.

    The reason for treasuries of varying lengths of time simply reflects the desire of the different lengths of time the private sector wishes to save. Some people (banks) have excess reserves and just wish to earn interest overnight, while others wish to save for twenty years.

    Astute readers will realize I greatly simplified things when talking about how bank reserves are managed and the role of the Federal Reserve and the Treasury. This isn’t the time for a lesson on what rehypothecation is.

    Think about what has happened during the past few years in the real world. Interest rates are at record lows. Why? Not because the market decided they should be that low, but because the Federal Reserve lowered the short-term rate to almost zero. What happened when Standard & Poors downgraded our credit rating? Interest rates actually fell.

    But perhaps all of this sounds like crazy talk. It’s so different from everything you normally hear. It’s different than what most economists and politicians say.

    Let me ask you this:
    Do you think politicians and traditional economists have done a good job managing the economy up to this point using the traditional, mainstream models?

    If you do, then I guess I might actually be crazy. But, if you don’t, maybe it’s time to reexamine what we think we know about the economy and the monetary system.

    Oh and I went ahead and fixed that slide for the CBO Director.

    The wedges between productivity and median compensation growth | Economic Policy Institute

    The wedges between productivity and median compensation growth | Economic Policy Institute

    Lawrence Mishel over at the Economic Policy Institute concludes:
    Productivity growth has frequently been labeled the source of our ability to raise living standards. This is sometimes what is meant by the call to improve our “competitiveness.”
    In fact, higher productivity is an important goal, but it only establishes the potential for higher living standards, as the experience of the last 30 or more years has shown. Productivity in the economy grew by 80.4 percent between 1973 and 2011 but the growth of real hourly compensation of the median worker grew by far less, just 10.7 percent, and nearly all of that growth occurred in a short window in the late 1990s. The pattern was very different from 1948 to 1973, when the hourly compensation of a typical worker grew in tandem with productivity.
    Reestablishing the link between productivity and pay of the typical worker is an essential component of any effort to provide shared prosperity and, in fact, may be necessary for obtaining robust growth without relying on asset bubbles and increased household debt. It is hard to see how reestablishing a link between productivity and pay can occur without restoring decent and improved labor standards, restoring the minimum wage to a level corresponding to half the average wage (as it was in the late 1960s), and making real the ability of workers to obtain and practice collective bargaining.

    Restore decent and improved labor standards.

    Restore the minimum wage to half the average wage (and keep it their via indexing!).

    Restore collective labor bargaining.

    Thursday, March 22, 2012

    Why I Cannot Vote for Mitt Romney

    #1. His actual policies suck.

    Romney's tax policy is to:
    - lower & flatten personal income tax rates,
    - lower corporate tax rates,
    - eliminate the "death tax" (i.e., the estate tax), and
    - reduce [if possible, eliminate] taxes on capital income...

    Ostensibly, he claims these policies would make the tax system "fairer" & "simpler".

    But, effectively it is just another another thinly-disguised round of tax give-aways to the upper class at the expense of lower classes [who, assuming budget neutrality, either have to make up the lost revenues by higher taxes -or- receive reduced government transfers & benefits].  And/or a continuation of the "Starve the Beast" strategy for ridding society of publicly-purchased social insurance. 

    The same exact policy trajectory of the movement conservative, government-is-bad, pro-business, free market fundamentalist Republican party of the last 30 years.  The same exact policy trajectory that [in conjunction with deregulation, cheap credit & privatization policies] led to asset bubbles and financial crises and the Great Recession that we are only now beginning to climb out of.

    Haven't we learned anything?

    By the way:  Flat is NOT [I repeat: NOT] Fair.
    Even Adam Smith recognized the need for generally progressive taxation. 

    Beyond the usual vertical equity arguments, there are many other principles & arguments for a progressive tax system:

    - Dimininshing Marginal Utility 
    The value of the next dollar to a high-income earner is less than the value of the next dollar to a low-income earner (because low-income earners generally have more basic human needs that remain unmet), so a higher tax on a high income earner's dollar produces the same pain/dis-utility of a lower tax on a low income earner's dollar.  (note: I am not a marginalist, which usually implies being an equilibriumist; but for those enamored of equilibriumist thinking, it has some suasion)

    - Relative Socio-Economic Benefit
    Those who benefit most [economically] from a society should contribute relatively more towards the support of government (incl. social insurance). 

    - Relative Risk (Taxes as Insurance)
    Those who have the most to lose [economically] should pay relatively more. 

    For me, ultimately, the most persuasive argument is Adam Smith's:  Those who can most afford the tax burden (i.e., the rentier class) can & should pay a progressively higher tax rate than those whose means barely affords the costs of living (if that). 

    You can't squeeze blood from a rock.

    "Flat" is actually quite Un-Fair. 

    A flat federal personal income tax rate would result in an overall national tax structure that is actually regressive - i.e., places the burden disproportionally on the lower income classes (mostly because the rest of the national tax system is based on sales taxes that fall disproportionally on the middle class and lower).

    As a result, flat tax proposals -- e.g., Herman Cain's 9-9-9 plan being the most recent famous example -- inevitably result in a larger tax burden for the bottom 90% or so, and a lighter burden for the top 10%. 

    And Flat is not to be conflated with Simple. 
    Flat is NOT necessarily simple. 

    Think loopholes:  all the deductions & exemptions & preferences & credits & accelerated write-offs & who-knows-what-else that riddle the tax code, e.g., the home mortgage interest & state/local tax deductions, the earned income credit, or the tax-free treatment for employer-paid health care benefits. 
    The complexity of our tax code comes from these 'loopholes', NOT from the flatness or steepness of the slope of the marginal tax rate line. 

    Changing to a single flat rate does NOTHING, in and of itself, to cure the underlying cause of tax code complexity. 

    Romney, if allowed, would grant tax-free treatment to capital forms of income, which shifts the burden to labor income (wages & salary).   Guess who gets most of their income from capital forms of income?

    If you guessed "Capitalists", ding ding sing we have a winner! 

    Guess gets most of their income from labor forms of income?
    The remaining 99% of us. 

    Can anyone tell me why income earned as labor should be taxed at rates higher than income earned from capital? 

    And simple need not be flat.
    A progressively sloped tax rate is no more difficult to use to compute one's tax liability than a flat one... to repeat:  the complexity comes from the loopholes, not the number of brackets or rates!

    And corporate taxes ~ or, alternatively, taxes on dividends & capital gains ~ are NOT a form of double-taxation, which is one of Romney's 'fairness' arguments.  Corporate income taxes are the price that corporations pay for the priviledge of personhood with limited liability.  And that's coming from a Republican (Taft, during the debates over instituting a federal income tax).
    Ask any thoughtful capitalist if the price is worth the benefit.  If the price were truly too high, then capitalists would not choose corporate forms to organize their businesses. 

    The truth is that the corporate form & limited liability provide such shockingly enormous efficiencies for capital formation, investment liquidity & wealth creation that modern capitalism literally could not exist without it. 

    The question has to be asked:  Wealth creation for whom?  Those who benefit the most...

    Besides tax policy, what's he got?

    Jobs?  Romney's jobs plan is...  non-existent? 
    Austerity is NOT Prosperity. 
    It is, in fact, Anti-Prosperity, particularly at a time when:
    - unemployment is stubbornly high,
    - median wages/incomes are stagnant, and
    - lost wealth effects & heavy private sector debt & tight credit [not to mention Euro zone problems, slowing Chinese & Indian economies, and high energy prices] all continue to drag on the recovery. 

    Concern about far-term structural budget deficits seems misplaced (at best) when the near-term problems are so potentially dire. 

    It's a bit like the doctor who, upon arriving on the scene of a multi-car accident and seeing blood & broken bones all around, starts dispensing warnings about cholesterol intake & smoking to the victims:  The advice is, perhaps, all well and good & worthy of attention at some point down the road, but not particularly relevant to the challenge at hand. Or worse, it might constitute negligent malpractice... if the accident victim dies as a result of injuries that the doctor should have addressed via the accepted standard of care.

    Romney's embrace of Austerity (and its cousin, the Confidence Fairy) is a continuation of conservative economic policy malpractice that led to disasterous consequences in 2007-2009.  It is idiotic, it is bad economics, and it is bad for America.

    Speaking of bad economic timing:  Mitt seems to want to launch a trade war with China.  Didn't we learn anything from the disaster of the Smoot-Hawley tarriff acts? 

    Then there's his saber-rattling over Iran.  If he's serious, he's dangerous; if he's not, then he's lying about the efficacy & wisdom of Obama's Iran policy.  There is not a single thing that Romney would do about Iran that Obama is not already doing... short of, perhaps, launching a Dubya-esque premature pre-emptive airstrike.  I for one am very unhappy about the prospect of another ill-conceived war in the Middle East. 

    On social issues, he's gone off the deep-end in his hunt for primary voters. 

    Marriage Equality has already been decided (14th/16th Amendments).  If the State (or Feds) conveys benefits on its citizens, it cannot discriminate in the grant of those benefits. Bigotry and discrimination should not be the subject of [another!] Constitutional amendment.  Nor should basic human rights - esp. the rights of a minority group! - be subject to the vote of a majority... even if the tide of history ultimately brings the majority to support marriage equality.

    On health care, he wants to gut the Affordable Care Act [even though it mirrors his own Massachusetts plan?], yet has no credible plan to actually bend the medical care cost curve.  The free rider problem & cost-shifting means that we are all effectively paying a tax now to cover the un- and under-insured, whether we recognize it directly as such or via higher insurance premiums & out-of-pocket deductibles. 

    We, as a country, pay roughly twice as much more for health care than the next closest OECD/developed nation peer, and yet we get outcomes that are not demonstrably better (and in some cases, are demonstrably worse)! 

    The only way to tackle the health care problem is to go to a single-payor system with capitated payments to providers based on outcomes (not fee-for-service).  Romney is going exactly in the opposite/wrong direction.

    #2.  Romney is inauthentic.  Which leads him to make all sorts of astonishing lies.

    It's worse than mere flip-flopping (Romney makes Kerry look like the epitome of constancy). 

    Romney has no soul;  he is a mercenary, a hired gun whose allegiances shift with the political winds.  Can anyone tell me what Romney's "Vision" is?  I doubt it, since so far not even Romney's been able to voice it.

    He makes it up as he goes along, and consistency & reality be damned.  Don't ruin a good story with facts. 

    And so he makes all sorts of bullshit claims about how Obama has only made things worse, when clearly that is not the case. 

    Obama's stimulus measures didn't prevent peak unemployment over 8% (*sigh* what adviser thought it was a good idea to voice a particular target?), but it did arrest the freefall and replaced some of the demand lost from the private sector.  We have seen steady, albeit still insufficient, job growth for more than 2 years now, corporate profits and profit margins are at historic levels, private credit has stopped contracting, and the housing market seems to have bottomed and begun a slow recovery. 

    Not great, but not another Great Depression, either.

    Which is what we would have had if the austerity-loving Hooverites -- like Romney (and Rand Paul, Paul Ryan, etc.) -- were in control of fiscal policy.

    #3.  Romney is uniquely ill-equipped to deal with the biggest problems that face us as a country.

    Modern, free market fundamentalist financial capitalism & the conservative corporatist plutocracy it disproportionately serves has failed to deliver widely-shared economic growth. 

    The rising tide has not lifted all boats... just the yachts.

    Which, in turn, has led to historic, unsustainable inequalities that threaten to evolve us towards a brave new world of economic feudalism.  Mitt Romney is the very poster-child for economic feudalism:  born into wealth, Bain Capital, tax-avoiding complicated trust funds, $10,000 bets, let Detroit go bust, liquidate the homeowners, end Medicare, yadda, yadda, yadda.

    Supply-side economics does not work (if it does at all) when the fundamental problem is insufficient aggregate demand.  Romney's policy proposals are not even aimed at the right target.

    #4.  Governance is not like running a business. 

    Romney's unique selling proposition is that he has successful, executive-level business experience.  But, it's not IMHO relevant. 

    Stimulating job creation economy-wide is a vastly different thing than earning outsized returns from making private equity investments.  Tackling the enormous income & wealth inequality gap requires different skills than those required to offshore jobs, close plants or negotiate LBO financing terms.

    #5.  I'm holding fast to my vow to never vote for a Republicon again.

    When Republicons abandoned their responsibility for governing in the best interests of the people as a whole (by refusing to allow anything to pass the Senate in order to deny Obama a second term), I vowed I would never vote for a Republicon again. 

    And I mean it.

    Friday, March 16, 2012

    Economist's View: Per Capita Government Spending by President

    Economist's View: Per Capita Government Spending by President

    To all those turd-polishers who like to claim that Obama is the biggest spender in history:

    Learn how to do some critical thinking.


    Krugman Only Gets It half Right: Macro Retrogression in a Post-Keynesian World

    Paul Krugman on Milton Friedman:
    The truth, although nobody on the right will ever admit it, is that Friedman was basically a Keynesian — or, if you like, a Hicksian. His framework was just IS-LM coupled with an assertion that the LM curve was close enough to vertical — and money demand sufficiently stable — that steady growth in the money supply would do the job of economic stabilization. These were empirical propositions, not basic differences in analysis; and if they turn out to be wrong (as they have), monetarism dissolves back into Keynesianism.
    It’s worth pointing out, by the way, that this time the Fed did all that Friedman denounced it for not doing in the 1930s. The fact that this wasn’t enough amounts to a refutation of Friedman’s claim that adequate Fed action could have prevented the Depression.
    All well and good.  Krugman is almost certainly right... as far as he goes.

    What Krugman doesn't acknowledge is that not only does Friedman's monetarism collapse back into Keynesianism by virtue of the failure of its assumptions (LM curve verticality, stable money demand) to stand up to real world scrutiny, but that the Hicksian IS-LM framework itself is an utterly unrealistic, fundamentally incorrect construct that does not at all properly represent Keynesian macro theory. 

    Even the creator of IS-LM, JR Hicks himself, repudiated the model as virtual rubbish - over 30 years ago! - calling it nothing more than an interesting plaything useful only for classroom discussion. 

    Thus the underpinnings of the entire modern neoclassical macro theory (i.e., mainstream macro since Patinkin's post-Keynesian synthesis) -- which includes not only the Freshwater versions such as Friedman's or Mankiw's, but also the Saltwater varieties of Krugman, DeLong & Summers -- are banished to the dustbin of history. 

    Or, at least, they should be.