Month: July 2008

Don’t attack the shareholders

So says Ricardo Caballero, here is more:

First, a private sector solution to the current crisis requires fresh capital injections into financial institutions. However, in an environment of widespread uncertainty where the instinctive reaction is to run away from risk-taking, private capital is likely to remain on the side for much too long. Thus, the optimal policy response is to encourage and leverage private risk-taking, not to discourage it with a pending threat of exemplary punishment were a fragile situation turn worse, regardless of cause. Economic policy risk is compounding the private sector’s reluctance to capitalize financial institutions…

Second, during periods of high uncertainty and the potential for runs, large or coordinated shortsellers are more likely to succeed in triggering socially inefficient panic-selling. Rumor-mongering and persistent selling pressure eventually weaken wary investors and depositors. Unfortunately, by choosing to punish shareholders, Secretary Paulson has rewarded shortsellers and raised their ammunition to cause further financial instability.  Again, while shortselling plays a very useful role during normal times, it can turn into a source of instability during periods of high uncertainty.

Two points: first, if we are going to nationalize this argument implies we should do it quickly to avoid further hemorrhaging.  Yet the mortgage agencies are not quite proven to be unsalvageable failures (much as I opposed their initial creation that does not imply immediate obliteration as the proper current response).  Second, even if nationalization is the right response this time, it might not be the next time a financial institution gets into fiscal trouble.  Yet in that subsequent case nationalization will be that much harder to avoid, given the understandable fears of private capital if nationalization happens this time.  Every time you nationalize and wipe out shareholders, you create a dangerous precedent and scare away private capital for a long time.

You are probably reading lots of absolutist recommendations around the blogosphere but these are truly difficult issues and the correct policy responses are not obvious.

Fannie Mae, Freddie Mac and the Peso Problem

A government bailout of the GSEs should not be a surprise.   After all, for a long time the markets have been predicting that sooner or later there will be a very expensive bailout.  What do I mean?  According to Freddie Mac (quoting the OMB)  "mortgage rates are 25 – 50 basis points lower because Fannie Mae and Freddie Mac exist in the form and size they do."  Now, that is almost certainly an exaggeration but to the extent that interest rates are lower due to the GSEs some significant part of that is due to the market valuing the government’s implicit guarantee.  In other words, interest rates are lower because the market is valuing the implied insurance.  Now, the whole point of insurance is that sometimes the insurer must pay.  Thus the market has been telling us all along that sooner or later the taxpayer was going to pay.

Maybe the taxpayers will have to pay today or maybe in some future tomorrow but the benefits of the GSEs are intimately tied to the costs – there is no such thing as a free lunch.  The lunch may look free for a long time – as in the classic peso problem – but what that means is that when the bill comes due it will be big. 

Some simple Ricardian thoughts on the Helmsley bequest for dogs

Here is Posner on the topic, here is Becker.  As I understand the terms, it is about $12 million for her dog and $5 billion to $8 billion for dogs in general.

It’s only the $12 million for her dog that is objectionable; surely one million would have sufficed and in the language of the philosophic literature on inequality, the other dogs can rightfully hold a complaint against the recipient of Helmsley’s largesse. 

$5 billion to $8 billion for dogs in general is not too much for our wealthy society to spend or to regard as a legitimate welfare objective, worthy of the standard tax deduction, at least provided it is distributed equitably.  Here’s a list of possible ways to spend the money to help dogs.  Here’s an estimate that there are more than 70 million dogs in the United States, so that is on average only $100 per dog.  Do note that while not every dog needs help, helping even a single dog requires considerable infrastructure.  If you think that’s too much aid, well, let crowding out operate and cut back on your transfers to dogs.  There’s plenty of room for give there, believe me, since more than 40 million households own dogs and thus have their finger on this trigger, maybe yours too (not mine).  It is we who control the net transfer from humans to dogs, not the dear departed Ms. Helmsley.

Arthur Brooks selected to be president of AEI

From an email:

Arthur
C. Brooks–who is Louis A. Bantle Professor of Business and Government
Policy at Syracuse University and a visiting scholar at the American
Enterprise Institute–has been chosen by the AEI Board of Trustees to
be the InstituteÂ’s next president. He will succeed Christopher DeMuth
on January 1, 2009.

Here is Arthur’s home page.  Here are previous MR mentions of Arthur Brooks, all favorable I believe.  I thank…Alex…for the pointer.  Bryan Caplan and Will Wilkinson have blogged his research as well.

Contrarian thinking about the mortgage agencies

The irony of the "subprime" situation, it seems to me, is that we probably all would have been better off if the GSEs had gotten into it in a big way. If the GSEs had been able to create a market in "vanilla" subprime–fixed rates, no prepayment penalties, careful documentation requirements, competitive pricing–and forced their seller/servicers into a "subprime box," the subprime loan market would have been a lot better off. The "pseudo-Maes and Macs" have never really been very good at providing the kind of market discipline within their purview that the real Mae and Mac have. But we wanted "innovation" and "choice" and "flexibility," not domesticated subprime and "alt" financing with low margins, uniform loan terms, and front and side airbags.

Here is much more, very interesting throughout.  You can add Matt Yglesias, Atrios, and now Tanta at calculatedrisk.blogspot.com to the list of bloggers calling for nationalization.

Taliban v. Coase

Sadly, the Taliban are succeeding where Coase (and the Pakistan government) have failed.

The mountain of white marble shines with such brilliance in the sun
it looks like snow. For four years, the quarry beneath it lay dormant,
its riches captive to tribal squabbles and government ineptitude in
this corner of Pakistan’s tribal areas.

But in April, the Taliban
appeared and imposed a firm hand. They settled the feud between the
tribes, demanded a fat fee up front and a tax on every truck that
ferried the treasure from the quarry. Since then, Mir Zaman, a
contractor from the Masaud subtribe, which was picked by the Taliban to
run the quarry, has watched contentedly as his trucks roll out of the
quarry with colossal boulders bound for refining in nearby towns.

Who wants cryonics?

Arnold Kling reports:

[Robin] Hanson says that the expected return from being cryonically frozen is positive. If it works, the benefits are high, and the probability of it working is greater than zero. Yet few people sign up for it. I think that we are afraid of looking weird if we sign up for it.

I wonder if people who already look weird, for whatever reason, sign up at disproportionate rates.  I suspect not and that only some very particular preexisting unusual traits predict an interest in cryonics.  Is the best predictor of signing up is interest in science fiction?  If so, does this mean that the non-signers are simply people who are not able to imagine the potential benefits?  Or does an interest in science fiction already label the person in some way where the marginal image cost of signing up is then especially low?  Both cryonics and science fiction of course have very high rates of male participation, some exceptions aside.  I predict that the reading of fantasy novels does not so well correlate with interest in cryonics, once you adjust for any prior interest in science fiction.

Parsing Paulson

Felix Salmon does the heavy lifting.  Here’s one tidbit from Felix’s interpretation:

We can’t afford for Fannie and Freddie to go bust, and we’re
Republicans, so there’s no way we’re going to nationalize them. And no
one could conceivably afford to buy them. Which leaves only one option:
somehow maintaining the status quo. Which is not going to be easy,
seeing as how their trillions of dollars in assets are imploding daily
in the biggest US housing crunch since the Great Depression.

Mark Thoma offers more links.  James Hamilton likes the plan; I am not sure why though it is easy enough to see that many of the alternatives are worse.  Paul Krugman says the share price collapse of the mortgage agencies may not be such a big deal.  You also could read through the hundreds of comments at calculatedrisk.blogspot.com; they give a good sense of what people are thinking.  Angry Bear wants to punish the CEOs.

The worst case scenario is that the market regards Paulson’s statement as cheap talk and ups the ante sometime this week.  I’ve yet to figure out what the best case scenario looks like.

Addendum: Here is an early MR post on Fannie Mae, read this one too.

Second addemdum: Arnold Kling makes many interesting points.  Read Sebastian Mallaby too, who calls for "Nationalize — and then dismantle."  Here is my earlier post on the N Word.

The best books with the worst titles

Richard Squire writes to me:

Some friends and I last night came up with a parlor
game, Best Books with Worst Titles.  Here were
our finalists:

Freakonomics

The Audacity of Hope

The Beautiful and Damned

The Heart is a Lonely Hunter

Moby Dick (winner)

I agree with the middle three picks but think that Freakonomics and Moby Dick are both very good titles.  I’ve never actually liked the title Ulysses, as used by James Joyce.  I know all about the structural parallels with Homer’s Odyssey but to me they are superfluous to enjoying the work.  The title stresses those parallels and so it irritates me.  What nominations do you all have?

Hail Joseph Lancaster!

And for that matter hail Seth Weidman:

It was a classic case of supply and demand.

Entering his senior year at Pittsburgh Allderdice High School, Seth Weidman felt there was demand for an Advanced Placement economics class.

So he decided to supply one.

At least one night a week for nine months, Seth taught college-level economics to a group of his fellow Allderdice students, traveling from living room to living room with his dry-erase board in tow.

Fueled by Doritos, pretzels and the occasional homemade tiramisu, Seth’s students in the "Weidman School of Economics" numbered 18, with nine of them eventually taking at least one of the two AP economics tests offered.

Thus far, the results have been spectacular. The students took 12 total tests, and of the eight scores that have come in this month, six are 5’s — the highest possible on a scale of 1 to 5 — and two are 4’s.

Greg Mankiw and Aplia appear in the story as well.  Seth loves Hayek’s Road to Serfdom: ""It made me see that economics isn’t just about a bunch of guys sitting on CNBC," he said. "It’s more about incentives. It gives you a cool perspective to understand the world."

Here is the full story.  Seth will be attending the University of Chicago next year.  Here is material on Joseph Lancaster and I thank Eric Crampton for the pointer.

What if the candidates pandered to economists?

Do read Greg Mankiw on this topic.  The list of policies favored by economists includes support free trade, oppose farm subsidies, leave oil companies and speculators alone, tax the use of energy [does he mean carbon-based energy?], raise the retirement age, invite more skilled immigrants, liberalize drug policy, and raise funds for economic research.

I don’t disagree that there is a consensus on retirement age but it was news to me to read that.  My informal impression had been that many economists on the left felt this would place undue burdens on people with physically demanding jobs.  And personally I would sooner subsidize hard science than economics; I don’t think we’ve earned our keep lately!

Or maybe Greg is just saying that it would win economists’ votes.  Like Alex, I wonder if economists vote on a more rational basis than do other people.  If I meet a French economist, I suppose that his views are more shaped by his being a Frenchman than by his being an economist.  I’d like to see a poll of Canadian economists on health care reform.

Sebastian Flyte rules

Re XII  ‘there is a groupie for every male endeavour’

THIS IS SO MONEY. It is one of the great triumphs of modern
capitalism: let a thousand status hierarchies bloom! Unlike in hunter
gatherer days, there isn’t one status hierarchy to climb and that’s
that, there are endless hierarchies to climb, endless things to
specialise in. Roissy’s good buddy, the economist Tyler Cowen, has been
pushing this idea for a while now, and the effect this has on human
happiness and potential is mind-boggling. Guys can rise to the top of
whatever work/hobby hierarchies there are, or at least portray to women
that yes, he is in THE PROCESS of climbing to the top. There are
obvious caveats: females aren’t impressed by computer game related
status, even
though leading 30 guys from around the globe in World of Warcraft to
quickly and efficiently take down an enemy is actually an impressive
accomplishment
– I think this will change in the future. But for
now, I’ll bet the college ultimate frisbee champ gets some pretty good
action.

Here is Sebastian’s blog.