Month: February 2009

The banking plan: what to expect

A plan is in the works for announcement tomorrow:

Mr. Geithner, who will announce the broad outlines of the plan on Tuesday, successfully fought against more severe limits on executive pay for companies receiving government aid.

resisted those who wanted to dictate how banks would spend their rescue
money. And he prevailed over top administration aides who wanted to
replace bank executives and wipe out shareholders at institutions
receiving aid.

Because of the internal debate, some of the most contentious issues remain unresolved.

On Monday evening, new details emerged after lawmakers were briefed on the plan.

It intends to call for the creation of a joint Treasury and Federal Reserve program, at an initial cost of $250 billion to $500 billion, to
encourage investors to acquire soured mortgage-related assets from

It wants the Fed to use its balance sheet to provide the financing, and the Federal Deposit Insurance Corporation might provide guarantees to investors who participate in the program, which some people might call a “bad bank.”

second component of the plan would broadly expand, to $500 billion to
$1 trillion, an existing $200 billion program run by the Federal
Reserve to try to unfreeze the market for commercial, student, auto and
credit card loans. A third component would involve a review of the
capital levels of all banks, including projections of future losses, to
determine how much additional capital each bank should receive.

The capital injections would come out of the remaining $350 billion in the Troubled Asset Relief Program or TARP.

separate $50 billion initiative to enable millions of homeowners facing
imminent foreclosure to renegotiate the terms of their mortgages is to
be announced next week.

If that's enough, that's splendid news.  We'll see.  If that were enough, you think they would have done it by now already.

The reshaping of the stimulus: public choice thoughts

The topic is why some of the aid to state governments was cut and Matt Yglesias, after citing conservative supporters of such aid, reports:

I genuinely don’t understand why it’s [politics] failing to function in this particular way. It seems to me that there ought to be strong interest-group politics behind state and local financial aid coming from public employees, and senators of all parties should be facing strong pressure from governors back home to do this.

Ross Douthat comments as well.  I believe that if state-level governments fail to do a good job, the blame is put on governors and state-level legislators, not U.S. Senators.  Voters have theories of responsibility, rather than theories of causality, and that subtle difference occasionally becomes very important.  (And the governors then have to make up the funds by squeezing some of their constituencies.)  In the meantime, for better or worse, three Senators are on the evening news, for days on end, and they are described as "bipartisan."  One of Obama's problems is that other peoples' attempts to copy his memes and strategies make it harder for those same strategies to succeed.  There is a common pool of "good publicity for being bipartisan" and now many players are rushing to exhaust it, even if that means pushing policy changes of low quality.

I believe also that many of the Republicans in the House wanted to vote for the stimulus bill but they had no cover and also their donors are dead set against.  Precisely because so many Republicans voted for TARP, there is a feeling that a line in the sand must be drawn.  If fewer Republicans had voted yes on TARP, and thus more Republicans could have voted yes on the stimulus, a bipartisan restructuring could have reallocated the spending more wisely than it did.  The attempted Republican re-establishment of long-spent ideological credibility is precisely what opens up room for some "moderate" political entrepreneurship. 

Alternatively, maybe you can predict what will come out of the House-Senate committee and then solve backwards for the equilibrium strategies.

The wisdom of William James

I ran across this on Gretchen Rubin's blog:

Seek out that particular mental attribute which makes you feel most deeply and vitally alive, along with which comes the inner voice which says, 'This is the real me,' and when you have found that attitude, follow it.

William James holds a secure position as one of my favorite thinkers and writers.

Addendum: Maybe it's not James, see the comments.

Jim Hamilton on Real Shocks

Hamilton hits the nail on the head:

…[I] disagree with some of my colleagues is in their presumption that wage or price rigidities are the core frictions that are responsible for producing the present situation. I have in my research instead stressed technological frictions. For example, when spending on cars abruptly falls, there is a physical, technological challenge with getting the specialized labor and capital formerly employed in manufacturing cars into some alternative activity. In my mind, it is a mistake to pretend that any federal program is capable of immediately re-employing those resources into an alternative, equally productive enterprise. More fundamentally, I have suggested that our present situation is as if someone had quite successfully sabotaged the basic functionality of our financial system. Until we once again have a financial sector that can successfully allocate credit to worthy projects, we're not possibly going to be able to produce as much in the way or real goods and services, no matter what the level of aggregate demand or stimulus package might be. In terms of the textbook Keynesian models that people play with, I'm suggesting that "potential" GDP growth for 2009:Q1– that growth rate which, if we try to exceed it by stimulating aggregate demand, we primarily just get more inflation– is in fact a negative number. I do not accept the proposition that there is a level of government spending– however large a number you choose to suggest– that will prevent the unemployment rate from rising above 8%. But I do believe that if the government borrows a sufficiently large amount, we will have to worry in a very concrete way about what will sustain the foreign demand for U.S. assets.

Hamilton continues by noting that such a position is quite compatible with spending to maintain state and local government expenditures with block grants, fundamental infrastructure spending on things like the electric grid and working hard to restore the financial sector.

But rushing through new government spending plans, just for the sake of spending? Count me off of that bandwagon.

Keynes on consumption, chapters eight and nine

There are many lovely and insightful discussions in these two chapters; it should be enough to persuade anyone that the GT is fun to read.

For instance Keynes's discussion of the interest elasticity of savings on p.93 persuaded a whole generation of economists.  Or on p.95 he references theories of spending based on expectations about the future; only in their most extreme form will they render Keynesian results impossible.

Much of these chapters are dedicated to the simple idea that consumption does not rise indefinitely with income (and other influences).  The ultimate point is to establish how much aggregate demand relies on investment demand, which it turns out is, to Keynes, highly unstable.

Keynes's continuing allegiance to some elements of classical (!) economics pops up in chapter eight (e.g., pp.100, 105), specifically his view that a society can run out of profitable investment opportunities.  He feared secular stagnation and thought that government management of investment might be needed to stave off this possibility.  We hear all about Keynesian economics and the short run but in reality part of Keynes was still under the spell of Ricardo and Malthus and the idea of the classical stationary state (p.106).

For the same reason Keynes thought the private sector would run out of good investment opportunities, he also thought that by 2009 (what exactly was the date he gave?  Brad DeLong knows) the problem of scarcity might be largely overcome.  It hasn't worked out that way.

A number of commentators keep on bringing up Henry Hazlitt's book on Keynes in the comments section.  Hazlitt's book makes many good points and has many "gotchas" on Keynes's errors.  Still, Hazlitt cannot bring himself to see or admit there are conditions under which Keynes can be right and thus I don't regard it as a convincing critique.  The best critical approaches to the GT are those which figure out under which conditions it might be correct and then examine empirically whether those conditions in fact hold.

The paradox of thrift

Matt Yglesias offers a clear, non-technical explanation.  I would add a few points:

1. If wages are relatively flexible in the downwards direction, it is easier to avoid the downward spiral from falling aggregate demand.  There is an odd tension (though not contradiction) between the view that a stimulus is necessary and the Progressive view that workers don't have much bargaining power and that bargaining power really matters.

2. Savings are especially likely to fail to translate into investment when the banking system is messed up. That applies today, but Keynes was not sufficiently aware of the importance of this condition.

3. Prior to the collapse, savings out of income in this country were approximately zero.  So the notion of "people ending up saving less" has to mean a rising ratio of debt to gdp.  That's OK for the argument, but now it gets complicated.

For instance, instead of "saving more" the core action under consideration might be to pay down some debt instead of spending money on consumption.  But what does the creditor do with those funds?  Are dollars sent to creditors "low velocity dollars" rather than "high velocity dollars"?  Maybe, but of course they don't have to be.  If the citizenry is paying back to creditors who engage in active lending (or for that matter rapid consumption), and make new loans rapidly, things can be OK.  If the citizenry is paying money back to zombie banks, maybe those banks just sit on the cash.  (How much of the money is going to zombie banks?)

A lot of claims about the paradox of thrift depend on having a good handle on which micro-sectors of the economy breed high vs. low velocities of money.  We don't always have such information.  The whole notion of how money can get trapped in "low velocity circuit," beyond simple observations about first-round effects (the poor spend a higher percentage of their incomes than the rich), is receiving insufficient attention.

The "Treasury view" that you can treat monetary velocity as constant is wrong.  But there's a lot about monetary velocity which we don't understand, or at least which we have not yet applied to the current problems at hand.

How to travel in the U.S.

Seth, a loyal MR reader, writes:

I thoroughly enjoyed your 'Discover Your Inner Economist Book' and I was particularly interested in your advice related to restaurants, and on how to read menus.

Perhaps it's a stretch, but I was wondering whether you have similar advice for traveling in the US?  If someone who has never previously visited the US asked you for five places they should visit in the US, what would be your advice?  Or perhaps more generally, what should  they look for in their destinations?  Assume they're driving, and budget isn't an issue, and that it's not a requirement to see the most popular tourist spots.  What's the best advice to properly see and experience the US, in all its diversity?

Most of all, drive as much as possible and do not shy away from a few days in the "boring" (yet wondrous) suburbs.  After that, here is my list of five:

1. Manhattan

2. Detroit and the Ford Rouge plant in Dearborn

3. Memphis and the Mississippi Delta

4. San Francisco

5. Grand Canyon and southern Utah

I feel bad about missing so much of "the new South," but how many stellar sights does it have?  Miami and New Orleans would make a top ten but each is too unique and insufficiently representative to make a top five.  Maybe Chicago should replace Detroit but the latter has greater shock value and isn't that half of what travel is about?  Los Angeles is too hard for most outsiders to grasp.  At least one of the Dakotas should make a top ten list.  Boston would please a European but not in a truly instructive way.  It is criminal to leave off Texas, which I love, but which single place can sum up the state?

The World Between the Wars, 1919-1939: An Economist’s Perspective

I don't know why this book, by Joseph C, Davis, isn't cited more often, as it's one of the best on this period.  Here is one small bit:

In the spring of 1933 a mock-trial of "the economists" was staged at the London School of Economics, Robert Boothby, M.P. representing "the state of the popular mind," charged the economists with "conspiring to spread mental fog," declaring that they "were unintelligible; that they had in general proved wrong; and that in any case they all disagreed."  Four men of high standing (Sir William Beveridge, Sir Arthur Salter, Professor T.E. Gregory, and Hubert Henderson) discussed Boothby's charges without wholly refuting them.  It was sagely observed: "Much of the public's distrust of economics arises from the fact that the economist is compelled to act both as physiologist and doctor at once."  In fact, economists had not been trained to be "economic doctors" or "social engineers," and very few persons had acquired such competence.

I wonder if anyone will restage such a trial today…

html query

In the "good old days," under the old typepad, block quotations received the same spacing as written text by Alex and me.  These days, under the new and "improved" typepad (it's worse), imported block quotations are spaced more tightly.  But not always, I might add.  What can I do to the underlying html to correct for this?  I preferred it the old way.

Your assistance is appreciated.

It's funny, by the way, that typepad's spell checkers don't recognize the word "typepad."

Robin Williams and Alex Tabarrok

I was asked to do a radio interview with KPCC while I was at TED.  The interview had just started and I’m talking about organ donation when into the studio walks Robin Williams!  Naturally all chaos ensues and Robin takes over… but not before I manage to squeeze in an economics joke with Robin playing the straight man!  Some kind of first there.  I’m not sure Robin got the joke but I think this made the host laugh all the more. No one can out talk Robin, however, so he riffs on organ donation and fiscal stimulus for some time.  Eventually Robin goes on his merry way and the host and I get back to organ donation, bounty hunters, voting and other cool stuff.  An amazing experience for me.  Real audio here (try here if that doesn’t work)

A liberal on libertarians

Joshua Cohen:

We think that politics is more than an unfortunate necessity required
by our inability to live together without killing each other. We think
it is, can be anyway, an arena in which we work out and pursue,
sometimes with notable success, large and constructive purposes. When I
think about the history of democracy in the past century, and think
about its greatest achievements of domestic policy, the areas of real
moral progress, I think of civil rights, women’s equality, and the
halting fight against a class society. With respect, classical liberals
were in the rearguard in every one of these struggles. And for a simple
reason: in each case, the struggle depended on a willingness to fight
against inequality, subordination, exclusion through political means,
through the dread state. And if you mix your classical liberal values
with the classically conservative predisposition to think that politics
is at best futile, at bad perverse, at worst risks what is most
fundamental, then you will always celebrate these gains when the fight
is over: always at the after party, inconspicuous at the main event,
and never on the planning committee.

Hat tip is from Henry, who adds commentary and another link.

Stimulus update

From Dan Drezner:

I'm hard-pressed to believe that just another $100 billion in stimulus is the difference between recovery and grass huts.

by the way, is the most pernicious effect of the entire financial
meltdown on fiscal policy.  When $100 billion no longer seems like a
significant sum of money, it's time for a good stiff drink. 

Yes a slightly cheaper version of the stimulus is about to pass.  Here is some detail on the composition of the Senate bill.  The final combined bill,as it will come out of conference, might be worse yet.  And here are details of the new banking plan.