Category: Economics

via Barry Ritholtz

Like Nocera (and as a rather conservative investor myself) I find it hard to be too sympathetic with Madoff’s victims. Certainly not sympathetic enough to want to write them a check.

Joe Nocera: Madoff Had Accomplices: His Victims

… [After Madoff’s guilty plea], the TV cameras surrounded a woman named Sharon Lissauer. She had not been wealthy, she said, but she’s lost everything. She didn’t know what she was going to do. She was weeping. It was hard not to feel sad for her — indeed, for all the victims of Mr. Madoff’s evil-doing. But one also has to wonder: what were they thinking?

At a panel a month ago, put together by Portfolio magazine, Mr. Wiesel expressed, better than I’ve ever heard it, why people gave Mr. Madoff their money. “I remember that it was a myth that he created around him,” Mr. Wiesel said, “that everything was so special, so unique, that it had to be secret. It was like a mystical mythology that nobody could understand.” Mr. Wiesel added: “He gave the impression that maybe 100 people belonged to the club. Now we know thousands of them were cheated by him.”

And yet, just about anybody who actually took the time to kick the tires of Mr. Madoff’s operation tended to run in the other direction. …

via Brad DeLong

Kieran Healy at Crooked Timber.

Aigamemnon (A Fragment)

CLYTAEMESTRA
Citizens of Argos, you Elders present here, I shall not be ashamed to confess in your presence my fondness for my CEO, billions of dollars of losses notwithstanding.

First and foremost, it is a terrible evil for a wife to sit forlorn at one of her several homes, severed from her husband, always hearing many malignant rumors, and for one messenger after another to come bearing tidings of disaster, each worse than the last, and cry them to the household. Because of such malignant tales as these, many times others have had to loose the high-hung halter from my neck, held in its strong grip. It is for this reason, in fact, that our boy, Timmy, does not stand here beside me, as he should. For he is in the protecting care of well-intentioned taxpayers, who warned me of trouble on two scores—your own peril beneath Ilium’s walls, and then the chance that the people in clamorous revolt might nationalize everything, as it is natural for men to trample all the more upon the fallen. Truly such an excuse supports no guile.

CASSANDRA
Are you sure you should be paying out this money?

CLYTAEMNESTRA
Thanks to a substantial injection of public funds, my heart is freed from its anxiety and the annual bonuses may be paid. [To AIGAMEMNON] So, my dear lord, dismount from your car, but do not set on common earth the foot that has trampled upon global markets. You to whom I have assigned the task to strew with bonuses, salary top-offs and the like, Quick! With something on the order of $160 million let his path be strewn, that Justice may usher him into a new quarter he never should have seen. The rest my unslumbering vigilance shall order duly, for if Geithner can be made to swallow this than, please god, pretty much fucking anything can be subsequently ordained.

AIGAMEMNON
Offspring of Leda, guardian of my house, your speech fits well with my views. Pamper me not as if I were a woman, nor, like some barbarian. For I do not take these gifts out of greed, but rather because my hands are tied with the bonds of contractual obligation. I find it difficult and distasteful to proceed in this fashion. But the gods of Serious Legal Consequences must be appeased and so unhappily I must shoulder the burden of paying out this money to employees who only recently crashed the global financial system.

CASSANDRA
Normally it’s the other way around, but I don’t believe this.

AIGAMEMNON
We honor the market thus; but it is not possible for a mortal to proceed with such barefaced cheek without fear. Thus I tell you it is better to revere me as a god. Only when man’s life comes to its end in taxpayer-funded, wholly unjustified prosperity dare we pronounce him happy; and if I may act in all things as I do now, and roll the Treasury in this quite spectacular fashion, I have good confidence that future creative restructuring solutions will likely eventuate similar outcomes. To have it turn out otherwise would be tantamount to Class Warfare. Besides, we are committed to seeking other ways to repay the taxpayers for supporting the Financial Products Division Retention Payments.

CASSANDRA
Such as what?

AIGAMEMNON
I was thinking maybe placing excrement in the trashcan of every citizen and setting it on fire on their doorstep.

CLYTAEMESTRA
What do you suppose that Priam would have done, if he had achieved your triumph?

AIGAMEMNON
He would have gone with the flaming poop at the outset, I certainly believe.

CLYTAEMESTRA
Then do not be be ashamed of mortal reproach.

AIGAMEMNON
And yet a people’s voice is a mighty power.

CASSANDRA
To be honest, I’m beginning to doubt it.

Has Senator McCain Taken Leave of His Senses?

That might have been the better headline for an article that referrs to Senator McCain’s description of the borrowing needed to finance the budget deficit “generational theft.” While Senator McCain has repeatedly said that he doesn’t know much economics, this one is really over the top.

The basic story is that the borrowing is making future generations richer, not poorer. The stimulus will increase GDP and therefore increase investment, since companies will invest more in plant and equipment, if they see an increase in demand. This private investment will increase the economy’s productivity, thereby making our children and grandchildren richer. In addition, much of the spending in the stimulus will directly increase productivity, such as money for retrofitting buildings to make them more energy efficient, putting medical records on-line, or increased funding for college education.

The debt that will be used to pay for this will be an asset for at least some of our children, since at some point we will all be dead and our heirs will have possession of the bonds we hold today. (The fact that China and other foreign countries own some of the debt doesn’t change the story. China’s buy U.S. assets to keep up the value of the dollar to preserve their export market. If they didn’t buy government debt, they would buy other assets, like stocks and bonds of private companies, which would result in a comparable flow of future income going to China. The problem here is the over-valued dollar, it has nothing to do with the budget deficit.)

It is especially remarkable that Senator McCain would make such a bizarre comment about “theft” from future generations given that they just have been handed an immense gift from the collapse of housing and stock prices. The decline in house prices means that they will be able to buy the nation’s housing stock for about $6 trillion less than they would have paid two and a half years ago. The decline in the stock market means that they can buy the country’s stock of productivity capital for about $10 trillion less than they would have paid two years ago.

The fact that Senator McCain could make such an incoherent complaint about younger generations being mistreated, after they have just seen a transfer of close to $16 trillion in wealth from older generations, warrants attention from the media. It is far more newsworthy than President Obama’s comment’s about “bitter” working class voters that received so much attention during the primaries.

—Dean Baker

Rotwang at TPM. The paper in question was co-authored by Dean Baker, Brad DeLong, and Paul Krugman.

It’s the Capitalism, Stupid

… My one-sentence summary of the paper is that the stock market can’t possibly be as good a long-run investment, relative to Social Security, as is commonly thrown about. At the time this was controversial. By ‘good’ I mean having a desirable mixture of low risk and decent return. As everyone should know, there is a trade-off between the two (risk & return, that is).

The average growth rate of the U.S. economy has been somewhere between three and four percent, after deducting inflation. Growth is a creature of growing labor supply, additions to the capital stock, and occasional hiccups (both positive and negative) from technological progress and who knows what else. In my view it is not well understood by economists. (I suspect I will not have to work hard to persuade you of that.) At any rate, in advanced industrial countries you would be foolish to expect sustained growth above five percent.

Even these numbers have an illusory component, since they do not account for depletion of the natural environment, the exhaustion of leisure time, and the sacrifice of other non-market amenities.

So it is idiotic to expect stocks to grow at double digit rates. In terms of ‘fundamentals,’ the value of stocks depends on the growth of profits from productive activity. Firms produce stuff that people want to buy. When you buy a stock you are buying an uncertain stream of future income. Some of this you may get in the form of cash dividends, otherwise you may reap capital gains. Alternatively, when you buy a bond you are buying a guaranteed share of a company’s profits, but the company’s survival is itself uncertain. Either way, you can’t expect double digit returns on average for any sustained period of time.

Everything else is buying or selling in expectation of a short-term run-up or drop, respectively, in price, otherwise known as speculation. Your gain will be somebody else’s loss, and vice versa. A huge accumulation of gains will end up as a big loss at some point. You can be lucky with a particular stock or with a particular portfolio for a particular period of time. You can be unlucky too.

…

Notable and Quotable, WSJ: From an address given by John Kenneth Galbraith at the London School of Economics in June 1999 called "The Unfinished Business of the Century":

We have far more people selling derivatives, index funds and mutual funds (as we call them) than there is intelligence for the task. I am cautious about prediction; I discovered years ago that my correct predictions are forgotten, the others meticulously remembered. But some things are definite; when you hear it being said that we have entered a new economy of permanent prosperity with prices of financial instruments reflecting that happy fact, you should take cover. This has been the standard justification of speculative excess for several centuries — for a good part of the millennium. My one-time Harvard colleague Joseph Schumpeter thought inevitable and even beneficial what he called "creative destruction" — the cyclical process by which the system eliminates the people and institutions which are mentally too vulnerable for useful economic service. Unfortunately the process has larger and less benign effects, including the possibility of painful recession or depression.

via Mark Thoma

Are the big banks out of the woods? Yves Smith is properly skeptical. RTWT.

Will Banks Start to Walk Their Talk? Don’t Hold Your Breath (Mark to Market Edition)

The new meme from big embattled banks, starting with Citigroup’s leaked Pandit memo yesterday and Bank of America CEO Ken Lewis’ declaration that the bank will be profitable in 2009, is that things will be OK and all this talk of nationalization is unwarranted.

I’ll reserve judgement till the fat lady sings. The record of financial crises suggests the housing market has lower to go (which is consistent with the notion that prices need to revert to historical norms relative to incomes and rents) and that unemployment is far from its peak (the Reinhart/Rogoff historical comparisions suggest US unemployment will reach 12%).

…

If the banks were really doing as well as their PR suggests, they would not need to use the to be launched public private garbage barge operation. Do you think there is a snowball’s chance in hell of that happening?

We are going straight down the Japan path: propping up banks rather than forcing them to recognize losses, and providing the same sort of accommodative accounting to boot. All it did for them was kick the can down the road a few years, at considerable cost to its society. But that’s what you get when the executive and regulators are unwilling to challenge the primacy of the banking class.

Brad Setser. Talk about falling off a cliff…

The fall in China’s exports caught up with the fall in China’s imports, at least for now

… After soaring for most of this decade — the pace of China’s export growth clearly turned up in 2002 or 2003 and then stayed at a very high pace — China’s exports are falling back to earth. The surge in China’s exports could prove to be as unsustainable as the rise in US (and some European) home prices. They might end up being mirror images … as Americans and Europeans could only import so much from China so long as they could borrow against rising home prices. …

via Calculated Risk

Paul Krugman. Let’s just jump to the conclusion.

Behind the Curve

… So here’s the picture that scares me: It’s September 2009, the unemployment rate has passed 9 percent, and despite the early round of stimulus spending it’s still headed up. Mr. Obama finally concedes that a bigger stimulus is needed.

But he can’t get his new plan through Congress because approval for his economic policies has plummeted, partly because his policies are seen to have failed, partly because job-creation policies are conflated in the public mind with deeply unpopular bank bailouts. And as a result, the recession rages on, unchecked.

O.K., that’s a warning, not a prediction. But economic policy is falling behind the curve, and there’s a real, growing danger that it will never catch up.

OK, let’s go back and pick up one more paragraph.

To see how bad the numbers are, consider this: The administration’s budget proposals, released less than two weeks ago, assumed an average unemployment rate of 8.1 percent for the whole of this year. In reality, unemployment hit that level in February — and it’s rising fast.

Yves Smith, blogging at Naked Capitalism, is one of the clearest online voices on economics. I’ll keep linking, but you really should add her to your econofeeds.

An Amazingly Disingenuous Piece by Alan Blinder on Bank Nationalization

Before I start shredding “Nationalize? Hey, Not So Fast,” by Alan Blinder in the New York Times, let us first go back to the basic problem,, nomenclature. Blinder does not specifically do so in this article, but opponents to nationalization often raise the image of enterprises being expropriated by the state, in other words, healthy (or at least viable) businesses being stolen.

We have the reverse here. Instead a transfer of wealth from the private sector to the state, we have the state (as in the taxpayer) propping up businesses and keeping management demonstrated to be incompetent, perhaps corrupt (let us not forget that overcompensation in phony good times is tantamount to looting, and liberal accounting appears to be awfully common) in place.

The normal remedy for failed businesses is to let them fail. But we don’t do that with banks. The big fear is depositor runs, and if that were to occur on any scale, it would indeed bring the entire system down.

Quite a few readers have said something along the lines of: “I’m opposed to nationalization, the banks should be put into receivership.” Hate to tell you, they are the same thing. …

“It’s the zero lower bound, stupid,” says Paul Krugman.

Paul Krugman.

Feelings of despair

There’s so much to like about where Obama is going — health care, transparency in government, ending the war in Iraq. And the stimulus bill is OK, though not big enough.

But on the question of fixing the banks, many of us are feeling a growing sense of despair.

Obama and Geithner say the right things. But Simon Johnson nails it:

How long can you say, “we are being bold” when in fact you are not?

Obama and Geithner say things like,

If you underestimate the problem; if you do too little, too late; if you don’t move aggressively enough; if you are not open and honest in trying to assess the true cost of this; then you will face a deeper, long lasting crisis.

But what they’re actually doing is underestimating the problem, doing too little too late, and not being open and honest in trying to assess the true cost. The actual plan seems to be to keep the banks semi-alive by implicitly guaranteeing their liabilities and dribbling in money as necessary, all the while proclaiming that they’re adequately capitalized — and hope that things turn up. It’s Japan all over again.

And the result will probably be a deeper, long-lasting crisis.

I didn’t get around to pointing to this post by Dean Baker on Wednesday. Just as well, since there’s a companion story on the AP wire (or I suppose these days its the AP tube) today.

The Banks’s Rigged Stress Test

Read it and weep. The NYT tells us that the baseline scenario for the stress tests is that the unemployment rates rises to 8.4 percent and home prices fall 14 percent. The worst case scenario is that unemployment rises to 8.9 percent and house prices fall 22 percent.

Okay, unemployment will almost certainly reach 8.0 percent and possibly 8.1 percent in February. It might cross 8.5 percent in March. The worst case scenario is that it hits 8.9 percent by the rest of the year?

Remember, this is the same crew that told us that there was no housing bubble. When it became clear that there were serious problems, they assured us that they would be contained in the subprime market. After Bears Stearn collapsed they told us that they didn’t see another Bear Stearns out there.

These stress tests indicate that our economic policy makers are still in a serious state of denial. Why isn’t the media ridiculing them and telling the public that the folks making economic policy still don’t understand the economy.

—Dean Baker

Cue the AP:

California’s unemployment rate jumped to 10.1 percent in January, the state’s first double-digit jobless reading in a quarter-century.

The jobless rate announced Friday by the state Employment Development Department represents an increase from the revised figure of 8.7 percent in December.

A year ago, California’s unemployment rate was 6.1 percent. Since then, steep declines in the construction, finance and retail industries have put thousands out of work.

The number of people without jobs in California soared to more than 1.8 million, up 754,000 over January 2008.

Got that? Worst case scenario, 8.9% by next December. California, 10.1% last month. Sure is lucky the banks don’t have any mortgages in California…

Thus Dean Baker.

Incredibly Bad Economic Piece on NPR

NPR helped a blackmail effort, as it was accurately described by MIT economist Simon Johnson, by telling us that we will have to pay huge amounts of money to rescue the banks. While it gave Johnson a brief chance to make his case, the piece concluded by telling listeners that “the problem is us,” that we had borrowed too much and therefore we have to pay the cost in the form of big taxpayer bailouts.

Okay, this is wrong, wrong, and wrong. First, the excessive borrowing wasn’t just shear frivolity, it was attributable to something that got very little notice from NPR at the time and unfortunately still gets very little notice from NPR: an $8 trillion housing bubble.

People borrowed against this bubble wealth because the experts that NPR and other media outlets present to the public all said that this run-up in house prices was real and would persist. Economists who warned about the housing bubble were almost completely excluded from NPR.

Because NPR and the media more generally led homeowners to believe that the run-up in house prices would persist, people acting in a way that was entirely reasonable given this view. If the price of their home had gone from $200,000 to $400,000, many homeowners opted to borrow some of this equity to take vacations, buy a car, pay for their children’s education or engage in other spending. They may also have stopped contributing to retirement accounts because their home was saving for them.

The problem was not “us,” the problem was the experts who run our economy were unable to see an $8 trillion housing bubble and the reporters who cover the economy largely refused to talk to any of the experts who could have pointed this out.

These reporters now want the taxpayers rather than the bankers, who profited from the bubble, to pay for this failure. This NPR piece is identified as being “Planet Money.” That may be appropriate because most listeners probably would not think it belongs on Planet Earth.

—Dean Baker

Matthew Yglesias.

If High Taxes Led to Growth, the Most-Taxed Countries on Earth Would Be the Richest; Which They Are

…

For the record, however, the most-taxed countries on Earth (i.e., the countries where revenue is the highest percent of GDP) are in order:

1. Denmark
2. Sweden
3. Belgium
4. France
5. Norway

In terms of per capita GDP these are, respectively, the 4th, 9th, 14th, 15th, and 3rd richest countries on earth while the United States is 17th. Of course in part that’s an exchange rate phenomenon and if you use PPP adjustments rather than market exchange rates, the U.S. looks better. On the other hand, if you peer into the future it seems to me that exchange rate comparisons are likely to make us look even worse in years to come. The high-tax five also do very well on things like the U.N. Human Development index.

There’s a fascinating three-way semi-discussion on how to improve the bank rescue plan over at the National Journal Online. Here’s a snippet from James Galbraith:

… The administration should follow the law. Pass-through receiverships are the legal way to resolve troubled or failed banks. They are also the proven way. They have been used under Democratic and Republican administrations, including for the Savings and Loans under Bush I and for IndyMac under Bush II.

… There is a simple reason why the market is today valuing residential sub-prime mortgage-backed securities as trash. They are trash. There is no way that a diligent outside investor, acting as a fiduciary, can come to any other conclusion. And so there is no way that private investors will come in on deals, unless the government by some device guarantees them against loss.

And in that case, the government will not be engaging in price discovery but in price-fixing. The price will then not be the market price or the “fair value” price at all, but simply the government-set price. Call it the “bail-out price.”

At the bail-out price, the government will almost surely take on major losses, since the underlying loans will still be subject to a very high incidence of default. …

Galbraith comes first, but save his piece for last, since he’s the only one who responds to the other proposals, and the context will be helpful.

My simulations are science; yours are politics.

I’ve taken the liberty of emphasizing the dirty bits. Don’t let the children see.

Charlatans and Cranks…

Greg, Greg, Greg, Greg, Greg, Greg. Setting fire to your own credibility to please your political masters is a very myopic intellectual strategy. It is doubleplusungood to say: “It’s bad when a Democratic president and his economic advisors do it, but it was just wonderful peachy when a Republican president and I did it.”

What Greg Mankiw says in 2009, via Obey:

Why is Greg Mankiw freaking me out?!: [T]oday I find on the [Greg Mankiw web]blog this text on the stimulus plan, which contains the following: ‘The expression “create or save [4 million jobs],” which has been used regularly by the President [Obama] and his economic team [Christie Romer, Larry Summers, Jared Bernstein, Tim Geithner, etc.], is an act of political genius. You can measure how many jobs are created between two points in time. But there is no way to measure how many jobs are saved. Even if things get much, much worse, the President can say that there would have been 4 million fewer jobs without the stimulus. […] So he gave us a non-measurable metric…‘

And if I type “mankiw 2003 tax cut effects” into the Google search box, the fourth hit takes us to “Charlatans and Cranks”—what Greg Mankiw said in 2003:

Greg Mankiw: On Charlatans and Cranks: [T]he actions the President [George W. Bush] took made the recession less severe. As the President [George W. Bush] has discussed, analysis done within the Administration has shown how his tax cuts have substantially offset the series of adverse shocks that have been buffeting the economy. Simulations of a conventional macroeconomic model show that, without the tax cuts, the level of real GDP would have been about 2 percent lower in the middle of 2003. About 1.5 million fewer people would have jobs today. The job market is not what we would like it to be right now, but it would have been worse without the Administration’s actions. One can view the short-run effects of these tax cuts from a classic Keynesian perspective. The tax cuts let people keep more of the money they earned. This supported consumption and thus helped maintain the aggregate demand for goods and services. There is nothing novel about this. It is very conventional short-run stabilization policy: You can find it in all of the leading textbooks…

Forgetting that teh Google exists is a very elementary blunder.

In the long run, I think, the coming of Google will greatly increase the degree to which people say what they think rather than what they believe will ingratiate themselves to some powerful group. Being exposed as transparently two-faced is humiliating, and if you say what you really think and only what you really think then you are safe—except, of course, for having your words ripped from context, and for those cases in which what you really think actually does change over time. But as the realization that teh Google exists, more and more ganders are going to think twice before they try to make sauce for the goose…