Bastiat’s Bastions

Many local residents have been critical of New Orleans Mayor Ray Nagin and his “recovery expert,” Ed Blakely. A new story, aired tonight on a local TV station (WWL), shows why so many residents have been so critical.

On the positive side, we learn that the City has fined approximately 400 property owners nearly $3 million for failing to take care of their property during the three years since Katrina. Of course, there’s a negative side. WWL reports “…there are 358 properties owned by the city, just over half, 183, are labeled in-operational.” Don’t worry, it gets worse.

The City’s Department of Property Management is responsible for maintaining all city-owned buildings, but the person overseeing this department says that they can’t inspect all these properties because the department is understaffed. It turns out the Department of Property Management only has 80 people on staff.

Maybe Ed Blakely can help out by providing a complex mathematical model for scheduling blighted property inspections. The model could explains how to divide 358 by 80. The City paid him $150,000 per year, he should be able to handle this.

NM

Late last night, I came across this article which explains the latest twist in Treasury’s Troubled Asset Recovery Program (TARP). It turns out the Treasury Secretary doesn’t plan to purchase many troubled assets – at least, not the residential mortgages people assumed were the “troubled assets.” I guess this comes as a surprise to many, but the text of the legislation actually defines troubled assets very broadly. Directly from the bill, we learn:

(9) TROUBLED ASSETS.—The term ‘‘troubled assets’’ means—
(A) residential or commercial mortgages and any securities, obligations, or other instruments that are based on or related to such mortgages, that in each case was originated or issued on or before March 14, 2008, the purchase of which the Secretary determines promotes financial market stability; and
(B) any other financial instrument that the Secretary, after consultation with the Chairman of the Board of Governors of the Federal Reserve System, determines the purchase of which is necessary to promote financial market stability, but only upon transmittal of such determination, in writing, to the appropriate committees of Congress.

So, basically, the bill gave Secretary Paulson the authority to buy anything he and the Fed Chairman decide they need to buy. The fact that the Treasury is buying stocks in companies doesn’t really require a renaming of the plan. Stocks, after all, can certainly be defined as “any other financial instrument.” Under the language of the bill, these actions are completely justified.

The bigger problem is all the “credit” we keep throwing at the “credit crisis.” According to this article, a New York research firm estimates the U.S. government has committed nearly $5 trillion to solving the crisis (so far). That’s a bunch of tax dollars, and represents about 40 percent of GDP. I’m sure 95 percent of us will get a tax cut pretty soon, though.

NM

The problems in the financial markets are certainly related to the sub-prime mortgage market. The story is, by now, familiar to many: Banks made too many risky loans, the risky loans were divided up and packaged in securities, the securities were sold all over the world. A good question to ask, therefore, is: why were so many risky loans made?

A good answer seems to be: banks had a ton of “cheap” money to lend out. The logic is described nicely in this article, which a friend emailed me earlier today. (The article describes an interview with Ted Forstmann, the man behind a very successful private equity fund.)

Essentially, the government has subsidized lending, which means we get more of it than we would have otherwise had. If you’re running a bank, and you lend money to all of the borrowers you deem “good” risks, but you still have funds to lend, who will you lend to? That’s right, higher risk customers.

This is the sort of problem that gives economists a bad name. It is very easy to predict that too much money in the system will lead to some sort of crisis. It is very difficult, though, to predict exactly when it will show up. Of course, nobody pays attention to the practical economists who argue we shouldn’t be messing around with the money supply in the first place.

NM

When the Federal government announced it would “set aside” about half of the $700 billion in taxpayer funds for the financial industry bailout, some people may have held out hope we wouldn’t need to “spend” the other half. Anyone who pays attention to how things work in Washington, though, could never have been so naive.

It was easy to predict, for instance, that companies from other industries would soon have their hands out. Now, it seems that the U.S. automobile industry will be one of the first non-financial companies to line up for some tax dollars. Credit card companies, such as American Express, may also begin getting in on the act, though the line between non-financial and financial is a bit blurry for these guys.

I’ll even go out on a limb: the homebuilding industry won’t be too far behind. After all, an over-supply of housing is at the root of this crisis.

What’s really interesting is the legislative horse trading going on. Apparently, bailing out the automobile industry is going too far for some Republicans and Bush (though I am surprised to learn there is such a limit). The auto industry bailout is acceptable to the Democrats, though. So, something has to give, right? How about throwing a Columbian free trade agreement into the mix?

The Republicans want a deal, the Democrats don’t. Even though these two events – an auto industry bailout and a free trade agreement with Colombia – have very little to do with each other, it appears the Dems may be willing to cave on the free trade agreement as long as Bush caves on the auto industry bailout.

It’s interesting to observe the horse trading, but it’s impossible to ignore the reality: we’re on the verge of nationalizing the financial industry and the auto industry. For example:

To forestall a voter backlash, Obama aides and Ms. Pelosi separately made clear they intend to impose significant conditions on federal aid. Auto makers would have to offer the government equity stakes or warrants, one Obama adviser said, and would have to accept the same rules on executive compensation that financial-service companies have swallowed with the Wall Street rescue.

It is becoming clearer almost every day that the “financial industry bailout” is badly misnamed.

NM

I just came across this chart on a blog called Carpe Diem, by Mark Perry, a professor of economics and finance at the University of Michigan. Using GRE scores from 2002, it shows that economists have the 4th highest scores, bested only by those in the fields of physics, math, and computer science.

Now, if only one of us knew what was going on with the financial crisis.

NM

Here we go again. Obama was elected just three days ago, and he’s already calling for a new “stimulus” package. I’ve written on this subject before, and I imagine that Obama is talking about some version of what House Speaker Pelosi wants. Pelosi, of course, has been calling for additional fiscal stimulus even before the last round of checks went out.

Just to recap, we’ve had unprecedented stimulus policy in the last seven years. We’ve had rebate checks in 2001, 2003, and 2008. We’ve also had broad tax cuts (not just for the top bracket) during this time period. And, we’ve had an extremely accommodating Federal Reserve; that is, the Fed has been trying to get the economy going with monetary policy.

Yet, we hear constant chatter about how bad the economy is doing:

-The nation’s unemployment rate bolted to a 14-year high of 6.5 percent in October as another 240,000 jobs were cut, stark proof the economy is almost certainly in a recession.

-The jobless rate zoomed to 6.5 percent in October from 6.1 percent in September, matching the rate in March 1994.

-October’s decline marked the 10th straight month of payroll reductions, and government revisions showed that job losses in August and September turned out to be much deeper. Employers cut 127,000 positions in August, compared with 73,000 previously reported. A whopping 284,000 jobs were axed in September, compared with the 159,000 jobs first reported.

If you believe these measures are accurate, then you must have at least some doubt in the effectiveness of stimulative fiscal (not to mention monetary) policy. A basic thought experiment explains why this stuff may not work: if someone gives you $500, that does very little to change your long-term position in life. In other words, the $500 check does very little to help you provide for family beyond the current month.

These stimulus check are not about fixing and/or “managing” the economy. These checks are about buying votes. It’s no coincidence that Pelosi, not Harry Reid, has been preoccupied with sending out more checks – redistricting in the House will take place in 2010. As noted in this Weekly Standard blog post, redistricting “is the only time politicians chose the voters instead of vice versa.” Pelosi wants to do everything she can to add to her party’s lead in the House.

I will be more interested in the transition to the Obama Presidency than any presidential transition I’ve witnessed. Why? The $700 billion financial industry “bailout.”

One thing that seems clear is that the new Treasury secretary is going to have to deal with a partially implemented (partially developed?) policy. I guess the best we can hope for is that someone comes in with enough experience to deal with the recently invented (complex) financial securities. I have no expectation that the new regime will try to undo what Paulson’s Treasury has started. For these reasons, I don’t think Paul Volcker is the best choice – he has been too far removed from this stuff for too long.

According to this article, though, Volcker is under consideration for the Treasury Secretary position. Volcker was the Federal Reserve Chairman from 1979 to 1987, and he recently headed up the investigation of the United Nations’ Iraqi Oil for Food program. Others under serious consideration include Larry Summers (Treasury Secretary under Bill Clinton and former president of Harvard) and Timothy Geithner (currently the president of the Federal Reserve Bank of New York).

The article I linked to above also names several unlikely candidates, such as Warren Buffet (investor), Janet Yellen (San Francisco Fed president), Jon Corzine (former investment banker/governor of New Jersey) and Alan Blinderm (former deputy Fed chairman). Not that anyone is going to ask me, but it seems like Geithner would be the best choice because he’s most involved in what is currently happening.

The article quotes an economist from Maryland named Peter Morici: “If we can’t get Volcker, I’d prefer they turn to somebody who’s unknown, like a Midwestern banker who has had experience with Federal Reserve affairs, someone who does old-fashioned banking, gives loans and gets repaid,” said Morici.

I guess this sort of makes sense, but old-fashioned banking is the last thing the new Treasury Secretary will be involved in for quite some time. I really think Volcker would be more of a political (safe) pick than a practical pick. But, Obama doesn’t have my email address, so I’ll just wait to see what happens.

NM

One of my favorite topics to teach in economics classes is that of the income distribution. The very name is a pet peeve of mine because it implies that income has been distributed to people rather than earned by people. Compounding the confusion, the classic analysis focuses on yearly snapshots of income, whereby the income being measured each year is earned by different people. A much more realistic indicator of well-being is to follow the income of the same individuals over time.

When we follow the same people over time, we learn that a majority of taxpayers earn very different income levels through the years (see this report.) One of the significant findings of these types of studies is that lower income individuals in any given year do not remain in the lower income categories forever. In fact, the Treasury study that I’ve linked to reports that “median incomes of those initially in the lower income groups increased more than the median incomes of those initially in the high income groups.” That’s right, the “poor” did better.

Needless to say, I do not favor any sort of active plan to “re-distribute” income, least of all because it wasn’t “distributed” in the first place. Given this view, it should be no surprise to learn that I deplore the tax policy proposals of Obama (though, truth be told, I have no plans to vote for either of the major candidates). Yesterday morning, my wife heard something on the radio that was one of the best parody-type critiques yet.

The story was basically this: If Obama wins, the IRS will institute the new 1040-O; people will report their income and cut the government a check for the full amount; the government will then average all the income and send a check for the average amount to everyone. Perfect income equality will finally be achieved.

Clearly, this was meant as a joke. Still, think through some of the logical conclusions here, and it’s easy to see some of the economic problems with the income equality crowd.

For example, let’s say you win the lottery. Sorry, that’s way above average; you simply can’t keep all of that income.

What about overtime? That can’t be fair, can it? What about a business owner who lucks out and has a really good year? Nope, sorry, that’s not fair; it’s above average.

Or, for a seemingly more pedestrian example, think of someone who starts off in a low-wage, entry-level job. At first, this person will do much better under the 1040-O than under current law. But what would happen as this person tries to move up the economic ladder? Why work toward a mid-level management job or higher paying executive slot?

This last example represents the typical pattern for most workers – start off at a lower wage, work up to a higher wage. And herein is the problem: a redistribution scheme works against the incentive to be productive and earn more money. In the extreme, it destroys the incentive, and we end up with millions of people sitting back waiting for their checks. I guess we could just print the money. Oh, wait….

NM