Bastiat’s Bastions

The L.A. Times reports some of the problems with the new homeowner $8000 tax credit in this story.  Besides fresh ground for tax cheats to exploit, this tax credit may not be worth getting.

In my introductory economics class, we just finished looking at how taxes get passed forward to buyers in higher prices or back to the sellers in reduced prices received.  What we saw in class was that if the buyers faced few alternatives, while the sellers had many, most of the tax gets paid for by the buyer in the form of a higher price.  If the sellers have few alternatives, but the buyers have many, the sellers pay most of the tax in terms of a lower received price, while the buyers pay only a little more than the original price. 

Of course, if the government subsidizes buyers in a market instead of taxing them, the same thing happens, but in reverse.  Subsidies are only negative taxes, so a subsidy to buyers in a market just raises the amount the buyers are willing to pay to the sellers.  Consider the $8000 tax credit to home buyers.  This tax credit merely raises the amount buyers will pay to sellers.  And since the buyers have many alternatives while the sellers, often facing foreclosures, have few alternatives but to sell, have few alternatives but to sell, the price the buyers pay ends up rising almost by the amount of the tax credit.  Few new homes are being built in response to the tax credits.  So mostly, the tax credit for buyers boosts the prices received by those facing losing their homes in a foreclosure, where only the bank receives the money. 

So those considering buying a home before the December 1st deadline because of the tax credit should probably think twice.  Most of the tax credit will go to the sellers. 

But even if some of it goes to the buyers, shouldn’t it be worth the buyer’s effort?  The answer is maybe, but  maybe not.  One provision of the tax credit is that the buyer has to live in the home at least three years, or the buyer must repay half of the tax credit, or $4000.  If the buyer faces the possibility of losing her home, facing repayment of $4000, while having to pay $7000 more for a house and getting an $8000 tax credit may not be that good of a deal.   

-MC

Some months ago I was asked to find someone who could determine the feasibility of a device reinvented by a local fisherman.   The machine was an alternator driven by a bicycle that charged a car battery bicycle.  An electric motor hooked up to the battery turned the wheel of the bicycle.

The claim was that the device produced electricity.  Of course, it produced a charge, but used more energy than it produced—a perpetual motion machine.  Such machines have been invented and reinvented for hundreds of years.  And well-meaning garage inventors reinvent perpetual motion devices with every up-tick in energy prices.   But physics triumphs and we know that the law of conservation of energy and matter still rules.  Only part of the energy from the battery gets converted to work, with the rest being converted into friction and heat.  Energy is not created out of nothing.

In trying to reinvent the health care delivery system, Senator Baucus seems to have invented a perpetual financing device , but one that will only push up prices and inhibit real innovation.  What Senator Baucus wants to do is to tax the very providers of health devices, such as heart stents, artificial hips, and diagnostic machines in order to help pay for the new health care system that the federal government is reinventing.

There is a slight problem with all of this.  Taxes collected from businesses are only partly paid by the producers, with the rest of the tax paid by the buyers in the form of higher prices.  The easier sellers can move to something not taxed to sell, the more the tax gets passed along to buyers.  The more these taxed items are covered by insurance, by other people paying the bill, the more the tax gets passed along to the buyers.  If buyers have many non-taxed alternatives and find it easier to switch to them than the sellers can switch to non-taxed goods to sell, then less of the tax gets passed to buyers and the sellers will have to pay more of the tax.  Of course, if sellers find switching easier than buyers, the taxed gets passed on to the buyers.  In other words, the side of the market that can avoid the tax the easiest by switching what they have been doing will be the side that contributes less to paying the tax.

With medical devices, it is very likely that the sellers find it easier to go from making wheel chairs to making non-taxed items than wheel chair users can switch to some non-taxed item.  Still, to the extent that the tax is borne by sellers, it reduces profits in these industries and reduces innovation as well.

What looks like will happen with this financing plan is that the tax will be passed along to buyers including Medicaire and insurance, who will raise taxes and raise premiums to pay for the higher priced devices which will lead to higher prices for the medical devices, higher premiums and higher taxes.  Of course, after a while, the increasing out-of-pocket expenses reduce purchases along the way.

This financing scheme looks as if it were designed by the same guy who hooked up a car battery to an electric motor, a bicycle and an alternator.  The problem is that both of these end up coming to halt and are unsustainable schemes.  Genius at work?  Not!

-MC

Many on the conservative side have had many negative things to say about the “Cap and Trade” system.  It should be pointed out that “cap and trade” itself, is not  the source of their ire.  Rather, many conservatives do not like limitations being placed on CO₂ emissions in the US. 

What is this “Cap and Trade” system that is being implemented in the new climate change bill?  Cap and Trade is merely an approach to regulating emissions, and it is one that efficiently reduces those emissions.  It contrasts with two other approaches: one that is called the “command and control” approach to regulation and the other is an approach that taxes emissions, such as the proposed “carbon tax” to regulate greenhouse gases a decade ago.  Before looking look at these regulatory systems, let’s look at the ideal environmental regulatory outcome.

At first glance, it would seem that no pollution would be the best regulatory outcome.  Think of what this would mean when we consider CO₂ as a pollutant.  We inhale oxygen, but if CO₂ is a pollutant and we want no pollution, then, we better hold that breath.  But we cannot.  Stopping all pollution is just too costly. Anything we do to reduce our pollution will cost us something. But, of course, pollution itself is costly, either health costs, or aesthetic costs, or costs in losses of biodiversity. The ideal, then, is really to keep the total costs of pollution and the costs of reducing that pollution to a minimum. 

Generally, each extra ton of emissions of CO₂ causes the added costs of pollution to increase.  Also, if we look to reducing CO₂ emissions, we can find some inexpensive ways to cut emissions, and after we cut emissions in those ways, to cut emissions further, we would have to employ costlier and costlier means.  To keep these total costs to a minimum, the added costs from cutting a ton of CO₂ emissions have to equal the added costs of the damage done by another ton of CO₂ emissions.  If the added costs are higher from the damage done from another ton of CO₂ than from cutting emissions, we could lower total costs by cutting emissions.  On the other hand, if the added costs of cutting emissions by a ton are higher than from the damage done from another ton, total costs could be lowered if we go ahead and pollute that ton.  The “right amount” of pollution, then, is the amount where another ton would cause costs of cutting pollution by the same amount as the costs of the damage done by another ton of pollution.

Of the three methods of pollution control to understand, the easiest to understand is the “command and control” system.  Here, the regulatory commission sets requirements for each source of pollution, monitors them for compliance, and then sets fines and punishments for those who fail to comply with the regulatory requirements.  Here, possible polluters just do what they are told or face extremely high fines or other punishments.  The “command and control” name for this regulatory type comes from the management form used in the military.  Historically, most of regulation of the EPA has been of this “command and control” type.  The best way of thinking about this approach is to recall the lines from Tennyson’s “Charge of the Light Brigade:”

Theirs not to make reply

 Theirs not the reason why

    Theirs but to do or die.

 This command and control system of regulation does not do a very good job of keeping costs of regulation down, nor does it do a good job of balancing the costs of damage with the costs of reducing emissions.  The regulatory authority just does not have information on all of the costs.  This information is mostly diffused throughout the society—various electric power generating companies have a good idea of what their costs of cutting emissions are like, so a lot of people have bits and pieces of this information, and no one knows it all. 

One of the earliest regulatory suggestions for reducing the costs of pollution control was made by A.C. Pigou in 1920 in his book, The Economics of Welfare (with the word “welfare” meaning “wellbeing”).  Pigou suggested that a tax could be levied on certain activities, such as pollution, that would give people an incentive to reduce those activities.  Economists in the 1960s and 1970s saw that such a tax would get polluters to reduce pollution in a least-cost way.  Any producer who could reduce emissions at a cost below the tax would do so, while those who could only cut their emissions at a higher cost would not.  Suppose the tax on emissions is $100 per ton.  All pollution reduction that costs more than $100 per ton will not take place, but pollution reduction that costs less than $100 per ton will take place.  Lower cost cleanup activities replace higher cost cleanup and costs cannot get any lower.

A little later on, economists came up with a slightly different approach.  The environmental regulatory authority would first decide how much emissions would be allowed, create “pollution rights” which would be tradable.  Polluters who could reduce pollution very cheaply could then reduce their emissions and sell their rights to those who could only cut their emissions at a very high cost.  If the price of a pollution permit were higher than the cost of cutting emissions, the producer could then reduce their emissions and sell off their permit.  If the emission permit sold for a price below the cost of cutting pollution, the emitter would buy up permits.  If you think that such a scheme is unworkable, think again.  We have been using tradable permits of this sort to control SO₂ emissions that cause acid rain since the 1990s, and these permits trade on the Chicago Board of Exchange, along with various commodities.

The Pigou tax on pollution, which we saw a decade ago called a carbon tax, gives polluters a constant price to respond to, and the total amount of emissions could be higher or lower and can change over time.  If the costs of cleaning up go up, we end up with higher levels of emissions.  On the other hand, the tradable permits system produces a constant level of emissions but with a price of pollution that varies.  Both of these methods minimizes the costs of cutting pollution because both produces a price for cleaning up so that those with costs of cutting a ton of emissions above that price do not cut their pollution and those with costs of cutting a ton of emissions below that price do cut emissions.  Only the low-cost emission cutters reduce their pollution while high-cost emission cutters do not, and face either taxes or having to pay for pollution permits. 

For global pollutants, such as greenhouse gases, there could be international trade in CO₂ permits.  This is the general idea behind “cap and trade.”  For this to work well, however, there would have to be a global monitoring agency that could monitor each source of CO₂  emissions and would be ready to punish those polluters who do so without a permit.  This is the part of “cap and trade” that faces the biggest difficulties.  Remember that real regulation is not done by Soloman-like regulators who are infinitely fair, but by actual people, like international soccer referees, so that various human biases rather than fairness would show through in international environmental regulation.  The problem of political bias and lack of information in regulation is seen in this warning from Pigou himself (Some Aspects of the Welfare State,” Diogenes 7:1-11 (1954), p. 10.):

It must be confessed, however, that we seldom know enough to decide in what fields and to what extent the State, on account of them could usefully interfere with individual freedom of choice. Moreover, even though economist were able to provide a perfect blueprint for beneficial State action, politicians are not philosopher kings and a blueprint might quickly yield place on their desks to the propaganda of competing pressure groups. “Fancy” finance, like a fancy franchise, whatever its theoretical attractions, has, at all events in a democracy, dim practical prospects.

“Cap and Trade,” itself is a good idea.  It is a market-based approach to efficiently reduce the amount of emission of CO₂.  The real difficulties are first, setting the right amount of emissions to allow and second, monitoring and regulating by a global authority, giving up sovereignty to regulators who are likely to want to tilt the playing field away from favoring Americans.  Before going down the road of regulating CO₂ through any approach, we should be very sure of what human reductions in CO₂ will actually accomplish and whether there are alternatives that might work better, such as re-forestation of large areas of the planet.

-MC

Immigration is a contentious topic. Rather than add to the contention, I wish to clarify a poor economic argument that is frequently used in immigration policy debate. Many people support immigration because, “Americans aren’t willing to do the jobs that immigrants are willing to do.” This statement is potentially erroneous in that it confuses the notion of quantity of labor supplied with that of labor supply. Whereas quantity of labor supplied is the amount of labor a person or group provides at a given wage, labor supply is a schedule specifying a person or group’s quantity of labor provided at each possible wage level.

The statement quoted above stems from an observation—that some U.S. jobs are held almost exclusively by immigrant workers. From this observation, a fallacious conclusion—that domestic workers would not work in such jobs at any wage level—is drawn. To say that a group’s quantity of labor supplied is zero for a given job and wage is to say nothing about the group’s behavior at other wage levels. The graph below represents a possible depiction of a labor market with and without immigrant labor.

The graph features two supply curves, one showing quantity of labor supplied by citizens at each possible wage and another showing quantity of labor supplied by the combination of citizens and immigrants at each possible wage. In the absence of immigration, citizens would earn a wage of w_zero an hour and work q_zero hours in the featured labor market. However, if immigrants enter the country and work in the same market, the supply of labor shifts right (quantity of labor supplied increases at any given wage). In equilibrium, workers in this market now earn w_one per hour and work q_one hours. However, by looking along the labor supply curve of citizens, we find that citizens supply zero hours of labor to this market at a wage of w_one . Given their work and non-work alternatives, citizens opt out of the type of labor depicted in the presence of immigration (and its wage-depressing effect). However, citizens will rejoin this workforce if the wage rises above w_one .  Economist Chad Turner points out that this inducement of domestic labor at the higher wage will not obtain if the domestic labor supply curve is sufficiently leftward-shifted.   

Though immigrant laborers do benefit other members of our economy (e.g., consumers and producers), jobs would not go undone without them. Rather, in the absence of immigrant laborers, relevant market wages would move upward and induce the participation of citizens.

-SS

We are told by politicians that the way to reduce health care costs is by getting more people covered with health care insurance and getting more preventative care. Maybe. Maybe not.  When we look at the numbers, we have to conclude that the problem is that demand is shifting up faster than supply.  The only thing that will bring health care prices down is if we are able to get supply to increase faster than demand.

Recently, the White House hosted a Health Care Summit. C-SPAN had some good coverage on it that you see at their website. The links to the events are:

Summit Opening Remarks, Breakout Session, Obama and Kennedy: Closing Remarks on Healthcare Summit, BilyTauzin Interview on Pharmaceuticals.

Most of the discussion centered on health care coverage–insurance. I would suggest that the problem that most Americans face is not whether or not they are covered, but the high cost of coverage.  Premiums are very expensive. A lot of the productivity gains of the American worker in the last 20 years has been paid to the employee, not in wages, but in the employer’s share of health care premiums.

I plotted some health care data and came up with an interesting picture. I based this picture on two date sources: 1) National Health Expenditures 1960-2007 from the Centers for Medicare and Medicaid Services (http://www.cms.hhs.gov/nationalhealthexpenddata/ downloaded 3/10/2009) which provides estimates of the total expenditures in the US on health care and 2) the Consumer Price Index (CPI) subindex on health care (just like there is one on energy and another on food) which comes from the Bureau of Labor Statistics. I got a relative price of healthcare by dividing the Health Care CPI by the complete CPI (all goods and services). This tells us which is going up faster, general prices or health care prics and if HC is becoming more scarce (more in demand relative to what is going on with supply).

I divided the expenditure data by the Health Care CPI to get a quantity measure and then divided through by the population, to look at the quantity in per capita terms (more people means more buyers, but more suppliers too). Price and quantity combinations observed in the diagram below do not show a supply curve or a demand curve, but rather show where supply and demand intersect–the “equilibrium” values.

On the diagram above, the price is the Medical Care component of the Consumer Price Index (CPI) divided by the general (all goods and services) CPI, and multiplied by 100. 1983 is used as the base year (1983=100 for both all prices). The Quantity axis measures Health Care Expenditures per capita (Expenditures divided by the population) for that year and then divided by the Medical Care CPI, which gives us a measure of quantity for that year. Then, this quantity figure is “standardized” by 1983’s quantity (all years quantities divided by 1983’s quantity. The above should not be thought of as a demand or a supply curve, but showing the path of equilibrium prices and quantities for the years from 1960 (point furthest to the left) to 2007 (point furthest to the right). Think about how supply and demand must be shifting to give such numbers.

By the way, the 1960 point is at the lower left and the 2007 point is at the upper right. For things to look like this though, the demand must be growing or shifting out to the right faster than supply is increasing. And why has this occurred? Expanding health insurance coverage. The more someone else is paying our bills, the more we spend and the less attention we pay to our costs. Ever notice all those scooter store ads on TV, ads you never saw before Medicare started paying for scooter chairs? And all the ads say buy this and let Medicare pay for it (”If we approve it and Medicare turns you down, you get to keep the chair”), not a cent out of your pocket.

So, health care is way too expensive, because we have pushed up demand with all of our health insurance–and the politicians’ answer is more of the same, more HC insurance, more 3rd party payment, less individual responsibility. The folks at the Health Care Summit routinely avoid talking about doing anything on the supply side of the market–getting more doctors, more nurses more hospitals, more pharmaceuticals for the same prices (shifting supply out). Here are the questions we should be asking: How do we get the FDA to speed up its approval process? How do we get the med schools and nursing schools to open up their doors a bit wider? These are the things we need to get affordable health care, as universal health care increases demand without doing anything about supply.

-MC

James Glassman has this really insightful article on economic stimulus in the March issue (now online) of Commentary magazine (at commentarymagazine.com).  Readers of Bastiat’s Bastions will note that Mr. Glassman is also a fan of Bastiat and references the same story “What is seen and what is unseen,” that we have mentioned here repeatedly, starting with the first post here in January of 2006.

-MC

Economists look at a lot of numbers measuring economic activity. Good economists always remember what the numbers mean and what is ultimately important, what the ends are for people and what are merely means.

Right now, we are in the midst of a recession—a recession that looks to be quite serious. We see thousands of people losing their jobs, and when people lose their jobs, they lose their sources of income, lose their control over resources and stop being financially self sufficient, becoming someone for others to take care of. This is cause for despair for some, and true mental depression for others. Recently it was reported on the news that a man in California killed his wife, his five children and himself after becoming distraught over losing his job. That is depression.

To deal with this recession or depression or whatever term you chose to describe the downturn we are facing, the Democratic Congress has devised an “economic stimulus” plan that will push the currently large deficit up by more than 800 billion dollars. Surely, 800 billion dollars will put many people to work. The real question though, is “what will we buy when we auction away 800 billion dollars plus interest of our future?

The question of what we will be buying seems to be of little interest to President Obama and his party as he urges all haste in passing the stimulus package. Here is why such a question must be asked: It is not jobs that people really need, rather, it is the ability to buy things that is crucial. If the new jobs are not producing goods and services that people want with this stimulus package, we are just giving people money to buy but with no extra goods being produced, and all we will have done is increased the competition or the bidding war for the same old goods, driving prices for those goods ever higher.

In this story from CNN by Peter Valdes-Dapena, there are two proposals specifically designed to help out the ailing auto industry. One proposal is being pushed by Sen. Diane Feinstein, D.-Calif to not only help the auto makers, but also help the environment, or at least those are her stated intentions. The plan is to give buyers of new and more environmentally friendly vehicles a governmentally financed rebate if the dealer certifies that the buyer traded in their old gas guzzler and that their old car would be scrapped instead of being resold. To keep the dealers honest, the car’s VIN number would be tracked to make sure it did not show up in the used car market.

While there may be environmental benefits to Feinstein’s plan, the economic benefits are doubtful. Feinstein’s plan would cause cars to be destroyed so as not to compete with new cars and bring their resale value down. Think about what is really going on. Cars that still work, that still have value, would be scrapped, destroyed. Cars that could still drive some family around would no longer exist.

This reminds me of the programs of Franklin Delano Roosevelt (FDR) that failed get us out of the Great Depression. Recessions usually last about 2 years. The period from 1929 to 1941 became the Great Depression because over and over, the reactions of both Hoover and FDR to the recession, and the inaction of the Federal Reserve System, made matters worse, making the recession deeper and longer than it would have been otherwise.

One such program of FDR that he hoped would help the farmers, one that my Dad saw first hand, was one designed to boost the price of beef to help the farmers. FDR’s Department of Agriculture paid farmers for their cattle, dug large holes in fields around the country to herd the cattle into, shot the cattle and buried them in mass cow graves. While Americans were going hungry, our government destroyed food. Instead of helping to feed Americans, our government destroyed food.

The truth is destroying resources never helps our economy. In the inaugural post of Bastiat’s Bastions, Norbert Michel and I discussed why there was no silver economic lining to the destruction of New Orleans, that Katrina provided no benefit to New Orleans. Had the storm not destroyed the city, all of the resources devoted to rebuilding New Orleans and coastal Mississippi could have gone to building something else or producing something else, something that we could have had in addition to having the city. In Bastiat’s story, a boy broke a window with a stray ball (see our inaugural post again for the links to Bastiat’s story), and many people thought that the breaking of the window was a good thing, because it would increase work for other people. Bastiat, however, points out that had the window not been destroyed, the owner of the window would have still had a window, and would have bought other things had he not had to buy a new window.

Destroying one thing to only replace it means we have nothing that we would not have had. Think about this. Often when people are unemployed, they take the opportunity to finish that degree that they had started years ago or somehow prepare themselves for another occupation. Without the job that they had, their “opportunity costs” of completing the degree has fallen. So, when these individuals take jobs to merely replace something that other people already had and would have still had, if not for the destruction of their cattle by FDR or their old cars by Diane Feinstein, some people would have still had their cars and other people could have prepared for better jobs instead of wasting their time replacing cars that have been destroyed.

Keep in mind, there is no shortage of jobs, there is work to be done all around us. There are yards to be cut, houses to be painted, and people everywhere need help. People are not so much looking for jobs as looking for a way to get goods and services for their families. If we are employing people doing things that people don’t want to pay for with their own dollars, such as building new ATV trails, people will be just be receiving incomes to buy things that are not being produced.

Instead of stimulus, what we see in this package is pure waste. We may as well keep auto workers at their jobs by having the government buy up new cars, putting them on barges and dumping them off of the coast beyond the outer continental shelf. The image that comes to mind is of people being put to work by this stimulus package digging holes while other government workers come behind them to fill the holes back up.

What is the real point of this so-called stimulus package, then? Just as I was critical of Bush and the Republican Congress for wasteful spending on homeland security grants, we see even more pork in this present bill. In other words, the spending bills now being proposed to “stimulate” the economy will do more to stimulate the votes of special interest groups than to stimulate the economy.

My point, then, is that if we give a trillion dollars to people to make things that no one cares much about, we end up wasting the time and talents of our workers. And, like the person in the V8 commercial, when we realize what could have been, we will bang our heads with our hands for squandering funds on things no one wanted.

As is usual, our elected officials in Washington stand at the ready to “do something” about any problem even if doing something means making the problem worse. They are less concerned about the problem than the opportunity that it affords to spend money on their supporters. With the stimulus package, Congress is playing pork-barrel politics, which means the politicians are just using taxpayer funds and IOUs to buy their way to reelection.

-MC

Well, this post is not really from a guest blogger, but Gokhan Karahan is, regretfully, no longer teaching and working at Nicholls State University. Dr. Karahan was one of the four founders of Bastiat’s Bastions back in 2005, and we will not let him go. Dr. Karahan sent this to me today to post.-MC

The ill-timed and ill-designed bailout does not seem to show any sign of bringing solutions to the current economic meltdown. Given that there will be a bailout (as soon as Secretary Paulson and his team finally make up their mind on what to bailout and how much!), not attaching strings to how banks may use the bailout money makes one feel that the government’s ultimate objective is to create a “lean” and more competitive banking system. Call it a conspiracy theory but stories available in the Wall Street Journal, New York Times and several blogs, all point to the possibility that smaller/regional banks may be swallowed up by the very banks asking for the bailout money. In other words, it is possible that the government feels that a fragmented banking system may be a bigger threat to the US financial dominance than a short run credit freeze.

About a quarter century or so ago, the manufacturing share of the US GDP was about twenty-five percent. The financial services industry had a twelve percent share. We succeeded in reversing it in less than two generations. With the advances made in the computing and telecommunication technologies, this “new service” economy was to increase our standard of living to unimaginable levels. Smart people came up with financial products that were sold as “high return” investment vehicles. We were led to believe that those conventional thinkers arguing otherwise were all wrong when they questioned where the “beef” was coming from. Moreover, some financiers even bet that the stock market would hit 36,000!!!

Well, it has not and will not for a long time to come! Easy credit and imprudent government policies encouraging “ownership” have led to financial practices, some of which were outright fraud and speculation. We now realize that the “new” economy is still the old one with a bruised face. This time, however, it will take a lot to make the rest of the world believe in our “high yielding” financial products as well as credibility. In other words, a good portion of the US GDP may be in trouble. Unfortunately, the manufacturing sector does not have the muscle it had not long ago to help us out.

Where do we go from here? Given the recurrence and the magnitude of the financial crisis since the 70s, moral hazard does not seem to be a part of the government’s calculus in bailouts. In fact, the bigger the failure, the bigger the bailouts. One way this vicious circle could be prevented and excesses in the economy can be corrected is to live through a severe recession now and not bailout anybody. This would mean a shrinking economy but over the long run it would make us learn not to live beyond our means. If not, there will be a time when this country would not be able to spend its way out with borrowed money from overseas. And, I truly fear that we are not too far from it.

Gökhan Karahan
Associate Professor of Economics
College of Business
Delta State University
662.846.4195
gkarahan@deltastate.edu

The news is definitely not good for the markets. We have an enormous amount of stock-price volatility, and the Dow is well below its recent high. Take this quote from economist Mark Zandi:

Stock prices are falling across the globe. The Dow Jones Industrial Average fell 550 points or just over 7%…and is now 13% below its all-time record high set this past summer. The decline in other broader market indices, including the S&P 500, NASDAQ and Russell 2000 has been similar.

Interestingly, Zandi said this back in 1997 (if you sign up for the trial, you can get the full article here). The ellipsis in the quote replaced the words “on Monday , October 27, 1997.” My point is not that we aren’t currently in some sort of tumultuous period. It seems pretty clear that we are. We just have to keep things in perspective.

I’m not really sure if this will work, but I’m going to follow Andy Kessler’s advice and ignore the markets until February. Kessler gives several valid reasons for the recent wild swings in the market, and I suppose he could be correct. Either way, there’s very little I can do about the market, and I’m young enough to maintain a long-term view.

On the positive side for economists, we may have a new opportunity for researching the (somewhat) controversial contagion theory. The name comes from the psychology of crowds; it basically refers to a sort of herd mentality. In the context of the stock markets, once a few big investors get spooked and/or a few large companies’ stocks go down, the herd mentality kicks in. For this theory to be true, the drop in the market could have started based on very real events. The contagion just makes it worse.

There’s actually a pretty good analogy here for the way the financial crisis started. This article, Anatomy of a Meltdown (it appeared in the October 2007 issue of Mortgage Banker Magazine), details some of the intricacies behind the subprime problems. Bear Sterns, for example, probably got into a great deal of trouble due to a herd mentality. Nonetheless, Bear did get into trouble. Hopefully, all of this will be over by February.

NM

Over the weekend, Senator Jim Inhofe (R-OK), who voted against the bailout, criticized Treasury Secretary Paulson for “not telling the truth” about what Treasury would do with the bailout money. As I posted here, I don’t buy this at all. If the intent was as specific as Inhofe seems to think it was, there was no reason to have “any other financial instrument” in the text of the bill.

Regardless, this is what Inhofe said:

“It is just outrageous that the American people don’t know that Congress doesn’t know how much money he (Treasury Secretary Henry Paulson) has given away to anyone,” the Oklahoma Republican told the Tulsa World. “It could be to his friends. It could be to anybody else. We don’t know. There is no way of knowing.”

I can’t be certain, but it’s almost as if Inhofe was referring to Paulson’s “friends” in an off-hand manner. But I wonder, is there a simple rent-seeking story here? Paulson, after all, was an investment banker, starting at Goldman Sachs in 1974, and ending up its CEO in the late 1990’s. And, we know that the current crisis showed up in the investment banks, not the commercial banks. We even know that some in the commercial banking industry didn’t want any part of the bailout money.

Could the explanation for this bill be as simple as: investment bankers went to Paulson for help with their financial problems?

NM