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Brooks Wilson's Economics Blog: May 2010

Friday, May 28, 2010

Clinton on The Rich's Fair Share

(HT Drudge Report) At a Brookings Institute forum discussing the administration's national security strategy, Ben Smith of Politico ("Clinton: 'The rich are not paying their fair share'") reported that Hillary Clinton said.
The rich are not paying their fair share in any nation that is facing the kind of employment issues [America currently does] — whether it's individual, corporate or whatever [form of] taxation forms,
I have many problems with such a short statement.  Rather than ask the rich to support their policies aimed at aiding the unemployed, her implication that the rich are shirking social duties engenders a sense of entitlement, and that entitlement, a sense of ingratitude owed taxpayers who fund these programs.  The unemployed are owed nothing that they don't earn.

Clinton's statement also implies that the government is a better economic steward or the rich's money in a social sense than the rich are themselves.  What would the rich do with the money if it is not taxed?  They have three options: consume, invest, or save.  If they consume, they are directly employing people who produce goods and services.  From a social sense, this may be superior to providing incentives for workers to remain unemployed by expanding unemployment benefits or other welfare programs.  If the rich invest, they are directly expanding the base of goods and services that our country can produce, making our country wealthier and providing employment opportunities.  If they save, they are funding the investments of others who would expand our production possibilities.  Even if we are in a liquidity trap caused by financial institutions deleveraging, free and voluntary savings is superior to government bailouts because it cuts out the middleman, the taxpayer. 

What would the government do with the tax revenues?  They would expand a bureaucracy that takes from one set of citizens and gives to another.  That bureaucracy will probably not shrink when the market economy resumes growth.  Worse still are the perverse incentives that entitlement programs create.  Both the poor and the rich have less incentive to work to produce goods and services.  The economic literature is clear that societies with high levels of transfers grow more slowly than those without.  

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Parallels Between the Great Depression and Great Recession

Growth in the U.S. gross domestic product was revised downward to 3.0% from 3.2% for the first quarter of 2010.  Initial claims for unemployment remain stubbornly high, falling 15, 000 to 460,000, but the 4-week moving average of initial claims climbed 2,250 to 454,250 (Jeannine Aversa, "Slow-motion recovery keeps unemployment high").  British and European monetarist have a possible explanation, the money supply as measured by M3 is falling at rates not seen since the Great Depression.  Ambrose Evans-Pritchard summarizes monetarist research in "US money supply plunges at 1930s pace as Obama eyes fresh stimulus" noting that M3 fell from $14.2 trillion to $13.9 trillion or 9.6% in the first quarter and the assets of institutional money market funds fell by 37%, the biggest decline ever.  As money assets contract, government debt swells.  Gross public debt will reach 97% of GDP in 2011.

The economy could slip back from weak recovery into recession with another negative shock.  The administration is pushing a $200 billion stimulus to sustain the growth that they believe that the original stimulus created.  Evans-Pritchard quoted Larry Summers, whose words acknowledge the dangers of the expanding deficit, as stating that Congress must "grit its teeth" to pass the stimulus and that it would be "pennywise and pound foolish" to fail to pass it.

In "Crisis and Leviathan," Robert Higgs proposed the crisis hypothesis which states that national crisis increase both the demand for and supply of government regulation of the economy.  Evans-Pritchard also interviewed Tim Congdon who believes that regulation comes at a cost...
"It’s frightening," said Professor Tim Congdon from International Monetary Research. "The plunge in M3 has no precedent since the Great Depression. The dominant reason for this is that regulators across the world are pressing banks to raise capital asset ratios and to shrink their risk assets. This is why the US is not recovering properly," he said.
Steven Gjerstad and Vernon Smith see other parallels between the Great Depression and the Great Recession ("Monetary Policy, Credit Extension, and Housing Bubbles: 2008 and 1929," Critical Review, 21(2-3), 269-300).  They document how housing bubbles formed in both 1929 and 2008 based on expansion of housing and mortgage financing for the least qualified borrowers.  They describe the boom and bust cycle.

The massive bubble in housing prices(driven by self-reinforcing price expectations) and the supporting expansion of credit, undisciplined by traditional equity requirements, as well as tiered internal structure of the housing market, had all depended on further unsustainable housing-price growth, premised on unfathomable easy mortgage credit--fueled by easy money.  Once that momentum turned negative, buyers of homes, mortgages, and bank obligations reined in their activity, the stock market plummeted, and monetary policy was impotent to stem the collapse.  Monetary policy was "pushing on a string" that only absent buyers could have pulled.
Traditional policy tools, fiscal policy, monetary policy and regulation seem limited and ineffectual at best and counterproductive at worst.  It is the actions of economic agents working through markets that will end the recession. 

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Tuesday, May 25, 2010

Trends in Personal Income

(HT Dredge Report) Dennis Cauchon of USA Today wrote a very good article describing changes in the composition of personal income in the first quarter of 2010 and the causes of the changes ("Private pay shrinks to historic lows").
Paychecks from private business shrank to their smallest share of personal income in U.S. history during the first quarter of this year, a USA TODAY analysis of government data finds.

At the same time, government-provided benefits — from Social Security, unemployment insurance, food stamps and other programs — rose to a record high during the first three months of 2010.

Those records reflect a long-term trend accelerated by the recession and the federal stimulus program to counteract the downturn. The result is a major shift in the source of personal income from private wages to government programs.

The article explains that the long-term trend is in part due an aging America where a larger portion of people are retiring, which reduces wages, and collecting social security and medicare benefits, which increases government-provided benefits. The recession, the government response to it, and the Obama administration's expansion of healthcare benefits accelerated the trend. Cauchon provides comments from four economists on the trend. I provide the comments is a different order than Cauchon to distinguish between short-run and long-run affects. The first, Paul Van de Water, believes that the acceleration of the trend is the result of an effective stimulus.
The shift in income shows that the federal government's stimulus efforts have been effective, says Paul Van de Water, an economist at the liberal Center on Budget and Policy Priorities.

"It's the system working as it should," Van de Water says. Government is stimulating growth and helping people in need, he says. As the economy recovers, private wages will rebound, he says.
The wild-eyed libertarian economist in me feels constrained to point out that an ineffective stimulus would have the same short-run impact of increasing government benefits relative to private wages and that the economy would recover with or without government intervention. The remaining three economists focus on the long-run problems caused by the trend.
The trend is not sustainable, says University of Michigan economist Donald Grimes. Reason: The federal government depends on private wages to generate income taxes to pay for its ever-more-expensive programs. Government-generated income is taxed at lower rates or not at all, he says. "This is really important," Grimes says...

Economist Veronique de Rugy of the free-market Mercatus Center at George Mason University says the riots in Greece over cutting benefits to close a huge budget deficit are a warning about unsustainable income programs.

Economist David Henderson of the conservative Hoover Institution says a shift from private wages to government benefits saps the economy of dynamism. "People are paid for being rather than for producing," he says

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Monday, May 24, 2010

A State Curriculum?

The Texas State Board of Education has the responsibility to determine state wide curricula and have recently used that authority to change the history and social studies curricula to the political right.  The changes have caused controversy (Melissa Thayer, "Texas textbook controversy: outdated or back on track from politically correct derailment?" and April Castro, "Texas board adopts new social studies curriculum"). 

A more fundamental question is, why should the state of Texas design a curriculum for the state?  Critics of the changes charge conservative indoctrination.  I worry more about efficiency, cost and freedom.  Does it improve education or reduce costs?  Aren't school districts better qualified to develop curriculum for their students and at a lower cost? Replace this text with...
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Friday, May 21, 2010

BP a Bad Corporate Actor?

In the two previous posts, "Reid on Greed" and "The Oil Spill and the Government," I suggested that oil company executives have always been and will be self interested and that self interest is likely to lead them to avoid costly oil spills.  I also suggest that regulation beyond law requiring oil companies to pay damages may be a costly, redundant, and unnecessary burden on taxpayers or consumers who ultimately pay for the regulatory structure. 

To guard against confirmation bias, I looked for information that suggested that BP was negligent and found an editorial in the Houston Chronicle, "Spillover effects: Some success, but new questions to answer about Deepwater Horizon disaster," that did just that.
It does not help BP's cause in the Gulf spill that two of the company's refineries account for 97 percent of all flagrant violations found in the industry, according to the Center for Public Integrity. While these matters are not specifically related, they contribute to a growing impression that BP is a corporate bad actor.

As reported in Tom Fowler's energy blog this week, most of BP's citations were classified by OSHA as “egregious willful.” A willful violation is defined as “one committed with plain indifference to or intentional disregard for employee safety and health.” That is bad news for BP, and likely will be used by critics to tar the entire industry.
These statistics do not prove BP malevolently negligent or negligent, but they are suggestive. BP could be incompetent, miss measuring the danger of a spill and the associated cost.  It could simply be an unavoidable accident given knowledge before the spill.  I have still not found information to suggest that a different regulatory structure would decrease the probability of an oil spill.      Replace this text with...
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Tuesday, May 18, 2010

Reid on Greed

Senator Harry Reid showed a fundamental lack of understanding of economics or enormous contempt for voters when he said of the British Petroleum (Real Clear Politics Videos, "Reid: BP's "Greed" Caused Gulf Oil Spill, 11 Deaths"),
Their greed led to 11 horrific and unnecessary deaths. It has harmed an enormous tourism industry, threatened business at countless fisheries and disrupted life for many along the Gulf Coast. As the pollution grows worse, those consequences will only compound.
A fundamental insight of Adam Smith, the father of economics, that is accepted almost universally among economists was that self interest through the working of markets works for society's well being.  In "The Wealth of Nations" he wrote,
It is not from the benevolence of the butcher, the brewer, or the baker, that we expect our dinner, but from their regard to their own interest. We address ourselves, not to their humanity but to their self-love, and never talk to them of our own necessities but of their advantages.

Greed is best thought of as a constant.  Does he really believe that prior to the spill BP was not greedy?  Does he believe that they were public interested agents devoid of greed during the long decades without spills?  While it is possible that BP is guilty of neglect, it is probable that the spill was an accident caused by unforeseeable circumstances. 

Senator Reid might have observed that BP has promised to pay all legitimate damages from the spill which are estimated between several hundred million and seventeen billion dollars.  It has lost thirty billion in market value.  A greedy firm would certainly act to limit spills and the damages they cause to avoid the heavy cost of cleanup.  Greed may well explain the lack of spills in the past. 

If Senator Reid has evidence that greed induced neglect led the death of eleven employees, he should present it to police for investigation.  If he does not have evidence, he is engaged in calumny.  Bryan Caplan, author of "The Myth of the Rational Voter," sagaciously observes, 

Merriam-Webster's Collegiate Dictionary defines a demagogue as "a leader who makes use of popular prejudices and false claims and promises in order to gain power."  Put bluntly, rule by demagogues is not an aberration.  It is the natural condition of democracy.  Demagoguery is the winning strategy as long as the electorate is prejudiced and credulous.
If Reid's economic understanding is so weak that he does not understand basic economic motives, he should not be reelected.  If he engages in demagogic rhetoric, even with a soft voice, he should not be reelected. 

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Monday, May 17, 2010

The Oil Spill and the Government

Information about the BP's response to the damage caused by the Deepwater Horizon oil rig and the government's regulation of rig inspections cast serious questions about the value of government regulation of leasing and inspection of offshore drilling.  To know why firms don't need regulation, just follow the money; cleaning up an oil spill is bad for business.  BP has acknowledged responsibility for all legitimate costs of the cleanup.  The costs are estimated at between a few hundred million to $12.7 billion.  BP's stock value has fallen 15%, lowering the firm's market value by about $30 billion (Reuters, "BP says oil spill costs $350 million so far, shares hit").  Although part of the market decline could be due to the Greek financial crisis, certainly much of the decline is due to the costs of the spill.  If oil companies pay the cost of cleanup, why do we need to regulate leasing and drilling?  It is an unnecessary cost to taxpayers, oil producers, and consumers. 

Drilling for oil is a complex business as seen by responses of BP, Transocean and Hilliburton before congressional hearings.  President Obama remarked on the confused testimony (Real Clear Politics Videos, "Obama: Finger Pointing By Oil Companies Is "Ridiculous Spectacle"").   
I did not appreciate what I considered to be a ridiculous spectacle during the congressional hearings into this matter. You had executives of BP and Transocean and Halliburton falling over each other to point the finger of blame at somebody else. The American people could not have been impressed with that display, and I certainly wasn't.
He missed the major point: while nobody is sure what happened, BP said it will pay for the cleanup.  He also missed the most likely explanation for the confused testimony; the representatives of these firms don't know what happened.  Those who rely on government regulation to reduce oil spills miss a point as well; the government relies on the firms to explain events to them.  Regulators do not have independent insights. 

Minerals and Management Services (MMS), the federal agency in charge of oversight, has 55 inspectors in the gulf who are required to inspect 90 drilling rigs once per month and the approximately 3,500 oil production platforms once per year (Justin Pritchard, AP, "IMPACT: Fed'l inspections on rig not as claimed").  Assuming that only one inspector is need at each site, and that no time is lost in the office or traveling, each production unit gets something less than 3.5 inspector workdays annually.  Perhaps the MMS, which collects revenues from oil companies, is doing a bad job of allocating resources to inspection because, as President Obama believes, there is too cozy a relationship between the agency and the oil companies, but I don't think so.  My guess is that someone else in the federal bureaucracy determines how many inspectors to hire and how to spend oil revenues.  A possible cozy relationship does not explain why the MMS presented the Deepwater Horizon operation with a safety award.

If the Obama administration believes its job and that of MMS inspectors is to stop all possible oil spills, and that they have the ability to accomplish it, they deserved to be tagged with the insult delivered by the Klingons to Captain Kirk.  They are a bunch of "tin plated over bearing swaggering dictator(s) with delusion(s) of godhood."  If American voters believe that the government can regulate oil production and stop all spills, they are simply delusional. 

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Wednesday, May 12, 2010

The White House Fat Police

(HT Drudge Report) First Lady Michelle Obama is on a crusade to end childhood obesity with the aid of the Task Force on Childhood Obesity created by Presidential Memorandum on February 10, 2010 to help her with this task.  Her allies include the Food and Drug Administration (FDA) and the Federal Trade Commission (FTC).  As reported by Peter Maer of CBSNEWS in "White House: Stop Marketing Unhealthy Foods to Kids" the First Lady said,
We have a roadmap for implementing our plan across our government and across the country...No one gets off the hook on this one from governments to schools, corporations to non-profits all the way down to families sitting around their dinner table.
This sounds a little intrusive, but the administration insists that they will use the bully pulpit and not legislation.  Well, at least they will not start with legislation.  But Federal Trade Commission Chairman Jon Leibowitz said,
A regulatory approach is certainly not where we want to start...You start by pushing self-regulation, by pushing your bully pulpit; sometimes shaming companies that don't do enough.
Why use legislation when the threat of legislation is enough?  Maer reports some changes the Task Force will or might pursue through extortion or legislative force. 

  • The FTC will continue hearings to determine whether firms have honored past commitments and whether they can make them do more. 

  • The advisory panel will push for better food content labeling on products and vending machines. 

  • Labeling could be pushed to the front of packages. 

  • Restaurants should re-evaluate portion sizes, improve kid's menus, and list more healthy food choices. 

  • State and local governments could tax unhealthy foods. 

  • Schools should promote healthier food in cafeterias like swapping the deep fryers for salad bars. 

  • Schools should have more time devoted to physical activities. 

The role of the federal government is to secure our inalienable rights to life, liberty and the pursuit of happiness.  The Obama administration's efforts are not new, it is only advancing a long standing federal intrusion into the nation's kitchens and it is unwarranted, redundant and therefore unnecessarily costly. When the government acts as the watchdog of the American waistline it is impinging on our right to liberty, the freedom from outside compulsion or coercion.  The government assumes that its citizens' objective is longevity, not life.  The government estimates the cost of treating obesity related ailments at $150 billion per year.  Where is the cost benefit analysis?  Where is the measurement of obesity related pleasures?  I know that I get at least $10 of more pleasure from a good doughnut than a small selection of fresh fruit.  If I am a typical consumer and eat one doughnut per month multiplied by 300 million consumers, that alone amounts to $36 billion of pleasure.  Longevity and health are simply not the only objectives that we pursue.  Gay men don't live as long as straight men but our nation almost unanimously wants the government out of bedrooms.  If consumers were only interested in health and longevity, nobody would ride a motorcycle, get a tattoo, or attend a soccer game in Europe! 

The information that the government provides is redundant.  If I want advice about my weight I consult my mirror, scale and wife.  I pay my doctor to tell me of life style health issues including weight.  Even television has a show designed specifically to trim our waistlines, "The Biggest Loser."  My options are much the same with my children.  

The government intrusion into the food manufacturing industry is also unnecessary because the companies operate in a competitive environment.  They will provide nutritional information about their food without a government mandate as the market dictates.  Many commercials tout the health benefits of food products.  Some consumers prefer taste or ease of preparation to health.  When markets help consumers' realize their desires they fulfill the inalienable right to the pursuit of happiness.          

In times of huge federal deficits, one might note that while not one bit of these measures is the federal government's business, every bit costs taxpayers. 

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Tuesday, May 11, 2010

The Little Engine Who Could?

On Friday, the Bureau of Labor Statistics released unemployment data for April.  Like the little engine that could, the data tells the story of a little engine, the American market economy, carrying an oversized train over a high mountain pass on the track to economic recovery.  GDP growth for the first quarter of 2010 groaned in at 3.2%, a rather anemic rate for the second quarter of economic recovery, but sufficient to invigorate discouraged workers who come out of the shadows and reentered labor markets bumping up the labor force participation rate to 65.2% in April from 64.9% in March and better exposing the burden of unemployment which jumped to 9.9% from 9.7%.   

How did we get to the point that the little engine's success is in doubt?  It left the station in good mechanical order and properly packed and began its journey at a full head of steam.  Although the little engine is imperfect, many of its problems were created or compounded by those in charge of maintaining the track.  Unhappy with that important assignment, they wished to choose the direction of the track, the speed of the train and the loading of cargo.  As the little engine chugged through the plains, a man in charge of the rails gave a wonkish wink to the little engine as he added home ownership goals and weaker lending standards to achieve those goals to the little engine's burden. 

Further down the line, another man compassionately raised the home ownership goals.  Imprudent workers on the train responded and grew bloated on bad loans that were needed to meet the new goals.  It was like creating a downhill run before the little engine began its uphill battle but the dirt had to go somewhere and it wass added to the top of the mountain.  

The train raced downhill, but it knew excess speed on a flat run is as dangerous as the long pull uphill.  It feared both “The Boom and Bust.” A wise man with long experience working the track saw the looming disaster, but rather than keeping the track clear, stoked the little engine's fire with lower interest rates, adding to the train's speed but depleting its fuel. 

Finally, as home loans started to go bad and the bloated banks fail, the long uphill battle began and the little engine chanted, "I think I can, I think I can."  Terrified by the slowing train and the long climb, the compassionate man yelled at the little engine, "This is your fault; you are letting your cargo (the bad loans) fall off the train.  Banks that are too big are failing.  People on Main Street will be hurt!"  He quickly arranged a bailout for the banks that added to the debt burden of the lumbering train. 

A post partisan man who supported the bailout pushed the compassionate man and his followers out of the way and pontificated, "Can't you see what you have done?  You have let the little engine choose its path.  You trusted the little engine too much and it is hurting Main Street!"  He quickly organized shovel ready projects to help the little engine but added more debt to its burden.  Angry at those who made the little engine run and refusing to recognize the jobs and products it carried or the burden created by the track maintenance crew, the post partisan man cried, "You earn too much.  We should be more like Europe.  It's time to give back to the community."  He raised taxes, but only on the wealthy, to pay for a health care program, further adding to the weight of the train. 

The train slowed but continued to groan, "I think I can, I think I can."  At its side it sees Greece's little engine wrecked and smoking.  Those in charge of their track had promised too much for too long are facing an angry mob demanding that their little engine maintain their benefits, but the train’s cargo has already been looted. 

The little engine passes other European little engines whose track maintenance crews fear that Greece's wrecked engine will run into theirs further burden their own little engines with more debt to bailout Greece.  The little engines of Spain, Italy, and Portugal look hopefully to the larger European engines whose debt burden is growing. 

Will the European engines crash and burn?  More importantly to American's, will our little engine follow suit?  If we as an electorate continue to support expanded entitlements through increased debt, it will.  It we continue to expand the size and scope of government, it will. If we continue to bail out failed enterprises, it will.  If we view the market economy, our little engine, as a goody bag from which policy makers can take from one group and give to another, it will.  It is past time to return our trust to the spontaneous actions of economic agents and to limit the actions of government officials who would hamper growth and prosperity by redistributive rules or worse, taking over part or all of the economic planning function.

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Sunday, May 9, 2010

Concord: The Bottled Water Nanny State

Some busybodies in Concord, Massachusetts, a city whose citizens were renowned for their contribution to the American War of Independence, won a vote to ban the sale of bottled water in their city.  The charge to limit freedom was lead by Jean Hill, an 82-year-old activist, who used the externality argument of "saving the environment" as her primary weapon (David Abel and Jason Woods, Boston Globe, "Concord fires first shot in water battle," May 1, 2010).
All these discarded bottles are damaging our planet, causing clumps of garbage in the oceans that hurt fish, and are creating more pollution on our streets.  This is a great achievement to be the first in the country to do this. This is about addressing an injustice.

The type of regulation that she recommends is called "command and control."  Economists consider it to be heavy handed and prefer a tax on goods producing the externality, discarded bottles, or a subsidy for recycling them.  To be fair, Hill also favors a change in the state's bottle law that would extend a refund to consumers who return bottles for recycling.  Activist like Jean Hill prefer command and control.  It fits their personalities.  Abel and Woods report
For Hill and other environmental advocates, bottled water is unlike other products, because there’s a ready and free alternative at the tap.

Hill's presumption that she knows how others should ingest water was not given in jest making her argument impossible to digest.  It is OK to drink bottled sodas but not water because we can get water through the tap?  Bottles containing soda pollute less than those containing water?  Bottled water consumers know preferences and elect to consume bottled water for reasons of their own.  They should not need to justify their actions. 

Heaven help us when environmental activists team up with the health police.  Their solution will be to eliminate bottled products entirely.  It will be better for their neighbors' health and the environment. 

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