Three Quick Notes Re Matters Economic
The Hazard of Moral Hazard
We Do Stimulus Right
Announcing EconoCorner
First, there’s been a great deal of hand-wringing regarding the dangers of current efforts to stimulate our ailing economy, which grew a scant 0.6%—spitting distance of zero—in the fourth quarter of last year. The worry is that by applying all this monetary and fiscal stimulus, we are simply recreating the very conditions that got us here in the first place. By easing the terms of credit, coming to aid of mortgage defaulters, and air-dropping tax rebates, we’re reflating the bubble and ignoring moral hazard (the theory that folks will under-price risk if their bets are covered). I get the point, and it’s a good one, but I disagree.
The problem with that line of thinking is that it holds the living standards of 100 million households hostage in order to dampen the negative incentives of a small band of greedy investors. The argument maintains that we can’t use the tools at our disposable to offset the pain of recession because in doing so, we’ll undermine market discipline.
That’s not the best way forward.Instead, we need to regulate, or re-regulate, the key sectors, especially financial markets, banks, and real estates. And the regulators still in place—I’m thinking largely of the Federal Reserve—need to do a much better job. Whether it’s rogue traders, dangerous imports, or “innovative” investment schemes, we’ve seen that we can’t depend on market discipline. We need a new set of rules and a regulatory framework that metes out penalties to those who break them.
This flies in the face of the dominant Milton Friedman-esque economics, where allowing the invisible hand total control is sacrosanct. But that anti-interventionist philosophy has demonstrably failed, and I don’t know about you, but when it comes to the invisible hand, I’m tired of getting slapped around.
Read a great piece on this stuff here.
Second, there’s the stimulus debate going on between the House and Senate, which now have competing bills. I won’t go into the details here; read about them in your morning paper. But here’s the solution: the Senate package with the House income caps.
Finally, allow me to humbly invite all my fellow TPMers to join me in the EconoCorner. This is a new podcast I’ve put together, produced by EPI and Berrett-Koehler Publishers, that aims to supply the stuff you demand re the hot topics in current economic debates, and does so in English, not ‘economese.’ Get it from iTunes by plugging EconoCorner into the search engine.
The first episode features an interview with the great international economist Josh Bivens, giving the straight dope on trade, inequality, and living standards, here and abroad.
And feel free to share any comments or questions. Write to econocorner@epi.org.
We absolutely must reregulate - some people simply cannot respect boundaries, nor do they have the moral fortitude to withstand greed. That is why we have rules in the first place. And yes, moralizing is in order here - Gorden Gecko was a thief and destroyer of lives, he should not be a hero of another generation of MBAs.
January 30, 2008 7:33 AM | Reply | Permalink
Entirely too much economic "theory" is Puritanism in disguise.
"Free markets" are the expression of the Calvinist (or Max Weber if you prefer) Horatio Alger view of the world: the virtuous work hard and get their reward (on earth instead of in heaven).
"Savings" are good, "spending" is bad. This is Ben Franklin at his moralistic best. I have an essay floating around: What is Saving? What is Spending? which questions the terms themselves.
Now the world is filled with "moral hazard". The greedy must be punished (something about a rich man and the eye of a needle, I seem to recall). "Markets" must be taught a lesson.
The problem is you can't teach "markets" a lesson. Markets are not people, they don't learn and they can't be punished. Individuals may learn something and behave differently in the future, but markets are more like a stream, new people enter at one end and other leave at the other end. The new ones haven't learned anything.
It is possible for societies to "learn" and the way this is done is to incorporate the knowledge into laws and regulation. This is the institutional memory that is available to societies. Why did we get a series of economic excesses, starting with the dot com bubble. Not because the markets forgot, but because there was a deliberate effort to wipe out the institutional experience, but gutting regulations and repealing protective legislation. Glass-Steagall was passed for a reason, to prevent self dealing. It was repealed for the same reason, to permit it again.
The problems that it eliminated, recurred, right on schedule. The FDA was created to prevent tainted products from reaching the market. It was gutted to allow producers to reap higher profits and, sure as the sun rises, the tainted products reappeared.
So, let's stop talking about teaching the "market" a lesson. Punish those who committed fraud, but if there is a real interest in restoring functioning markets than restore the missing oversight. Leave the moralizing out of it.
--- Policies not Politics
Daily Landscape
January 30, 2008 7:40 AM | Reply | Permalink
I too am very supportive of regulation. I find it troubling that regulation is often painted as a barrier to profitability when what it really does is ensure a healthy market/economy.
Isn't it similar to a child who complains about having to wear that big old winter coat, scarf and hat to go to school in January? The kid throws a fit - it's more cumbersome, doesn't look cool and makes getting ready to go take longer. If you let them have their way (because they know better right?) then it's only a matter of time before they will get sick. You're not trying to be a pain in the ass making them wear that stuff, you're trying to protect their health. That's how I see regulation.
If a person or a business can find no other means to make money than to remove all the rules in order to offer lesser quality products or services then they SHOULD be put out of business. I've always felt that this was the proper application of the concept of how markets were supposed to "police themselves". They certainly should not be allowed to shut down the police stations and pay off all the cops. And that's essentially where I see us at this point thanks to all those years of Reagan and Clinton deregulation. Bush has simply turned it up a notch by also appointing addle-brained ideologues everywhere he could at every given opportunity.
January 30, 2008 11:33 AM | Reply | Permalink
When Jim Cramer - JIM CRAMER - comes out for increased regulation of the markets;
http://www.bucknell.edu/x40027.xml
then you know traders are ready to be spanked for being bad boys - as long as they think they are being bailed out by the Fed. But 3% doesn't give the Fed much more room to move.
But regulation is more a matter of epistemology and the human need for certainty than morality. The market motivates individuals because of the uncertainty inherent in competition, as soon as any advantage is achieved then participants seek to decrease or eliminate the uncertainties of competition through corruption of all types. Regulation is needed to insure the integrity of a truly competitive marketplace. I cannot blame anyone for seeking greater certainty in his or her economic condition, which is what we all do on a daily basis. But an understanding of the true nature of markets requires us as citizens to demand that government allow no one to manipulate the markets by leveraging temporary success into permanent advantage.
January 30, 2008 11:35 AM | Reply | Permalink
Someone asked about getting the EconoCorner mp3 file without going through iTunes.
Left click on this link and you should be able to download it directly.
http://epi.dreamhosters.com/media/econocorner/draft1/
January 30, 2008 12:31 PM | Reply | Permalink
'Twas myself, thanks.
January 30, 2008 2:51 PM | Reply | Permalink
Jared, 3 quick things for you. :-)
1. Rumor has it that it is you making the fun music in the podcast. (Heard it a couple of days ago and loved it.)
2. There has been a lot written in ft.com about sovereign wealth funds lately and already they are starting to take on the feel of the next crisis (not that anyone has said this). Is there a danger that these trillions of dollars looking for higher returns can at some point trigger something like the 1997 Asian crisis?
3. After watching the first 10 minutes of the Republican debate, it became clear why the economy does so much better under Democrats. Democrats understand it.
No animal should ever jump up on the dining-room furniture unless absolutely certain that he can hold his own in the conversation. Fran Lebowitz
January 30, 2008 6:17 PM | Reply | Permalink
Yep, I wrote and preformed the music with my friend Victor Lesser (he's a real musician). Keeps the budget costs down. Glad you liked it!
I'll have to think on and read more of the ft (the ft gets a lot of stuff right, I've found) on the sovereign funds. It does feel funny...and not good funny, either. Imagine the outcry if the US gov't decided to invest that much in one of our major banks--but it's OK for the Saudi and Singapore gov'ts?
The rap is that these are wholly passive investments...but what does that mean? Banks tend to want to please their big investors, so the impact of these investments deserves more scrutiny.
January 30, 2008 6:48 PM | Reply | Permalink
. . . we’ve seen that we can’t depend on market discipline. Jared Bernstein
Sure we can. But we haven't.
Are you claiming, Jared, that the Greenspan put, Bernanke's helicopters, too big to fail banks, implied extension of full-faith-and-credit to the GSEs, or any other number of moral hazard policies are the natural conditions of a self-disciplining market?
We've permitted the Fed to set interest rates in an arbitrary and political manner unrelated to market demand for credit -- result: high rates and Volcker's recession and today, low rates and Greenspan's housing and M & A bubbles.
I just love it when folks castigate the Fed for being too lazy or too stupid to regulate the banks but toe the economists' party line which declares that those same provenly incompetent bureaucrats are wise Solons when the issue is what non-market rate of interest the rest of us should be subjected to.
N.B. This $100 billion* "shot in the arm" is too small in an economy our size and too late to have any measurable effect. It's just kabuki. The real play is going on behind the scenes as Bernanke and his friends bail out the banks -- or to say it differently, stealthily go about covering up their own past negligence.
* The $50 billion business tax incentives will go predominantly to companies whose investment plans were already in the pipeline.
And a little more of Jared's "market discipline" -- "insurance regulators hope to head off the downgradings [of bond insurers] by persuading Wall Street banks to inject capital into the companies or provide them with backup lines of credit." NYTimes. And, we may ask, where are those banks going to get the "capital" to inject? Why, of course, they'll steal it from the savers on Main Street by enforcing below market interest rates.
January 30, 2008 10:00 PM | Reply | Permalink
And, we may ask, where are those banks going to get the "capital" to inject?
According to the FT, Bond insurers bail-out unlikely.
But there are two more stories of at least equal importance, if not more, to the bond insurer's problems. Both are from Bloomberg.
S&P Lowers or May Cut $534 Billion of Subprime Debt . (Half a trillion dollars!)
Subprime Lenders Get Big Accounting Break at SEC. (This seems almost unbelievable.)
This is just my own puzzled observation, but it seems like S&P, Fitch Ratings, Moody's, etc are getting off fairly easy considering the roles they played in this mess. Entire CDO's that consisted of BBB rated mortage securities were issued AAA ratings by these agencies. And just NOW they are finally looking inside of them?
Last, a GAO report from 2004 on predatory lending. I think it says nobody's really in charge, or too many federal agencies are in charge, but none of them have the proper authorizations or both. Apparently Congress did not take their suggestions on fixing the problem.
For a while I was keeping up with events pretty well. Now it feels like my mind won't wrap around the entire story at once.
Cheers.
No animal should ever jump up on the dining-room furniture unless absolutely certain that he can hold his own in the conversation. Fran Lebowitz
January 31, 2008 2:01 AM | Reply | Permalink
Moved to where it should have gone in the first place.
January 31, 2008 1:55 AM | Reply | Permalink