Grasping Reality with Both Hands

Something to Fear in Health Reform

Andrew Biggs: The problem is not that health spending is growing too rapidly--we want it to grow about as rapidly as it is. The problem is that the level of health spending is about twice what it should be. (I would add: and that the distribution of our health spending is all wrong as well.)

He writes:

A Dog in the Healthcare Fight: [S]pending on veterinary care... and national health expenditures (for people).... Two things are interesting here: first, the rate of growth of spending from 1984 to 2006 wasn’t all that different--and in both cases, spending grew faster than the rate of economic growth. As new technologies are developed for humans, we adopt them for Bowser and Fifi—because we can afford to and we think it’s worth it. I personally took my Alaskan Malamute to a Washington-area practice that was known as the “Mayo Clinic of veterinarians” —and I suspect this wasn’t because, like the real Mayo Clinic, it keeps costs low.

?But second, the level of spending was very, very different: we spend hundreds of times more on ourselves than on our pets. The main reason for this is obvious: we value our own lives and those of our families more than we do our pets or other animals. At the same time, however, veterinary care is one of the few areas of health where we are directly confronted with difficult decisions regarding the costs and benefits of additional treatments. As the famed RAND health experiment showed, out-of-pocket costs can significantly affect the level of health spending without changing health outcomes.

This again highlights that the real issue with healthcare may not be the rate of growth but the level of health spending--and the fact that so much of it seems to be wasteful. This distinction is important because it shapes our policy priorities. The level of spending has different causes than the rate of growth of spending, among them our healthcare system’s structural incentives to overspend. Rather than attempting merely to temper cost growth, plans that remove incentives for overspending, improve consumer choice, or pay doctors based on quality rather than quantity of service could reduce the overall level of spending.

Andrew is scared of a health reform focused on restraining the rate of growth of health spending that does so by slowing down the rate of adoption of new health techologies. The alternative--a health reform that gets us better value for our money and that leads us to spend less--gores powerful oxen because each dollar not spent will be a dollar that does not flow to the income of somebody who votes today. By constrast, the people who will die thirty years hence becaues we haven't invested in growing cloned kidneys don't know now who they are.

I am scared too.

The "Public Plan" and Health Reform

What form would this "public plan" take? Would it be administered by CMS and HHS? Would it offer Medicare reimbursement rates or something else?

And we aren't we simply letting people who want to sign up for FEHBP? Isn't that the simplest public plan?

Ezra Klein observes:

Why Health Reform Is Likely to Have a Public Plan: Huffington Post's Ryan Grim has been doing great work covering Sen. Ben Nelson's (D-Neb.) endless flips and flops on the public health insurance plan. A few weeks ago, you might remember that Nelson was talking about forming a "coalition of like-minded centrists opposed to the creation of a public plan, as a counterweight to Democrats pushing for it." Back then, the public plan was a "deal breaker."

Now? He's open to a public plan. Neat how that works. But Nelson isn't alone. Support for the public plan seems to have elevated in a few corners. Max Baucus (D-Mont.), previously cool to the idea, is now said to be fighting "tooth and nail" for its inclusion. Sen. Arlen Specter (D-Pa.), once a monosyllabic opponent ("no"), is now proclaiming himself open to the idea.

Meanwhile, the public plan's supporter -- Sens. Chuck Schumer (D-N.Y.), Ted Kennedy (D-Mass.), and others -- have organized and begun insisting, rather than merely mentioning, the idea. Liberal senators came together and signed a letter in support of the policy. The White House, which seemed relatively unsinterested in the issue a few months ago, has begun pushing hard for it.

And that, in my reporting, is what seems to be underneath the change. A few months ago, most observers thought the public plan was a bargaining chip. It had a lot of public supporters but few real friends. In recent weeks, that's begun to change. The White House seems genuinely intent on including a public plan -- or at least some form of public competition -- in the final bill. And that's changed the incentives for senators down the line. The public plan was safe to oppose so long as the powerful players weren't really interested in its survival. Indeed, when the policy was going to be bargained away anyway, the incentives were to try to convince the health industry that you'd been their key ally in that victory. But now that the White House has put some muscle behind the policy, opposition has potential consequences. And that's making the policy's opponents rethink their stridency.

A few months ago, I would have bet against the presence of a public plan in the final bill. Now I'd put my money in favor of it.

Upward Mobility: Reality and Illusion

Ezra Klein:

Ezra Klein : [Russell] Shorto... [thinks that in] the Netherlands.... [T]here's "a cultural tendency not to stand out or excel...the very antithesis of the American ideal of upward mobility." But... Americans are in the odd position of fervently believing in upward mobility while not actually having very much of it. Eruopeans, conversely, don't really believe in economic mobility but have plenty of it.... Brookings... examined the relative mobility in other Nordic countries. And the United States doesn't come out that well.... The United States believes itself to be uncommonly meritocratic. But compared to European countries who don't believe themselves very meritocratic, it actually exhibits less income mobility....

If you believe that your country is extremely mobile, you're likely to believe the results of the economic competition are relatively fair. As such, you won't want to slap the rich with particularly high tax rates and you won't be terribly concerned about spreading economic opportunity. After all, anyone can make it! On the other hand, if you don't believe your country is terribly mobile, then you're less likely to believe economic outcomes are fair. And if you don't believe the outcomes are fair, you're likely to tax the winners relatively heavily and plow those profits into things like universal health care and free college. Policies, in other words, that spread opportunity more widely and thus make your society more mobile. Put like that, it sort of makes sense. If you believe your society is already economically mobile, you don't spend a lot of time trying to solve the problem of insufficient economic mobility. if you don't believe that, then you implement policies meant to increase mobility. What's odd is that the public perceptions in Europe and America don't seem to be changing much in response to actual outcomes.

Notes for April 29 Econ 210a Class: "Thirty Glorious Years"

John Maynard Keynes (1926), "The End of Laissez Faire" http://tinyurl.com/dl20090112ad

Paul Krugman, "Introduction" to John Maynard Keynes, The General Theory of Employment, Interest and Money http://tinyurl.com/dl20090112z

Barry Eichengreen (1996), "Institutions and Economic Growth: Europe Since 1945," in Nicholas Crafts and Gianni Toniolo (eds), Economic Growth in Europe Since 1945 (Cambridge University Press), pp. 38-72 http://tinyurl.com/dl20090112x

Mancur Olson (1996), "The Varieties of Eurosclerosis: The Rise and Decline of Nations Since 1982," in Nicholas Crafts and Gianni Toniolo (eds), Economic Growth in Europe Since 1945, (Cambridge, Cambridge University Press), pp.73-94 http://tinyurl.com/dl20090112x

J. Bradford DeLong (1995), "America’s Only Peacetime Inflation: The 1970s," in Christina Romer and David Romer, eds., Reducing Inflation: Motivation and Strategy (University of Chicago Press), pp.-, http://tinyurl.com/dl20090112v

---

The End of the Presumption of Laissez-Faire

John Maynard Keynes (1926), "The End of Laissez Faire" http://tinyurl.com/dl20090112ad

The idea of a divine harmony between private advantage and the public good is already apparent in Paley. But it was the economists who gave the notion a good scientific basis. Suppose that by the working of natural laws individuals pursuing their own interests with enlightenment in condition of freedom always tend to promote the general interest at the same time! Our philosophical difficulties are resolved-at least for the practical man, who can then concentrate his efforts on securing the necessary conditions of freedom. To the philosophical doctrine that the government has no right to interfere, and the divine that it has no need to interfere, there is added a scientific proof that its interference is inexpedient. This is the third current of thought, just discoverable in Adam Smith, who was ready in the main to allow the public good to rest on 'the natural effort of every individual to better his own condition', but not fully and self-consciously developed until the nineteenth century begins. The principle of laissez-faire had arrived to harmonise individualism and socialism, and to make at one Hume's egoism with the greatest good of the greatest number. The political philosopher could retire in favour of the business man - for the latter could attain the philosopher's summum bonum by just pursuing his own private profit. Yet some other ingredients were needed to complete the pudding. First the corruption and incompetence of eighteenth-century government, many legacies of which survived into the nineteenth. The individualism of the political philosophers pointed to laissez-faire. The divine or scientific harmony (as the case might be) between private interest and public advantage pointed to laissez-faire. But above all, the ineptitude of public administrators strongly prejudiced the practical man in favour of laissez-faire - a sentiment which has by no means disappeared. Almost everything which the State did in the eighteenth century in excess of its minimum functions was, or seemed, injurious or unsuccessful. On the other hand, material progress between 1750 and 1850 came from individual initiative, and owed almost nothing to the directive influence of organised society as a whole. Thus practical experience reinforced a priori reasonings. The philosophers and the economists told us that for sundry deep reasons unfettered private enterprise would promote the greatest good of the whole. What could suit the business man better? And could a practical observer, looking about him, deny that the blessings of improvement which distinguished the age he lived in were traceable to the activities of individuals ‘on the make’? Thus the ground was fertile for a doctrine that, whether on divine, natural, or scientific grounds, state action should be narrowly confined and economic life left, unregulated so far as may be, to the skill and good sense of individual citizens actuated by the admirable motive of trying to get on in the world...

Let us clear from the ground the metaphysical or general principles upon which, from time to time, laissez-faire has been founded. It is not true that individuals possess a prescriptive ‘natural liberty’ in their economic activities. There is no ‘compact’ conferring perpetual rights on those who Have or on those who Acquire. The world is not so governed from above that private and social interest always coincide. It is not so managed here below that in practice they coincide. It is not a correct deduction from the principles of economics that enlightened self-interest always operates in the public interest. Nor is it true that self-interest generally is enlightened; more often individuals acting separately to promote their own ends are too ignorant or too weak to attain even these. Experience does not show that individuals, when they make up a social unit, are always less clear-sighted than when they act separately. We cannot therefore settle on abstract grounds, but must handle on its merits in detail what Burke termed “one of the finest problems in legislation, namely, to determine what the State ought to take upon itself to direct by the public wisdom, and what it ought to leave, with as little interference as possible, to individual exertion.”...

I will illustrate what I have in mind by two examples. (1) I believe that in many cases the ideal size for the unit of control and organisation lies somewhere between the individual and the modern State.... (2).... The important thing for government is not to do things which individuals are doing already, and to do them a little better or a little worse; but to do those things which at present are not done at all.... Many of the greatest economic evils of our time are the fruits of risk, uncertainty, and ignorance. It is because particular individuals, fortunate in situation or in abilities, are able to take advantage of uncertainty and ignorance, and also because for the same reason big business is often a lottery, that great inequalities of wealth come about; and these same factors are also the cause of the unemployment of labour, or the disappointment of reasonable business expectations, and of the impairment of efficiency and production. Yet the cure lies outside the operations of individuals; it may even be to the interest of individuals to aggravate the disease. I believe that the cure for these things is partly to be sought in the deliberate control of the currency and of credit by a central institution, and partly in the collection and dissemination on a great scale of data relating to the business situation, including the full publicity, by law if necessary, of all business facts which it is useful to know...

---

Paul Krugman, "Introduction" to John Maynard Keynes, The General Theory of Employment, Interest and Money http://tinyurl.com/dl20090112z

In the spring of 2005 a panel of “conservative scholars and policy leaders” was asked to identify the most dangerous books of the 19th and 20th centuries. You can get a sense of the panel’s leanings by the fact that both Charles Darwin and Betty Friedan ranked high on the list. But The General Theory of Employment, Interest, and Money did very well, too. In fact, John Maynard Keynes beat out V.I. Lenin and Frantz Fanon. Keynes, who declared in the book’s oft-quoted conclusion that “soon or late, it is ideas, not vested interests, which are dangerous for good or evil,” [384] would probably have been pleased.... Stripped down, the conclusions of The General Theory might be expressed as four bullet points: (1) Economies can and often do suffer from an overall lack of demand, which leads to involuntary unemployment. (2) The economy’s automatic tendency to correct shortfalls in demand, if it exists at all, operates slowly and painfully. (3) Government policies to increase demand, by contrast, can reduce unemployment quickly. (4) Sometimes increasing the money supply won’t be enough to persuade the private sector to spend more, and government spending must step into the breach. To a modern practitioner of economic policy, none of this – except, possibly, the last point – sounds startling or even especially controversial. But these ideas weren’t just radical when Keynes proposed them; they were very nearly unthinkable. And the great achievement of The General Theory was precisely to make them thinkable...

---

Barry Eichengreen (1996), "Institutions and Economic Growth: Europe Since 1945," in Nicholas Crafts and Gianni Toniolo (eds), Economic Growth in Europe Since 1945 (Cambridge University Press), pp. 38-72 http://tinyurl.com/dl20090112x

---

Mancur Olson (1996), "The Varieties of Eurosclerosis: The Rise and Decline of Nations Since 1982," in Nicholas Crafts and Gianni Toniolo (eds), Economic Growth in Europe Since 1945, (Cambridge, Cambridge University Press), pp.73-94 http://tinyurl.com/dl20090112x

---

J. Bradford DeLong (1995), "America’s Only Peacetime Inflation: The 1970s," in Christina Romer and David Romer, eds., Reducing Inflation: Motivation and Strategy (University of Chicago Press), pp.-, http://tinyurl.com/dl20090112v

More Congratulations to Emmanuel Saez

Peter Orszag congratulates Emmanuel Saez: "Emmanuel's energy, intelligence, and dedication are deeply impressive—as was his ability to explain, despite his French accent, a complicated research project that I worked on with him to a group of H&R Block workers administering it..." But perhaps Emmanuel's most impressive accomplishment is that he has been personally denounced on the editorial page of the Wall Street Journal.

OMB - Blog Post - Congratulations to Emmanuel Saez: SMy co-author and friend Emmanuel Saez was awarded the John Bates Clark Medal on Friday. The prize, which is awarded to the best American economist under the age of forty, is one of the highest honors the economics profession can bestow upon one of its own. Emmanuel is deeply deserving of the honor—his work on income inequality and taxation has helped to shape my own thinking on these matters, and it had no small influence on the President's Budget.

Emmanuel is perhaps best known for his detailed examination of how wages at the top end of the U.S. income distribution have evolved over the past century. He and his co-author Thomas Piketty discovered that the overall pattern for the share of income accruing to those in the top 10 percent is U-shaped (see chart 1 below). Thus, the share going to the top 10 percent was around 45 percent from the mid-1920s to 1940, but then declined to approximately 33 percent during World War II. Emmanuel attributes this fall-off to the sharp reduction in capital incomes brought about by the war and the revenue increases needed to finance the war effort. After the war, the share of income accruing to the top 10 percent remained essentially flat until the late 1970s, when it began climbing dramatically, ultimately surpassing its pre-war highs. Indeed, in 2006, the top 10 percent earned 50 percent of national income, a higher share than even in 1928, the peak year of the "roaring twenties" stock market bubble.

Chart 1: Share of Total U.S. Income Accruing to the Top 10%, 1917-2006

Perhaps even more interesting than his findings about the evolution in earnings for the top 10% is what he found when he isolated data from just the top 1 percent of earners—namely, that virtually all the historical fluctuation in the share of income going to the top 10 percent was due to fluctuations in income within the top percentile alone (see chart 2 below). Stated differently, the dramatic changes in income inequality seen in the United States over the last century are almost entirely a function of how well the very highest earners did at any given point in time.

Chart 2: Decomposing the Top 10% of U.S. Income Share into Three Groups, 1913-2006

And in the most recent past, the very highest earners did very well indeed, capturing almost three-quarters of total income growth in the economic expansion of 2002 to 2006, while the remaining 99 percent of the U.S. population split among themselves the final 25 percent of the increase. (What makes this trend all the more concerning is something that Emmanuel and his co-authors demonstrated in another paper: that this dramatic increase in incomes at the very top has not been mitigated by an increase in income mobility, which can be seen in the relatively stable probability of staying in the top 1 percent of earners from one year to the next since the early 1970s.)

Emmanuel's work on income inequality has helped to point the way for the Administration in its pledge to rebalance the tax code, with a tax cut going to 95 percent of working Americans while asking those at the very top to contribute more. The inequality that has arisen over the past three decades is not going to go away overnight, and it has been driven by many factors—including a decline in the growth rate of college-educated workers. But where the prior administration used changes in the tax code to exacerbate these trends, this Administration thinks that the tax code should be used to mitigate them because an economy in which all can enjoy success is one that is strong for us all.

Emmanuel's energy, intelligence, and dedication are deeply impressive—as was his ability to explain, despite his French accent, a complicated research project that I worked on with him to a group of H&R Block workers administering it. I look forward to reading his work for years and decades to come.

Why Does Tom Delay Think Texas Is a Wealthy State?

Matthew Yglesias:

Matthew Yglesias: Delay Claims Poorer-than-Average Texas is “Wealthy” Because Texans “Work Hard”: A few bloggers have noted that Tom DeLay went on a strange neo-secessionist binge yesterday on Hardball with Chris Matthews. This segment of the interview in which he lays out his substantive rationale has gotten less attention. But DeLay’s conceit is that Texas is a “wealthy state” because of it’s right-wing business-friendly policies, a situation that he specifically contrasts with the environment in California, New York, and New Jersey which have allegedly impoverished themselves with high taxes and overregulation.

One problem here is that Texas isn’t a wealthy state. Its median household income of $47,548 made it 28th in the country. Below average, in other words. New Jersey is second, California is eighth, and New York is nineteenth. Indeed, of the top ten states in per capita income nine are “blue” states.

The exception is Alaska, whose wealthy is due not to “hard work” on the part of the population or a business-friendly policy environment but to the combination of substantial natural resource wealth and a small population. Texas is like a poor man’s Alaska, with the substantial natural resource wealth but with the wealth spread across a much greater population. Absent oil, Texas would probably look more like its even poorer neighbors Louisiana (46), Oklahoma (44), Arkansas (49), and New Mexico (45). To some extent, I think the relative poverty of the South can really be attributable to the harmful consequences of Dixie-style conservative policies. But beyond that, it’s generally the case that state wealth is highly path-dependent—economic vibrancy attracts high-skilled workers which in turn leads to more economic vibrancy. But however you weigh that balance, the idea that Texas points us forward to a wealth-generating policy environment is absurd.

The conventional line of political argument was always that we are virtuous and hard-working and if we are poor it is because the evil others are manipulating the system to steal from us--and, indeed, that's what Tom Delay is about when he talks about welfare recipients. But there is no argument here that New Jersey and California are rich because they manipulate the system--instead, the idea that there are other states that are richer than Texas is simply something that Tom Delay has never learned.

After-Tax Income Changes from the CBO

via prospect.org

One would imagine that a shift in a single generation from the top living 8 to the top living 24 times as high as the middle would have produced a substantial leftward shift in economic politics, but instead the reverse has happened. Our social politics has moved steadily leftward; our economic politics here in the United States has not.

---

Posted via web from http://braddelong.posterous.com/after-tax-income-changes-from-the-cbo at Brad DeLong's Scrapbook

Republicans: The Really, Really, Really Stupid Party

John Stuart Mill did not know the half of it.

Publius, of Obsidian Wings:

Obsidian Wings: The Regulatory Origins of the Internet: Patrick Ruffini argues that Obama's alleged regulatory overreaching could (or at least should) move Silicon Valley back into the Republican camp.  I'm not really diving into that, but I wanted to quibble with this statement:

The irony here is that many of the entreprenuers who succeeded in the most unregulated environment possible -- the Internet -- are at once hyper-capitalist and socially-liberal Obama voters. (Good luck creating Twitter or Facebook in any industry as tightly regulated as the auto or banking sectors in the Age of Obama.)

This really can't be repeated enough -- the Internet was regulated.  Regulation is what made it work.  Indeed, the Internet's phenomenal success stemmed directly from the underlying common carrier regulation that made it possible. There was no immaculate conception.  The Internet came about because of sustained federal funding for research and development.  Originally, the data services that ultimately evolved into what we now call "the Internet" depended entirely on access to the underlying phone networks. And so when these data services got going, the federal government faced a choice.  A crossroads, if you will.  The government could ensure that Internet/data services had nondiscriminatory access to the underlying phone networks on which they "rode."  Or, it could have allowed the phone companies (i.e., AT&T) to dictate the terms of access.  (This is basically how most wireless service in America works -- it's the "walled garden" approach.  And don't you loves it?).

Wisely, in the Computer Inquiries proceedings, the FCC opted for open, nondiscriminatory access.  The Twitters of yesteryear didn't need permission from AT&T to start their business.  The nondiscriminatory access that made the Internet successful didn't happen because AT&T was full of benevolent, far-seeing souls.  It was because of government regulation.  (On an aside, that's why the fight over net neutrality is actually a battle to maintain a ridiculously successful status quo).

Given that the Internet is probably the single greatest advance of mankind since the printing press, you could plausibly argue that the Internet is regulation's crown jewel.

Lessons from the New Deal: Banking Committee Hearing Transcript (March 31, 2009)

Download now or preview on posterous

---

Posted via email from http://braddelong.posterous.com/banking-committee-hearing-tran at Brad DeLong's Scrapbook

FDR Done Did Good

On the Wall Street Journal editorial page, George Bittlingmayer and Thomas Hazlitt remind us that FDR's radical policies--regulating the banking system, abandoning the gold standard, abandoning the goal of balancing the short-term budget, and committing the government to an anti-laissez faire program of interventionist social democracy--were an extraordinary and immediate success:

GEORGE BITTLINGMAYER and THOMAS W. HAZLETT: [Roosevelt's] first step was to stem the banking panic with a national bank holiday (many states had already imposed their own). He closed troubled institutions, injected capital into the healthy ones, and reassured Americans that their deposits would be safe. His approach met with quick success. The New York Stock Exchange, closed during the bank holiday, opened up 15% on March 15. By July 3, the Dow Jones Industrial Average was 93% above its close on March 3, the day before Inauguration Day in 1933...

Michael Whitney of Service Employees International Union Makes a Catch

Interesting slip-up by the Wall Street Journal:

Wall Street Journal: Employee Free Choice Act "does not remove the secret ballot": Corporate front groups' one-line attack on the Employee Free Choice Act is the false claim that it somehow eliminates the secret ballot option.... But it seems one of their closest allies is finally willing to acknowledge the truth. In this morning's Wall Street Journal, the corporate-friendly editorial board admits:

"The bill doesn't remove the secret-ballot option from the National Labor Relations Act," wrote the WSJ.

There you have it. The Employee Free Choice Act "doesn't remove the secret ballot."... Think Progress has the dirt:

The acknowledgment by the WSJ that the legislation doesn't eliminate the option of a secret-ballot election is surprising given that it has been one of the most aggressive pushers of the false meme:

• "Democrats in the House passed the Employee Free Choice Act, a measure that rewrites the rules for union organizing by eliminating secret-ballot elections." [WSJ, 3/8/07]

• "Labor wants to trash the secret-ballot elections that have been in place since the 1930s." [WSJ, 10/17/08]

• "Mr. Pryor knew the GOP would block the bill, which gets rid of secret ballots in union elections." [WSJ, 1/2/09]

• "Big Labor's drive to eliminate secret ballots for union elections has united American business in opposition." [WSJ, 3/11/09]

It's great to see the Wall Street Journal has seen the light. Next time you hear a corporate-funded front group pushing this lie, tell them to read the Wall Street Journal to get the facts.

The Appeal to "Undecidability" as Last Gasp

Ross Douthat:

The Case For Small Government: I think the argument suffers from a problem that's common to both sides in the debates over the desirability of European-style social democracy - namely, the hope that what's ultimately a philosophical and moral controversy can have a tidy empirical resolution.... [T]he philosophical case for limited government - that human existence in the shadow of a nanny state doesn't conduce to "Aristotelian happiness"... because it strips human beings of the deeper sorts of agency and responsibility that ought to be involved in a life well lived - he's on firm (if obviously arguable) ground. But when he segues into the possibility that the emerging science of human nature will "prove" the limits of welfare-statism, and force liberals to give ground... there's an unwarranted hope that the right facts and figures can settle a debate that ultimately depends on the philosophical assumptions that you bring to it...

Matthew Yglesias calls bullshit:

Matthew Yglesias: Crippling Poverty is Not Service to Family: Left out of here is what the right always loves to leave out of discussions of economic policy choices: interest. If you’re poor in the United States and you live in a neighborhood where poor people can afford to live, you will almost certainly be living in a neighborhood that’s much more dangerous than the neighborhoods in which poor Dutch people live. You’ll also find yourself living in a country that’s much less friendly to the interests of people who can’t afford a car than is the Netherlands. Conversely, if a European executive meets an American executive and feels a twinge of jealousy, it’s not for the American’s greater level of “entrepreneurship” it’s for the fact that the U.S. social model leaves top executives much richer than European executives.... [I]ncome level is fairly predictive of voting behavior and this is neither a coincidence nor the reflection of an abstract disagreement about the value of “voluntarism.” It reflects the fact that politics is, among other things, a concrete contest over concrete economic interests.... I don’t think, for example, that America’s high child poverty rate reflects American preference for “service to one’s family” over “ease of life”...

As Milton Friedman put it back in 1953:

The basic objectives, shared, I am sure, by most economics, are political freedom, economic efficiency, and substantial equality of economic power. Thes objectives are not, of course, entirely consistent.... I believe--and at this stage agreement will be far less widespread--that all three objectives can best be realized by relying, as far as possible, on a market mechanism within a "competitive order" to organize the utilization of economic resources...

Friedman's argument against social democracy was that it would not do the job--that you would lose a lot of economic efficiency and some political liberty and in return get no equalization of economic power because the government would redistribute income and wealth the wrong way, and the beneficiaries would be the strong political claimants to governmental largess who would not be those with strong claims to more opportunity.

By the time you have resorted to arguing that "human existence in the shadow of a nanny state doesn't conduce to 'Aristotelian happiness'... because it strips human beings of the deeper sorts of agency and responsibility that ought to be involved in a life well lived..." you have lost the argument completely. And I have not even raised the point that Aristotle thought that Aristotelian happiness was possible only if you yourself owned lots of slaves:

Aristotle: There is in some cases a marked distinction between the two classes, rendering it expedient and right for the one to be slaves and the others to be masters.... The master is not called a master because he has science, but because he is of a certain character.... [T]here may be a science for the master and science for the slave. The science of the slave would be such as the man of Syracuse taught who made money by instructing slaves in their ordinary duties.... But all such branches of knowledge are servile. There is likewise a science of the master... not anything great or wonderful; for the master need only know how to order that which the slave must know how to execute. Hence those who are in a position which places them above toil have stewars who attend to their households while they occupy themselves with philosophy or with politics...

Let Us Rally to Protect the Delicate Flower of Rugged Individualism!

Henry Farrell on the hysterical opposition to Obama.

He first quotes Roger Cohen:

Let Us Rally to Protect the Delicate Flower of Rugged Individualism!: Two recent versions of the same argument. First, the simplified 800 word version, from Roger Cohen.

To paraphrase Mauriac, I love France, but I don’t want there to be two of them, least of all if one is in the United States. … I think President Obama’s counter-revolution goes in the right direction. … Still, the $3.6 trillion Obama budget made me a little queasy. There is a touch of France in its “étatisme” — the state as all-embracing solution rather than problem — and there’s more than a touch of France in the bash-the-rich righteousness.... Americans, at least in their imaginations, have always lived at the new frontier; French frontiers have not shifted much in centuries. Churn is the American way. … If America loses sight of these truths, it will cease to be itself...

And then Clive Crook:

I was hoping that Brooks would press Shields to say what exactly it is about France he objects to, what makes him recoil at the parallel. Where has France gone too far, in the view of an American liberal?... Presumably, liberals approve of the universal health care, the generous and extensive welfare state, the comprehensive worker protections, the stricter regulation, the vastly more-generous subsidies for higher education, the stronger unions, the higher taxes, and especially the higher taxes on the rich.... Perhaps some liberals privately long to make the United States over in the image of France, but the great majority, I imagine, are more interested in taking the things they regard as best in the European economic model—all the things I just listed—and combining those “socially enlightened” policies with the traditional economic virtues of the United States.... Color me skeptical. Culture shapes institutions and vice versa.... This unusually severe economic crisis has called American capitalism into question, highlighting its weaknesses and making it easier to forget its strengths.... Change the system and, with time, you will change the culture. How much you will change it is debatable, and so is whether change of that kind would be good, bad, or indifferent for the country’s economic and political prospects. But it would be an error to assume that the policy transformation that some liberals long for—and which Obama, if his budget is any guide, appears to be aiming for—would leave America’s unusual cultural traits unaffected....

[T]he American exception is alive and well, and that it is more than likely the secret of this country’s awesome success.... It would be a shame to see America revert to the Western European norm.... [H]is plan to enlarge government is married to an uncompromising assault on economic inequality. And if all of this is not enough to remind you of Europe, Obama has also expressed strong support for the Employee Free Choice Act, arguing that bigger and stronger unions are a vital part of sharing prosperity more widely.... The policies that Obama is proposing have all been tried elsewhere. Ideas that look bold and new in this country are old hat across the Atlantic. And we know something about how well they work.

And Henry Farrell puts his finger on it:

There is something very, very strange in my eyes about this kind of argument. On the one hand. a notion of a healthy American culture of can-do entrepreneurialism, which has survived for centuries and caused America to prosper. On the other, the claim that the combination of broader-if-not-quite-universal healthcare, a slightly easier time for unions, and a return to the relatively mild form of progressive taxation we saw in the 1990s would very probably lead to the destruction of said robust culture. Something here Does Not Compute....

The Obama proposals are not particularly radical departures from existing practice in the US. They are certainly nothing like traditional European social democracy. Even David Brooks effectively acknowledges this, when he says that they are potentially problematic in combination rather than individually. They aren’t going to set the US on a different national trajectory, let alone make it ‘French’ or ‘European.’ Some of us might like to see this happen, but it isn’t going to, even given the ideological trauma that the US is undergoing. And arguing that American individualism is likely to wilt if exposed to nasty foreign influences smacks more of a kind of capitalist-road José Bové-ism than any serious kind of intellectual analysis.

Top Marginal Tax Rates Over Time

via yglesias.thinkprogress.org

---

Matthew Yglesias sends us to Steve Benen who sends us to John Cole.

Matt comments:

As we can see here, the United States has enjoyed three periods of prosperity over the past 100 years—there was the late-1920s, the late 1980s, and the 2000s. For the rest of our history, the entire period from FDR through to early Reagan, and then again in the dark days of Bill Clinton, we suffered from cataclysmic stagnation because “soak the rich” policies left businesses without incentive to invest. Our talented citizens unfortunately, but understandably, decided to “go Galt” en masse and the economy stagnated. And yes, please pay no attention to the fact that the three periods of ultra-low taxes were followed by a budget crisis (Reagan) and catastrophic global economic collapse (Coolidge-Hoover, Bush).

---

Posted via web from http://braddelong.posterous.com/top-marginal-tax-rates-over-ti at Brad DeLong's Scrapbook

For the Employee Free Choice Act

Although its collapse has dominated recent media coverage, the financial sector is not the only segment of the U.S. economy running into serious trouble. The institutions that govern the labor market have also failed, producing the unusual and unhealthy situation in which hourly compensation for American workers has stagnated even as their productivity soared.

Indeed, from 2000 to 2007, the income of the median working-age household fell by $2,000- an unprecedented decline. In that time, virtually all of the nation’s economic growth went to a small number of wealthy Americans. An important reason for the shift from broadly-shared prosperity to growing inequality is the erosion of workers’ ability to form unions and bargain collectively.

A natural response of workers unable to improve their economic situation is to form unions to negotiate a fair share of the economy, and that desire is borne out by recent surveys. Millions of American workers – more than half of non-managers – have said they want a union at their work place. Yet only 7.5% of private sector workers are now represented by a union. And in all of 2007, fewer than 60,000 workers won union status through government-sanctioned elections. What explains this disconnect?

The problem is that the election process overseen by the National Labor Relations Board has become drawn out and acrimonious, with management campaigning fiercely to deter unionization, sometimes to the extent of violating the labor law. Union sympathizers are routinely threatened or even fired, and they have little effective recourse under the law. Even when workers overcome this pressure and vote for a union, they are unable to obtain contracts one-third of the time due to management resistance.

To remedy this situation, the Congress is considering the Employee Free Choice Act. This act would accomplish three things: It would give workers the choice of using majority sign-up-- a simple, established procedure in which workers sign cards to indicate their support for a union – or staging an NLRB election; it triples damages for employers who fire union supporters or break other labor laws; and it creates a process to ensure that newly unionized employees have a fair shot at obtaining a first contract by calling for arbitration after 120 days of unsuccessful bargaining.

The Employee Free Choice Act will better reflect worker desires than the current “war over representation.” The Act will also lower the level of acrimony and distrust that often accompanies union elections in our current system.

A rising tide lifts all boats only when labor and management bargain on relatively equal terms. In recent decades, most bargaining power has resided with management. The current recession will further weaken the ability of workers to bargain individually. More than ever, workers will need to act together.

The Employee Free Choice Act is not a panacea, but it would restore some balance to our labor markets.  As economists, we believe this is a critically important step in rebuilding our economy and strengthening our democracy by enhancing the voice of working people in the workplace.

Statement Endorsers

Henry J. Aaron, Brookings Institution
Katharine Abraham, University of Maryland
Philippe Aghion, Massachusetts Institute of Technology
Eileen Appelbaum, Rutgers University
Kenneth Arrow, Stanford University
Dean Baker, Center for Economic Policy and Research
Jagdish Bhagwati, Columbia University
Rebecca Blank, Brookings Institution
Joseph Blasi, Rutgers University
Alan S. Blinder, Princeton University
William A. Darity, Duke University
Brad DeLong, University of California/Berkeley
John DiNardo, University of Michigan
Henry Farber, Princeton University
Robert H. Frank, Cornell University
Richard Freeman, Harvard University
James K. Galbraith, University of Texas
Robert J. Gordon, Northwestern University
Heidi Hartmann, Institute for Women’s Policy Research
Lawrence Katz, Harvard University
Robert Lawrence, Harvard University
David Lee, Princeton University
Frank Levy, Massachusetts Institute of Technology
Lisa Lynch, Brandeis University
Ray Marshall, University of Texas
Lawrence Mishel, Economic Policy Institute
Robert Pollin, University of Massachusetts
William Rodgers, Rutgers University
Dani Rodrik, Harvard University
Jeffrey D. Sachs, Columbia University
Robert M. Solow, Massachusetts Institute of Technology
William Spriggs, Howard University
Peter Temin, Massachusetts Institute of Technology
Mark Thoma, University of Oregon
Lester C. Thurow, Massachusetts Institute of Technology
Laura Tyson, University of California/Berkeley
Paula B. Voos, Rutgers University
David Weil, Boston University
Edward Wolff, New York University

Scrapbook: Jacob Hacker: Yes We Can? The New Push for American Health Security

Download now or preview on posterous

---

Posted via email from http://braddelong.posterous.com/scrapbook-jacob-hacker-yes-we at Brad DeLong's Scrapbook

Entitlement Summit: The Back of the Envelope Version

Paul Krugman:

Entitlements on the back of an envelope: Right now, the federal government spends about 9 percent of GDP on the three biggies, Social Security, Medicare and Medicaid, with the total roughly evenly divided between retirement and medical care. We have an aging population, which will tend to increase the share of GDP spent on these programs. Looking ahead to circa 2050, we’ll go from about 3 workers per retiree to 2. This would, other things equal, raise spending on the programs by about 4 percentage points of GDP. (Not 4.5, because only part of Medicaid is age-related). That is, we’d spend 6.75 percent of GDP on retirement, 6.25 percent on health care. Now, 4 percent of GDP is a lot, but not catastrophic: remember, the share of GDP spent by the government currently is 10 percentage points or more higher in a number of wealthy countries than it is here.

What makes the projections you actually see so scary is the assumption that “excess cost growth” in health care will continue — that is, health spending per person will continue to rise at close to 2 percent faster than GDP per capita. This means, circa 2050, that health care costs will be roughly double what pure demography would predict, adding another 6 plus percentage points to the entitlements projection. Looking beyond that, demography adds very little — it’s all health care.

So if excess cost growth in health care can be brought under control, the entitlement problem is manageable. If not, even savage cuts in Social Security will make little difference.

A Guide for the Perplexed Justin Fox on Fiscal Policy

Justin Fox is needlessly worried. He writes:

The uncertainty of stimulus :: The Curious Capitalist - TIME.com: From a Congressional Budget Office estimate released today on the impact of some amendment or other to the Senate stimulus bill:

The macroeconomic impacts of any economic stimulus program are very uncertain. Economic theories differ in their predictions about the effectiveness of stimulus. Furthermore, large fiscal stimulus is rarely attempted, so it is difficult to distinguish among alternative estimates of how large the macroeconomic effects would be. For those reasons, some economists remain skeptical that there would be any significant effects, while others expect very large ones.

It's sort of like that mutual fund boilerplate, "Past performance is no guarantee of future results." Except that we're not even sure of what the past performance was. (And I say this as somebody who thinks the stimulus legislation is on balance a good idea.)

Well, why should we be certain of what past performance was? There haven't been a great many uses of large-scale fiscal policy to try to cure depression. And in those cases in which it has been tried, a lot else has been going on.

But when fiscal boost was tried on a large enough scale, it certainly did the job. And it is reasonable to infer (with all the caveats provided by the CBO) that what is true in the very large will be true in the merely large as well. Eugene Fama says that it is theoretically impossible for fiscal stimulus to boost output: World War II proves him wrong. Robert Barro says that the multiplier is zero: World War II proves him wrong. Benn Steil says that Jacques Rueff in 1947 conclusively proved that fiscal policy could not boost employment: World War II proves him wrong.

The extent to which the Great Depression and World War II changed how economists thought--and how those who know their history still think--cannot be overstated. And even those economists who don't know their history should be forced to come up with a reason why the lessons of the Great Depression do not apply to today.

As I am going to say in class a couple of weeks from now:

The end in the Great Depression of laissez faire--the idea that the government should keep its hands off of the economy--as a doctrine for guiding economic policy did not mean the end of the market economy as a social resource allocation mechanism. "Keynesianism" and the doctrine of the "mixed economy" that it supported emerged in the nick of time, soon became the ruling ideologies in the industrial core of the world economy, and provided North America and western Europe with a Keynesian escape route from what had seemed the insoluble crises of the interwar period.

The Keynesian escape route opened up key ground in the middle between fascist-style regimentation and socialist-style national planning. Keynes argued that the market economy and capitalist order could be salvaged, and salvaged by relatively minor reforms. An activist welfare-state government with a commitment to full employment had the tools to eliminate Great Depressions, and could put economies back onto the road to Utopia. If only governments would reduce interest rates to get private agents or would themselves spend money freely (without raising taxes) in times when total demand was low, and raise interest rates to reduce private spending and themselves raise taxes (without raising spending) in times when total demand was high, then fiuctuations in employment and production could be greatly reduced, and Great Depressions avoided.

Belief in this escape route was strongly reinforced by facts. Those countries that had tried it by accident during the Depression--had infiated early, printed money, ensured low interest rates, and run large budget deficits--managed to survive the Depression much more easily than others. World War II provided final proof, were any necessary--"vindication by Mars," as John Kenneth Galbraith calls it. That component of unemployment, called "structural" or "permanent" during the 1930s, that was seemingly-immune to both the self-adjusting forces of the market and the armament of the New Deal vanished entirely in the 1940s as the federal budget deficit approached and then exceeded the levels that had long been recommended by John Maynard Keynes. And the United States fought World War II without reducing civilian consumption: all of U.S. war production came from new capacity or from capacity that stood idle at the end of the 1930s.

Demand expansion--deliberate attempts by governments to put the unemployed back to work by deficit spending and loose-money low interest rate policies--was successful in the 1930s and 1940s. It put the unemployed back to work. It did not contain within itself the seeds of a renewed Great Depression. It did not explode into hyperinflation. The coming of "stablization policy" enlarged the policy steps that could be undertaken without forcing a definitive break with the market-capitalist order, and without forcing a choice between Hitler's way and Stalin's.

In later years--in the second and third post-World War II generation--tasks of macroeconomic management would prove harder, and the truth of the doctrines of Keynes's disciples if not of the doctrines of Keynes himself would become less clear.

Best Anti-Stimulus Argument: from Kevin Murphy

Matthew Yglesias agrees that Kevin Murphy gives the:

Best Anti-Stimulus Argument I’ve Seen: Kevin Murphy’s slides here. I think he overstates the deadweight loss effect and is working with the wrong conception of “efficiency” for these purposes when he claims that government is inefficient, so the odds of a stimulus being successful therefore aren’t as bad as he indicates. And this doesn’t change the fact that I haven’t heard any better ideas than doing a big stimulus. But this is a sobering reminder that a big stimulus doesn’t guarantee success—very hard work needs to be done on making sure that stimulus funds target genuinely idle resources rather than diverting non-idle resources while leaving the idle ones as idle as ever.

Here is Kevin:

Evaluating the Fiscal Stimulus

Kevin M. Murphy
January 16, 2009

A Framework for Thinking about the Stimulus Package

• Let G = increase in government spending
• 1-α= value of a dollar of government spending (α measures the inefficiency of government)
• Let f equal the fraction of the output produced using “idle” resources
• Let λ be the relative value of “idle” resources
• Let d be the deadweight cost per dollar of revenue from the taxation required to pay for the spending

When Will the Stimulus Add Value?

• The net gain is the value of the output produced less the costs of the inputs and the deadweight loss

• In terms of the previous notation we have: Net Gain = (1-α)G –[(1-f)G + λfG] –dG

• Net gain = (f(1-λ) –α–d)G
• A positive net gain requires that: f(1-λ) > α+d
• Difference of opinion comes from different assumptions about f, λ, α, and d

My View * α likely to be large * Government in general is inefficient * The need to act quickly will make it more inefficient * The desire to spend a lot in a short period of time will make it more inefficient * Trying to be both stimulus and investment will make it even more inefficient * 1-f likely to be positive and may be large * With a large fraction of resources employed (roughly 93%) much will be drawn from other activities rather than “idle” resources * Ricardian equivalence implies that people will save to pay for future taxes reducing private spending * λ is non-zero and likely to be substantial * People place positive value on their time * Unemployed resources produce value through relocation (e.g. mobility & job search) * d is likely to be significant * Wide range of estimates of d * Estimates based on the analysis of taxable income imply d≈0.8 * With these parameters the stimulus package is likely to be a bad idea

As I read it, Kevin thinks α = 1/2, f = 1/2, λ = 1/2, d = 0.8, and gets 0.25 > 1.3. I would say that α = 0 (increasing income inequality and starvation of the non-health non-military public sector over the past generation have left a bunch of low hanging fruit), f = 1.5 (there are multipliers out there, and markets work if there is sufficient demand: as long as there are idle resources people will use them first as long as demand is available), λ = 1/5 (the cyclically unemployed are not having much fun), and d = 1/3. So I get 1.2 > 0.33.

More interesting, I think, is that there is an unemployment rate at which Kevin Murphy's priors would switch and he would become a stimulus advocate. What is it?

Tomorrow at 3 at Stanford: Liberals and Libertarians: Kissing Cousins or Distant Relatives?

Ah. Here it is:

Liberals and Libertarians: Kissing Cousins or Distant Relatives?: When Jan 13, 2009 3:00 pm (Tuesday). Where: Encina Hall, Philippines Conference Room (C330).

LIBERALS: Joshua Cohen / Political Science, Stanford University. Pamela Karlan / Law, Stanford University. Bradley DeLong / Economics, UC Berkeley

LIBERTARIANS: Brink Lindsay / Cato Institute. Will Wilkinson / Cato Institute, Blogger at FlyBottle. Virginia Postrel / Dynamist

That liberals and libertarians share philosophical origins is clearly implied by the common Latin root for both words, liberalis, meaning open or generous. Both philosophies advocate civil liberties, individual autonomy, limited state interference in private affairs, and a non-bellicose foreign policy. Where the two stances have diverged is with respect to fiscal and regulatory issues. Although liberals generally view markets as the best way of organizing production and distribution, they have been more sympathetic than libertarians to governmental involvement in the management of markets for the public good. Moreover, whereas both liberals and libertarians generally concur that the public sector should avoid excessive spending, the former have been more supportive of government programs to expand opportunity and provide social insurance.

During the 1960s and 1970s, when the public sector was expanding and government spending was rising sharply, libertarians leaned strongly toward a “fusionist” coalition with traditional social conservatives and generally supported the Republican realignment of the 1980s and 1990s. Since 2000, however, the Republican party has succumbed to ideologies that have shifted it steadily away from core libertarian principles by curtailing civil liberties, expanding government intrusions into private affairs, running up huge fiscal deficits, expanding federal control over local institutions such as schools, and launching costly military invasions in the absence of direct threats.

In the wake of these developments, the “fusionist” coalition between libertarians and conservative republicans has substantially frayed and perhaps the time has come to reconsider the historical estrangement between liberals and libertarians. Given shared positions with respect to civil liberties, state involvement in private affairs, fiscal responsibility, and the War in Iraq, it may be fruitful to search for common ground in other areas. Is there room for compromise on contested regulatory and fiscal issues, or are liberals and libertarians destined to be occasional tactical allies with fundamentally conflicting strategic visions? And regardless of possibilities for closer political cooperation, what libertarian insights do liberals need to do a better job of appreciating, and vice versa? 

Barack Obama the Sensible Centrist

Steve Benen is:

The Washington Monthly: reminded... of something Atrios said about a month ago, when he mentioned how satisfied he'd be if Obama's team convinces people that Obama is "a sensible centrist who wants to do sensible centrist things like build SUPERTRAINS, get out of Iraq, not torture people or invade random countries, strengthen labor protections, reduce income inequality, improve education, provide health care for people, and reduce poverty"...

Robert Waldmann on the "Fundamental Values" of Risky, Long-Duration Securities

Robert writes:

Comment on DeLong: What Has Happened to Milton Friedman's Chicago School? DRAFT: What does "impaction" as in "the impaction of information" mean ? Is it like an impact or an impacted wisdom tooth ? I seek wisdom not teeth. I see a fifth cause of the decline in asset values. I think many assets were over-valued in the past, because the ratings agencies were tricked or cashing in on their late lamented excellent reputations (or both). The loss of confidence in said agencies causes an increase in estimated risk not because risk has increased or risk aversion has increased but because the old estimates are now known to be bogus. More generally, risk modelling by traders was similarly complete nonsense. I don't know to what extent the traders were tricked and to what extent they were in on the scam (nor I suspect do they).

Structured finance created a huge illusion of wealth by creating an illusion of safety. The financial engineers knew how the agencies rated (the agencies explained for a consulting fee) and how traders estimate "value at risk". They knew people assumed (or pretended to assume) that all stochastic variables are normally distributed. Thus it was profitable to sell instruments with skewed returns (fat lower tails) unless the rare negative event occured during the testing period (in which case the instruments could be re-engineered). A senior tranche of a pool of moderately risky assets has a skewed distribution. Similarly money could be made by reducing own variance for a given beta by pooling assets and issuing claims on the pool. The variance of an average is less than the average variance. The covariance of an average and the market portfolio is the average covariance. Thus a claim on a pool of BBB rated corporate bonds was rated AAA. Turning BBB to AAA is worth a lot of money except for the fact that it was a scam (investors could pool themselves -- they don't seem to have understood that pre-pooling reduces the benefit to them of their own pooling -- or they were in on the scam).

The risk of a nationwide decline in house prices was estiamted at 0 by S&P (I am not exaggerating). Now there has been such a decline and they must admit that there is the risk of such a decline in the future. The current decline would cost 1 trillion. The future possible declines also cost money. So much of the wealth was an illusion which won't come back soon. This end of systematic miss-estimation of risk is not on your list.

Also institutions took huge gigantic bets against each other (as in AIG lost writing CDSs). This increases counterparty risk. No one knows if a counterparty is solvent. That reduces the value of a huge number of instruments. The damage could have been done without involving the housing industry or the stock market if, say, investment bank CEOs played a really high stakes poker game and all claimed to have won money. Also bankruptcy is costly. Even if the CEOs had played hundred billion ante poker on camera, wealth would have been destroyed and more wealth would have been shifted from investors to lawyers. This is another item not on your list. Finally, much of the strange new finance was designed to help agents avoid prudential rules and regulations which they considered to be costly. Now they have learned two things. First that the regulations weren't so pointless so they will have to pay that cost to avoid bankruptcy. Second they will be audited by banking regulators, trustees etc and found wanting. This last point is semi redundant as it amounts to an increase in perceived risk. However, it explains why I keep speculating that this that or the other operator was in on the scam.

Here Robert Waldmann raises a whole bunch of issues that I was attempting to defer to later. I claimed (correctly) that the collapse of global financial asset values over the past year and a half was overwhelmingly do to increases in the risk and information discounts, and not to changes in expected future cash flows. Robert raises the point that perhaps the current risk and information discounts are "right," or in some sense the appropriate "fundamental values," and that the previous low values of these discounts were in some sense "wrong" or "irrationally exuberant."

To make sense of this claim we need a definition of what "fundamental values" are.

Here is mine:

The fundamental values of asset prices are the money-metric values that the costate variables associated with the commodities would have in some reasonable utilitarian central-planning social-welfare-maximization exercise under reasonable utilitarian preferences.

This entails the following, leaving what happens in Mad-Max scenarios completely out of the picture:

1. Default discounts should be small (and in fact default discounts are small even now in the recession)--default is not a thing that should happen often to financial assets and should not be a big component of asset pricing in well-functioning asset markets that mimic some reasonable social-welfare-maximization calculation.
2. Information discounts should be small because they reflect knowledge held by one part of the system and not by another--and well-functioning asset markets should be liquid and full enough of information that they should be able to mimic the low information discounts found in some reasonable social-welfare-maximization calculation.
3. The proper duration discount--the safe real interest rate--in a social-welfare-maximization calculation is the utility cost of moving wealth ahead in time from one consumer to another or from early to late in a consumer's life. This should be governed by the rate of labor productivity growth divided by a reasonable utilitarian intertemporal elasticity of substitution. A reasonable utilitarian intertemporal elasticity of substitution is one. A reasonable estimate of the rate of productivity growth is 2 percent per year. The duration discount ought to be a real safe interest rate of 2 percent per year.
4. The proper risk discount is governed by the utilitarian diminishing marginal utility of wealth and the covariance of asset returns with wealth: it is the danger that when assets lose value you find yourselves in states of the world in which your marginal utility of wealth is high. The covariance of asset returns with wealth is low. A reasonable utilitarian diminishing marginal utility of wealth corresponds to a coefficient of relative risk aversion of 1. The risk discount for an equity beta = 1 portfolio ought to be on other order of a long-run real rate of 0.3% per year. The risk discount for financial assets as a whole ought to be on the order of a long-run real rate of 0.2% per year.

Thus my view of fundamental values: financial assets ought to be priced so that safe assets yield a 2% per year real return, and so that financial assets as a whole ought to yield an expected long-run return of 2.2% per year (with equities yielding an expected return of 2.3% per year).

Right now it looks to me as if safe assets yield a real return of -1% per year, and financial assets as a whole yield an expected long-run real return of 5% per year (with equities yielding an expected long-run rate of return of 8% per year). At the peak of the housing bubble as best as I could tell safe assets yielded a real rate of return of 2% per year (about at their fundamental values) and equities yielded an expected long-run real rate of return of 4% per year (about half their fundamental value).

The most important thing about asset prices, I think, is that even in booms and bubbles they don't reach their "fundamental" values. The first-order fact about asset markets is that they currently do and historically have done a really lousy job of mobilizing the long-run risk-bearing capacity of the global economy. The risk tolerance of those who participate in financial markets is a remarkably low fraction of the true fundamental global risk tolerance, the horizon of those who participate in financial markets is a remarkably low fraction of the true social investment-planning horizon, and in addition the views of those who participate in financial markets are extraordinarily more volatile than can be generated by the variation in rational expectations of future growth rates and appropriate fundametnal discounts.

Martin Wolf Puts It Better than Anyone Else I Have Seen

Martin Wolf on our current magneto trouble:

FT.com / Columnists / Martin Wolf - Keynes offers us the best way to think about the financial crisis: We are all Keynesians now. When Barack Obama takes office he will propose a gigantic fiscal stimulus package. Such packages are being offered by many other governments. Even Germany is being dragged, kicking and screaming, into this race.

The ghost of John Maynard Keynes, the father of macroeconomics, has returned.... Like all prophets, Keynes offered ambiguous lessons to his followers. Few still believe in the fiscal fine-tuning that his disciples propounded in the decades after the second world war. But nobody believes in the monetary targeting proposed by his celebrated intellectual adversary, Milton Friedman.... Now... it is easier for us to understand what remains relevant in his teaching....

Minsky... we should not take the pretensions of financiers seriously. “A sound banker, alas, is not one who foresees danger and avoids it, but one who, when he is ruined, is ruined in a conventional way along with his fellows, so that no one can really blame him.” Not for him, then, was the notion of “efficient markets”....

[T]he economy cannot be analysed in the same way as an individual business. For an individual company, it makes sense to cut costs. If the world tries to do so, it will merely shrink demand....

The third and most important lesson is that one should not treat the economy as a morality tale. In the 1930s, two opposing ideological visions were on offer: the Austrian; and the socialist. The Austrians – Ludwig von Mises and Friedrich von Hayek – argued that a purging of the excesses of the 1920s was required. Socialists argued that socialism needed to replace failed capitalism, outright. These views were grounded in alternative secular religions.... Keynes’s genius – a very English one – was to insist we should approach an economic system not as a morality play but as a technical challenge. He wished to preserve as much liberty as possible, while recognising that the minimum state was unacceptable to a democratic society with an urbanised economy. He wished to preserve a market economy, without believing that laisser faire makes everything for the best in the best of all possible worlds.

This same moralistic debate is with us, once again. Contemporary “liquidationists” insist that a collapse would lead to rebirth of a purified economy. Their leftwing opponents argue that the era of markets is over. And even I wish to see the punishment of financial alchemists who claimed that ever more debt turns economic lead into gold. Yet Keynes would have insisted that such approaches are foolish. Markets are neither infallible nor dispensable.... [T]he task for this new administration is to lead the US and the world towards a pragmatic resolution of the global economic crisis we all now confront....

The shorter-term challenge is to sustain aggregate demand, as Keynes would have recommended.... [T]he load will fall on the US, largely because the Europeans, Japanese and even the Chinese are too inert, too complacent, or too weak.... [T]his period of high government spending is, alas, likely to last for years....

No less pragmatic must be the attempt to construct a new system of global financial regulation and an approach to monetary policy that curbs credit booms and asset bubbles. As Minsky made clear, no permanent answer exists. But recognition of the systemic frailty of a complex financial system would be a good start.

As was the case in the 1930s, we also have a choice: it is to deal with these challenges co-operatively and pragmatically or let ideological blinkers and selfishness obstruct us...

Socialism in One Sector--the Housing Sector

Glenn Hubbard and Charlie Mayer call for the effective nationalization of the mortgage finance sector:

Low-Interest Mortgages Are the Answer: Recent news articles suggest that the Treasury Department is considering a plan to offer a 4.5% mortgage for home buyers for a period of time. Let's hope it does. It would help arrest the decline in house prices that is at the base of the ongoing financial crisis and recession.

Raising the demand for housing makes sense now. While fundamental factors clearly played a role in driving down house prices that were at excessive levels two years ago, we have argued in a paper (to be published in the Berkeley Electronic Journal of Economic Analysis and Policy) that in most markets house values are today lower than what is consistent with the average level of affordability in the past 20 years.

Nonetheless, without policy action house prices are likely to continue falling, thanks largely to the meltdown in mortgage markets and the weakening employment outlook. Conversely, we see little risk that increasing the demand for housing will touch off another housing bubble. And indexing the mortgage rate to the Treasury yield could avoid this outcome in the future. While the economy is contracting, low interest rates would spur housing activity. When economic activity improves, the U.S. Treasury yield and mortgage rates would rise.

A 4.5% mortgage rate is not too low. The 10-year U.S. Treasury yield closed at 2.3% on Dec. 12, 2008. Hence a 4.5% mortgage rate is 2.2% above the Treasury yield, above the 1.6% spread that would prevail in a normally functioning mortgage market.

Some have argued that lenders should earn more than the average 1.6% spread, to compensate for the fact that housing is a much riskier investment today. We don't think so. Recall that a mortgage can be thought of as a risk-free bond plus two possibilities that increase risk to lenders: default and/or prepayment. Historically, the risk of default adds about 0.25% to the interest rate. The remaining spread of the mortgage rate over the Treasury yield represents the risk of prepayment and underwriting costs. With falling house prices, the risk of default could indeed add 0.75% or more for a newly underwritten and fully documented loan. But 4.5% would be the lowest mortgage rate in more than 30 years -- so the additional risk to lenders of prepayment would be almost nil. And low mortgage rates would substantially reduce the risk of further house price declines...

The Treasury doesn't have the know-how to offer mortgages. Fannie and Freddie do.

All in all, I approve of the plan: having Fannie and Freddie buy up mortgages at market prices and refinance them at 4.5% could do a lot of good for the country and make a fortune for the government.

I am, however, gobsmacked to see Glenn Hubbard proposing it.

How Are We Going to Manage to Do All This

The Obama administration is going to be rebuilding and reconstructing five major sectors of the American t. It has no choice--there is no other option. It has to remake:

• Autos
• Housing finance
• High finance
• Energy
• And the big one—health care

On what principles and through what procedures is this extraordinary exercise in structural economic reform policy going to be accomplished? I get how to do the macroeconomics of Obama administration economic policy. I don’t get how to do the structural side…

Time for the Government to Buy Citigroup

No real point to merging it into JPMorgan Chase or Bank of America. And it is definitely too big to fail.

Who wants to be Deputy Assistant Secretary of the Treasury for Citigroup?

Peter Eavis:

Share Slump Tests Citi Limits: Following steep drops all week, Citi's shares shed another 26% Thursday, even after Prince Alwaleed bin Talal, a large and longtime shareholder, said he plans to increase his stake in the bank.... The market appears to be in a game of chicken with the government over Citi.... The political risk of giving banks basically free money is huge. And even that mightn't do the trick.... The only way to get that [leverage] ratio down is to slash assets -- almost impossible right now -- or issue a large amount of common stock. And that is the dilemma for the government. Citigroup's market value is $26 billion. If the government wanted to inject another, say, $25 billion through common stock it would end up controlling the bank...

Yep. Time to do it. Swedish model. No more of this "preferred stock capital injection" business. Common stock. And with commitment comes control.

"Third Ways" in Theory and Practice

Last week's reading:

John Maynard Keynes (1932), Essays in Persuasion (London: Macmillan).

This week's reading:

Wladimir S. Woytinsky (1961)Stormy Passage: A Personal History Trhough Two Russian Revoutions to Democracy and Freedom, 1905-1960/a> (New York: Vanguard Press).

Next week's reading:

Edmund Wilson (1940), *To the Finland Station: A Study in the Writing and Acting of History (New York: New York Review of Books).

---

Earlier readings:

Donald Sassoon (), One Hundred Years of Socialism
Janos Kornai (), Economics of Shortage
Milovan Djilas (), The New Class
Sheri Berman (), The Primacy of Politics
John Maynard Keynes (), Economic Consequences of the Peace
John Maynard Keynes (), A Tract on Monetary Reform
Kevin Lansing (2008), "Exploring the Causes of the Great Inflation," FRB San Francisco Economic Letters http://www.frbsf.org/econrsrch/wklyltr/2000/el2000-21.html
Alan S. Blinder (1982), "The Anatomy of Double-Digit Inflation in the 1970s," in Robert E. Hall, ed., Inflation: Causes and Effects (Chicago: Univ. of Chicago Press), pp. 261-282.
J. Bradford. DeLong (1997) "America's Peacetime Inflation: The 1970s" in C. Romer and D. Romer, eds, Reducing Inflation: Motivation and Strategy (Chicago: University of Chicago Press), pp. 247-276.
Robert Hetzel (1998) "Arthur Burns and Inflation," FRB Richmond Economic Quarterly http://www.rich.frb.org/eq/pdfs/winter1998/hetzel.pdf
Steven Braun (1984), "Productivity and the NIIRU (and Other Phillips Curve Issues)" (Washington: Federal Reserve Working Paper 34).
https://nber15.nber.org/c/2008/gif08/wheelock.pdf https://nber15.nber.org/c/2008/gif08/beyer.pdf https://nber15.nber.org/c/2008/gif08/blinder.pdf https://nber15.nber.org/c/2008/gif08/bordo.pdf
Thomas J. Sargent (1999) The Conquest of American Inflation (Princeton: Princeton University Press).

Peter Orsag: Health Care Reform More Urgent than Ever

Peter Orszag:

Director’s Blog: The Institute of Medicine of the National Academies of Sciences announced its new members this morning. I’m quite honored to be included in this group — along with Jose Escarce, who is on CBO’s Panel of Health Advisers. I view my inclusion as testimony to what the outstanding CBO health staff has taught me about health care and health policy, and look forward to continuing to learn from them and other innovators in the field.

While I’m on the topic of health care, I’d like to make a point related to the current turmoil in financial markets. Many observers have noted that addressing the problems in financial markets and the risks to the economy may displace health care reform on the policy agenda — and that may well be the case for some period of time. (As a small example, I know that over the past few months I have been spending less time on health care because the turmoil in financial markets and associated issues have consumed much more of our time and attention at CBO. This displacement is a matter of finite time and energy, not budgetary resources.)

Although it may not seem immediately relevant given our current difficulties, it will be crucial to address the nation’s looming fiscal gap — which is driven primarily by rising health care costs — as the economy eventually recovers from this current downturn. Indeed, our ability to address our current economic difficulties (through both financial market interventions and potential additional fiscal stimulus) would be severely impaired if investors were not so willing to invest substantial sums in Treasury securities without charging much higher interest rates. That willingness reflects the (currently accurate) view among investors that Treasury securities are extremely safe investments.

If we fail to put the nation on a sounder fiscal course over the next few decades, though, we will ultimately reach a point where investors would lose confidence and no longer be as willing to purchase Treasury debt at anything but exorbitant interest rates. If that were to occur, we would lack the kind of maneuvering room that we currently enjoy to address problems in the financial markets and the economy. So if you think the current economic crisis is serious, and it is, imagine what it would be like if we didn’t have the ability to undertake aggressive and innovative policy interventions because creditors were effectively unwilling to lend substantial additional sums to the Federal government…

American Individualism in Historical Perspective

Lessons from the Great Depression. Bruce Bartlett says that we should all go read Charles Beard's 1931 "The Myth of Rugged American Individualism":

null - Upload a Document to Scribd

http://www.scribd.com/doc/6839035/null

Ezra Klein on the Economic Rescue Package

He writes:

Ezra Klein: The specifics of Bailout Plan the second (or is it third?) are now firming up, and it basically looks like what liberals like Jamie Galbraith and Paul Krugman and Great Britain have been arguing for all along. Essentially, the government is going to buy a bunch of banks.... [M]y take on this will make David Broder cry: The liberals were right. Not the Democrats. The liberals. They were right that deregulation had gone too far. They were right when they spent the last few years offering unpopular predictions that the Housing Bubble would pop. They were right that a liquidity problem had become a solvency problem. They were right that government intervention on a massive scale was needed to stabilize the capitalist system. They were so right, in fact, that Hank Paulson and George W. Bush couldn't hold the line, and will now sign into law the most profoundly socialist measure this country has seen since the 1930s.

I make this point not to wrap myself in a warm blanket of Schadenfreude -- there's little joy in seeing your allies proven perspicacious by a catastrophe -- but because it's actually important. The liberal understanding of the economy and its problems has been, in recent months and years, superior to the conservative understanding of the country and its problems. And this has only sharpened in recent weeks, as the Republican Party has spun off into the Gamma Quadrant with laughable theories about ACORN and Fannie Mae and Freddie Mac and the Community Reinvestment Act of 1977. Their argument isn't wrong in the sense that it's a serious engagement with the situation that happens to be less empirically sound than competing theories. It's just nonsense. And this isn't a time when we can afford governance powered by nonsense. We need governance by people who understood the magnitude and nature of the problem, and have some idea how to go forward fixing it.

Perhaps the Skimpiest Proposal for the Most Extensive Grant of Authority I Have Ever Seen

More expansive than the National Industrial Recovery Act of 1933. The only thing that comes close is the Marshall Plan--and the Marshall Plan was run by an independent agency, the ECA; the ECA had to get its funding appropriated every year; and Dean Acheson turned down the job of Marshall Plan head on the grounds that with a Republican majority congress they needed a Republican administrator (they got Studebaker head Paul Hoffman).

---

LEGISLATIVE PROPOSAL FOR TREASURY AUTHORITY TO PURCHASE MORTGAGE-RELATED ASSETS

Section 1. Short Title.

This Act may be cited as ________.

Sec. 2. Purchases of Mortgage-Related Assets.

(a) Authority to Purchase.--The Secretary is authorized to purchase, and to make and fund commitments to purchase, on such terms and conditions as determined by the Secretary, mortgage-related assets from any financial institution having its headquarters in the United States.

(b) Necessary Actions.--The Secretary is authorized to take such actions as the Secretary deems necessary to carry out the authorities in this Act, including, without limitation:

(1) appointing such employees as may be required to carry out the authorities in this Act and defining their duties;

(2) entering into contracts, including contracts for services authorized by section 3109 of title 5, United States Code, without regard to any other provision of law regarding public contracts;

(3) designating financial institutions as financial agents of the Government, and they shall perform all such reasonable duties related to this Act as financial agents of the Government as may be required of them;

(4) establishing vehicles that are authorized, subject to supervision by the Secretary, to purchase mortgage-related assets and issue obligations; and

(5) issuing such regulations and other guidance as may be necessary or appropriate to define terms or carry out the authorities of this Act.

Sec. 3. Considerations.

In exercising the authorities granted in this Act, the Secretary shall take into consideration means for--

(1) providing stability or preventing disruption to the financial markets or banking system; and

(2) protecting the taxpayer.

Sec. 4. Reports to Congress.

Within three months of the first exercise of the authority granted in section 2(a), and semiannually thereafter, the Secretary shall report to the Committees on the Budget, Financial Services, and Ways and Means of the House of Representatives and the Committees on the Budget, Finance, and Banking, Housing, and Urban Affairs of the Senate with respect to the authorities exercised under this Act and the considerations required by section 3.

Sec. 5. Rights; Management; Sale of Mortgage-Related Assets.

(a) Exercise of Rights.--The Secretary may, at any time, exercise any rights received in connection with mortgage-related assets purchased under this Act.

(b) Management of Mortgage-Related Assets.--The Secretary shall have authority to manage mortgage-related assets purchased under this Act, including revenues and portfolio risks therefrom.

(c) Sale of Mortgage-Related Assets.--The Secretary may, at any time, upon terms and conditions and at prices determined by the Secretary, sell, or enter into securities loans, repurchase transactions or other financial transactions in regard to, any mortgage-related asset purchased under this Act.

(d) Application of Sunset to Mortgage-Related Assets.--The authority of the Secretary to hold any mortgage-related asset purchased under this Act before the termination date in section 9, or to purchase or fund the purchase of a mortgage-related asset under a commitment entered into before the termination date in section 9, is not subject to the provisions of section 9.

Sec. 6. Maximum Amount of Authorized Purchases.

The Secretary’s authority to purchase mortgage-related assets under this Act shall be limited to $700,000,000,000 outstanding at any one time

Sec. 7. Funding.

For the purpose of the authorities granted in this Act, and for the costs of administering those authorities, the Secretary may use the proceeds of the sale of any securities issued under chapter 31 of title 31, United States Code, and the purposes for which securities may be issued under chapter 31 of title 31, United States Code, are extended to include actions authorized by this Act, including the payment of administrative expenses. Any funds expended for actions authorized by this Act, including the payment of administrative expenses, shall be deemed appropriated at the time of such expenditure.

Sec. 8. Review.

Decisions by the Secretary pursuant to the authority of this Act are non-reviewable and committed to agency discretion, and may not be reviewed by any court of law or any administrative agency.

Sec. 9. Termination of Authority.

The authorities under this Act, with the exception of authorities granted in sections 2(b)(5), 5 and 7, shall terminate two years from the date of enactment of this Act.

Sec. 10. Increase in Statutory Limit on the Public Debt.

Subsection (b) of section 3101 of title 31, United States Code, is amended by striking out the dollar limitation contained in such subsection and inserting in lieu thereof $11,315,000,000,000.

Sec. 11. Credit Reform.

The costs of purchases of mortgage-related assets made under section 2(a) of this Act shall be determined as provided under the Federal Credit Reform Act of 1990, as applicable.

Sec. 12. Definitions.

For purposes of this section, the following definitions shall apply:

(1) Mortgage-Related Assets.--The term “mortgage-related assets” means 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 September 17, 2008.

(2) Secretary.--The term “Secretary” means the Secretary of the Treasury.

(3) United States.--The term “United States” means the States, territories, and possessions of the United States and the District of Columbia.

Why Obama's Health Plan Is Better

Bingo!

Why Obama's Health Plan Is Better:

My phone number is 925-708-0467...

---

In the Wall Street Journal on September 16, 2008. Harvard Professor and Obama Health Care Advisor David M. Cutler and his coauthors show that John McCain's health-care reform plan burdens America's high-value businesses with extra taxes. In America today, high-value and high-wage jobs are also high-benefit jobs. John McCain taxes them. And when you tax something, you get fewer of them: fewer of the high-value jobs that take advantage of the skills of the American worker and produce high wages and salaries for workers and high profits for managers and business owners.

By contrast, Barack Obama's health-care reform plan lifts the health-care cost burden from the backs of America's high-value businesses in five ways: Learning how to eliminate the one-third of costs for services at best ineffective and at worst harmful. Rewarding doctors and hospitals for providing health rather than performing procedures. Pooling individuals and small firms to give them bargaining power vis-a-vis health insurers. Preventing illness through making it profitable to provide regular screenings and healthy lifestyle information, the most cost-effective medical services around. Covering more people and removing the hidden shifted costs of the uninsured by lowering premiums by $2,500 for the typical family, allowing millions previously priced out of the market to afford insurance.

The lower cost of benefits will allow employers to hire some 90,000 low-wage workers currently without jobs because they are currently priced out of the market. It also would pull an estimated one and a half million more workers out of low-wage low-benefit and into high-wage high-benefit jobs. And more workers currently locked into jobs because they fear losing their health benefits would be able to move to entrepreneurial jobs, or simply work part time.

---

TALKING POINTS:

• John McCain taxes the high-value high-wage jobs that are also high-benefit jobs. When you tax something, you get fewer of them: fewer high-value jobs that take advantage of the skills of the American worker.

• Fewer high-value jobs means reduced wages and salaries for workers and reduced profits for managers and business owners.

• The big threat to growth in the next decade is not oil or food prices, but the rising cost of health care. Doubled premiums since 2000 makes employers choose between cutting benefits and hiring fewer workers.

• Sustained growth thus requires successful health-care reform. Barack Obama and John McCain propose to lead us in opposite directionsﾑand the Obama direction is far superior.

• Barack Obamaﾕs health-care reform plan will modernize our current system of employer- and government-provided health care, keeping what works well and making the investments now that will lead to a more efficient medical system.

• Barack Obama's health-care reform plan lifts the health-care cost burden from the backs of America's high-value businesses in five ways: learning, rewarding, pooling, preventing, and covering.

  • Learning how to eliminate the one-third of costs for services at best ineffective and at worst harmful.
  • Rewarding doctors and hospitals for providing health rather than performing procedures.
  • Pooling individuals and small firms to give them bargaining power vis-a-vis health insurers.
  • Preventing illness through making it profitable to provide regular screenings and healthy lifestyle information, the most cost-effective medical services around.
  • Covering more people and removing the hidden shifted costs of the uninsured by lowering premiums by $2,500 for the typical family, allowing millions previously priced out of the market to afford insurance.

• Bottom line:

  • $2500 per family annual premium savings.
  • 90,000 more jobs for low-wage workers currently priced out of the market.
  • 1.5 million more workers pulled out of low-wage low-benefit and into high-wage high-benefit jobs.
  • More workers currently locked into jobs because they fear losing their health benefits would be able to move to entrepreneurial jobs, or simply work part time.

• Plus

  • Tax credits for those still unable to afford private coverage
  • The option to buy in to the federal governmentﾕs benefits system
  • Provide all with access to a portable alternative at a price they can afford.

• Other countries have all these savings today.

• The McCain tax hike will lead employers to drop coverage for over 20 million Americans.

• What would happen to them? McCain will:

  • Give them a small tax credit covering a third of premium cost.
  • Tell them to navigate the individual insurance market on their own.
  • Those already sick are completely out of luck
  • Those who have not won a genetic lottery are completely out of luck

• The Obama plan expands individual options, the McCain plan reduces them.

• The McCain plan is a big tax increase on employers and workers. With the economy in recession, thatﾕs the last thing Americaﾕs businesses need.

• The McCain plan does nothing to bend the curve of rising health-care costs downward:

  • He does not fund investments in learning.
  • He does not reward doctors and hospitals for providing health rather than performing procedures.
  • He does not fund prevention
    • Eliminating state coverage requirements will slash preventive service availability.
    • High cost-sharing plans he envisions will similarly discourage preventive care.
    • McCain does nothing about the hidden costs of the uncoveredﾑexpensive ER visits--recurring conditions resulting from inadequate follow-up care.

Calling Things By Their Right Names

Paul Krugman commands: we obey:

Deprivatization: I wish people wouldn’t say that Fannie and Freddie have been “nationalized.” I mean, it’s basically accurate, but it conveys the wrong impression. The fact is that Fannie Mae was originally a government agency; it was privatized in 1968, not for any good economic reason, but to move its debt off the federal balance sheet (and Freddie was created 2 years later as a competitor.) Private ownership of Fannie and Freddie never made any real sense, and was always a crisis waiting to happen. So what we’re really seeing now is deprivatization. It’s not something like the UK government seizing the steel mills; it’s more like firing Blackwater and giving responsibility for diplomatic security back to the Marines.

"Deprivatization" it is.

Draft: To Spend Is to Tax

We economists have a scenario that we call "current policy plus Bush tax cuts." It is made up of (i) the laws currently in force in the United States of America, plus (ii) the assumption that the defense, veterans, and other spending currently appropriated year-by-year by the congress remains the same as a share of GDP, plus (iii) the assumption that the tax breaks like the R&D credit and the regular pruning-back of the Alternative Minimum Tax that are voted for year by year by overwhelming congressional majorities continue to be enacted year-by-year, plus (iv) the assumption that the tax cuts George W. Bush proposed in 2001 and 2003 but made time-limited and set to expire early next decade are renewed. This "current policy plus Bush tax cuts" scenario has the federal government taxing about 20% of GDP over the next seventy-five years. It has the federal government forecast to spend 28% of GDP on average over the next seventy-five years. This is the fiscal gap.

A number of policies could be enacted to eliminate this fiscal gap. Simply doing nothing and letting the Bush tax cuts expire as current law requires them to do would reduce the fiscal gap from 8 percent to 6 percent of GDP. Raising Social Security taxes or cutting back future Social Security benefits by the about 1/7 needed to get the Social Security system back into projected 75-year balance would further reduce the fiscal gap from 6 percent of GDP to 5 percent of GDP. Returning military spending to its late-1990s share of GDP--not fighting wars in Iraq, et cetera--would reduce the fiscal gap from 5% to 3.5% of GDP. And eliminating "excess" cost growth in the government health care programs Medicare and Medicaid--allowing Medicare and Medicaid spending per eligible beneficiary to grow only as fast as the rate of growth of income in the economy as a whole--would bring the federal government into projected balance.

I believe that when we Americans look deep into ourselves and ask us what we want our government--because it is our government: it is our agent to do what we want with our money just as the guy in Florida we hire to keep grandma's one bedroom condo in repair is our agent--to do, we conclude the following:

1. We want to let the Bush tax cuts expire.
2. We want to close the 75-year Social Security gap, half by raising the limit on earnings taxed by Social Security so that the upper middle class and the rich pay more for Social Security and half by reducing the rate of growth of benefits at retirement.
3. We want to stop sending our soldiers--the best-trained and best-equipped high tech armed forces in the world--abroad to be military police in countries riven by sectarian conflict where they do not speak the language--and so return defense spending to its late-1990s share of GDP.
4. We want to reduce but not eliminate the "excess" cost growth in Medicare and Medicaid: we believe our doctors, nurses, and druggists will learn how to do wonderful things over the next two generations, and we do not want those wonderful things in the way of medicine applied only to the rich but to the poor and old as well.
5. Whether or not we decide to do (1) through (4) above, we want to raise taxes to cover whatever of the long-run fiscal gap remains, and so bring the federal budget back into balance over the long run.

Note that (5) is not optional. As the late Milton Friedman liked to put it: to spend is to tax. If the government buys things, it must get the money to buy them from somewhere. It can get the money from three places. It can tax. It can borrow--but then the borrowing has to be repaid with interest, and the more is borrowed the higher the interest and the worse the value the taxpayers ultimately get for their money when they are taxed to repay the borrowing. Or it can print the money and so inflate the currency--but that too is a tax, and an especially unfair, painful, and destructive one, as lots and lots of people victimized by inflation find their wealth doesn't buy what it used to and what they expected.

We can argue over whether (1) through (4) is what we want to do--that is what politics is about. But whatever we decide to do with (1) through (4), (5) is not optional--not, that is, if we want to continue to have a rich country in the long run. And the politicians who have told you that (5) is optional from Ronald Reagan to George H.W. Bush to Robert Dole to George W. Bush and now John McCain are not your friends, or America's friends.

Brad DeLong's Guest PE 101 Lectures, August 2008

Class Topics:

• W Aug 13: Twentieth-century political economy
• Th Aug 14: The discontents of globalization
• F Aug 15: The coming of the second gilded age

Background Readings:

• Dani Rodrik (2008), "The Death of the Globalisation Consensus".
• Dani Rodrik (2008), "Globalization Anxiety as Mass Hysteria?".
• Ricardo Hausmann, Dani Rodrik, and Charles F. Sabel (2007), "Reconfiguring Industrial Policy: A Framework with an Application to South Africa" http://ksghome.harvard.edu/~drodrik/Reconfiguring%20Industrial%20Policy%20August%2031%20final.pdf.
• Dani Rodrik and Arvind Subramanian (2008), "Why Did Financial Globalization Disappoint?"http://ksghome.harvard.edu/~drodrik/Why_Did_FG_Disappoint_March_24_2008.pdf.
• Dani Rodrik (2007), "How to Save Globalization from Its Cheerleaders" http://ksghome.harvard.edu/~drodrik/Saving%20globalization.pdf
• Claudia Goldin and Lawrence Katz (2007), "Long-Run Changes in the Wage Structure: Narrowing, Widening, Polarizing" http://www.economics.harvard.edu/faculty/goldin/files/GoldinKatz_Brookings.pdf
• Chye-Ching Huang and Chad Stone (2008), "Average Income in 2006 up $60,000 for Top 1 Percent of Households, Just $430 for Bottom 90 Percent".

---

http://tinyurl.com/682bbw

Today's Additions to the Pile...

In today's mail:

• Alicia H. Munnell and Steven A. Sass ( 2008), Working Longer: The Solution to the Retirement Income Challenge.

And yet another copy of:

• Raymond Fisman and Edward Miguel (2008), Economic Gangsters: Corruption, Violence, and the Poverty of Nations.

I gave the last to Gerard Roland...

Greg Anrig on Education Reform

Greg Anrig writes:

An Idea Whose Time Has Gone: The conservative infatuation with vouchers did contribute to one genuine accomplishment. The past thirty years have been a period of enormous innovation in American education.... In addition to charter schools, all kinds of strategies have taken root: public school choice, new approaches to standards and accountability, magnet schools, and open enrollment plans that allow low-income city kids to attend suburban public schools and participate in various curriculum-based experiments. To the extent that the threat of vouchers represented a "nuclear option" that educators would do anything to avoid, the voucher movement helped to prompt broader but less drastic reforms that offer parents and students greater educational choices.

Along the way, some success stories have emerged... strategies that combine school choice initiatives like magnet and charter schools with policies to integrate poor and middle-class students. Wake County, North Carolina, for instance, introduced a policy in 2000 mandating that no school could have more than 40 percent of its students eligible for free or reduced-price lunches. Because this program makes use of choice and incentives like magnet schools to integrate poor and middle-class kids, it avoids the political hazards of compulsory busing. So far, the results have been impressive. In 2006, 60.5 percent of low-income students in Wake County passed the high school End of Course exams, compared to 43 percent of low-income students in a nearby county of a comparable size.

Of course, the inherent limit to this idea is that many urban school districts are so uniformly poor that there are few, if any, middle-class communities with schools that low-income kids can attend. One way to get around this problem would be to amend the No Child Left Behind Act to give students in failing schools the ability to attend a school outside their own district.... [V]oucher proponents... motivated by a desire to help disadvantaged kids, and not merely an ideological urge to weaken public institutions... [should put] their prodigious energies and money behind choice programs like these that actually work.

DeLong and Eichengreen: Post-WWII Europe in the Argentine Mirror

What Barry Eichengtreen and I wrote back in 1991:

The 1930’s in Europe had seen not chronic bottlenecks but chronic deficiencies of aggregate demand. Production had fallen far below normal for the entire decade; market forces had failed to restore demand to normal levels. Circumstances during the Great Depression had been exceptional, but circumstances in the aftermath of World War II were exceptional as well. Many feared the return of the Depression.

In fact (aside from the possibility that fear of a renewed Great Depression would act as a self-fulfilling prophecy) the return of the Great Depression was a less likely possibility in the 1940’s than was generally feared. The memory of the Depression, and the greater strength and incorporation of social democratic political movements in government kept right-wing governments from adopting policies of out-and-out national deflation. The availability of the large United States market to European exports--especially with the coming of the Korean War Boom and NATO in the early 1950’s--prevented any large world aggregate demand shortfall as in the Great Depression. With the American locomotive under full steam, Western European economies were unlikely to suffer from prolonged Keynesian demand-shortfall depressions.

Nevertheless, a live possibility in the absence of the Marshall Plan was that governments would not stand aside and allow the market system to do its job. In the wake of the Great Depression, many still recalled the disastrous outcome of the laissez-faire policies then in effect. Politicians were predisposed toward intervention and regulation: no matter how damaging “government failure” might be to the economy, it had to be better than the “market failure” of the Depression. Had European political economy taken a different turn, post-World War II European recovery might have been stagnant. Governments might have been slow to dismantle wartime allocation controls, and so have severely constrained the market mechanism. In fact the Marshall Plan era saw a rapid dismantling of controls over product and factor markets in Western Europe, and the restoration of price and exchange rate stability. An alternative scenario would have seen the maintenance and expansion of wartime controls in order to guard against substantial shifts in income distribution. The late 1940’s and early 1950’s might have seen the creation in Western Europe of allocative bureaucracies to ration scarce foreign exchange, and the imposition of price controls on exportables in order to protect the living standards of urban working classes.

The likely consequences of such alternative policies for post-World war II Europe can be seen in the Argentine mirror. In response to the social and economic upheavals of the Depression, Argentina adopted demand stimulation and income redistribution. These policies were coupled with a distrust of foreign trade and capital, and an attraction to the use of controls instead of prices as allocative mechanisms. Argentina’s growth performance in the post-World War II period was very poor. Even in the 1950’s, and even relative relative to Britain, Argentine growth was slow.

Díaz Alejandro (1970) provides a standard analysis of Argentina’s post-World War II economic stagnation. According to his interpretation, the collapse of world trade in the Great Depression was a disaster of the first magnitude for an Argentina tightly integrated into the world division of labor. While Argentina continued to service its foreign debt, its trade partners took unilateral steps to shut it out of markets. The experience of the Depression justifiably undermined the nation’s commitment to free trade.

In this environment Juan Domingo Perón gained mass political support. Taxes were increased, agricultural marketing boards created, unions supported, urban real wages boosted, international trade regulated. Perón sought to generate rapid growth and to twist terms of trade against rural agriculture and redistribute wealth to urban workers who did not receive their fair share. The redistribution to urban workers and to firms that had to pay their newly increased wages required a redistribution away from exporters, agricultural oligarchs, foreigners, and entrepreneurs.

The Perónist program was not prima facie unreasonable given the memory of the Great Depression, and it produced almost half a decade of very rapid growth. Then exports fell sharply as a result of the international business cycle as the consequences of the enforced reduction in real prices of rural exportables made themselves felt. Agricultural production fell because of low prices offered by government marketing agencies. Domestic consumption rose. The rural sector found itself short of fertilizer and tractors. Squeezed between declining production and rising domestic consumption, Argentinian exports fell. By the first half of the 1950’s the real value of Argentine exports was only 60 percent of the depressed levels of the late 1930’s, and only 40 percent of 1920’s levels. Due to the twisting of terms of trade against agriculture and exportables, when the network of world trade was put back together, Argentina was by and large excluded.

The consequent foreign exchange shortage presented Perón with unattractive options. First, he could attempt to balance foreign payments by devaluing to bring imports and exports back into balance in the long run and in the short run by borrowing from abroad.29 But effective devaluation would have entailed raising the real price of imported goods and therefore cutting living standards of the urban workers who made up his political base. Foreign borrowing would have meant a betrayal of his strong nationalist position. Second, he could contract the economy, raising unemployment and reducing consumption, and expand incentives to produce for export by decontrolling agricultural prices.30 But once again this would have required a reversal of the distributional shifts that had been the central aim of his administration.

The remaining option was one of controlling and rationing imports. Not surprisingly, Perón and his advisors chose the second alternative, believing that a dash for growth and a reduction in dependence on the world economy was good for Argentina. Díaz Alejandro writes:

First priority was given to raw materials and intermediate goods imports needed to maintain existing capacity in operation. Machinery and equipment for new capacity could neither be imported nor produced domestically. A sharp decrease in the rate of real capital formation in new machinery and equipment followed. Hostility toward foreign capital, which could have provided a way out of this difficulty, aggravated the crisis...

Subsequent governments did not fully reverse these policies, for the political forces that Perón had mobilized still had to be appeased. Thus post-World War II Argentina saw foreign exchange allocated by the central government in order to, first, keep existing factories running and, second, keep home consumption high. Third and last priority under the controlled exchange régime went to imports of capital goods for investment and capacity expansion.

As a result, the early 1950’s saw a huge rise in the price of capital goods. Each percentage point of total product saved led to less than half a percentage point’s worth of investment. Díaz Alejandro found “[r]emarkably, the capital... in electricity and communications increased by a larger percentage during the depression years 1929-39 than… 1945- 55,” although the 1945–55 government boasted of encouraging industrialization. Given low and fixed agriculture prices, hence low exports, it was very expensive to sacrifice materials imports needed to keep industry running in order to import capital goods. Unable to invest, the Argentine economy stagnated.

In 1929 Argentina had appeared as rich as any large country in continental Europe. It was still as rich in 1950, when Western Europe had for the most part reattained pre-World War II levels of national product. But by 1960 Argentina was poorer than Italy and had less than two-thirds of the GDP per capita of France or West Germany. One way to think about post-World War II Argentina is that its mixed economy was poorly oriented: the government allocated goods, especially imports, among alternative uses; the controlled market redistributed income. Thus neither the private nor the public sector was used to its comparative advantage: in Western Europe market forces allocated resources--even, to a large extent, for nationalized industries--the government redistributed income, and the outcome was much more favorable.

In the absence of the Marshall Plan, might have Western Europe followed a similar trajectory? In Díaz Alejandro's estimation, four factors set the stage for Argentina’s relative decline: a politically-active and militant urban industrial working class, economic nationalism, sharp divisions between traditional elites and poorer strata, and a government used to exercising control over goods allocation that viewed the price system as a tool for redistributing wealth rather than for determining the pattern of economic activity.

From the perspective of 1947, the political economy of Western Europe would lead one to think that it was at least as vulnerable as Argentina to economic stagnation induced by populist overregulation. The war had given Europe more experience than Argentina with economic planning and rationing. Militant urban working classes calling for wealth redistribution voted in such numbers as to make Communists plausibly part of a permanent ruling political coalition in France and Italy. Economic nationalism had been nurtured by a decade and a half of Depression, autarky and war. European political parties had been divided substantially along economic class lines for a generation.

Yet post-World War II western Europe avoided this trap. After World War II Western Europe’s mixed economies built substantial redistributional systems, but they were built on top of and not as replacements for market allocations of goods and factors. Just as post-World War II Western Europe saw the avoidance of the political-economic “wars of attrition” that had put a brake on post-World War I European recovery, so post-World War II Western Europe avoided the tight web of controls that kept post-World War II Argentina from being able to adjust and grow...

A Pox on All the Candidates' Houses, But the Largest Pox on McCain's

John Berry is--rightfully--unhappy: >April 21 (Bloomberg) -- The three major presidential candidates, ignoring the tenuous outlook for federal finances, are making foolish, untenable promises not to raise taxes... are pretending the next president isn't going to have to make some politically painful choices about cutting popular programs, raising taxes or, most likely, both.... "Under any plausible scenario, the federal budget is on an unsustainable path -- that is, federal debt will grow much faster than the economy over the long run," CBO said in December in its most-recent assessment of the long-term budget outlook. That's the elephant in the room the candidates are ignoring, just as President George W. Bush has done year after year. >McCain's pledges are the more egregious because he wants major tax reductions in addition to extension of all the expiring cuts enacted during Bush's two terms. McCain is offering one really good idea: elimination of the alternative minimum tax, or AMT, though without saying how he would offset the revenue loss. He also wants to double the personal exemption from $3,500 to $7,000, cut the corporate income-tax rate to 25 percent from 35 percent and allow immediate expensing of business investment in new equipment.... McCain's proposals, which would lead to a big increase in debt service due to larger budget deficits, make that [fiscal] future worse by many trillions of dollars. His ideas for offsetting spending cuts are trivial in comparison, though he nevertheless also promises to balance the budget.... >[B]udget experts say his numbers don't add up, and they are right.... >The Democratic candidates, Clinton and Obama, didn't go that far in their April 16 debate in Philadelphia. Rather, they promised not to raise taxes on the middle class. That group was absurdly defined by Clinton as households with incomes of less than $250,000. Obama put the upper limit at between $200,000 and $250,000.... [T]here were 4.1 million income tax returns filed in 2006 with adjusted gross incomes of $200,000 or more. That was just over 3 percent.... Increasing tax rates for upper-bracket taxpayers won't raise a lot of revenue. The 2006 IRS tax data attributed about half of that year's total $1.07 trillion income-tax liability to taxpayers with $200,000 or more in adjusted gross income. The increase in payments from reimposing the higher tax rates probably would yield initially only an additional $60 billion or $70 billion annually. Clinton and Obama also have proposed new tax cuts that would reduce revenue by more than that each year.... >At the same time the two Democrats are promising no tax increases for all but a handful of Americans, they also want to establish some type of universal health insurance that would add significantly to federal spending.... >Of course, maybe being honest about the future is no way to get elected, and that's really sad. One quibble: eliminating the AMT with a plan to offset the revenue loss is a good idea. Eliminating the AMT with no such plan is an act of utter stupidity. John McCain's AMT plan falls into the second, not the first category.

Tax Day

Tom S. the Rustbelt Intellectual has a thought for tax day:

Why Did Post-WWII Western Europe Do So Well?

April 10, 2008 guest lecture for PE 101

Lecture Audio: http://www.j-bradford-delong.net/2008_mov/20080410_111402.mp3

---

Clive Crook on the End of American Exceptionalism

I think that "American exceptionalism" really came to an end on two dates now long ago: March 4, 1933 (the inauguration of FDR) and June 5, 1947 (George Marshall's "Marshall Plan" speech). Ronald Reagan tried to widen the trans-Atlantic difference (or said he did) but failed (or, rather, his directors and cameramen soon decided that any serious effort to do so was a political loser).

Clive Crook more-or-less agrees:

The End of the American Exception: That the United States stands apart... goes back to Tocqueville.... America is to Europe as private enterprise is to the public good, as selfish individualism is to social partnership, as "compensation" is to work-life balance. Modern America has limited government, weak unions, high-powered incentives, capitalism red in tooth and claw. Post-war Europe has tax-and-spend, transport strikes, six-week vacations, and the welfare state....

Living in the U.S. for several years after decades as a restless Brit, I continue to be struck by two things. First, this idea of rival economic paradigms appeals to both audiences.... [But] in economic matters, America is far more like Europe, and Europe more like America, than either cares to admit. Moreover, the differences continue to shrink, and the pace of convergence seems about to accelerate.... Universal health care, if it happens, will be an enormous change in its own right, of course, but also one with further implications. It is going to push taxes up....

"Europe" is a gross simplification, so think about Britain--which continental Europe regards as a mid-Atlantic offshoot of the United States--and, say, the Netherlands. U.S. taxes are 27 percent of national income, British taxes are 37 percent, and the Netherlands' are 39 percent....

Roughly speaking, Britain and the Netherlands spend about 10 percentage points more of their national incomes on taxpayer-financed social spending. But if you allow for the higher taxes that Europeans pay on their benefits, and for cash-like tax reliefs that the United States freely uses to advance social goals, the difference shrinks by nearly half. This, to repeat, is before the Democrats have done their health reform....

Worker protections are weaker in America than in Western Europe, where employers are far less free to fire at will; and the floor that the minimum wage puts under incomes is lower here than there. But think about product-safety regulation, or environmental regulation. Think about the FDA. In many areas, America regulates its businesses at least as tightly as Europe.

In the 1980s, the Reagan administration did make a serious attempt to deregulate parts of the economy. Particular industries, notably banking and the airlines, were transformed.... But these were exceptions to an ongoing trend of regulatory accretion....

Could the lines even cross? Could America ever become more European than Europe?.... Elements, at least, of the programs outlined by Barack Obama and Hillary Clinton during their nomination contest are significantly to the left of where Britain's Labour Party, post-Thatcher, post-Blair, now stands. (Think about that.)... For good or ill, the era of the American economic exception is coming to an end.

No Randites in Financial Crises

Dean Baker has a nice rant about the disappearance of reliance on "market forces" now that the Princes of Wall Street are staring disaster in the face without government help:

What Happened to "Free-Market" Conservatives (or Neo-liberals)?: With the housing bubble in full meltdown, our political leaders are busily ignoring all the things they have said about the market over the last quarter century and looking to throw all the money that they can find to sustain the bubble. This would be comical, if it weren't so painful.

Remember all the steel workers and autoworkers who lost their jobs due to trade agreements that were supposed to advance economic efficiency over the last quarter century? How about the workers in the airline, trucking, and telecommunications industry who lost jobs due to deregulation, which was also supposed to increase economic efficiency?

Well, it's a new day. Nothing these people (or their economists) said matters anymore. It housing bubble support time!

For years, economic policy was supposed to be guided by market principles. If our autoworkers couldn't compete with their counterparts in Mexico or China, who got paid $1 an hour, then it would be inefficient to have trade protection that would keep them employed here. The same applied to regulations that might keep high paying jobs in key sectors of the economy. Educated people all knew that interfering with the market was harmful to the economy, and if we ever forgot this basic truth, the Washington Post regularly ran sanctimonious editorials to remind us.

Well, it's a new day. The housing bubble is melting down and Congress and the Fed are throwing money everywhere. After all, this isn't about auto workers and truckers, it's about Wall Street banks, and the politicians are pulling out all the stops to come to the rescue. In addition to the money that the Fed is throwing at the banks through subsidized loans at its discount window, it is also granting free insurance to the investment banks -- a gift that is potentially worth hundreds of billions of dollars.

Now Congress is jumping into the act. Remember way back in the fall when they couldn't find $7 billion to expand the State Children's Health Insurance Program? Well, now Congress can finds hundreds of billions of dollars to support a housing bubble. It's a worthy goal. After all, the Wall Street crew might lose their shirts if the housing bubble continues to meltdown.

Congress will not be able to support the housing bubble indefinitely, but they might be able to do it long enough to allow the big boys to cash out and pass more of their bad loans onto the taxpayers and other suckers.

The political support for this bailout package may make it unstoppable, but if it does go through, we should be clear that there are new rules. In the post bailout world, anyone who makes claims about forcing workers or the poor to take pay cuts or do without benefits in the name of economic efficiency is simply a fool or liar.

Anyone who cared about economic efficiency would be yelling at the top of their lungs against this bailout. Anyone who can throw untold hundreds of billions of taxpayer dollars at the rich to save their hides, has no concerns about economic efficiency, they just want to help the rich. In such a world, the rest of us have the right to demand the same sort of handouts from the government. And those who stand in the way are simply lackeys of the rich and powerful, who pretend to care about principles of economics.

Andrew Samwick on Social Security

He writes:

If It's Spring, There Must Be a Trustees Report: I always go first to this table, Table IV.B7, which shows the present value of Social Security's unfunded obligations over an infinite horizon. The number is $13.6 trillion, or 3.2% of taxable payroll or 1.1% of gross domestic product over the same horizon. I've blogged extensively about these summary numbers over at Vox Baby. For the present post, I'd like to make two quick points.

1. I tend to focus on the middle number--3.2% of taxable payroll--when describing what needs to be done to Social Security to remove its projected shortfall. The number itself means that if we increased payroll taxes by 3.2 percentage points, from 12.4 to 15.6%, and invested the near-term surpluses at the rate of return projected on Treasuries, there would be enough funds available to pay all projected benefits in perpetuity. That doesn't mean we have to follow that strategy, but it does indicate the size of the projected shortfall. Since the deficits come in future years, I don't see any good reason why we don't change the rules for future contributions and benefits to remove them.

2. Pete points out, as others like CBO Director Peter Orszag have, that the projected increases in per-capita medical expenditures in Medicare and Medicaid become a much larger fiscal challenge than the demographic-driven changes in both Social Security and Medicare expenditures....

Social Security's costs increase to 6% of GDP as the Baby Boomers move from the workforce to retirement. That shift in costs is permanent, even as the Baby Boomers expire, because of longer term trends toward longer lives and fewer children. That projected increase is swamped by the impact of projected medical expenditure increases. And unlike Social Security, there is very little in the way of projected revenue sources that aren't general revenues....

I think it is important to discuss comprehensive reform. The sooner, the better. On Social Security, I've put my name on a plan that could serve as a compromise. On Medicare, I think the best option is to raise the age of full eligibility for future beneficiaries, allowing younger retirees to pay their way in. But that's a blog for another day.

Social Security Actuarial Balance in Historical Perspective

[Paul Krugman] sends us to:

And comments:

Paul Krugman: I think the key message is what has happened to the estimate of actuarial balance -- the difference between projected outlays and projected revenues over the next 75 years. This is the thing that is supposed to get steadily worse as time goes by, as the 75-year window contains ever fewer years in which the baby boomers are in the work force, paying payroll taxes, and ever more years when the boomers are out of the work force and collecting benefits.

In fact, however, the actuarial balance has been improving rather than worsening. It is now better than it has been since 1993. What this tells us is that projections made in the mid-to-late 1990s were, in the light of subsequent revisions, way too pessimistic.

Dealing with the Financial Crisis, Stage III: Nationalization

Stage I of dealing with a financial crisis is to provide liquidity to the banking system at high interest rates in order to keep commerce and finance liquid while punishing feckless overleveraged financiers. We passed out of Stage I at the end of last year. Stage II is forgetting about punishing feckless financiers and focusing on lowering interest rates in order to raise asset prices to keep finance solvent. We are now in Stage II.

Now Alan Blinder says that it is time to--in a limited way--move on to Stage III: nationalization.

Here is his case for a partial nationalization of mortgage banking:

From the New Deal, a Way Out of a Mess: I have several reasons for focusing on just one aspect of the mess: the potential tsunami of home foreclosures.... Foreclosures throw families -- some of whom were victims of deception -- into the streets. They erode home values, damage neighborhoods and reduce the values of other properties, thereby intensifying the decline in housing prices that underlies many of our current problems. And they might even cut into consumer spending, which would really throw us into recession.

A second reason is that reducing the wave of foreclosures would mitigate the closely related financial crises in home mortgages and the alphabet soup of financial creations based on them.... A third reason for focusing on foreclosures is that we've seen this film before. During the Depression, President Franklin D. Roosevelt and Congress dealt with huge impending foreclosures by creating the Home Owners' Loan Corporation. Now, a small but growing group of academics and public figures, including Senator Christopher J. Dodd, Democrat of Connecticut, is calling for the federal government to bring back something like the HOLC. Count me in.

The HOLC was established in June 1933 to help distressed families avert foreclosures by replacing mortgages that were in or near default with new ones that homeowners could afford. It did so by buying old mortgages from banks.... mThe scale of the operation was impressive. Within two years, the HOLC received about 1.9 million applications from distressed homeowners and granted just over a million new mortgages.... Its total lending over its lifetime amounted to... 5 percent of a year's gross domestic product at the time. (The corresponding figure today would be about $750 billion.)

As a public corporation chartered for a public purpose, the HOLC was a patient and even lenient lender. It tried to keep delinquent borrowers on track with debt counseling, budgeting help and even family meetings. But times were tough in the 1930s, and nearly 20 percent of the HOLC's borrowers defaulted anyway.... The HOLC closed its books in 1951... with a small profit. It was a heavy lift, but the incredible HOLC lifted it.

Today's lift would be far lighter. And a good thing, too, because our government is far more timid and divided than Roosevelt's....

Details matter, so here are a few: First, any new HOLC should refinance only owner-occupied residences. Speculators can fend for themselves -- or go into default. Similarly, second homes or vacation homes should be ineligible, as should very expensive real estate. (Precise limits would vary regionally.) Third, mortgages obtained via misrepresentation by borrowers should be ineligible for HOLC refinancing, but cases of fraud or deception by the lender should be treated generously. Fourth, as the original HOLC found, not all bad mortgages can be turned into good ones....

What about the operation's scale? Based on current estimates, such an institution might be asked to consider refinancing one million to two million mortgages... as much as $200 billion to $400 billion. The midpoint, $300 billion, is one-seventh the size of Citigroup and would rank the new institution as the sixth-largest bank in the United States....

[T]he new HOLC seems likely to turn a profit, just as the old one did. But even if it loses a few billion, we must remember its public purpose: to help the economy recover, not to make a buck. By comparison, the new economic stimulus package has a price tag of $168 billion.

"Commitment" to Health Care Reform

I think Paul Krugman simply has this completely wrong. Paul writes:

Paul Krugman: Bad health care omens: This is disturbing:

Mike Lux, a veteran of the Clinton health care wars, pointed out today that Obama is using as a surrogate on health care Bush Dog Democrat Jim Cooper. Cooper spent a good amount of time in 1993-1994 working to undermine Clinton's health care plan by offering more insurance friendly proposals with former Senator and current lobbyist John Breaux.

This fits in with my sense, based on everything we've seen in this campaign, that Obama just isn't all that committed to health care reform. If he does make it to the White House, I hope he proves me wrong. But as I've written before, from my perspective it looks as if a dream is dying.

What Mike Lux, "veteran of the Clinton health care wars," knows--but is very careful not to tell you--is that in 1993-1994 health care reform needed 60 votes in the Senate in order to defeat a Dole-led filibuster, and that Sen. John Breaux (D-LA) was vote 55. "undermin[ing] Clinton's health care plan by... [working] with former Senator and current lobbyist John Breaux" translates as "working on bills that might actually pass the senate."

Mike Lux knows this. He just hopes that his readers don't.

Matthew Yglesias Watches the New York Times Death Spiral

Why oh why can't we have a better press corps? Outsourced to Matthew Yglesias:

The Difference?: David Leonhardt previews Barack Obama's approach to economic policy. He notes that "Indeed, Mr. Obama and Mrs. Clinton hold similar or identical positions on a host of economic issues, and Democratic economists not aligned with either campaign often speak positively about both." Quite true, I think. He tries to sex things up by observing that "the two candidates offer strikingly different strategies for achieving their economic agendas." To me, though, the argument on that score is pretty unconvincing.

When you control for the fact that it would sound silly for the candidates to just agree that they don't really have clear disagreements on the main issues, I mostly see two campaigns trying to make mountains out of molehills for the sake of having something to talk about. What's more, in practice there's only so much that "strategies for achieving" your legislative agenda can actually do. What matters most is not the strategy but the outcome of the congressional elections.

The Globalization Worm Ouroboros

So, there I am, looking at Mark Thoma's weblog and thinking, "Gee, he is quoting somebody really smart":

Globalization Has Not Yet Gone Far Enough: Dani Rodrik is trying to create space in the debate over globalization for a rational middle--for positions that neither lead the cheers for the onrushing economic integration of the world, nor m mindlessly condemn international economic integration in a fit of reactionary nostalgia for a past that never was.

Dani Rodrik's argument is an updated and better-written version of an argument made by Karl Polanyi--in a book called The Great Transformation--long ago, back at the end of World War II. Polanyi argued that the developing market economy tended to destroy the web of social realtionships that held human society together. The market for labor pressured people to move around the globe to where they could earn the most--at the potentially substantial sociological price of creating strangers in strange lands. The market for consumer goods rewarded people for being fortunate or for responding to the incentives provided by factor markets--and in so doing made human status rankings the product of responsiveness to market forces rather than the result of social norms and views about distributive justice. And, Polanyi argued, in the long run this undermining of sociological order by the market economy threatened to destroy the social and institutional bases on which the market economy rested.

You can disagree with virtually all of Polanyi's argument. You can say that the market for labor offers people opportunities, not constraints. You can point out that the "social norms" and "views about distributive justice" that underlie non-market distributions of income give the most to those with the biggest spears or those who can most effectively perform the confidence trick of convincing their lessers that obedience to the powerful is obedience to God. Market distributions of income at least have a meritocratic component, as well as a positive entrepreneurial component that makes it possible to do well by doing good.

Yet there remains a sense in which Polanyi's argument cannot be dismissed. The distribution of economic welfare produced by the market economy--roughly that one's weight in the social welfare function maximized by the market is approximately proportional to the market value of your endowment--does not fit anyone's conception of the just or the best. We have considerably more confidence in the correctness and appropriateness of political decisions made by democratically-elected representatives than we do of decisions made by those with large spears or large temples. So there is a powerful place for government to manage the market--in the interest of avoding large depressions, in the interest of providing social insurance to transform the market distribution of income into one that produces higher social welfare, in the interest of avoiding pointless churning of the structure of industry produced by the fads and fashions that sweep the minds of financiers.

Post-World War II social democracy in the advanced industrial economies has produced the wealthiest, best, and most just societies the world has ever seen. You can complain that the redistributional and industrial policies of social democracy have been economically inefficient, but they have been--politically--very popular. It seems a good bet that the stable politics of the post-World War II era in the advanced industrial economies owe a good deal to the coexistence of rapidly-growing, dynamic market economies and social democratic polities.

And this is where Dani Rodrik comes in. For Dani Rodrik is concerned that economic integration is undermining the ability of countries to shape their own versions of social democracy, or indeed to shape any version of social democracy. Rodrik fears that--unless a way is found to strengthen social democracy in the face of international economic integration--that either sociology and politics will bring a halt to increasing economic integration, or increasing economic integration will erode the market economy's social foundations and lead to increasing political instability.

How does Rodrik believe that globalization undermines social democracy? First, because globalization has undermined governments' ability to carry out social insurance programs. Social insurance is the redistribution of income and wealth by transferring wealth from market winners to market losers, thus insulating domestic groups from those market risks deemed "excessive." A principal tool for funding social insurance has been the taxation of capital. Perhaps the most important aspect of globalization has been the sharp increase in the mobility of capital. This increase in capital mobility "has rendered an important segment of the tax base footloose." The consequence is that governments seeking to fund social insurance are left with the unappetizing option of increasing tax rates disproportionately on labor income.

Second, globalization has increased the degree of competition in the labor market. Most economists (me included) have argued that this increase in labor market conditions has had little impact on the wages of American workers. But as Rodrik points out, "...saying that the impact of globalization on advanced-country labor markets is quantitatively rather small in the real world and is overshadowed by other phenomena (such as technological change) is no different [in the Heckscher-Ohlin-Vanek framework] from saying that the gains from trade have in practice been small." There is a problem of cognitive dissonance here.

Many economists would look at increased labor market competition--the undermining of unions--with approval. Doesn't union monopoly create inefficiency? But as Rodrik points out, reduced union power increases economic efficiency "only to the extent that employment expands in industries in which artificially high wages previously kept employment below efficient levels.... It is difficult to make [this]... case ...in... sectors where [union] monopsony wages were ...most prevalent" in the United States.

Rodrik's conclusions are essentially those of Polanyi: create space for social democracy, recognize that markets are the servants of societies and polities, make the world economy a moral community with standards and practices of fairness.

I do not know if Rodrik will be successful in his attempt to create space in the debate over globalization for a rational middle--for positions that neither lead the cheers for the onrushing economic integration of the world, nor mindlessly condemn international economic integration in a fit of reactionary nostalgia for a past that never was. But it is an effort well worth making.

Hoisted from the archives, of course.

Union Density

Outsourced to Matthew Yglesias and Ezra Klein:

Matthew Yglesias: Union Share Rising: Some interesting news on the labor front as it seems that the proportion of the work force that belongs to a union went up last year for the first time since the BLS started tracking this stuff in the early 1980s -- from 12 percent of the workforce to 12.1 percent. Ezra Klein comments:

Manufacturing, amazingly, has been so decimated that your average manufacturing employee is less likely to be unionized than another American worker picked at random. Given that the manufacturing sector was once the backbone of the union economy, that's real testament to how ruined the old order is, and how impressive even these small gains are. Now, one year does not a trend make, and the uptick is unquestionably minor. But still: Gains for the first time in 25 years. And centered around the fast-growing, immigrant-heavy economies of the West.

The actual numbers involved here are, clearly, very small. But it's worth saying something about momentum. For a long time now, some heavily unionized sectors of the economy have been losing members. In more recent years, though, you've also seen quite a lot of vibrancy on the union front with a large amount of service-sector organizing. That, however, has tended to be masked by the continued decline of the manufacturing sector. What we seem to be seeing, however, is that the two lines are crossing -- manufacturing has declined so much already that continued declines no longer swamp gains in other sectors. If we have political change in 2009 that brings about labor law reform, pro-labor appointments to regulatory bodies and judgships, and perhaps even dares to use the bully-pulpit to make the case for union membership one can easily imagine seeing these trends continue.