## A Defense of Robert Rubin...

Felix Salmon writes:

The damage already done by the debt ceiling debate: When Bob Rubin did a nifty sidestep around Congress and magicked Mexico’s bailout billions from some dusty account no one knew about, he was playing a dangerous game...

I protest. There was a letter from Speaker Gingrich, Minority Leader Gephardt, Majority Leader Dole, and Minority Leader Mitchell saying "please use the ESF to do this; please don't make us make the members vote on this."

If it was a "sidestep around" Congress, it was a sidestep urged by and pre-approved by each party in each branch.

## Yes, Virginia, We Would Still Have Had the Housing Crash, the Financial Crisis, and Our Current Little Depression Even If Fannie and Freddie Had Behaved Perfectly...

Gretchen Morgenson and Joshua Rosner's Reckless Endangerment has made the bizarre claim that "sure [James Johnson] retired... [from] Fannie Mae in 1999", but he is "crucial to understanding the origins of the worst financial debacle since the Great Depression." As I see it, this is simply wrong: we would have had the housing boom, the housing crash, the financial crisis, and our current Little Depression even had James Johnson never set foot inside Fannie Mae, and even if the GSEs had not made any mistakes at all.

This means that the "it's all Fannie Mae's fault!" meme is back on the menu. It should not be.

David Min does the trash pickup:

Wallison: Still Wrong About Genesis of Housing Crisis: If you’ve been closely following the housing finance reform debate, you may have come across a pair of shrill blog posts penned by Peter Wallison, a senior fellow at the American Enterprise Institute and a Republican appointee to the Financial Crisis Inquiry Commission. He responded to my February 2011 article, “Faulty Conclusions Based on Shoddy Foundations,” which criticized the research underlying Wallison’s dissent from the majority of the members of that commission, and his contention that U.S. affordable housing policies caused the global financial crisis.

In these blog posts on The American Spectator’s blog on May 24 and on AEI’s blog on May 26, Wallison criticizes ”Faulty Conclusions” as “fallacious,” “fraudulent,” and “deceptive”; claims that it contains a “fake” chart; and describes the article as a “political screed.”... [T]hese accusations are baseless and distract from the fact that Wallison does not actually address the main arguments of “Faulty Conclusions.” Wallison does not contradict the claim that his FCIC dissent depends critically on the categorization of millions of home mortgage loans as “high risk” that are not actually high risk. Wallison also fails to answer other serious issues with his arguments that were pointed out in “Faulty Conclusions.”...

Wallison, of course, wrote a lonely dissent from both the Financial Crisis Inquiry Commission majority report and from his fellow Republican commissioners, in which he alone blamed the global financial crisis on U.S. affordable housing policies. This argument is clearly contradicted by the facts, including the following:

• Parallel bubble-bust cycles occurred outside of the residential housing markets (for example, in commercial real estate and consumer credit).
• Parallel financial crises struck other countries, which did not have analogous affordable housing policies
• The U.S. government’s market share of home mortgages was actually declining precipitously during the housing bubble of the 2000s.

These facts are irrefutable.

Wallison’s argument, which places most of the blame on the affordable housing goals of the former government-sponsored enterprises Fannie Mae and Freddie Mac before they fell into government conservatorship in 2008, also ignores the actual delinquency rates. As David Abromowitz and I noted in December 2010:

Mortgages originated for private securitization defaulted at much higher rates than those originated for Fannie and Freddie securitization, even when controlling for all other factors (such as the fact that Fannie and Freddie securitized virtually no subprime loans). Overall, private securitization mortgages defaulted at more than six times the rate of those originated for Fannie and Freddie securitization.

So how did Wallison get to the conclusion that it was federal affordable housing policies that caused the crisis, despite the countervailing evidence? As Phil Angelides, chairman of the FCIC, has stated:

The source for this newfound wisdom [is] shopworn data, produced by a consultant to the corporate-funded American Enterprise Institute, which was analyzed and debunked by the FCIC Report.

Angelides is of course referring to Wallison’s AEI colleague Edward Pinto.... To support his claim that the Community Reinvestment Act, which requires regulated banks and thrifts to provide credit nondiscriminatorily to low- and moderate-income borrowers, caused the origination of 2.24 million outstanding “high-risk” mortgages, Pinto includes many loans originated by lenders who were not even subject to CRA.... [I]n arguing that Fannie and Freddie’s affordable housing goals caused the origination of 12 million “subprime” and equivalently “high-risk” loans, Pinto includes millions of loans that would not typically qualify for those goals. In fact, the vast majority (65 percent) of the “high-risk” loans Pinto attributes to the affordable housing goals of Fannie and Freddie fall into this category....

So how does Wallison go about defending Pinto’s work?... [H]e does not actually address the central issue—that Pinto categorizes as “high risk” many millions of mortgages that are demonstrably not high risk....

It is of course well known, including by their regulator, the Federal Housing Finance Agency, that Fannie and Freddie were responsible for some actual high-risk loans, primarily through their purchases of high-risk private-label securities for their investment portfolio as well as through purchases of actual high-risk loans for their core securitization business. Yet as Wallison knows, this actual high-risk activity by Fannie and Freddie was neither sufficient in volume nor did it come at the right time to persuasively argue that the two mortgage finance giants drove the surge in actual high-risk lending we saw in the 2000s. Did Fannie and Freddie buy high-risk mortgage-backed securities? Yes. But they did not buy enough of them to be blamed for the mortgage crisis.... [T]he nonpartisan Government Accountability Office, the Harvard Joint Center for Housing Studies, the Financial Crisis Inquiry Commission majority, the Federal Housing Finance Agency, and virtually all academics, have all rejected the Wallison/Pinto argument that federal affordable housing policies were responsible for the proliferation of actual high-risk mortgages over the past decade. Indeed, it is noteworthy that Wallison’s fellow Republicans on the Financial Crisis Inquiry Commission—Bill Thomas, Keith Hennessey, and Douglas Holtz-Eakin, all of whom are staunch conservatives—rejected Wallison’s argument as well.

This is why neither Wallison nor Pinto try to make the argument that the federal government was responsible for the proliferation of actual high-risk lending that occurred in the past decade, as such a claim would be quickly rejected as ridiculous. Instead, what Wallison and Pinto do... is to expand the definition of “high risk” and “subprime” to include new categories of loans not ordinarily understood to be high risk. This expansion of “high-risk” lending is essential to the Wallison/Pinto argument...

To the extent that Morgenson and Rosner make an argument for the centrality of Fannie and Freddie--let alone the centrality of the decade-retired James Johnson--it is that Fannie and Freddie's example was necessary to teach financial services firms how to effectively lobby the regulators and congress for lax supervision and surveillance. It is true that Fannie and Freddie were good at lobbying congress. But does anybody really think that Countrywide or Bear Stearns had anything to learn about lobbying?

## Deficit-Reduction Deals

They seem to me to be a bad idea right now. Nothing done today will bind the President and Congress of 2013 at all, and worrying about deficit reduction right now stops us from worrying about things we could do something about--like high unemployment, idle capacity, slow growth, and crumbling infrastructure.

Still, Paul Krugman watches the action:

Obama, Moderate Republican: OK, not exactly. But Nate Silver’s analysis of the budget proposals is a must-read. Nate looks at polling, and extracts.... What Obama has offered — and Republicans have refused to accept — is a deal in which less than 20 percent of the deficit reduction comes from new revenues. This puts him slightly to the right of the average Republican voter. So we learn two things. First, Obama is extraordinarily eager to make concessions. Second, Republicans are incredibly unwilling to take yes for an answer...

Nate Silver:

G.O.P.'s No-Tax Stance Is Outside Political Mainstream: [A]ll but 7 Republicans in the House of Representatives, or 97 percent of them, have signed the pledge of Grover Norquist’s Americans for Tax Reform stating that any net tax increases are unacceptable. One might have believed this to be simply a negotiating position. But the proposal that Senate Republican leader Mitch McConnell floated yesterday... suggests otherwise. Republicans in the House really may be of the view that a deal with a 3:1 or 4:1 or 5:1 ratio of spending cuts to tax increases is worse than none at all.... [I]t isn’t surprising that the negotiations have broken down.... [T]here is a larger ideological gap between House Republicans and Republican voters than there is between Republican voters and Democratic ones.

It would be foolish, in my view, to render any overly specific predictions about how the negotiations are likely to be resolved. But I would put greater weight on scenarios that would involve House Republicans not having to violate the pledge... an end-around like Mr. McConnell’s — or even a failure to raise the debt ceiling at all, resulting in some combination of a debt default, a government shutdown, and a Constitutional crisis.... [T]he House Republicans are very unlikely to capitulate on their no-tax pledge. And Democrats have little reason to capitulate either: they are on the right side of public opinion.

## Today's News

The headline in Global Times's print edition, tragically not available on line, puts things in perspective: "Brain-eating Parasitic Worms No Cause for Alarm"

## The Peculiar Position of the Federal Reserve on the Stance of Macro Policy...

Right now the Federal Reserve appears to think:

• fiscal policy is about to become inappropriately tight.
• monetary policy is appropriately loose.

This, to me, does not make sense. If the Federal Reserve knows that the Congress is about to make a mistake, it should act to offset the consequences of that mistake and neutralize the damage.

But Yves Smith Ed Harrison tells us, correctly I think, that that is not going to happen:

The Fed is on hold « naked capitalism: I have consistently warned for the past few months that the Fed would pause before rushing into QE3. I reiterated this yesterday. Yet, somehow people came away from Ben Bernanke’s testimony before Congress yesterday thinking the Fed was going to crank up the QE3 keyboard strokes. It’s not going to happen.... If economic growth in the U.S. does not falter in the second half of 2011, the Fed will look to drain excess reserves from the system as preparation for an interest rate hike at some unforeseeable future date.

There is immense pressure on the Fed from within as well as politically to refrain from more unconventional policy. The economy will weaken significantly before the Fed moves against it – and only then because of vocal outcries for more policy stimulus.

Tim Duy sees this as well – and he wants more from the Fed. Bottom line: there will be no stimulus unless the economy and/or asset markets deteriorate further.

## Ben Bernanke: Contractionary Fiscal Policy Is Contractionary: Don't Do It!

It seriously sounds as though Ben Bernanke is scared that the Congress will pass and Obama will sign a short-term cut in spending and increase in taxes that will send us back into a second dip:

Mark Felsenthal and Pedro Nicolaci da Costa write:

Bernanke: deep spending cuts could derail recovery: WASHINGTON (Reuters) - Federal Reserve Chairman Ben Bernanke warned Congress on Thursday that overzealous cuts to government spending could derail an already fragile recovery and said a U.S. debt default could wreak financial havoc.

I only ask ... as Congress looks at the timing and composition of its changes to the budget, that it does take into account that in the very near term the recovery is still rather fragile, and that sharp and excessive cuts in the very short term would be potentially damaging to that recovery...

On the second day of delivering the Fed's semiannual monetary policy report to Congress, Bernanke renewed his warning that a U.S. debt default would be devastating for the U.S. and global economies.

It would be a calamitous outcome.... It would create a very severe financial shock that would have effects not only on the U.S. economy but the global economy...

But Congress does not seem to be listening.

## Martin Wolf: The U.S. Should Be Running Bigger Deficits

I'm going to have a t-shirt made up with the 10-Yr Treasury graph and "I'm one of the few non-hysterics" on the front...

Martin Wolf:

Utopia vs reality: It is not that tackling the US fiscal position is urgent. At a time of private sector deleveraging, it is helpful. The US is able to borrow on easy terms, with yields on 10-year bonds close to 3 per cent, as the few non-hysterics predicted. The fiscal challenge is long term, not immediate. A decision not to allow the government to borrow to finance the programmes Congress has already mandated would be insane.... Yet, astonishingly, many of the Republicans opposed to raising the US debt ceiling do not merely wish to curb federal spending: they enthusiastically desire a default. Either they have no idea how profound would be the shock to their country’s economy and society of a repudiation of debt legally contracted by their state, or they fall into the category of utopian revolutionaries, heedless of all consequences.

Meanwhile... Europe is trapped in its own utopian project: the single currency. Just as members of the Tea Party hate paying taxes for those they deem unworthy, so, too, do solvent Europeans hate transfers to those they deem irresponsible. Alas, as many have long predicted, what would, in the absence of the currency union, have been a straightforward currency crisis has now morphed, within these constraints, into an agonising fiscal cum financial crisis. Worse, spreads on Spanish and Italian 10-year bonds over German bunds have reached 328 and 296 basis points, respectively. In slow-growing economies with overvalued real exchange rates, these spreads begin to be dangerous. If they became and remained, say, 400 basis points, the real interest rate on long-term debt would be 5 per cent. These countries would then be slowly shifted from a good equilibrium, with manageable debt, to a bad equilibrium, with close to unmanageable debt. Italy, with the fourth-largest public debt in the world, is probably too big to save: Italians themselves must make the decisive moves needed to restore fiscal credibility. That, in turn, requires both a sharp tightening and measures to raise the growth rate. Can this combination be managed? Only with difficulty, is the answer.

These are dangerous times. The US may be on the verge of making among the biggest and least-necessary financial mistakes in world history. The eurozone might be on the verge of a fiscal cum financial crisis that destroys not just the solvency of important countries but even the currency union and, at worst, much of the European project. These times require wisdom and courage among those in charge of our affairs. In the US, utopians of the right are seeking to smash the state that emerged from the 1930s and the second world war. In Europe, politicians are dealing with the legacy of a utopian project which requires a degree of solidarity that their peoples do not feel. How will these clashes between utopia and reality end? In late August, when I return from my break, we may know at least some of the answers.

## Gavyn Davies: No, Bernanke Does Not Think That the Economy Is Growing too Slowly

Gavyn Davies:

Bernanke and the divided Fed: The financial markets seem determined to interpret today’s statement by the Fed chairman in a dovish light, but a careful reading of his words does not support that point of view. True, Mr Bernanke outlined the possible ways in which monetary policy might be eased further if recent economic weakness should prove more persistent than expected. But he gave equal weight to the possibility that “the economy could evolve in a way that would warrant less-accommodative policy”.

There was no hint in the text about which of these outcomes he considered the more likely....

Mr Bernanke’s description of the economic background was almost exactly the same as he offered after the June meeting. Economic activity was described as weaker than expected, and not all of that weakness was attributed to temporary factors.... Meanwhile, on inflation, some of the recent rise was also attributed to temporary factors, but the entire emphasis was on the headline rate, which he said had been running at over 4 per cent so far this year. There was no mention whatsoever of the much lower core inflation rate, a previous favourite of the chairman’s.

In other words, his overall message was that the economy might be undesirably weak, but that inflation was too high for the Fed to be able to respond to that weakness. That is the main point which we should all take from today’s evidence: no imminent change in policy is likely.

## Non-Peevish Balance Sheet Recession Watch

Matthew Yglesias:

Bill Galston Discovers The Balance Sheet Recession: I have genuinely no idea why William Galston thinks the point that the mortgage-debt overhang is playing a huge role in the recession constitutes a “new” theory of the recession. But I’m not peevish, so I’ll just say he’s correct.... I believe that the best resolution would be to set a higher Nominal GDP growth target and clarify that the Fed is willing to accommodate Reagan-era levels of inflation if that’s what’s necessary to achieve it. Most mortgage debt, and a decent share of other debt, is denominated in nominal terms, so inflation accommodation would speed the process of getting people out from under debt overhangs. But unlike targeted mortgage relief, it would also help people (like, say, me) who have mortgages but aren’t underwater. Last, such a commitment from the Federal Reserve would also encourage high net wealth individuals and cash-rich firms to reduce their holdings of safe low-yield assets and increase their purchases of real goods and services or riskier private business investments.

## Journalists Suffering from Stockholm Syndrome Department

If the Speaker of the House, the Minority Leader of the House, the Majority Leader of the Senate, the Minority Leader of the Senate, and the President all stood up and said we need to raise the debt ceiling: let's raise the debt ceiling tomorrow then the debt ceiling would be raised--tomorrow.

The people who are blocking the raising of the debt ceiling tomorrow are the Speaker of the House--Boehner--and the Minority Leader of the Senate--McConnell.

With that in mind, let's watch the videotape. Clive Crook:

Mitch McConnell's Good Idea: What McConnell is suggesting is absurd in an inimitably Washington way, but may very well be the best way of out of the impasse. He suggests... let[ting] the president propose a raising of the ceiling, which the House would then vote down, leaving the president to veto the rejection.... Republicans... can vote against the raising of the ceiling.... I like the idea because, at a time when more intelligent options appear to have no traction at all, it is way to get the ceiling raised, and that should now be the overriding priority...

But the reason that "more intelligent options appear to have no traction at all" is... McConnell (and Boehner).

This is Stockholm Syndrome: the identification of the hostage not with the rescuer but with the hostage taker.

Crook's bottom line:

I see this as sensible damage control for Republicans (judged against the hit they would take under the relevant alternative: default); a good thing for Democrats; and a good thing for the country. Go McConnell.

I would suggest an alternative, better bottom line:

McConnell: start acting like a grownup.

Why oh why can't we have a better press corps?

## Menzie Chinn Causes Me to Raise My Estimate of the Multiplier

Menzie Chinn reviews fiscal multiplier estimates:

Econbrowser: Multiplier estimates, across countries, across states, across time: Today's two sessions -- one in the NBER's International Finance and Macro group and one in Monetary Economics -- included papers that tackled multipliers from a variety of directions. The general results indicated to me that, while multipliers are sometimes below unity, for conditions prevailing in the United States in 2011, they are typically above.

The first paper, by Ethan Ilzetzki, Enrique Mendoza, and Carlos Vegh, entitled "How Big (Small?) are Fiscal Mutlipliers?", too a cross country view....

[W]e find that (i) the output effect of an increase in government consumption is larger in industrial than in developing countries, (ii) the fiscal multiplier is relatively large in economies operating under predetermined exchange rate but zero in economies operating under flexible exchange rates; (iii) fiscal multipliers in open economies are lower than in closed economies and (iv) fiscal multipliers in high-debt countries are also zero....

Why is the multiplier larger for countries fixed exchange rates? One interpretation, consistent with the Mundell-Fleming model (under high capital mobility) is that expansionary fiscal policy is more accommodated under pegged rates.... Paul Krugman has interpreted this finding as applying to the United States, to the extent that the Fed is pursuing an accommodative policy; and to the extent that we are at the zero interest rate bound for what appears to be indefinitely, given recent reports of economic weakness, that conjecture seems right to me. Another finding is that closed economies have larger multipliers.... So, ask yourself -- is the US a small country with the monetary authorities actively moving the interest rate around in order to respond to fiscal impulses; or is it better characterized as a large, relatively closed, economy with short interest rates at near zero. Then consider which results apply.

The next paper, by Emi Nakamura, and Jon Steinsson, entitled "Fiscal Stimulus in a Monetary Union: Evidence from U.S. Regions", looked to intra-country data....

Aggregate military build-ups and draw-downs have differential effects across regions. We use this variation to estimate an open economy relative government spending multiplier of approximately 1.5.... The closed economy aggregate multiplier is highly sensitive to how strongly aggregate monetary and tax policy "leans against the wind." In contrast, our estimate "differences out" these effects because different regions in the union share a common monetary and tax policy. Our estimate provides evidence in favor of models in which demand shocks can have large effects on output....

Finally, in the last paper, Price Fishback, and Valentina Kachanovskaya go back in time, in "In Search of the Multiplier for Federal Spending in the States during the New Deal". From the abstract:

If there was any time to expect a large peace-time multiplier effect from federal spending in the states, it would have been during the period from 1930 through 1940.... The state per capita personal income multiplier with respect to per capita federal grants was around 1.1....

What I take from these papers' empirical results is that the proposition that multipliers are positive and (for government consumption and/or investments) in excess of unity, for conditions most applicable to the United States...

Let me note that I am not interested in state-level multipliers or in small open economy multipliers. If New York spends and Connecticut gets some of the benefit, that is absolutely fine with me. Leakages are not a big bug.

So the fact that leakage-ridden multipliers are above one is, I think, impressive evidence for the effectiveness of coordinated fiscal policy.

## Department of "Huh?!"

Alex Massie:

The Blogging Rules?: As an exercise in provoking bloggers Jonathan Rauch's suggestion that the internet is, like, totally hopeless is splendid. So there's that. But as a plausible critique? Not so much.... A man as refined and sensible and intelligent as JR can't possibly mean this, can he? If nothing else the internet makes it easier for me to read Jonathan Rauch and we may all, I hope, agree this is a Good Thing. Most of the time, anyway. But let us take this seriously even if it's not quite designed to be so treated....

[T]he internet has made it possible for the casual reader to follow events overseas to a depth and level of detail previously only generally available to specialists. There are many other examples one might cite of this phenomenon but in each case the internet - and the writing done on it - enables huge dollops of thinking and reading.

Rauch's criticisms could equally be lobbed at newspapers. And to an extent they'd be reasonable. Much of what's in the paper each day is pap and a good deal of it is simply wrong too. But that hardly means we'd be better off without newspapers.... The online world is a noisy, busy, disputatious, crowded place. That means it must often be exasperating but is also what generates excitement and, yup, plenty of excellence too.

For that matter, the internet is now so vast that sweeping generalisations... are now meaningless.... [M]essage boards and blogs are also places where like-minded people come together to discuss their obsessions. This may not always be an edifying or especially elevated conversation but if that's your problem then your argument is with people, not the internet.... Could it all be better? Sure. But is it hopeless for reading and thinking? Hardly. Indeed it provokes these things even though that's only one measure of its interest or usefulness.  There's a lot of good stuff out there!

Jonathan Rauch:

Most middle-class families didn’t have much wealth to begin with — about $100,000. For the 22 million families right in the middle of the income distribution (those making between$39,000 and $62,000 before taxes), about 90% of their assets was in the house. Now half of their wealth is gone and it will never come back as long as they live. Of course, rich folk lost lots of wealth during the panic as well. Their wealth is mostly in paper not bricks -– stocks, bonds, mutual funds, life insurance. The market value of those assets fell further than home prices did during the crash, but they’ve mostly recovered their value now. The S&P 500 SPX -1.81% lost 56% of its value when it crashed, but it’s doubled since then. Stocks are down about 13% from peak. The rich recovered; the rest of us didn’t. If losing half your meager life savings weren’t bad enough, the middle class has also been falling behind in terms of income for decades. Families in the middle make most of their money the old-fashioned way: Working their fingers to the bone for 40 years for wages and a modest pension. The middle class has been getting a smaller and smaller share of the pie over the past 40 years. Their wages have been flat after adjusting for inflation. In the late 1960s, the 20% of families right in the middle were earning almost their full share of the pie: they had 17.5% of total income. Their share has been falling steadily ever since. Now, that 20% is earning just 14.6% of all income. Meanwhile, the top 5% captured a growing share, going from 17% in the late 1960s to 22% today... ## Jeff Frankel on How the Republicans Have Forgotten Who They Work For Jeff Frankel: Advice to Investors, as the Federal Government Approaches the Cliff | Jeff Frankels Weblog | Views on the Economy and the World: There are other guys (and gals) in the car who are even more delusional. They are dead set on a policy of immediately eliminating the budget deficit.... This is literally impossible arithmetically, but they honestly don’t know this. It is as if they were insisting that the car can fly.... It seems likely that the man in the driver’s seat - House Speaker John Boehner - does realize that the other guys don’t have the facts quite right. But there is also a game of chicken going on within the Republican car.... The guy who is riding shot-gun in the car - the one who believes the car can fly — is trying to put his foot on top of Boehner’s on the accelerator pedal. It seems to me that Boehner, too, is miscalculating. Given that the car can’t fly, the crazy guy is probably going to oppose him in the primaries no matter what he does. So I don’t see what his plan is.... As a result the Republican leadership is in the remarkable situation of refusing to agree to Obama’s offer to solve the problem so long as the solution includes raising tax revenue, even if it is via such measures as ending distortionary subsidies for ethanol, oil companies, and corporate jets. If I had to guess: The financial markets will wake up just before August 3. US bond prices will finally fall. The market reaction will shock the Republican leadership into action.... But by then it might be too late. ## Why We Are in Iraq, According to Leon Panetta Duncan Black watches Leon Panetta say something that is simply false: Eschaton: Maintaining The Official Village Myths: Apparently it's job 1. Panetta made his remarks during his his inaugural visit to Iraq as Pentagon chief. Speaking to about 100 soldiers at Camp Victory, the largest U.S. military installation in Baghdad, he said his primary goal as defense secretary was to defeat al-Qaeda worldwide. “The reason you guys are here is because on 9/11 the United States got attacked,” Panetta told the troops. “And 3,000 Americans — 3,000 not just Americans, 3,000 human beings, innocent human beings — got killed because of al-Qaeda. And we’ve been fighting as a result of that.” ## Does the IS Curve Slope Upwards? In the standard three-commodity Hicks 1937 macro model--a model with the liquid cash money stock, the bond stock, and spending on currently-produced goods and services as its three commodities--we draw a graph with the interest rate (the inverse of the price of bonds in terms of money) on the vertical axis and the rate of spending in terms of money on the horizontal axis. We then draw the money-spending equilibrium as an upward-sloping "LM" curve--with a higher interest rate people want to shift from holding cash to spending on currently-produced goods and services. We then draw the bonds-spending equilibrium as a downward-sloping "IS" curve--with a higher interest rate businesses do not issue as many bonds, and so spenders feel short of wealth and cut back on spending to try to build up their asset stocks. (And by the adding-up constraints the money-bond equilibrium takes care of itself.) We understand this model. Cochrane has a twist on this model. Cochrane's model has the standard "LM" curve built off of the money demand function and the money-spending equilibrium condition. It has an "IS" curve built off of a bonds-spending equilibrium condition. But its "IS" curve is not downward but upward sloping: A higher interest rate lowers the attractiveness of the fixed stock of government debt. Spenders then try to dump their government bonds in order to purchase more of currently-produced goods and services instead. And so the higher the interest rate, the higher is the flow of spending needed to maintain bonds-spending equilibrium. In this model contractionary monetary policy--i.e., the Federal Reserve increasing interest rates--is expansionary as higher interest rates induce wealth holders to dump their bonds and spend more on currently-produced goods and services instead. And in this model the economy is very volatile: small shocks either to the money demand curve or to interest rate spreads produce huge shifts in this equilibrium. Thus by playing with this model Cochrane can get small changes to have huge effects--after all, when both curves slope upwards any shift in one curve will move the economy's equilibrium a very long way. But can it be the rigfht model? We have not, after all, gotten Lesser Depressions and near-hyperinflations every decade... Now Paul Krugman and Noah Smith are also both very disturbed by Cochrane's model. Paul: NYTimes.com: If you come at the current Lesser Depression from my angle, there’s no great mystery... a clear line of descent with only moderate modification running from Hicks 1937 to liquidity-trap models of Japan (pdf) to models that add in debt/deleveraging. The situation we’re in seems fully comprehensible. But at Chicago and elsewhere in the freshwater universe they’re playing Calvinball (and what a good coinage that was from Mike Konczal). All kinds of novel and implausible effects — effects that weren’t in any of the models they were using before the crisis — are invoked to explain why we’re in a sustained slump; strange to say, all of these newly invented models just happen to imply the need for tax cuts and a shrunken welfare state. But I don’t think it’s just political bias: part of what’s happening, I’m sure, is intellectual embarrassment. These people come from a movement that declared, with great arrogance, that Keynesian economics was dead – then failed to produce a workable alternative, and now finds itself in what is very recognizably a Keynesian world.... Anyway, it’s a sight to behold. Noah: Noahpinion: John Cochrane's Sum of All Right-Wing Assumptions: [D]on't expect to get Exciting New Results using only the Same Old Stuff.... Simplifying your model past the point of full determinacy doesn’t remove the need to make additional assumptions about economic relationships; it just makes those assumptions implicit.... Cochrane... left out all of the things that monetarists and Keynesians believe makes stimulus and quantitative easing effective... the conclusion that countercyclical policy doesn’t work is going to follow pretty naturally from the assumption that countercyclical policy doesn’t work. [Cochrane's] particular sequence of events relies on three assumptions.... Higher taxes would... increase deficits.... Increased deficits are structural.... Bond investors will not believe that the U.S. will be able to reduce spending... and will thus abandon U.S. Treasury bonds. [Cochrane]... implies that the Bush tax cuts raised our trend per-capita growth by 0.36%... the Johnson and Reagan tax cuts raised our trend growth far more... the Clinton tax increases significantly decreased our trend growth. Unsurprisingly (to me, anyway), a long-term plot of U.S. output doesn’t show any of these things.... Cochrane’s “dynamic Laffer curve” analysis is not supported by any evidence presented here (or any evidence of which I am aware). Cochrane’s second assumption is that stimulus deficits are structural... basically political in nature.... Finally, we have the notion that these permanently higher deficits will lead to capital flight... a posited decrease in the stochastic discount factor.... But... long-term interest-rates [should] spike as soon as (or actually well before) the higher deficits are announced. As many, many people have pointed out, nothing like this has yet happened.... [T]he “Sum of All Right-Wing Fears” scenario is really just a “Sum of All Standard Right-Wing Assumptions.” Tax increases decrease revenue. Democrats are addicted to deficits. Bond vigilantes are ready to abandon U.S. Treasuries... ## Larry Summers Call for Bigger Deficits in the Short Run as Part of the Long-Run Deficit Reduction Deal Summers: Time is of the essence: The truth is that the expected impact of the deal over a 10-year period will not be its most important aspect except in the context of the current media cycle.... Agreements reached now are subject to revision, potentially radical revision following next year’s election. Businesses are basing their investment decisions on the size of their current order books, not their guesses of fiscal policy in 2015. Consumers are deciding whether or not to spend based on how confident they are that they can hold on to their jobs. Here is what is not getting its due attention. Decisions about spending and taxing over the next year or two will have a significant impact on job creation over the next year.... Suppose any proposed deal could... [add] an extra 1 per cent to gross domestic product growth over the next year.... Assume the impact falls from 1 per cent to 0 per cent over the course of a decade. The consequence would be an increment to GDP of 0.5 per cent or about$1,000bn over the period. That would represent close to 4m job years. And it would reduce deficits by about 400bn.... Is there scope for adding fiscal measures that would contribute 1 per cent of GDP or more over the next year and a half? Absolutely.... [Expansionary] fiscal policies have larger than normal effects... continuing payroll tax cuts, maintaining support for unemployed workers, and accelerating infrastructure maintenance could add closer to 2 per cent [to] GDP growth over the next year and a half. Usually the media and Washington take too short a view. Now is the rare time when all need to remember that you only get to the long run through the short run... ## Yes, Newt Gingrich Is Not All There. Why Do You Ask? Ian Millhiser and Scott Keyes: ThinkProgress: GINGRICH: In the American system, if you read the Constitution correctly — this is why I wrote “A Nation Like No Other” — if you read the Federalist Papers correctly, the fact is the Congress can pass a law and can limit the Court’s jurisdiction. It’s written directly in the Constitution. The Federalist Papers, Alexander Hamilton promises, I think it’s Number 78, that the judiciary branch is the weakest of the three branches. There is no Supreme Court in the American Constitution. There’s the court which is the Supreme of the judicial branch, but it’s not supreme over the legislative and executive branch. We now have this entire national elite that wants us to believe that any five lawyers are a Constitutional convention. That is profoundly un-American and profoundly wrong... What the United States Constitution says: Article III: §1. The judicial power of the United States, shall be vested in one Supreme Court, and in such inferior courts as the Congress may from time to time ordain and establish. The judges, both of the supreme and inferior courts, shall hold their offices during good behaviour, and shall, at stated times, receive for their services, a compensation, which shall not be diminished during their continuance in office. §2. The judicial power shall extend to all cases, in law and equity, arising under this Constitution, the laws of the United States, and treaties made, or which shall be made, under their authority;--to all cases affecting ambassadors, other public ministers and consuls;--to all cases of admiralty and maritime jurisdiction;--to controversies to which the United States shall be a party;--to controversies between two or more states;--between a state and citizens of another state;--between citizens of different states;--between citizens of the same state claiming lands under grants of different states, and between a state, or the citizens thereof, and foreign states, citizens or subjects. In all cases affecting ambassadors, other public ministers and consuls, and those in which a state shall be party, the Supreme Court shall have original jurisdiction. In all the other cases before mentioned, the Supreme Court shall have appellate jurisdiction, both as to law and fact, with such exceptions, and under such regulations as the Congress shall make. The trial of all crimes, except in cases of impeachment, shall be by jury; and such trial shall be held in the state where the said crimes shall have been committed; but when not committed within any state, the trial shall be at such place or places as the Congress may by law have directed. §3. Treason against the United States, shall consist only in levying war against them, or in adhering to their enemies, giving them aid and comfort. No person shall be convicted of treason unless on the testimony of two witnesses to the same overt act, or on confession in open court. The Congress shall have power to declare the punishment of treason, but no attainder of treason shall work corruption of blood, or forfeiture except during the life of the person attainted. What Alexander Hamilton wrote: The Federalist #78: The complete independence of the courts of justice is peculiarly essential in a... Constitution... which... [limits] legislative authority; such, for instance, as that it shall pass no bills of attainder, no ex post facto laws, and the like. Limitations of this kind can be preserved in practice no other way than through the medium of courts... whose duty it must be to declare all acts contrary to the manifest tenor of the Constitution void.... Some perplexity... has arisen from an imagination that the doctrine would imply a superiority of the judiciary to the legislative power.... [E]very act of a delegated authority, contrary to the tenor of the commission under which it is exercised, is void. No legislative act, therefore, contrary to the Constitution, can be valid. To deny this, would be to affirm, that the deputy is greater than his principal; that the servant is above his master; that the representatives of the people are superior to the people themselves; that men acting by virtue of powers, may do not only what their powers do not authorize, but what they forbid.... [T]he courts were designed to be an intermediate body between the people and the legislature, in order, among other things, to keep the latter within the limits assigned to their authority. The interpretation of the laws is the proper and peculiar province of the courts. A constitution is, in fact, and must be regarded by the judges, as a fundamental law. It therefore belongs to them to ascertain its meaning, as well as the meaning of any particular act proceeding from the legislative body.... [T]he Constitution ought to be preferred to the statute, the intention of the people to the intention of their agents. Nor does this conclusion by any means suppose a superiority of the judicial to the legislative power. It only supposes that the power of the people is superior to both; and that where the will of the legislature, declared in its statutes, stands in opposition to that of the people, declared in the Constitution, the judges ought to be governed by the latter rather than the former... ## Remember: "Deficit Hawks" Who Would Give Paul Ryan a Prize Are Not Really Deficit Hawks at All... Jonathan Chait asks a question: Insincerely Yours: JThe anti-deficit lobby is a powerful force in American political life. The lobby consists of a loosely aligned network of think-tanks, institutions (many funded by Pete Peterson), and allied journalists. Of course, the anti-deficit lobby does not always win — indeed, it usually loses,as its basic mission runs in opposition to the general tendency of politicians to avoid unpopular choices as well as the specific ideology of the modern Republican Party (“Reagan proved deficits don’t matter”), which refuses to accept the notion that revenue levels ought to bear any relation to spending. The anti-deficit lobby has had extraordinary success, though, in making the deficit the top item on the Washington agenda.... [...] You have one side embracing its proposal, and the other side rejecting it, and the instinct of the anti-deficit lobbyist is... to urge the former to embrace its position. Aside from the bizarre disconnect from political reality, this simply highlights a huge problem with the incentive structure. Aren’t you supposed to reward politicians who agree with you, and impose some cost on those who oppose you? Paul Krugman answers it: [I]t makes no sense — unless you consider the possibility that the anti-deficit lobby doesn’t really care about deficits.... [I]ts real agenda (not always consciously) is to dismantle the welfare state, with deficit fears as the excuse, then the seemingly bizarre positioning makes perfect sense. Democrats trying to preserve the essence of the New Deal and the Great Society are always deemed insufficiently committed.... Republicans eager to tear the whole thing down are serious people, never mind their obsession with budget-busting tax cuts.... My sense is that there are very few true deficit hawks; the vast majority of those who claim that title are really just using the deficit to pursue the goal of a more unequal society. Occasionally a professional "deficit hawk" manages to emerge from the defensive we-give-prizes-to-Republicans-even-though-they-always-vote-to-cut-taxes-rather-than-cut-the-deficit crouch to say something reality-based. Today, Peter Gorenstein quotes David Walker: GOP Being “Very Unreasonable”: Could Lose House Over Debt Ceiling Debate, Walker Says | Fin - Daily Ticker - US - Yahoo! Finance: The President is committed to playing "long ball" while the GOP is now settling for "small ball" is how former U.S. comptroller General and current CEO of Comeback America Initiative David Walker describes the current state of affairs. That puts the President in the driver's seat politically, Walker tells Aaron in the accompanying clip. "He's clearly exhibiting leadership and now the Republicans are on retreat." In contrast to President Obama, "the Republicans right now are looking very unreasonable to independents," argues Walker. And, if progress is not made on fundamental issues, Walker believes it could cost the Republicans the House of Representatives in 2012... And sometime ago Clive Crook said that if the Republicans resist raising the debt ceiling and use it as a political football that they would risk and would deserve political annihilation. But experience shows that they soon return to their both-political-parties-are-equally-at-fault-don't-bother-me-with-facts crouch... ## Make That 37%... The chance that the unemployment rate number released on the first Friday of November 2012 will be 9.0% or higher, that is. Macro Advisors emails: We lowered our tracking estimate of GDP growth in the second quarter by four-tenths to 1.6%. Net exports were weaker than expected, and the composition of net exports suggests less equipment and software spending and inventory building... ## What Is the Obama Administration Doing? Josh Marshall asks a question: Dumbfounded | Talking Points Memo: There are many things I do not understand about the progress of this so-called debt negotiation. But of many here's one that perplexes me the most. If Hill Republicans will not allow the government to continue borrowing money beyond the current statutory debt limit, I think there's probably a decent constitutional argument that the president must shut down parts of the government and many government payments before defaulting on the country's debt obligations.... [T]he most logical places to start are with Social Security payments and Medicare reimbursements. Stuff like cutting Social Security checks in half starting the following week.... So why the adamant refusal to put this in front of the public? It seems quite clear to me that if what was coming in early August was an immediate 50% cut in Social Security payments and/or a similar cut in salaries to members of the military and a lot else that the tenor of this whole conversation would be quite different. And if this all sounds hyperbolic, where exactly do you think the money is going to come from if there's no deal? I don't understand it either. Back when he was in a similar situation in early 1996, Robert Rubin told Newt Gingrich that unless the debt ceiling was raised the March Social Security checks would not go out. ## Liveblogging World War II: July 12, 1941 Department of State Bulletin: Agreement Between the UK and the USSR: His Majesty's Government in the United Kingdom and the Government of the Union of Soviet Socialist Republics have concluded the present Agreement and declare as follows:- 1. The two Governments mutually undertake to render each other assistance and support of all kinds in the present war against Hitlerite Germany. 2. They further undertake that during this war they will neither negotiate nor conclude an armistice or treaty of peace except by mutual agreement. The present Agreement has been concluded in duplicate in the English and Russian languages. Both texts have equal force. Moscow, the twelfth of July. nineteen hundred and forty-one. By authority of His Majesty's Government in the United Kingdom: R. STAFFORD CRIPPS, His Majesty's Ambassador Extraordinary and Plenipotentiary in the Union of Soviet Socialistic Republics. By authority of the Government of the Union of Soviet Socialist Republics: V. MOLOTOV, Deputy President of the Council of People's Commissars and People's Commissar for Foreign Affairs of the Union of Soviet Socialist Republics. ## The Future Is Not Evenly Distributed, But It Is Definitely Here... Yes, I am living in a science-fictional universe. Why do you ask? Saeed Shah for McClatchy: Pakistan holds doctor who tried to collect bin Laden DNA: ABBOTTABAD, Pakistan — Pakistani authorities have jailed a doctor who helped the CIA by creating an elaborate plot to get DNA samples of Osama bin Laden’s family before the al Qaida leader was killed in a special forces raid here. The doctor, who holds a senior government health post in Pakistan, used nurses, who were able to gain entry to the residence on the pretext of giving vaccinations to children living there, according to Pakistani and U.S. officials and local residents. The U.S. special forces operation that found and killed bin Laden on May 2 severely damaged relations between the United States and Pakistan, which was kept in the dark about the CIA's discovery that the al Qaida leader was living in a town filled with active-duty and retired Pakistani military. The doctor's detention has added to the tension, and American authorities are thought to have intervened on his behalf. Previous news reports have quoted U.S. officials as alleging that the Pakistanis had detained some people for questioning about their role in assisting the United States in tracking down bin Laden. But until now, there's been no detailed information on anyone detained or what he or she might have done for the Americans. The doctor apparently is the only person still under arrest. His story provides previously unknown details about the lengths the CIA went to as it tried to confirm suspicions that bin Laden was hiding in the compound... ## Jonathan Adler's Claim That Stripping the EPA of Its Authority to Regulate Greenhouse Gases Would Be a Good idea: For the Virtual Green Room Jonathan Adler writes The GOP’s Climate Anti-Policy: Yesterday the Energy and Power Subcommittee of the House Energy and Commerce Committee voted to remove the Environmental Protection Agency’s authority to regulate greenhouse gases under the Clean Air Act.... This is a good first step on climate policy.... Stripping the EPA of authority to regulate greenhouse gases under the Clean Air Act is a good idea... Rebutted by Jonathan Adler, who in the same post writes: The GOP’s Climate Anti-Policy: For years I have been arguing for a combination of policies that would include a) a revenue-neutral carbon tax, like that proposed by James Hansen, offsetting new taxes on carbon with reductions in income or other taxes; b) measures to incentivize and accelerate energy and climate-related innovation, including technology inducement prizes; c) streamlining of regulatory requirements that hamper the development and deployment of alternative energy technologies, including (but not limited to) offshore wind development; d) policies to facilitate adaptation due to the inevitability of some amount of climate change, and e) elimination of policies that subsidize energy inefficiency and excess greenhouse gas emissions, including ill-conceived ethanol mandates (which, among other things, forestall efforts at reforestation). Would this be enough? Maybe not, but it would be a start... If you want carbon taxes, you have to provide representatives with an incentive to vote for carbon taxes--and fear of an EPA-led regulatory regime that would be a (bad) second-best to carbon taxes is the only way to get to the first-best outcome. Strip the EPA of its regulatory authority, and you wind up at the third-best with an anti-climate policy. ## Kazimierz Sakowicz Liveblogs World War II: July 11, 1941 Kazimierz Sakowicz 11th July 1941: Quite nice weather, warm, white clouds, windy, some shots from the forest. Probably exercises, because in the forest there is an ammunition dump on the way to the village of Nowosiolki. It’s about 4 p.m.; the shots last an hour or two. On the Grodzienka [the Wilno-Grodno highway] I discover that many Jews have been “transported” to the forest. And suddenly they shoot them. This was the first day of executions. An oppressive, overwhelming impression. The shots quiet down after 8 in the evening; later, there are no volleys but rather individual shots. The number of Jews who passed through was 200. On the Grodzienka is a Lithuanian (police) post. Those passing through have their documents inspected. ## Another Complete and Total Washington Post Fail... Why oh why can't we have a better press corps? Yes, it's Robert Samuelson. Jared Bernstein cleans up the mess: Jared Bernstein: Robert Samuelson launches a serious attack on the Center on Budget and Policy Priorities in this morning’s WaPo.... [W]hile everyone is entitled to their own opinion, they’re not entitled to their own facts. Here are the facts that directly contradict the story Samuelson wants to tell. • CBPP does not consider Social Security and Medicare “too popular to assail.” The Center has long said that while vulnerable beneficiaries need to be protected, this should not preclude changes to the programs’ benefit structures... supported the use of the chain-weighted CPI... if the move... is applied government-wide... and accompanied by a measure to moderate the effect on the oldest and most vulnerable beneficiaries. The Center has consistently supported charging higher Medicare premiums to upper-income beneficiaries; it recommended the changes included in the Affordable Care Act in this area well before that law was enacted. And it has emphasized that Medicare should lead the way in slowing the growth of health care costs.... CBPP has publically disagreed with those who say Social Security benefits can’t be touched at all and that all changes affecting Medicare benefits should be put off limits. • CBPP has sounded the alarm for many years about long-term deficits and has certainly not shied away from addressing the need to raise some taxes on people below250,000, as well as those above it.... CBPP and Bob Greenstein have on numerous occasions advocated full expiration of the Bush tax cuts, not just the tax cuts for people above $250,000. Yet Samuelson implies our lack of support for even the expiration of the high-end cuts. • In sharp contrast to Norquist, CBBP does not ask members of Congress to sign pledges and discourages them from doing so.... Samuelson may have a story to tell about intractable parties blocking progress in the current budget debate. But in choosing to use Bob Greenstein and CBPP as one side of that story, he choose very poorly indeed. ## Barack Obama as Herbert Hoover Mark Thoma listens to rhetoric that sounds disturbingly familiar: The President’s Press Conference: The Disappointing Embrace of Job Killing Austerity - CBS MoneyWatch.com: I am disappointed that Obama has adopted austerity as a valid means of stimulating the economy, something he made absolutely clear during his remarks. There is no evidence that this works in a situation like our... there is plenty of evidence that the fall in demand from the deficit cuts is harmful, and that such cuts are likely to impede the recovery. The president has embraced the idea that uncertainty about the future, particularly worries about the deficit, is holding back the economic recovery even though this cannot be justified from the historical record. It’s hope over experience. Uncertainly may be a problem, but it’s not uncertainty about the deficit. What’s holding the economy back is uncertainty about jobs, worries about the slowing recovery, and whether a second recession is coming. The policy the president wants, deficit reduction as large and as soon as possible, is likely to make the prospects for recovery even worse and increase uncertainty.... One thing the president said — the third disappointment — was particularly worrisome. He said we shouldn’t be concerned about “job killing tax increases” because there won’t be any tax increases until 2013 when the economy should be in better shape. Thus, he has adopted the Republican argument that we cannot raise taxes when the job picture is so bad. But how does that square with the phrase he uttered repeatedly, “if not now, when?” And more importantly, how does that square with the desire to cut spending? Why is he willing to implement spending cuts immediately but not tax increases?... If the “if not now, when” applies to spending cuts, why not taxes? If the argument that we can’t do “job killing tax increases” now, why is it okay to do job killing spending cuts? If the president is willing to go along with a delay in tax increases over worry about the economy, he ought to also be insist on delaying the spending cuts in the same way. In the Q&A section he did say that we need job creation programs, an infrastructure program for example, and other steps to create jobs, but politics won’t allow this. What I find disappointing about this is that if the president approached this issue with the same tenacity as he has approached deficit reduction, then perhaps it wouldn’t look so impossible.... We need to set a plan now for tax increases and spending cuts, one that kicks in, say, when the unemployment rate falls below a fixed threshold.... One worry is the credibility of future promises. How will we know if the plan will actually be executed?... In the short-run, we need to boost the economy, or at least not make things worse through premature deficit reduction or interest rate increases by the Fed. In the longer-run, we need a plan to get the deficit under control.... I am very worried that large spending cuts now in return for a promise of future tax increases will harm the recovery and create even more misery for those trying to find jobs.... [W]ith the best plan ruled out... we are left with the lesser of two evils. Give in to the job and economy killing spending cuts the Republicans are demanding and the president appears to have embraced, or risk doing even more damage by failing to come to an agreement and defaulting on the debt... ## Why Can't More People Read Frederic Bastiat? John Holbo's jaw drops as he reads Alex Tabarrok praise the carried interest rule: The Aqueduct?: Alex Tabbarok has written an odd post, whose reasoning, were it sound, would seem to license the following inference. Since, as Bastiat says, “Government is the great fiction through which everybody endeavors to live at the expense of everybody else,” John Cleese’s fatal mistake in this debate is to admit the existence of Roman aqueducts.... [The] preference for a tax code pockmarked with various and sundry breaks, giveaways and loopholes over one lacking these features.... Tabarrok’s stated position is now that such things are rightly regarded as precious islands of civil freedom, in a socialist sea of serfdom … oh I give up. Indeed, Alex Tabarrok does crawl out on a limb and applaud all tax loopholes as islands of freedom on the road to serfdom: The Great Fiction: As Bastiat said, “Government is the great fiction through which everybody endeavors to live at the expense of everybody else.” What Rampell et al. want to do is to make people believe in this great fiction. But there are always taxpayers and taxeaters.... In a laissez-faire world we don’t get rid of 529 programs, instead all savings, not just savings for college, become tax-free. A 529 program is not a government program like food stamps, it is the absence of a government tax.... People who use 529 programs and who think that they have not used a government social program are not willfully ignorant, they are demonstrating a healthy if fading appreciation of the distinction between civil society and government. What Rampell et al. implicitly imagine is that the natural state is slavery and any departure from that state a government benefit.... [I]f the government doesn’t jail you today, you should be grateful for how government has granted you the benefit of liberty. This is the attitude of a serf not an American. I would say that, in a democracy, one pays a progressive share of one's income to fund the many useful and convenient services and actions the government undertakes on our behalf according to the instructions we have given the legislators whom we elect. To take advantage of a narrow tax loophole is not to escape to the realm of liberty but rather to cheat one's fellow citizens. Methinks Frederic Bastiat would have agreed with me: [O]ften, nearly always if you will, the government official renders an equivalent service to Jim Goodfellow. In this case there is... only an exchange.... I say this: If you wish to create a government office, prove its usefulness.... When Jim Goodfellow gives a hundred sous to a government official for a really useful service, this is exactly the same as when he gives a hundred sous to a shoemaker for a pair of shoes. It's a case of give-and-take, and the score is even... Other interesting quotations from Frederic Bastiat. I wonder how many people really read him these days? There is an article in the Constitution which states: "Society assists and encourages the development of labor.... through the establishment by the state, the departments, and the municipalities, of appropriate public works to employ idle hands." As a temporary measure in a time of crisis, during a severe winter, this intervention on the part of the taxpayer could have good effects... as insurance. It adds nothing to the number of jobs nor to total wages, but it takes labor and wages from ordinary times and doles them out, at a loss it is true, in difficult times.... [L]ast year I was... told.... "A certain amount of ostentation in the ministerial and diplomatic salons is part of the machinery of constitutional governments, etc., etc..." Whether or not such arguments can be controverted, they certainly deserve serious scrutiny. They are based on the public interest, rightly or wrongly estimated; and, personally, I can make more of a case for them than many of our Catos, moved by a narrow spirit of niggardliness or jealousy... Should the state subsidize the arts?... [A]rts broaden, elevate, and poetize the soul of a nation; that they draw it away from material preoccupations, giving it a feeling for the beautiful, and thus react favorably on its manners, its customs, its morals, and even on its industry. One can ask where music would be in France without the Théâtre-Italien and the Conservatory; dramatic art without the Théâtre-Français... ask whether, without the centralization and consequently the subsidizing of the fine arts, there would have developed that exquisite taste which is the noble endowment of French labor and sends its products out over the whole world.... To these reasons and many others, whose power I do not contest, one can oppose many no less cogent. There is... a question of distributive justice. Do the rights of the legislator go so far as to allow him to dip into the wages of the artisan in order to supplement the profits of the artist?... I confess that I am one of those who think that the choice... should come from below, not from above, from the citizens, not from the legislator.... Returning to the fine arts, one can, I repeat, allege weighty reasons for and against the system of subsidization... in... this essay, I have no need either to set forth these reasons or to decide between them.... When it is a question of taxes [and subsidies], gentlemen, prove their usefulness by reasons with some foundation, but not with that lamentable assertion: "Public spending keeps the working class alive"... When a public expenditure is proposed, it must be examined on its own merits... a presumption of economic benefit is never appropriate for expenditures made by way of taxation. Why?... In the first place, justice always suffers from it somewhat. Since Jim Goodfellow has sweated to earn his hundred-sou piece... he is irritated... that the tax intervenes to take this satisfaction away from him and give it to someone else.... [I]t is up to those who levy the tax to give some good reasons for it.... If the state says to him: "I shall take a hundred sous from you to pay the policemen who relieve you of the necessity for guarding your own security, to pave the street you traverse every day, to pay the magistrate who sees to it that your property and your liberty are respected, to feed the soldier who defends our frontiers," Jim Goodfellow will pay without saying a word... ## Fiscal Arithmetic and the Little Depression Matthew Yglesias is puzzled by John Cochrane: Paul Ryan Dinner Buddy John Cochrane Offers A Sum Of All Right-Wing Fears | ThinkProgress: Apparently when Paul Ryan went out for dinner and a$350 bottle of wine, his dining companions were some hedge fund jerk and University of Chicago economist John Cochrane. Not coincidentally, Cochrane published a paper relatively recently (PDF) that offers a novel model of fiscal and monetary policy in a recession that has the convenient property of affirming all of Rep Ryan’s political views. In particular, Cochrane argues that contra everyone on the Krugman-Bernanke axis, it’s simply not possible for either fiscal or monetary authorities to halt a deflationary trend. And he also argues that it’s not necessary to attempt to do so. And he warns that not only is it plausible to think that runaway inflation is right around the corner even though there’s no evidence of elevated inflation expectations, he argues that runaway inflation is likely to be sparked by tax increases and can best be combatted by gutting Social Security and Medicare.

I heard John Cochrane give this paper when he came through Berkeley. And it seemed to me to be simply... wrong.

In Cochrane's framework, he holds the long-run future paths of government purchases and of taxes constant and looks at the effects of shocks to the interest rate on Treasury securities on total spending. The Little Depression, he claims, started with a sharp fall in the long-run real interest rate on Treasury securities. This magnified the real value today of the future government primary surpluses that provide the ultimate backing for government debt. People were thus willing to pay much higher prices for government debt relative to currently-produced goods and services than they had before. The switch of demand from currently-produced goods and services to government debt put downward pressure on the price level, production, and employment.

This seemed to me when Cochrane presented it, and seems to me now, to get the causal chain wrong.

The expected future government primary surpluses are not constant: when interest rates on Treasury bonds fall, people expect that taxes in the future will fall as well because the size of the future debt will be lower and the taxes needed to amortize it will be lower as well. Indeed, this has to be the case arithmetically: the real value of the government's outstanding debt in terms of currently-produced goods and services did rise during our current Little Depression but by only about 1/10 as much as the shift in discount rates and the duration of net debt amortization would imply. 90% of the adjustment in Cochrane's debt-amortization equation came on the side of changing expected future primary surpluses; only 10% on the side of the changing real value of the government debt today. Overwhelmingly the story is not that changing discount rates drive changes in the real value of the debt today but rather that changing discount rates drive changes in expected future primary surpluses.

Cochrane indeed notes that his model does not work:

Fluctuations in ‘‘aggregate demand’’ are somewhat mysterious, and do not easily line up with other ways we might measure expectations of future surpluses...

But his answer? This:

But accounting for the history of U.S. stock prices by news about expected dividends has been an even more catastrophic failure...

I do not feel that the argument "my model does not work, but it is not as bad as other finance models" is terribly persuasive.

I would argue that the Little Depression did not start with a fall in the long-run real interest rate on Treasury securities that greatly raised the present value of expected future government primary surpluses and caused a stampede as everybody tried to switch from spending on currently-produced goods and services to buying up today's government debt which carry ownership rights over those expected future government primary surpluses.

I would argue that the Little Depression started with a sharp rise in expectations of the degree of risk carried by private, risky assets; that this rise produced a huge and immediate increase in spreads vis-a-vis safe Treasury securities; and that the fall in the real interest rate on Treasury securities was a result of the Federal Reserve's attempts to neutralize the effects of the confidence shock on the private economy.

The Federal Reserve could have, I maintain, pegged the Federal Funds rate at 5% and kept it pegged there throughout 2007-2009 had it wanted to--and such a peg would have created expectations of continued high Federal Funds rate policies and kept long-term Treasury rates higher than they have been. The Federal Reserve could have simply expanded the supply of bank reserves at a slower rate by buying fewer Treasury bonds for its own account, and that would have by standard money market mechanisms have kept the Federal Funds rate at its 2006 level. Those Federal Fund rates and the expectation of their continuance would have induced Treasury bond traders to sell Treasuries as their prices rose, and kept long-term Treasury interest rates at significantly higher values than we see today.

According to Cochrane's framework, such a high interest rate Federal Reserve policy would have avoided the Little Depression completely: no fall in long-tern Treasury rates, no rise in the present value of expected future government primary surpluses, no switch out of spending on currently-produced goods and services.

Everybody else--or nearly everybody else--however, thinks that had the Federal Reserve taken action to peg the Federal Funds rate at 5% from 2007 on that the Little Depression would have been another Great Depression indeed. Everybody else--or nearly everybody else--sees low long-term Treasury interest rates as the result of and not as the principal cause of the downturn.

But here I should turn the mike over to people who make these points better than I do--like Andrew Harless and Mark Thoma and Nick Rowe. In order to do economics right, you need not just to have hold of an equilibrium condition, you need to know in which way you must turn the crank in order to get sense rather than nonsense.

## Yes, Some People at the Ludwig von Mises Institute Think Churchill Was a War Criminal for Not Making Peace with Hitler in May 1940. Why Do You Ask?

David Gordon:

Ludwig von Mises Institute: Given this sorry record, it is hardly surprising that the renewed outbreak of world war in September 1939, which returned Churchill to the British cabinet as First Lord of the Admiralty, brought a new hunger blockade of Germany.... Franklin Roosevelt rivaled his British counterpart in his disregard for the rules of civilized warfare. Long before the Japanese attack on Pearl Harbor on that "date which will live in infamy," December 7, 1941, Roosevelt hoped that the Chinese would bomb the major cities of Japan. Because of the presence of closely packed together wooden buildings, entire cities could readily be set afire.... Roosevelt was anxious for confrontation with the Japanese. Roosevelt's stationing of the Pacific Fleet at Pearl Harbor was intended to provoke them....

The moral offenses of Churchill and Roosevelt were not confined to violations of the laws of war.... Hitler wished to expel [the Jews] from Germany, and those willing to emigrate were actively encouraged to do so.... Roosevelt did virtually nothing to help.... Neither did he show much interest in efforts to settle the Jews elsewhere. Churchill, despite his frequently expressed sympathy for Jews and Zionism, was little better....

[W]as it not a clear moral imperative to avoid the outbreak of war and, if possible, to secure the evacuation of the Jews from parts of Europe likely to fall under German control? Further, once war broke out, was it not imperative to end the war as soon as possible? Churchill rejected all efforts to reach a settlement [ending World War II]. He continued the hunger blockade, a move that could only exacerbate the most extreme Nazi policies...

## Why Oh Why Can't We Have a Better Press Corps? Wall Street Journal Fail Edition

I could not believe this:

Robert Bridges: A Home Is a Lousy Investment: At the risk of heaping more misery on the struggling residential property market, an analysis of home-price and ownership data for the last 30 years in California—the Golden State with notoriously golden property prices—indicates that the average single family house has never been a particularly stellar investment. In a society increasingly concerned with providing for retirement security and housing affordability, this finding has large implications. It means that we have put excessive emphasis on owner-occupied housing for social objectives, mistakenly relied on homebuilding for economic stimulus, and fostered misconceptions about homeownership and financial independence. We've diverted capital from more productive investments and misallocated scarce public resources.

Between 1980 and 2010, the value of a median-price, single-family house in California rose by an average of 3.6% per year—to $296,820 from$99,550, according to data from the California Association of Realtors, Freddie Mac and the U.S. Census. Even if that house was sold at the most recent market peak in 2007, the average annual price growth was just 6.61%. So a dollar used to purchase a median-price, single-family California home in 1980 would have grown to $5.63 in 2007, and to$2.98 in 2010. The same dollar invested in the Dow Jones Industrial Index would have been worth $14.41 in 2007, and$11.49 in 2010.

First of all, you get to live in a house. You don't get to live in your Dow-Jones Industrial index. The choice is not between investing $99,550 in a house from 1980 to 2010 and investing the same amount in the DJIA: it is between: 1. Investing$99,500 in a house in 1980 and selling it in 2010
2. Investing $99,500 in the DJIA in 1980, and paying rent each year--a rent of$5000 per year at the start, rising gradually to $15,000 per year. If you have to take the rent out of your DJIA account every year, your dollar invested in the DJIA grows to only$3.42 by 2010--not $11.49. If you invest your money in the same kind of home that you would live in anyway, the long-run historical record shows that residential housing and equities deliver roughly equal returns as asset classes once you take account of the fact that you get to live in your house. Why does Robert Bridges say otherwise? I have no idea... Why didn't any editor at the Wall Street Journal say: "Wait a minute! Is this right?"? I have no idea... ## The Obama Administration: Can't Anybody Play This Game?: David Plouffe Sister-Still-Living-in-Basement Edition From the Plum Line: QUESTION: Axelrod likes to say that every campaign has inherited [inaudible]. You know, an environment in which unemployment is [inaudible] percent when the president runs for re-election, what’s — what’s the Obama narrative about that? PLOUFFE: Well, listen, I don’t -- you know, we’re a long way from 2012. We’re a long way from knowing what’s going on in the world and exactly what the economy is and who are opponent is. I would make a general statement, though, because there is a lot of attention focused on the unemployment rate. The average American does not view the economy through the prism of GDP or unemployment rates or even monthly jobs numbers. In fact, those terms very rarely pass their lips. So it’s a very one-dimensional view. They view the economy through their own personal prism. You see, people’s — people’s attitude towards their own personal financial situation has actually improved over time. You know, they’re still concerned about the long-term economic future of the country, but it’s things like “My sister was unemployed for six months and was living in my basement and now she has a job.” There’s a — a “help wanted” sign. You know, the local diner was a little busier this week. Home Depot was a little busier. These are the ways people talk about the economy. They don’t talk about it in the terms of Washington. And so their decision next year will be based upon two things, okay, how do I feel about things right now, and then, ultimately, campaigns are always much more about the future, and who do I think has got the best idea, the best vision for where to take the country? I would submit to you that a healthy percentage of Americans, far more than a majority, believe the president has a very sound vision for where the country needs to go. So, you know, people won’t vote based on the unemployment rate. They’re gonna vote based on, “How do I feel about my own situation? Do I believe the president makes decisions based on me and my family?” First of all, the big problem with the economy is that the statement "my sister was unemployed for six months and was living in my basement and now she has a job" is, in aggregate and on average, simply not true. The employment-to-population ratio has not improved. The same fraction of American adults are without jobs as at the trough of the recession. Second, many more people will think "my personal situation sucks" when the unemployment rate is 9% than when it is 5%. When it is 9% a lot of people don't have jobs, or can't get jobs, or can't get good jobs, or are scared of losing their jobs, or don't dare quit the jobs that they hate. It is simply not the case that "Washington" looks at an illusion that is a 9% unemployment rate while "real people" think: "my situation is good." Third, I understand that David Plouffe does not want to say: "unless the unemployment rate falls significantly in the next fifteen months, Obama has an uphill struggle to win reelection." Even though that is true, even though everybody knows that that is true, if David Plouffe says it then it becomes news and all the chattering class talks about it for a week--and David Plouffe would rather that the chattering class talk about something else. But the way to avoid saying ""unless the unemployment rate falls significantly in the next fifteen months, Obama has an uphill struggle to win reelection" is not to say "the average American does not view the economy through... unemployment rates." That sounds stupid because it is stupid: the average American is the unemployed, or the person who hasn't gotten a raise because their boss thinks they could replace them with one of the unemployed, or the person who is scared they might become unemployed. ## Herbert Hoover "Opens the Spigot"--NOT!! Press Conference of January 8, 1932 Herbert Hoover: January 8, 1932: I wish to emphasize to the full extent of my ability the necessity, as a fundamental to recovery, for the utmost economy of governmental expenditure of all kinds. Our people must realize that Government cannot continue to live in a depression upon the scale that was possible in times of great prosperity. The developments of the past week should give great assurances to the country. The public statements of the Republican and Democratic leaders of the Senate and House show a real non-partisan determination in cooperation with the Administration to assure the country of the balancing of the Federal expenditures and income for the fiscal year beginning July 1st. The amount of taxes we will need to impose for this purpose will depend entirely upon what further cuts we can make in government expenditures. The budget before Congress represents a reduction of$360,000,000 in Federal expenditures for the next fiscal year. I shall welcome any further reduction which can be made and still preserve the proper and just functioning of the Federal Government. With the general realization of the necessity of reductions in expenditures we should also at last be able to bring about the wholesale elimination of overlapping in the Federal Government bureaus and agencies which will also contribute materially to the program of economy.

With this program we are thus assured that we can maintain the full stability and credit of the Federal Government by no increase in the public debt after covering the deficit of this fiscal year and no further increase after the first of next July.

The balancing of next year's expenditure and receipts and the limitation of borrowing imply the resolute opposition to any new or enlarged activities of the Government. With the assurances which have now been given from the leaders in Congress I do not believe there is any ground for apprehension by the public from the flood of extravagant proposals which have been introduced there. It is true that these bills would imply an increase of Government expenditures during the next five years of over 40 billions of dollars four or more then 8 billions per annum. The great majority of these bills have been advanced by some organization or some sectional interest and are little likely to see the light of day from congressional committees. They do, however, represent a spirit of spending in the country which must be abandoned. I realize that drastic economy requires the sacrifice of large hopes of expenditures promoted by such interests. However, I appeal to their sense of patriotism in these times not to press their demands. They should withdraw the pressures upon Government officials.

Rigid economy is a real road to relief, to home owners, farmers, workers, and every element of our population. The proposed budget of Federal Government expenditures for the next fiscal year amounts to about 4 billion dollars of which over $2,800,000,000 is for debt, military and veterans' services, and nearly half the balance is for aid to employment in construction works and as aids to agriculture. It is worth noting that the state and local government expenditures of the country amount to nearly 9 billion. The Federal Government itself ofttimes contributes to increased state and local expenditure by appropriations requiring a matching of money by the states. The result is pressure upon state officials by the groups who will receive benefits from these expenditures and makes them the unwilling victims of increased Government costs. Our first duty as a nation is to put our governmental house in order, national, state and local. With the return of prosperity the Government can undertake constructive projects both of social character and in public improvement. We cannot squander ourselves into prosperity. The people will, of course, provide against distress but the purpose of the nation must be to restore employment by economic recovery. The reduction in governmental expenditures and the stability of Government finance is the most fundamental step towards this end. It can contribute greatly to employment and the recovery of prosperity in agriculture. That must be our concentrated purpose. ## Herbert Hoover at His Most Activist: December 11, 1931 Herbert Hoover: December 11, 1931: In my recommendations to Congress and in the organizations created during the past few months, there is a definite program for turning the tide of deflation and starting the country upon the road to recovery. This program has been formulated after consultation with leaders of every branch of American public life, of labor, of agriculture, of commerce, and of industry. A considerable part of it depends on voluntary organization in the country. This is already in action. A part of it requires legislation. It is a non-partisan program. I am interested in its principles rather than its details. I appeal for unity of action for its consummation. The major steps that we must take are domestic. The action needed is in the home field, and it is urgent. While reestablishment of stability abroad is helpful to us and to the world, and I am confident that it is in progress, yet we must depend on ourselves. If we devote ourselves to these urgent domestic questions we can make a very large measure of recovery irrespective of foreign influences. That the country may get this program thoroughly in mind, I review its major parts: 1. Provision for distress among the unemployed by voluntary organization and united action of local authorities in cooperation with the President's Unemployment Relief Organization, whose appeal for organization and funds has met with a response unparalleled since the war. Almost every locality in the country has reported that it will “take care of its own.” In order to assure that there will be no failure to meet problems as they arise, the organization will continue through the winter. 2. Our employers are organized and will continue to give part-time work instead of discharging a portion of their employees. This plan is affording help to several million people who otherwise would have no resources. The government will continue to aid unemployment over the winter through the large program of Federal construction now in progress. This program represents an expenditure at a rate of over$60,000,000 a month.

3. The strengthening of the Federal Land Bank System in the interest of the farmer.

4. Assistance to homeowners, both agricultural and urban, who are in difficulties in securing renewals of mortgages by strengthening the country banks, savings banks, and building and loan associations through the creation of a system of Home Loan Discount Banks. By restoring these institutions to normal functioning, we will see a revival in employment in new construction.

5. Development of a plan to assure early distribution to depositors in closed banks, and thus relieve the stress amongst millions of smaller depositors and smaller businesses.

6. The creation for the period of the emergency of a Reconstruction Finance Corporation to furnish necessary credit otherwise unattainable under existing circumstances, and so give confidence to agriculture, to industry and to labor against further paralyzing influences and shocks, but more especially by the reopening of credit channels which will assure the maintenance and normal working of the commercial fabric.

7. Assistance to all railroads by protection from unregulated competition, and to the weaker ones by the formation of a credit pool, as authorized by the Interstate Commerce Commission, and by other measures, thus affording security to the bonds held by our insurance companies, our savings banks, and other benevolent trusts, thereby protecting the interest of every family and promoting the recuperation of the railways.

8. The revision of our banking laws so as better to safeguard the depositors.

9. The safeguarding and support of banks through the National Credit Association, which has already given great confidence to bankers and extended their ability to make loans to commerce and industry.

10. The maintenance of the public finance on a sound basis. (a) By drastic economy. (b) Resolute opposition to the enlargement of Federal expenditure until recovery. (c) A temporary increase in taxation, so distributed that the burden may be borne in proportion to ability to pay amongst all groups and in such a fashion as not to retard recovery.

11. The maintenance of the American system of individual initiative and individual and community responsibility.

The broad purpose of this program is to restore the old job instead of creating a made job, to help the worker at the desk as well as the bench, to restore their buying power for the farmers' products - in fact, turn the processes of liquidation and deflation and start the country forward all along the line.

This program will affect favorably every man, woman, and child - not a special class or any group. One of its purposes is to start the flow of credit now impeded by fear and uncertainty, to the detriment of every manufacturer, business man and farmer. To reestablish normal functioning is the need of the hour.

Of these initiatives, the only ones that were at all significant were the 1% of GDP infrastructure investment program, the Resolution Trust Corporation--the RTC--and perhaps the Home Loan Bank.

## Herbert Hoover at His More Typical: Expansionary Fiscal Policy Is Contractionary

Herbert Hoover, October 1932:

The proposals of our opponents will endanger or destroy our system. I especially emphasize that promise to promote "employment for all surplus labour at all times." At first I could not believe that anyone would be so cruel as to hold out hope so absolutely impossible of realization to these 10,000,000 who are unemployed. And I protest against such frivolous promises being held out to a suffering people.

If it were possible to give this employment to 10,000,000 people by the Government, it would cost upwards of $9,000,000,000 a year. It would pull down the employment of those who are still at work by the high taxes and the demoralization of credit upon which their employment is dependent. It would mean the growth of a fearful bureaucracy which, once established, could never be dislodged. ## Herbert Hoover: Against That Communist Roosevelt, Karl Marx, John Maynard Keynes, and ??? Herbert Hoover, October 1936: I rejected the schemes of economic planning to regiment and coerce the farmer. That was born of a Roman despot 1400 years ago and grew into the A[gricultural ]A[djustment ]A[ct]. I refused national plans to put government into business in competition with its citizens. That was born of Karl Marx. I vetoed the idea of recovery through stupendous spending to prime the pump. That was born of a British Professor... I have no idea who the "Roman despot" was. Diocletian perhaps? But 1500 years would put us in the reign of Justinian... ## The Fiscal Policy of Herbert Hoover: "Opening Up the Spigot"--NOT!! Hoover Lobbies Against (and Subsequently Tries to Veto) the 1931 Veterans' Bonus Bill From John T. Woolley and Gerhard Peters, The American Presidency Project: http://www.presidency.ucsb.edu/ws/?pid=22981 Herbert Hoover: Honorable Reed Smoot, Chairman, Senate Finance Committee, United States Senate, Washington, D.C. My Dear Senator Smoot: I have given thought to your request that I should express to you and to the Senate Finance Committee my views upon the bill passed by the House of Representatives, increasing the loans to World War veterans upon the so-called bonus certificates. In view of the short time remaining in this session for its consideration I shall comply with your request. The proposal is to authorize loans upon these certificates up to 50% of their face value. And to avoid confusion it must be understood that the "face value" is the sum payable at the end of the 20 year period (1945) being based on the additional compensation to veterans of about$1,300,000,000 granted about six years ago, plus 25% for deferment, plus 4% compound interest for the 20 year period. As the "face value" is about $3,423,000,000, loans at 50% thus create a potential liability for the government of about$1,712,000,000, and, less the loans made under the original Act, the total cash which might be required to be raised by the Treasury is about $1,280,000,000 if all should apply. The Administrator of Veterans Affairs informs me by the attached letter that he estimates that if present conditions continue, then 75% of the veterans may be expected to claim the loans, or a sum of approximately$1,000,000,000 will need to be raised by the Treasury.

I will not undertake to enumerate all of the grounds for objection to this proposal. There are a number of most serious objections, some of which are matters of method and some of which are matters of fundamental principle affecting the future of our country and the service men themselves.

I have supported, and the nation should maintain, the important principle that when men have been called into jeopardy of their very lives in protection of the nation, then the nation as a whole incurs a special obligation beyond that to any other groups of its citizens. These obligations cannot be wholly met with dollars and cents. But good faith and gratitude require that protection be given to them when in ill health, distress and in need. Over 700,000 World War Veterans or their dependents are today receiving monthly allowances for these reasons. The country should not be called upon, however, either directly or indirectly, to support or make loans to those who can by their own efforts support themselves.

By far the largest part of the huge sum proposed in this bill is to be available to those who are not in distress.

The acute depression and unemployment create a situation of unusual economic sensitiveness, much more easily disturbed at this time than in normal times by the consequences of this legislation, and such action may quite well result in a prolongation of this period of unemployment and suffering in which veterans will themselves suffer with others.

By our expansion of public construction for assistance to unemployment and other relief measures, we have imposed upon ourselves a deficit in this fiscal year of upwards of $500,000,000 which must be obtained by issue of securities to the investing public. This bill may possibly require the securing of a further billion of money likewise from the public. Beyond this, the Government is faced with a billion dollars of early maturities of outstanding debts which must be refunded aside from constant renewals of a very large amount of temporary Treasury obligations. The additional burdens of this project cannot but have damaging effect at a time when all effort should be for the rehabilitation of employment through resumption of commerce and industry. There seems to be a misunderstanding in the proposal that the government securities already lodged with the Treasury to the amount of over$700,000,000 as reserve against these certificates constitute available cash to meet this potential liability. The cash required by the veterans can only be secured by the sale of these securities to the public.

The legislation is defective in that this $700,000,000 of government securities is wholly inadequate to meet either a potential liability of$1,280,000,000 or approximately $1,000,000,000 estimated as possible by the Administrator of Veterans' Affairs, and provision would need to be made at once for this deficiency. The one appealing argument for this legislation is for veterans in distress. The welfare of the veterans as a class is inseparable from that of the country. Placing a strain on the savings needed for rehabilitation of employment by a measure which calls upon the government for a vast sum beyond the call of distress, and so adversely affecting our general situation, will in my view not only nullify the benefits to the veteran but inflict injury to the country as a whole. Yours faithfully, HERBERT HOOVER And Frank Hines: The Honorable, The President of the United States My Dear Mr. President: You have requested that I advise you as to the estimated number of veterans who would be eligible for loans, and the amount which would be borrowed on adjusted service certificates in the event H.R. 17054 becomes a law. When I appeared before the Committee on Ways and Means, House of Representatives, February 12, 1931, in connection with this measure, I made the following statement in reply to Congressman Ramseyer: RAMSEYER: Based on your experience and knowledge of the ex-service men, are you prepared to make any estimate as to the increased borrowers that a bill like this would probably bring about? GENERAL HINES: Well, it depends a great deal, Congressman, on whether the present employment conditions are going to continue. If there is a period still of another year where unemployment is not going to improve, it would be my judgment that there would be an increase of at least 25 per cent in the men who would borrow." In accordance with the above, it is my estimate that 2,550,000 veterans will avail themselves of the full loan value under the proposed measure, and that the total amount of such loans will be$1,283,625,000. From the amount there should be subtracted the $325,000,000 which has previously been borrowed, making a total additional amount which will be borrowed of$958,625,000 or approximately $1,000,000,000. Respectfully, FRANK T. HINES, Administrator of Veterans' Affairs ## Whenever I Try to Get Out, They Drag Me Back in... Each time I think to myself "Brad, aren't you being too harsh on the national newspapers like the Washington Post?" something happens to make me answer: "No! You are not harsh enough!" This time it is Lori Montgomery of the Washington Post. Jonathan Bernstein watches the trainwreck: A plain blog about politics: You Keep Using That Word...: Via Jonathan Cohn... WaPo's Lori Montgomery and Paul Kane say.... Democrats were demanding more than$800 billion in new tax revenue, causing heartburn among the hard-line fiscal conservatives who dominate the House Republican caucus.

Wrong. Fiscal conservatives are deficit hawks. They don't want the federal budget to run a deficit. That's what fiscal conservative has pretty much always meant. Fiscal conservatives do not dominate the House Republican caucus. Fiscal conservatives appear to have virtually no influence with House Republicans. To the contrary: as far as I can tell from their actions, mainstream conservatives just don't believe in the concept of budgets at all these days. If you don't believe in budgets, then you really can't (effectively) care about deficits, no matter how much lip service you give to it. All of which is well within their rights (although at least a bit goofy, given both their anti-deficit rhetoric and the mathematical facts of individual spending and tax decisions).

But it's wrong for objective observers to describe Republicans as fiscal conservatives, when in fact it's Democrats, for better or worse, who appear through their actions to actually care about reducing budget deficits. It's bad reporting by Montgomery and Kane.

Indeed.

But there is more: the very next thing to cross my desk--for unrelated reasons--was another Lori Montgomery special, this one from last August:

CBO says stimulus may have added 3.3 million jobs: The CBO said the act also increased the nation's gross domestic product by between 1.7 percent and 4.5 percent in the second quarter, indicating that the stimulus may have been the primary source of growth in the U.S. economy. The Commerce Department estimates that GDP grew 2.4 percent in the second quarter, a figure many economists expect to be revised lower in a report due out Friday.

Lori Montgomery thinks that the CBO said: "the stimulus was responsible for between 1.7% and 4.5% growth in the second quarter." She notes that actual growth in the second quarter was at the rate of 2.4%/year, and concludes "the stimulus may have been the primary source of growth in the U.S. economy".

The CBO said: "compare what happened in this world with what we think would have happened in an alternative world in which the stimulus bill was not passed. We estimate that in this world the level of GDP is between 1.7% and 4.5% higher than in the alternative world."

She simply did not understand what the CBO report meant.

Why oh why can't we have a better press corps?

## What Was Herbert Hoover's Fiscal Policy?

In his Budget Message setting out his plans for taxes and spending for fiscal year 1932, Herbert Hoover begged Congress not to embark on any "new or large ventures of government". He admonished congress that even though "the plea of unemployment will be advanced as reasons for many new ventures... no reasonable view of the outlook warrants such pleas". And he boasted that he was proposing a balanced budget--even though revenues were mightily depressed by the Great Depression.

This is not a time when we can afford to embark upon any new or enlarged ventures of Government. It will tax our every resource to expand in directions providing employment during the next few months upon already authorized projects. I realize that, naturally, there will be before the Congress this session many legislative matters involving additions to our estimated expenditures for 1932, and the plea of unemployment will be advanced as reasons for many new ventures, but no reasonable view of the outlook warrants such pleas as apply to expenditures in the 1932 Budget. I have full faith that in acting upon these matters the Congress will give due consideration to our financial outlook. I am satisfied that in the absence of further legislation imposing any considerable burden upon our 1932 finances we can close that year with a balanced Budget. When we stop to consider that we are progressively amortizing our public debt, and that a balanced Budget is being presented for 1932, even after drastic writing down of expected revenue, I believe it will be agreed that our Government finances are in a sound condition...

Over at the Atlantic Monthly, Megan McArcle claims that "Hoover was no budget-cutter":

Hoover Was No Budget-Cutter: Hoover did not tighten up on spending.  According to the historical tables of the Office of Management and Budget, spending in 1929 was $3.1 billion, up from$2.9 billion the year before. In 1930 it was $3.3 billion. In 1931, Hoover raised spending to$3.6 billion.  And in 1932, he opened the taps to \$4.7 billion, where it basically stayed into 1933 (most of which was a Hoover budget)...

In his Budget Message for fiscal year 1933, Hoover wrote:

In framing this Budget, I have proceeded on the basis that the estimates for 1933 should ask for only the minimum amounts which are absolutely essential for the operation of the Government under existing law, after making due allowance for continuing appropriations. The appropriation estimates for 1933 reflect a drastic curtailment of the expenses of Federal activities in all directions where a consideration of the public welfare would permit it.... The welfare of the country demands that the financial integrity of the Federal Government be maintained.... [W]e are now in a period where Federal finances will not permit of the assumption of any obligations which will enlarge the expenditures to be met from the ordinary receipts of the Government.... To those individuals or groups who normally would importune the Congress to enact measures in which they are interested, I wish to say that the most patriotic duty which they can perform at this time is to themselves refrain and to discourage others from seeking any increase in the drain upon public finances...

That is not a man who wants to open up the taps. That is not a man who thinks that he is opening up the taps.

So what is going on here?

I think that Megan McArdle's major problem is that she is looking at one table--Table 1.1 in OMB's Historical Tables. She is not reading Hoover's Budget Messages or any other documents from the Hoover administration, not reading histories of the Hoover administration, not identifying how what congress finally enacted and what Hoover signed differed from what Hoover had originally proposed--or indeed, at how as the Great Depression deepened Hoover decided at the very start of calendar year 1932--halfway through fiscal year 1932--to push for measures (Reconstruction Finance Corporation, Home Loan Bank, direct loans to fund state Depression relief programs) that increased spending--but did so alongside the Revenue Act of 1932 that increased taxes.

After he decided that he was President and that the Treasury Secretary Andrew Mellon whom he had inherited from Coolidge worked for him and that Mellon should go off to be Ambassador to the Court of St. James, Hoover did decide to do something to fight the Great Depression. Tax increases to try to balance the budget in order to call down the confidence fairy made up the biggest part of his plan. But Hoover also sought to fund state relief. And he sought to set up GSE's (RTC, HLB) to restart broken capital markets.

But to say that "Hoover was no budget-cutter" misses most of the story. Hoover would have been a budget-cutter in normal times. Hoover was a budget-balancer. Hoover held the line against powerful political forces that sought to increase government spending in the Great Depression for fully 2 1/2 years before endorsing what seem to us to be half-measures.

## George Will and Gretchen Morgenson's Claims That Fannie and Freddie Caused the Financial Crisis: For the Virtual Green Room

Rebutted by Dean Baker:

It really is incredible to see such a concerted effort to rewrite history in front of our faces. There is not much ambiguity in the story of the housing bubble. The private financial sector went nuts. They made a fortune issuing bad and often fraudulent loans which they could quickly resell in the secondary market. The big actors in the junk market were the private issuers like Goldman Sachs, Citigroup, and Lehman Brothers. However, George Will and Co. are determined to blame this disaster on government "compassion" for low-income families. The facts that Will musters to make this case are so obviously off-base that this sort of column would not appear in a serious newspaper. But, Will writes for the Washington Post....

Here's what Moody's had to say about Freddie Mac in their December 2006 assessment:

Freddie Mac has long played a central role (shared with Fannie Mae) in the secondary mortgage market. In recent years, both housing GSEs have been losing share within the overall market due to the shifting nature of consumer preferences towards adjustable-rate loans and other hybrid products. For the first half of 2006, Fannie Mae and Freddie Mac captured about 44 percent of total origination volume -- up from a 41 percent share in 2005, but down from a 59 percent share in 2003. Moody’s would be concerned if Freddie Mac’s market share (i.e., mortgage portfolio plus securities as a percentage of conforming and non-conforming origination), which ranged between 18 and 23 percent between 1999 and the first half of 2006, declined below 15 percent. To buttress its market share, Freddie Mac has increased its purchases of private label securities. Moody’s notes that these purchases contribute to profitability, affordable housing goals, and market share in the short-term, but offer minimal benefit from a franchise building perspective. (p 6).”

This puts things about as clearly as they possibly could be. Moody's was concerned that Freddie (the same applied to Fannie) was losing market share to the private issuers because they were not big actors in "adjustable-rate loans and other hybrid products [i.e. junk]." However, they were cheered by the fact that Freddie was moving in this direction. In other words, the private issuers were very clearly the big actors and Fannie and Freddie were jumping in as a business decision to preserve market share. In other words, it was profit, not government compassion that drove this bubble.

Just to be clear, Fannie and Freddie were horrible actors in this story. I criticized them throughout this period and raised the possibility of these two mortgage giants being sunk by the bubble as early as 2002. Housing is all they do, how could they have totally missed the largest housing bubble in the history of the world?

Rebuttals to talking-points misinformation that I want to have at the forefront of my brain--for when I am surprised, as I will be, by an unexpected question from an unexpected direction while talking to reporters, phone callers, passers-by, radio interviewers, cable TV interviewers, etc....

## 2004 Domaine Robert Jayer-Gilles Echezeaux du Dessus, France, Burgundy, Côte de Nuits, Echezeaux Grand Cru

From Cellar Tracker:

2004 Domaine Robert Jayer-Gilles Echezeaux du Dessus, France, Burgundy, Côte de Nuits, Echezeaux Grand Cru: VarietyL Pinot Noir.... Drinking window: Drink between 2010 and 2014....

Echezeaux Grand Cru: >Echezeaux includes 93 acres in Flagey-Echezeaux making it the second largest of all the Burgundian Grand Cru vineyards. More than 80 producers own parcel, including DRC. These wines are known to be light and incredibly refined.

## "Instead of Twirling Our Thumbs We Have Rolled Up Our Sleeves"

Mark Thoma sends us to Ronald Dworkin quoting FDR:

How FDR Did It: For nearly four years you have had an Administration which instead of twirling its thumbs has rolled up its sleeves. We will keep our sleeves rolled up. We had to struggle with the old enemies of peace—business and financial monopoly, speculation, reckless banking, class antagonism, sectionalism, war profiteering. They had begun to consider the Government of the United States as a mere appendage to their own affairs. We know now that Government by organized money is just as dangerous as Government by organized mob. Never before in all our history have these forces been so united against one candidate as they stand today. They are unanimous in their hate for me—and I welcome their hatred. I should like to have it said of my first Administration that in it the forces of selfishness and of lust for power met their match. I should like to have it said of my second Administration that in it these forces met their master.