Saturday, February 28, 2009

The 'Asian Model' Is No Alternative

. Saturday, February 28, 2009
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So says William Easterly:

Suppose we have a group of drivers leave New York at the same time to drive to Washington, and we interview the first 5 drivers who arrive in Washington. We find that they drove Lamborghinis at 150 mph, weaving in and out of traffic down the New Jersey Turnpike and I-95, out-running Highway Patrol cars who tried to stop them. Are they models for success getting from New York to Washington?

No, because since we only studied the “successful” first 5 drivers to arrive, we didn’t know about the vast majority of Lamborghini “failures” – the drivers who got into fatal accidents or were caught by the Highway Patrol and jailed for insanely reckless driving. On average, this approach was a disaster. On average, soccer moms driving mini-vans outperformed the Lamborghini drivers, if we study BOTH successes and failures.

So Asian success either happened in spite of statist industrial policy, not because of it, or industrial policy was an incredibly risky strategy that usually fails but occasionally has big successes, possibly in East Asia.

Either view would help explain why a huge amount of effort spent imitating East Asian success stories has NOT successfully replicated that success anywhere else.


One general problem with social sciences is that the counterfactuals aren't always obvious: everything we study has selection bias, because we can only analyze events that have actually occurred; we look into an alternate universe to see how things would be different if we tweaked this input or that structural alignment. So it's one thing to look at the meteoric economic rise of countries like China in recent decades and conclude that state-run economies present a viable alternative model for market-run economies. But we can't know the counterfactual: China may have grown faster without so much government interference*.

At least that's what Easterly is saying. For another view, Blattman suggests this essay by Dani Rodrik [pdf].

*In any case, one must only look at the economic degradation during Mao's reign to see how much an economy can collapse if a government gets it wrong.

Friday, February 27, 2009

The State of Things

. Friday, February 27, 2009
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The new TNR econ blog passes along a juicy anecdote:

As another illustration of this, consider an example I got from Orin Kramer, a hedge fund manager and prominent Obama supporter. Kramer has a friend who recently bid on a bundle of home-equity loans the government was auctioning off (presumably after having seized a bank that owned them). The homeowners in this case weren’t subprime deadbeats but people with solid credit histories who were scrupulously making their payments. Still, the friend was the highest bidder at a measly 14 cents on the dollar—and, Kramer says, “I have another friend who claims he overbid.” (The government decided not to sell because it didn't like the price.)

This might sound like a classic "irrational despondence" issue—only 14 cents on the dollar for a bundle of perfectly upstanding loans? But there’s one big problem, as Kramer points out: None of the homes have any equity left in them. Thanks to the cratering housing market, these people's first mortgages exceed the value of their homes, which makes them good candidates to simply stop paying (both the original mortgage and the home equity loan).


The government essentially has three choices: let homeowners default on the loans and enter bankruptcy, destroying their credit and making banks endure the costs of foreclosure in exchange for a devalued house; force the banks to rewrite the terms of the mortgage; or take the risks of mortgage-default away from the banks, write-down the mortgages, and take the financial hit. President Obama's new housing plan tends towards a combination of second and third. But right now the banking industry is in a persistent state of flux. Obama should choose one of the three options, and go for broke with it.

Thursday, February 26, 2009

Buddy, 1996-2009

. Thursday, February 26, 2009
3 comments


Today we grieve the loss of a good friend.

We miss you.

Wednesday, February 25, 2009

Ah, it was the Gaussian Copula Function!

. Wednesday, February 25, 2009
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Mispriced risk.  The global economic contagion was created by mispricing (read, underestimating) risk.  And apparently this is all a Canadian-educated Chinese mathematician's fault (way to externalize blame!)


So, for me the question is how do governments create policy regimes that encourage proper risk-management?  Obviously, powerful governments have a credible commitment problem since the costs of letting a financial institution dissolve in the face of risk bets gone bad are untenable.  But, as the parable of the Gaussian Copula Function tells us, there is little incentive for financial institutions to moderate or to be cautious.  So, our outcome seems doomed to be Pareto sub-optimal.

Even more concerning is industry and governments proclivity toward over-compensation.  When this financial mess bottoms out and we recommence our dogged climb toward ever-increasing prosperity, there will probably be a heck of a lot of regulation concerning the ways in which CMOs and credit default swaps can be created, rated, bought, and sold.  But, the underlying cause of financial blow up was not crazy mortgage-backed derivatives per se, rather risk mis-management stemmed from a deeply human tendency to discount "outliers" and treat events that occur under a certain threshold of probability as practically impossible.  And, until risk calculations take correlation seriously, financial firms in their legal obligation to produce the greatest returns for shareholders will continue to find ways to delude themselves and their clients into believing that you can make lots of money without taking on any risk.

Obama's Gamble

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Tyler Cowen pulls out Occam’s Razor on Obama’s speech to Congress:

When you consider the speech as a whole, Obama is promising the largest attempt and most ambitious at rate of return arbitrage in the history of the human race.

Obama's speech was very effective but it is mostly about borrowing more money. It is odd that in a time when capital markets and attempted arbitrage have so failed us the solution is to resort to...capital markets and attempted arbitrage.


This is a gamble for Obama. His plans are ambitious, and perhaps the problems of today call for ambition. But Obama’s plans are contingent on the faith of foreign and domestic lenders in the U.S. government. Right now the government can borrow at very low rates of interest, and so Obama wants to borrow today in the hopes that when the bill comes due the yield on our investments will have made up the deficit. In a sense, Obama is placing an intertemporal carry trade bet with U.S. currency: he’s gambling that the dollars he borrows today will be more valuable than dollars he (or his successors) has to pay back later. It might pay off. It might not.

Or perhaps Obama is setting the government’s discount rate at some very high number. What theory is he operating under? If you view Obama as the head of a very large household, then perhaps he is trying to smooth out our national consumption. In other words, he’s playing a Keynesian game with Friedmanite justifications. Has this ever happened before?

Theoretically, Obama’s gamble doesn’t look much different to me from the Greenspan/Bush gamble following the bursting of the tech bubble. It’s being couched differently, but really he’s playing the same game. Didn't work so well the last time. I guess we'll have to hope for better results this go round.

Monetary Policy as Counter-Insurgency Strategy

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Via Blattman, here's the abstract of a new NBER working paper [pdf]:

Between 2004 and 2009, Iraq’s currency experienced a massive real appreciation, driven by both nominal exchange rate appreciation and high inflation. The forces driving this appreciation include the end of economic sanctions, the rally in oil prices, and the influx of US aid. During the same period, a number of insurgent groups confronted the Iraqi government. While once posing a formidable threat to Allied forces, the insurgents now seem to be in a terminal decline.

In this essay, we argue that the real appreciation of Iraq’s currency may have played an important role in weakening the various insurgent movements. Many of these organizations were heavily dependent on foreign funding, and the appreciation eroded the purchasing power of their foreign funds. This may have forced insurgents to turn to forms of domestic financing that are inherently inferior for two reasons. The first is that the collection of local “taxes” by insurgents would reduce their popularity. The second is that local collection of revenue increases the autonomy of local insurgent commanders at the expense of central command authorities.
Correlation doesn't equal causation, of course, but it's certainly an interesting thesis.

Monday, February 23, 2009

Mixed Signals

. Monday, February 23, 2009
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In times of crisis, we look for reassurance. Roosevelt told us that we have "nothing to fear but fear itself." President Obama is as yet unable to offer the calm reassurance and clear direction markets seek. As one commentator noted, "since the president last went on prime-time television, the stock market has been crumbling. The spread of the worldwide recession is part of that, of course, but the perception that the administration has not worked out what it wants to do to fix the financial crisis — and, like its predecessor, is making it up as it goes along — has played a major role."

Lest you think I am too unkind to our new president, consider these confusing statements from the administration. “The capital needs of major U.S. banking institutions will be evaluated under a more challenging economic environment,” the administration said. “Should that assessment indicate that an additional capital buffer is warranted,” it continued, the banks could be required to give the government a right to acquire common shares, with voting rights...Administration officials said the new statement stopped well short of declaring that regulators were ready to partly or wholly “nationalize” any major banks" (My italics).

If full nationalization is 100 percent government ownership, then isn't the government acquiring a 40% ownership stake with full voting rights "partly nationalizing"? Of course it is, as any sensible person knows. The administration's insistence upon doing x and calling it not x contributes mightily to the perception that the administration is making things up as it goes along.

Why is the administration struggling to develop and articulate clear policy direction? I don't know, but I can suggest three quite different hypotheses.

  1. The Median Voter: Administration policy must satisfy the median voter. The median voter did not elect Obama to give more money to big banks. The median voter believes this is something only Republicans do. As the emergent consensus seems to be that nationalization is the necessary next step, the need to appeal to the median voter forces the administration to obfuscate.
  2. Interest Groups: Administration policy must satisfy the interests of private financial institutions which want government money but not government control. I I think (though don't know for sure) that the donors are as likely to be those who manage and work there rather than those who own the banks. This could create different incentives regarding nationalization. Shareholders care about their equity; managers care about their jobs.
  3. Intra-administration Politics: having populated his economic team with multiple very large egos, the administration is saddled with conflicting policy ideas and the absence of a clear procedure to decide authoritatively among them.
Of course, it might very well be all of the above or something else entirely. Or, it might be the scariest hypothesis of all, that the administration has no idea what they are doing, and are just making things up as they go along.

Sunday, February 22, 2009

Deflation Watch

. Sunday, February 22, 2009
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Brad DeLong passes along a troubling picture:



Consumer prices were flat over the past 12 months.

America's Lost Decade

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We've already had it:

Over the past ten years, the S&P 500 is down 50% adjusted for inflation (February 17, 1999 to February 17, 2009). By my calculation, the stock market was down roughly 50%, adjusted for inflation, in the worst ten years of the Great Depression (September 1929 to September 1939).

When you add in the fact that real wages were stagnant over the past ten years and debt soared, I think we will look back at the last ten years as a decade of despair.


(ht: Free Exchange)

Friday, February 20, 2009

The Great-ish Depression

. Friday, February 20, 2009
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Menzie Chinn says things are really bad in the industrial and manufacturing sectors:

To sum up, industrial production is lower than at the corresponding point in any previous post-War recession. For manufacturing output, the same is true back to the 1973 recession (as far back as this series goes). ...

It is interesting to see how fast output has declined in the past six months; industrial production has declined 9.3% (in log terms) since 2008M07, and manufacturing production by 12.3%. The three month rate of decline (annualized, log terms) is 21.7% and 31.7% respectively.

Thursday, February 19, 2009

Slow Start

. Thursday, February 19, 2009
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Tyler Cowen does not think Barack Obama is off to a good start:

The simple truth is that so far economic policy has fallen short of being good. Some (not all) left-wing bloggers may be reluctant to say this so early in the tenure of such a long-awaited administration, but perhaps a few of them are thinking it. There is the stimulus, the Geithner banking plan, and the housing plan. Of course there are differences of opinion but perhaps it is fair to say he is straining to be one out of three?


This does not even include his ramp-up of protectionism in Canada. I said this on Wednesday, in a more casual setting:

the stimulus bill was a piece of [junk] by almost any definition short of "anything is better than nothing" and contained very little actual stimulus, the much-anticipated Geithner "plan" was actually no plan at all (it amounted to "we're maybe gonna think about doing something about things at some point"), the mortgage bailout is ill-conceived and probably pointless, the protectionism coming from "Buy American" provisions and bailouts for GM workers in the US while GM workers in the EU are getting laid off is [bothering] the rest of the world to the point that CHINA is screaming at the US to keep trade open. and let's not forget Geithner's China-bashing during his confirmation hearing.

it's not insignificant that Obama's first trip is to Canada and Hillary's is to the Far East: Obama's already [irked] a lot of finance ministers around the globe, including our most important trading partners, and they're trying to keep [things] from spinning completely out of control. meanwhile, there has been literally no proposal for reforming/restructuring the financial regulatory system, no proposal for recapitalizing (or liquidating) the banks, no proposal for policy coordination with other countries, and Obama didn't even send a high-ranking official from his administration to Davos. without stability in the banking sector, the already-small potential positive effects of the stimulus bill will be greatly lessened. meanwhile, the stimulus bill contained the largest earmark in the history of the world, which will be used to build a coal gasification plant in illinois that has [irritated] environmentalists. Fed policy is in limbo, waiting to see what the Treasury is gonna do, and the Treasury has no idea what it's going to do. the entire thing is a [disaster] so far, and i honestly can't believe that Summers and Romer are pleased about the way economic policy has taken shape.

what is really needed is sectoral adjustment, and there is no indication that obama understands that fact or is willing to deal with it. most of his proposals are designed to prop up the old system rather than ease the transition to a new one. his approach to the Big 3 so far confirms this, as does his housing bailout plan. in fact, there doesn't even seem to be any sort of unified plan from the obama camp. his advisors are hardly speaking in public about the plans, and when they do they say things like "the president believes" rather than "we are doing this because the empirical evidence says...". the difference may seem a bit subtle, but it's powerful.


[edits in brackets because this is a family-ish blog]

I wrote that in anticipation of Obama doing "damage control" during his trip to Canada, as Alex anticipated yesterday. Back in October, I hoped that Obama was lying about his preferred trade policy -- and I still hope he's lying -- but it now appears more likely that he is actually interested in pursuing damaging trade policies in the middle of this Great-ish Depression. (i call dibs on that term, by the way.)

There is still a chance that whatever Geithner comes up with will be good, but I haven't been encouraged by the performance of the Obama administration over the past month. Indeed, given the political landscape it would have been difficult to do much worse in such a short period of time, and I say this as someone who voted for Obama largely because of the economic advisors he had chosen.

Obama put together a very good economic team before taking office. I really wonder what they really think about the policies so far enacted.

Nobelist Smackdown Watch

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Somebody who is probably Daniel Davies took exception to this effusive rave-up of Muhammed Yunus' Grameen Bank:

One doesn't want to be too mean about Grameen, because their heart is in the right place, (albeit their bank is in a very different place on the Bangladeshi income scale than it used to be pre- the massive restructuring in 2001, a fact which is not always made clear in publicity material). But they really do have a strong habit of overselling their projects. Sobi Rani, the woman quoted in the article "'gets' the basis of successful banking". How much does she get it? She sells yoghurt door to door, that's how much she gets the basis of successful banking. Well, she doesn't actually sell yoghurt any more because the yoghurt didn't taste very nice, but there's a profitable Grameen yoghurt business now and she's involved in it. Well, maybe it's not profitable, but it's been redesigned and it's going to be all over the country! Well, it might not get distribution right away, but they're still growing and opening up factories. Well, they're not actually opening up any more factories, but if the sales get better and they solve all the problems and make a profit, then they might. But at least it's Bangladeshi people helping themselves. Well, Danone is doing most of the managing at the moment, but anyway, the point is, ADVANTAGE: GRAMEEN! In your face, capitalism and foreign aid! Microfinance rules!


Maybe-Davies says later that microfinance has a place in the world, but his over-arching criticism still rings: if microfinance is so great, then why haven't outcomes in Bangladesh improved in the 30+ years since Grameen has been operating? Is it a problem of scale? Because there are 2,462 Grameen branches in Bangladesh, and the bank has loaned nearly $8bn in a country where GDP/capita is < $500/year.

Of course there are great success stories as well, so the worst that could be said is that the record is uneven. But the popular narrative is that microfinance is a panacea for all that ails the least-developed world, and that simply appears not to be true.

Word of the Day

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Econorrhea:

Broadly, attempts to explain why trillions of dollars in the world economy suddenly ceased to exist in the fall of 2008.

Specifically, any attempt to explain an economic principle, process, or effect that fails to follow the linguistic conventions of syntax and sense. Example: credit default swaps.


(ht: Blattman)

Tuesday, February 17, 2009

Obama Goes Abroad

. Tuesday, February 17, 2009
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President Obama takes his first foreign trip Thursday, but domestic politics will loom large as he tackles the explosive issue of protectionism in a meeting with Canadian Prime Minister Stephen Harper, the leader of the United States' largest trade partner.

At issue is a controversial so-called "Buy American" provision requiring the use of U.S.-produced iron, steel, and other manufactured goods in public works projects funded by the $787 billion economic stimulus bill.

Several Democratic-leaning unions and domestic steel and iron producers favor the provision; a large number of business and trade organizations are opposed.

Administration officials altered the language in the final version of the stimulus bill to ensure that the provision will not trump existing trade agreements such as the North American Free Trade Agreement, known as NAFTA. Canadian companies will therefore still have the chance to sell products used in stimulus-funded projects.

Canadian government officials, however, are still concerned by what they perceive as rising protectionist sentiment in the United States that could potentially spark a trade war and, in their opinion, deepen the global economic crisis.
As I'm sure you all remember, back during the primaries (feels like years ago huh?!), Obama caused a huge fuss with Canada and free traders when he said that he would pull the US out of NAFTA if it could not be re-negotiated. He has taken this line when speaking to critically important, free trade-sensitive domestic political audiences (unionized workers, workers in Pennsylvania and Ohio, etc.) in order to gather their support. 

However, back during the NAFTA-Canada fuss last year, Austan Goolsbee, an Obama economic advisor, met with Canadian government officials and assured them that Obama's NAFTA comments were merely a political tactic (or strategy?). Is the "Buy American" clause within the stimulus bill and other protectionist overtones merely another tactic aimed at satisfying the political demands of a relatively strong domestic political audience, or is it something that will actually be implemented and followed up on? My bet is that it's all a bunch of cheap talk aimed at his political base. What do you think?

Regulation Blues

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Viral Acharya and Matthew Richardson, professors at NYU, do a postmortem on the American financial industry:

But wasn’t the risk transferred through credit derivatives?
Somewhat surprisingly, this is not the ultimate reason the financial system collapsed. If this were it, then capital markets would have absorbed the losses, and the financial system would have moved forward. Instead, blame needs to be squarely placed at the large, complex financial institutions (LCFIs) -- the universal banks, investment banks, insurance companies, and (in rare cases) even hedge funds – that dominate the financial industry.
The biggest fault lies in the fact that the LCFIs ignored their own business model of securitisation and chose not to transfer the credit risk to other investors.
The whole purpose of securitisation is to lay risks off the economic balance-sheet of financial institutions. But the way securitisation was achieved – especially from 2003 to the second quarter of 2007 – was more for arbitraging regulation than for sharing risks with markets.


(italics added)

This aspect of the financial crisis is under-discussed. The popular narrative says that the crisis was caused by an extreme market failure, spurred on by self-regulation of financial markets and ratings agencies. But as Acharya and Richardson note, much of the "financial innovations" at the heart of the crisis arose because of regulation. In other words, the banking industry (which, in actuality, is heavily regulated) securitized debt as a means of holding more risk than regulations allowed. The actual workings of how this was done gets complicated very quickly, but suffice it to say that banks have on-balance sheets capital requirements which preclude them from directly accruing too much debt (i.e. over-leveraging). To get around the regulations, banks began holding off-balance sheet "special investment vehicles" that basically served the same purpose as holding excess risk, but with far less transparency. The ratings agencies looked at the balance sheets and saw banks that were within the regulatory rules, and with acceptable balance sheets, so they gave them good ratings.

Of course it was a house of cards. Everyone mis-priced the systemic risk that these derivatives created. But the irony is that the actual risk exposure to the banks would have been much more apparent to investors, and thus priced more appropriately, if there were fewer regulations, not more. Acharya and Richardson:

In a world without regulation, creditors of financial institutions (depositors, uninsured bondholders, etc.) would put a stop to excesses of risk and leverage by charging higher costs of funding, but lack of proper pricing of deposit insurance and too-big-to-fail guarantees has distorted incentives in the financial system. And, for years, regulation – capital requirement in particular – has targeted individual bank risk, when the justification for its existence resides primarily in managing systemic risk.


This is something that proponents of stricter regulation much answer to: if the underlying problem is that of regulatory arbitrage, will more regulation provide more security or more opportunity for risky arbitrage? The latter seems as likely as the former. (It is also instructive to note that the less-regulated hedge funds have generally fared much better in this crisis than the more-regulated banks, despite the fact that hedge fund operations are much less transparent.)

Unfortunately, if there are answers to be had we won't be getting them from Acharya and Richardson. Their proposals for the future of the financial regulatory structure are vague ("enforce greater transparency"; "prevent obvious regulatory arbitrage"), and beg the obvious question: if regulators and policymakers did such a poor job of anticipating this financial crisis, why should we have any faith that they'll be able to anticipate (and head off) the next one?

Monday, February 16, 2009

Japan Tumbles

. Monday, February 16, 2009
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Things are looking very bleak in Japan:

The Japanese economy, the second largest in the world after the United States, is deteriorating at its fastest pace since the first oil crisis of the 1970s, hurt by rapidly shrinking exports and anemic spending at home in the global financial crisis.

The real gross domestic product of Japan shrank at an annual rate of 12.7 percent from October to December after contracting over the two previous quarters, the government said Monday. In the fourth quarter, GDP dropped 3.3 percent from the previous period.


Japan is suffering from some of the same conditions as the U.S., including high unemployment exacerbated by an appreciating currency. But Japan is much more reliant on exports than the U.S. is, and has had a much less dynamic economy over the past few decades despite many rounds of stimulus and infrastructure spending. Japan's recovery will likely lag the recoveries of the U.S. and Europe, since they depend so heavily on external demand for their exports. A Fistful of Euros has much more, including a good analysis of why the situation there is likely to get much worse before it gets any better.

Macroeconomics: Dismal Once Again

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Economics used to be called "the dismal science" because of its Malthusian predictions: economies were always on a feast-or-famine cycle: the long-run standard of living was not high, and the long-run standard of living did not change. The Industrial Revolution changed all that (we think!), but that doesn't mean that the "dismal" tag doesn't still have its uses. Gregory Clark, chair of the Econ department at UC-Davis, says the state of the macroeconomic discipline is dismal, and not getting much better:

The debate about the bank bailout, and the stimulus package, has all revolved around issues that are entirely at the level of Econ 1. What is the multiplier from government spending? Does government spending crowd out private spending? How quickly can you increase government spending? If you got a A in college in Econ 1 you are an expert in this debate: fully an equal of Summers and Geithner.

The bailout debate has also been conducted in terms that would be quite familiar to economists in the 1920s and 1930s. There has essentially been no advance in our knowledge in 80 years.


I got an A in Econ 1 and Econ 2, but I pray that I'm not an expert in this debate, and I know that I'm not the equal of Summers and Geithner. Still, I know I can do better than this:

Recently a group of economists affiliated with the Cato Institute ran an ad in the New York Times opposing the Obama's stimulus plan. As chair of my department I tried to arrange a public debate between one of the signatories and a proponent of fiscal stimulus -- thinking that would be a timely and lively session. But the signatory, a fully accredited university macroeconomist, declined the opportunity for public defense of his position on the grounds that "all I know on this issue I got from Greg Mankiw's blog -- I really am not equipped to debate this with anyone."


Ouch.

(ht: DeLong)

Sunday, February 15, 2009

Weird Science

. Sunday, February 15, 2009
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I am puzzled by Paul Krugman's effort to defend fiscal stimulus against Rush Limbaugh's criticisms by invoking pre-World War I recessions. Here's the relevant part of a recent blog post: "How fast would the economy recover in the absence of a stimulus plan and a financial rescue? ...Well, my general view is that this isn’t your father’s recession; it’s your grandfather’s recession. And the experience with pre-WWII recessions may be a useful guide. I’m not just talking about the Great Depression; some earlier experiences may in some ways be equally or more relevant. So let’s look at the NBER business cycle data. What we see is that some of those prewar slumps were really, really long: the Panic of 1873 was followed by a recession that lasted 5 1/2 years."

The US didn't have a central bank (and thus a modern monetary policy) prior to WWI. Consequently, the monetary authorities could not respond to the panic of 1873 with monetary expansion. Moreover, the monetary authorities did not wish to respond to the panic with monetary expansion. Instead, Congress implemented a wingnut monetary policy by demonetizing silver in The Crime of 1873. Congress then remonitized silver five years later. The federal government also withdrew currency notes from circulation between 1875 and 1878 in connection with the Specie Payment Resumption Act.

The shift away from bimetallism in 1873 and the 1875 Resumption Act probably reduced the money supply; it certainly failed to expand it. The Friedman and Schwartz data show money supply (M2 and M3) falling between 1875 and 1878 . Short-term interest rates (commercial paper rates) averaged slightly above 6 percent through the 1873-1878 period, which seems high given the recession (and associated price deflation). The simplest explanation for why the recession that began in 1873 lasted five and a half years, then, is really bad monetary policy.

What is true for 1873 probably is true more generally about the post Civil War 19th century. Monetary policy rarely expanded in the wake of financial panics, and often contracted. Indeed, because many panics triggered (or were triggered by) gold outflows, they necessarily reduced the stock of monetary gold. Consequently, recessions followed panics. Some recessions, like that of 1873-1878, were long. Others, like that following the 1890 panic, were short (10 months). On average, though, 19th century recessions lasted almost two years (22 months)--more than twice as long on average as those that have occurred since WWII.

One might ask whether the less frequent and substantially shorter recessions we have enjoyed since WWII result from better monetary policy--even if all we mean by this is the absence of truly perverse monetary policy. This does not mean that there is no case today for fiscal stimulus. It does mean that there is reason to doubt a claim that in the absence of fiscal stimulus we will endure a five and a half year recession like that which befell our great-great grandparents in the 1870s.

You Know You Are in Trouble When...

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...the Italian Finance Minister accuses of you of borrowing too heavily. "Last week Giulio Tremonti, Italy's finance minister ... gave a tart review of the Obama administration's stimulus in a local newspaper here in Rome. 'If the problem is an excess of debt, the cure is not adding more debt, whether that debt is public or private,' he wrote in the Corriere della Sera. Italy is one of the most indebted countries in Europe. Its debt surpasses its annual gross domestic product."

Saturday, February 14, 2009

The Obama Tightrope

. Saturday, February 14, 2009
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It will be difficult not to fall off:

For Mr. Obama, the national debt has become a pressing dilemma. If he transitions too quickly from priming the economy with money to pulling back for the sake of fiscal rectitude, the president risks choking off whatever economic recovery he might spark in the next year. Ms. Romer points to the seesaw nature of the New Deal, when President Franklin D. Roosevelt would spend big one year and then back away the next, never allowing the economy really to get traction.

But if the administration waits too long to address the deficit, long-term interest rates may have to rise to attract buyers for all those Treasury bonds. That too could send the economy back into recession.


I'm defining "fall off" as a fate similar to Japan's since the mid-90s: lots of "stimulus" but no recovery. Lots of new infrastructure, but much of it wasteful. High debt-to-GDP ratios but little or no growth. An aging population putting increasing pressure on the budget through entitlement obligations. A banking system in flux, with a number of "too big to fail" zombie banks whose outright collapse would be massively damaging (see: Lehman Bros.) but whose continued existence prevents necessary adjustment in the financial sector.

The U.S. is not Japan, and we have some advantages over the Japanese (i.e. greater demand for our debt at lower yields, less dependence on exports to fuel the economy), but there are some parallels here and it is worth keeping them in mind.

Friday, February 13, 2009

The Largest Earmark in History

. Friday, February 13, 2009
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Back in December, I wrote that the stimulus bill would be the largest rent-seeking opportunity in history. Hate to say, but "I told you so":

That’s what Republican critics charge in the case of clean-coal funding in downstate Illinois. The Senate bill included a section dedicating $4.6 billion to “fossil energy research and development,” with a $2 billion line-item “for one or more near zero emissions powerplant(s).”

Sure, that doesn’t name one powerplant, and it leaves open the idea of funding multiple powerplants, but there’s plenty of evidence that this line was intended as—and will function as—an earmark for the FutureGen coal gasification powerplant in Mattoon, Illinois.

“There’s no other plant that would be eligible,” says John Hart, spokesman for Sen. Tom Coburn, R-OK. Durbin’s office, the Mattoon project’s champion, didn’t return calls for comment.


Mattoon isn't too far from my old neck of the woods, so I'm fairly familiar with this story. You see, central and southern Illinois used to be home to a large coal industry. But coal from Illinois is high in sulfur, which makes it burn less cleanly than other coal. The downstate coal industry was effectively shut down by Clean Air acts and shifting anti-pollution public opinion. The collapse of the coal industry, combined with the closure of several manufacturing plants, devastated the downstate economy, and the area hasn't yet recovered.

So this plan to develop FutureGen, a coal-gasification plant, was cheered by many. The problem is that the plant has never been anywhere near economically viable. In order to get it off the ground, it was always going to require large amounts of federal money. So Governor Rod Blagojevich hired lobbyists, and paid them very well with state funds, to lobby Congress. One of these lobbyists was Senate majority leader Harry Reid's chief of staff (who received over $300,000 from the state of Illinois). Another is former Representative Dick Gephardt. Obama has long supported the project in the Illinois legislature. Now, apparently, he's doing the same from the White House.

So here's the funny part: this FutureGen plant came about in Dick Cheney's much-maligned Energy Bill, which was written with the aid of energy groups. The goal was promote clean-energy. But environmentalists claim that there is no such thing as "clean coal".

So, this is a "green" plan that environmentalists hate, a payoff to Obama's old state with a barely-disguised payout to Senator Reid's chief of staff included, created by Dick Cheney (but opposed by Illinois Republicans), strongly supported by future inmate Gov. Blagojevich (who spent state funds to hire lobbyists to get the funding) and comes with a price tag of at least $2bn.

What's not to like?

(ht: Wilkinson)

Thursday, February 12, 2009

Sino-American Fist-Clenching

. Thursday, February 12, 2009
0 comments

Hillary Clinton will make her first diplomatic trip to Asia, including a stop in China. This break from tradition -- American diplomats typically visit Europe first -- is intended to signal America's willingness to engage China on a range of issues. China, however, is a bit reticent:

Mrs. Clinton is expected to build on the Bush administration's foundations in dealing with China. Under President George W. Bush, the U.S. established two formal engagement channels with Beijing in recent years -- the "senior dialogue" focused on security issues and a "strategic economic dialogue" led by former Treasury Secretary Henry Paulson.

Mrs. Clinton has said the Obama administration will seek "a more comprehensive approach" to engaging Beijing, without specifying the issues to be addressed. China analysts said these comments have piqued the interest of Chinese leaders who fear they could signal more U.S. attention to Chinese human rights, Tibet and Beijing's support for dictatorial governments in Myanmar and Sudan.

Trade is another potential flash point. During the campaign, President Barack Obama was critical of some Chinese trade practices, and his treasury secretary, Timothy Geithner, has accused China of manipulating its currency.


The discipline of international relations (including IPE) often boils down to studying difficulties in policy coordination between states. This is one example. The Bush administration was often derided for its strident tone and lack of diplomatic skills. Indeed, the Bush adminstration's diplomatic failures became a major issue for the Obama campaign in the last election. All Obama had to say was "I'm gonna do it differently than Bush did it" and that was enough.

The substantive Obama campaign rhetoric on foreign policy basically boiled down to "we're going to talk to people, and we're going to listen to people, and we're gonna have diplomacy, and then everybody's gonna get along with us". Unfortunately, it's not that easy; you can ask as sweetly as you like, but states are still going to resist conforming to your preferred policy unless there is some benefit for them. It is absurd to think that the Chinese will strengthen their human rights policies, end support of the genocidal regime in the Sudan, or invest in tons of "green" infrastructure in the middle of a economic slowdown if we just ask nicely enough. Those sorts of movements, if they are possible at all, will require major concessions from the United States in exchange, or significant leverage. Right now, we don't have much leverage over China, and we're not in a position to make many concessions, so the U.S. and China will just have to live with an uneasy symbiosis in the short- to medium-run.

The Politics of Insourcing

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A new proposal for stimulus, relayed by Friedman:

Leave it to a brainy Indian to come up with the cheapest and surest way to stimulate our economy: immigration.

“All you need to do is grant visas to two million Indians, Chinese and Koreans,” said Shekhar Gupta, editor of The Indian Express newspaper. “We will buy up all the subprime homes. We will work 18 hours a day to pay for them. We will immediately improve your savings rate — no Indian bank today has more than 2 percent nonperforming loans because not paying your mortgage is considered shameful here. And we will start new companies to create our own jobs and jobs for more Americans.”


From Alex Tabarrok, who adds:

Note that the multiplier on the "buy a house, get a visa" strategy would be much larger than any possible domestic multiplier since the money would come from outside the economy (and efficiency would improve as well.)

I think there would be considerable support among economists that immigration (buy a house, get a visa), a payroll tax cut and maintaining state and local funding would be reasonably good policies in this recession (albeit not necessarily sufficient) yet these policies seem to be the ones that the political system rejects out of hand. (See also Matt Yglesias here and here). Now, I can understand rejecting these policies as compared to doing nothing, ala a precautionary principle, but why these policies are rejected compared to taking a trillion dollar gamble is puzzling even to someone like myself schooled in public choice.


I recently praised public choice economists (relative to other macroeconomists), but if Tabarrok is really representative then I might have to take it back. Later in the same op-ed, Friedman writes "the U.S. Senate unfortunately voted on Feb. 6 to restrict banks and other financial institutions that receive taxpayer bailout money from hiring high-skilled immigrants on temporary work permits known as H-1B visas." Even worse, that sentence was quoted on Tabarrok's own blog yesterday. He seems surprised that we aren't encouraging immigration, but why should he be? The stimulus is being framed as an employment bill, and that employment is intended for Americans. No Congressperson wants to go back to their district and explain why they are giving 2 million jobs to Chinese and Indian immigrants while domestic unemployment is spiking.

Nevermind that those jobs (likely) wouldn't be going to Americans, or that those jobs would beget other jobs which would: that level of nuance isn't currently possible in the larger American political discussion. The median voter would respond to a bill that expands immigration like they always do: mumbling "Dey took our jerbs!" and voting the offending representative out of office. Ross Perot got 19% of the vote in 1992 almost entirely because of "Dey took our jerbs!" rhetoric. The biggest domestic policy battle of President Bush's second term was over what to do with immigrants already in the country. It is pretty much inconceivable that the Democratic Congress, after winning a large majority by campaigning on a vaguely-protectionist "support Main Street" platform, would make one of their first acts the passage of a bill allowing millions of immigrants to enter the country. Especially Chinese and Indian immigrants, since those two countries have been the target of many recent "Dey took our jerbs!" attacks.

And no, it doesn't matter that they'd buy our houses.

The fact that it may be a good idea is mostly academic. Given the political situation we're in, it would probably make more sense to push for a lowering of the payroll tax and expansion of payouts to state and local governments.

Wednesday, February 11, 2009

A Word Of Caution - Microfinance and the Global Financial Crisis

. Wednesday, February 11, 2009
0 comments

Since the current financial crisis was aided, among other factors, by access to cheap credit for those who could not afford it; one may wonder how microfinancial organizations are faring.  While many microfinancial advocates and practitioners - including Dr. Muhammad Yunus -insist that microfinance remains largely unaffected by the global economic downturn, there's reason to be a little more cautious.  


The deleterious effects of global economic strife on microfinance institutions seems three-fold.  First, in many developing countries, rising inflation means food prices and other necessities will quickly consume a larger amount of household budgets.  This could decrease repayment rates as well as gross deposits.  

Second, and often overlooked by many more sanguine commentators, ailing developed economies mean a decrease in remittances.  Remittances often help families with loan repayment and also contribute to savings deposits.  The drop in remittances could really be a big problem, especially since remittances topped $300 billion in 2008 (3 times global aid) and account for 25% of GDP in some developing economies.

Third, and perhaps most important, the recent trend of commercialization of microfinance is stalling.  It's harder for microfinancial institutions to secure bridge loans, especially in local currencies.  Commercial securitization, when it is available, is now more expensive and more risky if the terms require lending in dollars or euros (since many local currencies are experiencing instability).  Institutions that focus on lending rather than savings are most at risk, since they do not have diversified sources of credit.

The World Bank and Germany have announced intentions to support ailing microfinance institutions through the global downturn, but I think it is right to re-evaluated the usefulness of microfinance given the lesson of the global financial crisis.  In particular, it is important to remember that access to credit is not a panacea.  Credit is one facet of a healthy financial crisis.  Perhaps, going forward, the microfinancial industry should place more emphasis on the often neglected aspects of finance - savings and insurance.  Will's last blog post mentioned the great success of African microsavings institutions, particularly interesting since successful microcredit is often an enigma on that continent.  As microfinance matures, let's hope that emphasis will move towards the safety of savings and insurance, with the understanding that credit can help - but not drive - people out of poverty.

Monday, February 9, 2009

Microsavings: The New Microcredit?

. Monday, February 9, 2009
2 comments

From the the World Bank's PSD blog:

Just what does it take to make a successful female entrepeneur in the developing world? At least part of the answer is that a woman needs a relatively effective way to save money. A new paper on Savings Constraints and Microenterprise Development reports on the results of an experiment in Kenya that provided zero-interest savings accounts to village microentreprenuers:

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..formal savings accounts had substantial positive impacts on business investment for women, but no effect for men...roughly a 40% increase in average investment, four to six months after the opening of the account.


Emphasis added. Is it surprising that zero-percent interest-bearing savings accounts can have such a large effect? Perhaps, but the authors point to one possible mechanism:

..many women in developing countries face constant demands on their income (from relatives or neighbors), and it may be difficult to refuse requests for money if the cash is readily available in the house.


Of course, it's also harder to spend cash if you're not holding it in your hand, and these accounts didn't come with debit cards. Harder for the husband or child to spend it as well. Or maybe it's a purely psychological effect. Whatever it is, I'd love to see some more empirical work on this to see how well it holds up.

Chaque Nation pour Elle-même

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Apologies if the title is all wrong; it came from Babel Fish.

France has angered, well, most of the rest of Europe in the past few days. First, French President Sarkozy blasted British Prime Minister Brown for lowering the value-added tax in the U.K., and for not coordinating more on stimulus plans, misconstruing the nature of the British economy in the process (see link). Then, Sarkozy bailed out France's major auto manufacturers without bothering to coordinate with the rest of Europe first. This angered a few in the EU, notably the Czechs. Then Slovakia (Slovakia!) decided to play hardball:

Fico, the Slovak prime minister, joined in the criticism of Sarkozy's remarks about a possible return of French car factories to France.

"If one country starts behaving like this - for example, France - then we will send Gaz de France home," Fico said, referring to the state-controlled utility.


It would be funny if it wasn't serious. But this is in line with Drezner's protectionism-prisoner's-dilemma line.

One interesting thing: the WTO is starting to kick into gear. It's going to be interesting to see how involved they get, how early they jump in, how many complaints are brought before the dispute settlement body, how those disputes are ruled, and whether states accept putative tariffs or actually change their policies. International organizations, from the WTO to the IMF to the World Bank and even EU, are going to be severely tested over the coming months. My guess is that some of these organizations will look very different in a few years.

Sunday, February 8, 2009

Nudge, Nudge, Wink, Wink, Say No More

. Sunday, February 8, 2009
0 comments

In this post, I wrote the following in response to Robin Hanson:

I'll extend the question even further: If it's appropriate to keep the populace in the dark, then why not take the extra step and deliberately mislead them in order to get them to operate in the most socially beneficial ways? To ask that question is to answer it.


Apparently not. Deliberately manipulating "nudging" the populace is now the responsibility of policy makers, according Richard Thaler and Cass Sunstein. Both are noted academics, and the latter has been tapped to head the Office of Information and Regulatory Affairs in the Obama administration. They call it "libertarian paternalism" but Kevin Grier won't hear it:

This stuff is pretty much just trying to enforce a particular view of the world or pattern of behavior on others via implicit taxation. Paternalistic, yes, but libertarian? No.


We think that increasing the transparency of international institutions can actually make those institutions less effective at achieving their desired ends. And it's possible that if macroeconomists explain themselves, then stimulus might not work. So what's a little neurological subterfuge in the service of the greater good?

Well, that's a loaded question. One possible answer is that there's nothing wrong with it in the abstract, it happens all the time anyway, but governments are bad at it while markets are better. Call it the Harford Principle. Then there's Grier's view, which rejects state-sponsored paternalism of any kind. For my part, I'd add the following to the list:

1. Instead of tricking people into acting more rationally, we should actually teach them to be more rational.

2. Even if #1 is impossible, nudging is unlikely to work if we tell people we're nudging them. And who is really comfortable with the idea of being unconscious nudged by somebody in the Office of Information and Regulatory Affairs?

3. If people are biased, and any nudging program will be run by people, then why shouldn't we expect it to be biased as well? A corollary: If people make bad decisions because they have poor information, then why should we think that a government bureaucrat will have access to better information?

I wonder what the Hansonian view might be.

For more criticism of nudging, see this book.

Friday, February 6, 2009

What We Can Learn from Chile

. Friday, February 6, 2009
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Quite a lot, says Kaufmann of the World Bank:

To respond to the economic slowdown, the government has put together a counter-cyclical stimulus plan of about US$ 4 BN, being in a comfortable position to use the vast reserves (amounting to about US$21 BNs) accumulated in its stabilization fund during the surplus years. Thus, there is a solid macro-economic basis for this stimulus plan. Contrast this with what Argentina has done, for instance, where the government has raided the private pension funds!

The micro-economics of the stimulus package of Chile is also sound and worth looking into, since its composition is rather effective. It balances the needs of infrastructure, small enterprise development, and low income households. A notable absence in the package, which is worth emphasizing in the US today, are footprints from corporate (and lobby) capture by vested interests or pork barrel politics (and obviously there is no 'Buy Chilean' provision!).


More here and also here. We hear a lot about how Sweden and Japan have responded to past episodes, but mush less about other countries. To be sure, there are major differences between Chile and the U.S., so a direct comparison isn't wise. But that doesn't mean that lessons can't be learned.

What Is This 'Politics' Of Which You Speak?

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Wilkinson unwittingly explains why I decided to become an international political economist rather than an international economist:

The deeper problem, I think, is that the textbook theory doesn’t have any politics in it. In macroeconomics textbooks, government is a benevolent central planner beyond politics. It is assumed, for simplicity’s sake, that governments can act in perfect compliance with theory. It is also assumed that theory is settled before coming to a policy problem, that motivated disagreement over theory is not an essential element of democratic policymaking. But of course, there is politics, which trashes hope of either consensus on or compliance with theory. And that’s how we ended up with the legislative monstrosity actually under consideration in Congress.


Economists are often befuddled when politicians act "irrationally" by not putting standard economic theory into practice, and when voters reward them for this sort of behavior*. Strangely, the answer to the conundrum is often explained best by the economists' best friend: incentives. Politicians, interest groups, and the electorate all respond to their own incentive structures, and quite often that leads to "perverse" economic outcomes. Political scientists, on the other hand, spend our days looking at precisely these questions, and we even (sometimes) have answers to them! See, for example, this recent post by Dr. Oatley. Unfortunately, Wilkinson (and most of the rest of the commentariat) seems to be completely unaware that international political economy exists as a formal discipline.

Still, the whole post is worth reading. Two Nobel Prize-winning economists make appearances, and Wilkinson lays into Krugman's style as a commentator.

*Public choice economists do better at this. But public choice economists are a relatively new breed, and comprise a small minority of economists. Additionally, the public debate over the stimulus bill is being conducted by old-school macroeconomists, economic historians, and international economists. Public-choicers have barely had a cameo.

What You Don't Know Can't Hurt You, But What You Do Know Can

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[Updated to better represent Robin Hanson's intent; mea culpa.]

Robin Hanson asks whether macroeconomists should clam up during times of crisis:

Wise taxpayers who get stimuli tax rebate checks should mostly save them, realizing that future taxes must rise to pay for those checks. For similar reasons, wise taxpayers should also spend less upon hearing about government spending increases. So with wise taxpayers it is not obvious that tax rebates or government spending increases would help much with the downturn.

The consensus among macro-economists seems to be that people can in fact be fooled by such stimuli, but as Tyler indicates, it is not clear which policies most fool us. In particular, the more public attention we give to the stimuli, the less they might work. We might make people realize that they need to compensate via saving, and the more we scare folks into thinking we need huge stimuli, the more we might scare them away from normal economic activity levels.


Believe it or not, there's a pretty deep literature on "rational ignorance" but Hanson is wondering about the potential social benefits of intentionally keeping the populace in the dark.

I'll extend the question even further: If it's appropriate to keep the populace in the dark, then why not take the extra step and deliberately mislead them in order to get them to operate in the most socially beneficial ways? To ask that question is to answer it.

If Keynesian macroeconomic models really are contingent upon the populace acting irrationally, then we're all in trouble. Since I don't think that is the case, it would be better to have public debates and discussions about economic policy, even if it means having to listen to Joe the Plumber and Michelle Malkin from time to time.

The World Economies, Explained by Two Cows

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Find it here. A few favorites:

VENTURE CAPITALISM - AN ICELANDIC CORPORATION
You have two cows.
You sell three of them to your publicly listed company, using letters of credit opened by
your brother-in-law at the bank, then execute a debt/equity swap with an associated
general offer so that you get all four cows back, with a tax exemption for five cows.
The milk rights of the six cows are transferred via an intermediary to a Cayman Island
Company secretly owned by the majority shareholder who sells the rights to all seven
cows back to your listed company. The annual report says the company owns eight cows,
with an option on one more. You sell one cow to buy a new president of the United States,
leaving you with nine cows. No balance sheet provided with the release. The public then
buys your bull.

AN ITALIAN CORPORATION
You have two cows, but you don’t know where they are.
You decide to have lunch.

A RUSSIAN CORPORATION
You have two cows.
You count them and learn you have five cows.
You count them again and learn you have 42 cows.
You count them again and learn you have 2 cows.
You stop counting cows and open another bottle of vodka.


ht: McMegan, who also links to a Two-Cows explanation of the AIG implosion.

The Decider

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The White House is finally assembling its advisory committee of "outside experts". I am struck by how narrowly one must define "insider" in order to consider the people selected to serve on this committee "outsiders." Here's the list.

Paul Volker: Former Chairman of the Board of Governors of the Federal Reserve.
Martin Feldstein: Former Chairman of the Council of Economic Advisors (Reagan).
Laura D'Andrea Tyson: Former Chairwoman of the Council of Economic Advisors (Clinton).
William H. Donaldson: Former Chairman of the SEC.
Jeffrey Immelt: CEO of GE.
James W. Owens: CEO of Caterpillar.
Richard L. Trumka: Secretary-treasury of the AFL-CIO.
Anna Burger: Secretary-treasurer of the Service Employees International Union.

More importantly, are we really so puzzled about the nature of the current economic crisis that we need another advisory committee? Is the formation of another advisory body filled with inflated egos really going to help produce coherent policy? I find this a portent (and not a welcome one) of an eagerness to discuss and a reluctance to decide.

And though many laughed when W said it, let me quote some Harry S. Truman: "The President--whoever he is--has to decide. He can't pass the buck to anybody. No one else can do the deciding for him. That's his job."

Thursday, February 5, 2009

"Channel Fog Thickens; Continent Cut Off."

. Thursday, February 5, 2009
0 comments


Martin Wolf at the FT writes, "Unfortunately, what is coming out of the US is desperately discouraging. Instead of an overwhelming fiscal stimulus, what is emerging is too small, too wasteful and too ill-focused."

Paul Krugman writes, "As a wise man recently said, failure to act effectively risks turning this slump into a catastrophe. Yet there’s a sense, watching the process so far, of low energy. What’s going on?"

The picture above nicely depicts my answer to Krugman's question (which although typically viewed as mocking New Yorkers, I always suspected was in fact New Yorkers' way of mocking those of us who live in the tiny world beyond Manhattan in a way they figured we wouldn't get). But I digress. My point is that this picture nicely represents the typical Congress person's view of the world--just substitute "My congressional district" for 9th and 10th avenues (and maybe shrink the world outside considerably more). If you're British, I think the equivalent lies in the apocryphal but still amusing headline, "Channel Fog Thickens; Continent Cut Off."

All of which is just to say that the typical Congress person has a strong incentive to do things that he or she thinks will be good for his or her district and absolutely no incentive to think about much less do things for the world beyond. When you put 435 (or 255) of these similarly incentivized individuals together in a room, you don't magically wind up with a macroeconomist who has an incentive to care about "fiscal stimulus." You get 435 (or 255) individuals who ask "what's in this for my district." The result is exactly the bill the House passed, which in summary form is 13 single-spaced pages of spending on backlogged projects in (I bet) 244 districts (and I can only hope that the "Davis Bacon" provision is named for the man who proposed it rather than an ironic salute to the nature of the bill. Are representatives as sophisticated as New Yorkers?).

A relevant question, posed by a student in my class (Logan), is whether these District-driven spending plans aggregate into something that approximate the impact of an effective fiscal stimulus package. Krugman and Wolf seem to think not.

Wednesday, February 4, 2009

Playing Both Sides

. Wednesday, February 4, 2009
0 comments

From the FT:

The US Senate voted on Wednesday to soften a ”Buy American” plan in its $900bn stimulus bill after President Barack Obama expressed concern the original language could trigger a trade war.

Senators, on a voice vote, approved an amendment requiring that provisions that upset Canada, the European Union and other trading partners be ”applied in a manner consistent with US obligations under international agreements.”

The underlying Senate bill had required that all public works projects funded by the stimulus package use only US-made iron, steel and manufactured goods -- potentially putting the United States in violation of its commitments under the North American Free Trade Agreement and the World Trade Organisation’s government procurement agreement.

Obama, asked about the Buy American provisions in television interviews on Tuesday, said the United States had to be careful not to include any provisions in the stimulus bill that could ”trigger a trade war.”

”I think it would be a mistake ... at a time when worldwide trade is declining, for us to start sending a message that somehow we’re just looking after ourselves and not concerned with world trade,” Obama said on the Fox network.


Okay, so, the way I read this is that the US Senate, under pressure from President Obama (who himself is under pressure from Canada and the EU), decided to so weaken the 'Buy American' provision of the stimulus bill as to make it pointless. The original point of the 'Buy American' provision was pure protectionism. The "provisions that upset Canada, the European Union and other trading partners" were the parts that were protectionist. So if we're gonna remove the teeth from the 'Buy American' section of the bill, why not just remove it entirely?

An incident from the early years of the last president may be instructive. Recall 2002, when President Bush signed steel tariffs into law in exchange for fast-track negotiating authority for the Doha round of WTO negotiations. One the one hand, this move made little sense: Bush was a convinced free-trader, and he had a Republican majority in both houses of Congress. So why do it?

Fast-track authority in the Doha round gave the US credibility in negotiations that it would lack if any agreement required Congressional approval. President Bush could have known that the Doha round was fraught with difficulties that would make reaching an agreement difficult, and any sign that Bush was negotiating without pre-approval from Congress would make negotiating even more difficult. President Bush also could have known that the steel tariffs would be immediately challenged in the WTO dispute settlement court. Indeed, this happened, as the EU, Japan, Brazil, Korea, China, Switzerland, and others challenged the US policy. The steel tariffs were an obvious violation of WTO obligations, and the dispute settlement body ruled against the US. In 2003, Bush removed the tariffs, but kept the fast-track authority. Plus, he could credibly tell the American people that his hands were tied: he had to abide by our international agreements. It was win-win-win for Bush.

Perhaps President Obama is hoping for something similar: keep the 'Buy American' language to appease domestic political factions and get the stimulus bill passed, but sufficiently neuter it to avoid a confrontation with the EU, Canada, and the rest of the world.

(ht: DeLong)

The Next Big Resource?

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Interesting article in Monday's NY Times:

In the rush to build the next generation of hybrid or electric cars, a sobering fact confronts both automakers and governments seeking to lower their reliance on foreign oil: almost half of the world’s lithium, the mineral needed to power the vehicles, is found here in Bolivia — a country that may not be willing to surrender it so easily. 
Japanese and European companies are busily trying to strike deals to tap the resource, but a nationalist sentiment about the lithium is building quickly in the government of President Evo Morales, an ardent critic of the United States who has already nationalized Bolivia’s oil and natural gas industries.

For now, the government talks of closely controlling the lithium and keeping foreigners at bay. Adding to the pressure, indigenous groups here in the remote salt desert where the mineral lies are pushing for a share in the eventual bounty.
The lithium fields in Bolivia may just be the next crucial resource. (Maybe this should have been the plot of the latest James Bond movie "Quantum of Solace" instead of Bolivia's water supply...that was dumb.) We know that lithium is not only useful for car batteries. Lithium also powers every smart phone in the world and the mineral is increasingly being used as an alternative to nickel in other types of batteries. It's going to be very interesting to see how Evo Morales, Bolivia's socialist president, handles Chinese, American, European, and Japanese demands on his country's resources. This may be an area to watch in the coming months/years.

Good Reads for a Chilly Afternoon

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Russia's credit rating downgraded, though not all the way to junk status.

Dani Rodrik advocates financial regulatory experimentation rather than normalization.

Japan and the EU aren't feeling the love.

Valuing equity investments in microfinance.

Martin Wolf on why the U.S. is still needed to lead the international economic system, what the U.S. should do, what the rest of the world should do, and giving more resources to the IMF.

Speaking of the IMF, Dani Rodrik on expanding SDRs.

Congress's Bad Trade Policy

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It's very suspicious that the "Buy America" Condition is not receiving wider attention in US media outlets.  Perhaps Daschle's brouhaha was really smart political strategy to steal the spotlight from a really bad policy proposal that would probably be very popular with the median voter.


The EU, however, wasted no time decrying a return to Smoot-Hawley era protectionism.  Sending a letter to the US Congress, EU Ambassador John Bruton warned of trade wars, WTO dispute settlement court, and further protectionist spiraling.  Bruton, as well as Democratic and Republican leadership in the Senate called upon the moral authority of the US to resist the urge towards insularity.  President Obama came out today strongly against the condition, but it seems he may have difficulty reigning in Congress. (see here too)

Quickly, the problem with protectionism is that it tends to spiral - when one country initiates protective measures, other countries retaliate.  This pushes down trade, which is income-depriving on the aggregate level.  The political challenge to combating protectionism is that gains and losses for trade are unevenly distributed.  In the case of the "Buy America" clause, the United Steel Workers Union is lobbying to protect its interests.  The Steel lobby tends to hold a lot of sway since Congressional seats in many mid-west states are heavily influenced by the Union's endorsements and disparagements.  However, protection for one industry means losses to others, especially exporters.  That's why we see Caterpillar, GE, and other major exporters coming out against the provision.

It was really a matter of time until grandstanding on the stimulus turned from arguments over fiscal responsibility to arguments over protectionism.  What's scary is the wide-spread support for myopic policies that favor one industry over an entire economy.  What's relieving is Obama's turn from populist protectionist rhetoric to clear-minded understanding of the dangers of such a policy.   

Tuesday, February 3, 2009

The Depression in Song

. Tuesday, February 3, 2009
0 comments



Stock charts set to music using Microsoft's Songsmith music composition tool.

International Political Economy at the University of North Carolina: February 2009
 

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