Matt Zeitlin: Impetuous Young Whippersnapper

The WSJ has an excerpt from David Wessel’s new book, In Fed We Trust: Ben Bernanke’s War on the Great Panic,  which documents, well, Ben Bernanke actions in the great panic. The entire piece is interesting, but this one paragraph jumped out at me:

When the search for a successor to the then-venerated Mr. Greenspan began in the spring of 2005, Mr. Bernanke’s proximity to President Bush heightened the public speculation that he would be among the finalists, and he was. Others were Harvard’s Greg Mankiw and Martin Feldstein, Stanford’s John Taylor and a dark horse whose name never surfaced in the press: Stephen Friedman, a former Goldman Sachs chief executive and White House economic-policy coordinator. Each man was interviewed by a small search committee in Vice President Dick Cheney’s office for about 90 minutes.

It was bad enough for the credibility of the government’s response to the financial crisis that a former CEO of Goldman Sachs was running the Treasury Department, but the shitstorm that would have resulted from both Treasury and the Federal Reserve being run by two CEOs of the same investment bank would have been orders of magnitude worse. Now, I imagine that progressive critics of the Bush-Obama-Paulson-Bernanke-Geithner response to the financial crisis think that having Friedman at the Fed — or anyone else who came up in right wing policy and economic circles — wouldn’t have made that much of a substantive difference in the actual policy decisions, but I think everyone can agree that some sort of emergency, large-scale action by the Fed was necessary, and having someone with as solid a reputation as Bernanke at the helm was probably for the good.

I think, when all is said and done, the appointments of Gates and Bernanke will be seen as Bush’s best moves.

Dave Brockington at Lawyers, Guns and Money has an oldie but goodie complaint that you hear from anyone who thinks about tax and budget policies in a serious manner — that taxpayer funded stadiums are giant scams. Specifically, Jerry Jones has claimed that the new Cowboy stadium, which the city of Arlington contributed $325 million of the total $1.12 billion cost, will “be its own stimulus package that will help “the country and this world” dig out of the recession.”

And while the explicit subsidies cities give teams and their corporate sponsors for the construction of new stadiums is quite egregious, the far more common subsidy is exempting business or stadiums from paying taxes. Brockington points out that cities and states routininely exempt business from paying taxes in an effort to lure them into their jurisdiction. Everrett, Washington, for example, ‘”afforded Boeing large subsidies” to assemble the 787 there.

Now, of course, this is a very thorny problem because of its collective nature. While everyone would be better off if cities didn’t compete by slashing taxes (and thus their revenues) to attract businesses, it will generally be rational for a single city or county or state to do so. The real solution would be a total federalization of the tax code, which could only real happen if we had a federalization of budget and policy making, which for a variety of reasons, isn’t going to happen anytime soon.

Chris Hayes has a good essay in TAP on the oddly resurgent view that recessions, and even depressions, are not just normal parts of the business cycle, but are even morally beneficial.

As his modern example of this school, he focuses on Robert Samuelson, who constantly gripes about too-high social spending, and wrote The Great Inflation and Its Aftermath, which is a history of how economic planners in the 60s and 70s believed that there was an inverse relationship between inflation and unemployment, and thus promoted inlfationary monetary policy for essentially political reasons. There was then the horrible wage-price spiral, bracket-creep and stagflation, which helped pave the way for the election of Ronald Reagan and Paul Volcker heroically plunging the economy into recession in the early 1980s to purge inflation out of the system.

That’s at least the mainstream center-left to center-right narrative. Here’s Hayes’ version of the story, which, since it’s Chris Hayes, is the smartest possible leftist/social democratic version of those events:

It’s unclear however, whether the persistent inflation of the time was the result of the nature of the social contract, or a confluence of factors: a very long debt-financed war in Vietnam, combined with a loose monetary policy. And it is almost certainly true (and hardly controversial) that stable prices, while necessary for strong economic growth, are certainly not sufficient: George W Bush presided over one of the lowest average inflation rates of any post-war American president, yet his term left average wage earners worse off while precipitating the worst financial crisis in 80 years.

But for Samuelson, inflation is enemy number one, so much so that wringing it out of a system makes recessions look not so bad. “Recessions also have often-overlooked benefits,” he wrote in his Newsweek column last year, echoing, in an albeit softer tone, Mellon and Schumpeter. “They dampen inflation. In weak markets, companies can’t easily raise prices or workers’ wages. Similarly, recessions punish reckless financial speculation and poor corporate investments. Bad bets don’t pay off.”

With the unemployment sword of Damocles hanging over their heads, workers will think twice about asking for a raise, and all of this will lead to a robust kind of capitalism for the capitalists: one with low inflation, low interest rates and very high return to capital. If that sounds familiar, it’s an apt description of the economy of at least the last two decades, a kind of capitalism recently proven far less stable than it may have appeared, but one for which Samuelson is an unapologetic partisan: “The new economic order,” Samuelson writes, “is indeed inferior to the imagined and romanticized version of the old order. But it’s superior to the old order as it actually operated.”

Chris’ larger point, at the end of the essay, is that economies require some sort of political management, and that the Chicago School/Mellonist account of depressions and recessions as natural parts of the business cycle is one that A. is simply incorrect and B. not coincidentally tends towards favoring those policies which benefit the wealthy, lending and poweful. I largely agree with him — and Paul Krugman, whose work on recessions he cites — but I think the episode Samuelson recounts is a truely exceptional case.

That’s because the recession of 1981 was, unlike the recessions and depressions that business cycle theorists and Mellonists occasionally laud, was deliberately engineered by Volcker to break the inflation that was crippling the economy. He intentionally drove interest rates up so that prices would finally fall, even if it meant a decrease in growth.  Unlike other recessions, which aren’t good for the economy and simply lead to a lot of wasted capacity and unnecessary human suffereing, the 81-82 recession was specfically designed to achieve some long-term positive results for the national economy. Most recessions, needless to say, aren’t deliberately managed by financial wizards like Paul Volcker.

While Hayes is right to say that the inflation had more causes besides the obsession with keeping unemployment down, there is no denying that acertain ignorance of the micro-foundations of macro movements in the economy played a large part in the horrible mismanagement of the economy during that time. Of course, those seeking to explain everything in the macro economy by reference to micro-foundations haven’t been very sucessful, but the case of stagflation and the Phillips Curve wasn’t only a general vindication of this approach, but a very specific example of what happens when policymakers just look at historical relationships and totally ignore how individual participants in a market will respond to their policies.

Back to Hayes more general point — that “economies need management and policy to maintain some kind of equilibrium” and moreover “it will be politics, not technical expertise, which provides the principles and rules that regulate” — I think that the early 80s are probably the best example of this. Reagan’s inflation crushing had a whole lot to do with this overall political agenda, and Volcker was only able to pursue his monetary agenda because the political circumstances favored it.

So, there was a big econblogosphere throwdown when Obama said that he was wary of a provision in Waxman-Markey which would require the President, in 2020, to  tariffs on some goods from countries that didn’t have caps on carbon emissions.

As Paul Krugman and Eric Posner point out, this kind of policy makes total sense on purely economic grounds. The point of putting a cap on carbon is to raise the price of goods whose production involves carbon emissions to something approximating the negative externality that is all this carbon warming the planet. So, a tariff which incorporates this cost would seem to make a lot of sense. Otherwise, production of carbon intensive goods will shift from the US to foreign countries that don’t cap emissions and we’ll have gotten approximately nowhere.

On the other hand, starting a trade war with China over this would be A. economically damaging and B. wouldn’t help anyone reduce emissions. Moreover, even if we do manage to pass and implement the fairly weak Waxman-Markey bill, we’ll still have next to know  There are also all sorts of other practical objections to actually implementing this policy.

Even if we manage to pass and implement this fairly weak Waxman-Markey bill, we’ll still have next to no moral capital in 2020 to browbeat countries that are still poor and have low per-capita carbon emissions into doing something about warming.

The best case scenario is that the tariff provision acts like the EPA claiming authority to regulate carbon dioxide. During the House debate on Waxman Markey, some Democrats justified their support for the bill on the grounds that EPA regulation of carbon would be too horrible to bear. As John Dingell put it, “”If you want something to shudder about, take a look at that.” Hopefully the possibility of tariffs will act in a similar way — as a harsh, unilateral and unappealing way of dealing with a problem that will be rendered unnecessary if the parties just get their act together.

And much of this debate is academic. Obama can sign a bill with the tariffs and says he opposes them, which would cool down any countries that are worried about protectionism from his administration. His opposition would be pure signalling because the tariffs wouldn’t go into effect until four years after he left office.

Development economics is a weird discipline.  People have a good idea of what causes economic growth in developed economies, but have a poor understanding of what causes underdeveloped countries to become developed one. For example, few people think that what happened in East Asia in the 60s and 70s constitutes a model that other underdeveloped countries can follow. There are disagreements over what causes poverty, whether it’s bad governments, bad geography or the aftereffects of broad historical events. And yet, poverty, in terms of net social cost is by far the most important issue in the world.

Much of his doubt about development economics has lead to some, like William Easterly and Dambisa Mayo, to totally reject the aid enterprise and advocate that we basically just stop any top-down developmental aid to Africa. Others, like Jeffrey Sachs, thinks that all of Africa’s problems are due to its poverty and that this  poverty can be eliminated through better designed aid programs.

The truth lies in the middle, but in a strange way. Easterly and those in his camp are right about one thing, the record of rich country intervention in increasing the growth rate or measurable wealth or income of poor countries, especially in Africa, is very low. We’ve been giving tons of aid, and income has gone nowhere. On the other hand, we have a very good record in public health interventions. Smallpox, for example, was eliminated through a top-down effort by the World Health Organization.

This is all just a big wind up to Charles Kenney’s new book, or at least its free online introduction. Kenney makes the important argument that despite the depressing “economic” (i.e. income) news coming out of Africa, there has been good news on public health, well being and quality of life. More importantly, economists should do a better job of recognizing that improvements in public health, even if they don’t come with increased incomes or economic growth, are still very, very important:

As suggested by the global reach of improvements in the quality of life, income growth has not been a requirement for improvements in health or education or civil rights. Even most countries that have seen per capita income decline over the past thirty years have seen health, education and civil rights observance considerably improve. This is the greatest success of development. The last century has seen a dramatic (and literal) decline in the cost of living.

…The fact that income appears to be a poor proxy for overall changes in the quality of life suggests the need for a broad focus –a broad definition of development—for policymakers. Given that it is not clear exactly which policies at which times will promote growth, and the tenuous nature of the connection between income growth and quality of life, the first rule for economic policymaking should be ‘do no harm.’ The grail of economic growth does not justify the degradation of health, education or civil rights.Regarding support for improvements in the broader quality of life, policies might include aiding the spread of ideas through approaches that increase demand for good health and education. Communications programs and payments for school attendance or clinic visits have a role here. In addition, with the quality of service provision increasingly important to outcomes, reform of the institutions of health and education should also be a central concern.

Of course, Martha Nussbaum and Amartya Sen have been saying some version of this for decades, but considering how development and aid policy has had a relative revival of popularity and relevance, it’s worth remembering that it’s not all about income and growth.

One of the more popular deep explanations of the global financial crisis is that one of its roots is the global savings glut, especially in Asia. The way this story goes — and its one that Paul Krugman, among others, tells with conviction –is that in the late 1990s, Asia and other oil exporting countries became huge savers, and thus, net lenders in the world economy. What’s weird, however, is that in China for example, savings went up faster than domestic investment. This money needed somewhere to go, and there weren”t enough places to put in China. Along with this increase in saving, there was a period of very low long-term real interest rates, making investment attractive, especially in the United States and some European countries. So, all this money floods into the U.S., it has to go somewhere, and ends up bidding up the prices of securitized home mortgages. The values of these investment vehicles crash, and the financial system nearly collapses.

But wait, isn’t the story here seem to say that high rates of saving are bad and that they lead to too much investment? Most economic theory seems to suggest that saving is generally very good, and moreover, a lot of economists and policy types are always recommending that we tax consumption so as to encourage saving. If that’s true, then Matt Rognlie is certainly right to say, what’s wrong here, the global savings glut theory of the crisis or lots of economic theory? And how should this affect our views about saving?

I don’t think this two views are very much in conflict. For one, the global saving glut types are saying that problem isn’t too much saving, but that some countries (America) save far too little and other countries (China) save far too much. So, all those questions about tax policy towards saving and consumption don’t seem all that relevant when discussing a global savings glut.

Also, Rognlie says:

….you could make an argument that funneling excess savings into inflated property prices is the essence of a destructive “savings glut,” while “excess” savings don’t do the same damage when placed in other kinds of investments. But this is both question-begging and unlikely to provide useful lessons about policy. We’re not going to have the exact same kind of bubble repeat itself in the next couple decades, and if only real estate is capable of transforming savings into an economically destructive force, this entire line of reasoning has little relevance for the coming years.

But the way Bernanke tells the story is that this global savings glut was real and actually led to a decrease in long term interest rates.

The combined effect of these developments, I argued, raised desired saving relative to desired investment in the emerging markets, which in turn led to current account surpluses in those countries. But for the world as a whole, total saving must equal investment, and the sum of national current account balances must be zero. Accordingly, in the industrial economies, realized saving rates had to fall relative to investment, and current account deficits had to emerge as counterparts to the developing countries’ surpluses. This adjustment could be achieved only by declines in real interest rates (as well as increases in asset prices), as we observed. The effects were particularly large in the United States, perhaps because high productivity growth and deep capital markets in that country were particularly attractive to foreign capital. The global saving glut hypothesis is thus consistent with the three key facts I noted earlier.

And while Bernanke, who was giving this talk in September 2007, doesn’t connect the glut to the crisis, plenty of other people have done so and are perfectly reasonable. This is not to say that savings and low interest rates always means asset bubbles and subsequent crashes, but just it’s worth watching out for when high savings and one part of the world leads to massive overinvestment in another.

Alain de Botton, writing in City Journal, has an interesting piece trying to resuscitate the importance of pessimism:

It’s time to recognize how odd and counterproductive is the optimism on which we have grown up. For the last 200 years, despite occasional shocks, the Western world has been dominated by a belief in progress, based on its extraordinary scientific and entrepreneurial achievements. But from a broader historical perspective, this optimism is an anomaly. Humans have spent the greater part of their existence drawing a curious comfort from expecting the worst. In the West, lessons in pessimism derive from two sources: Roman Stoic philosophy and Christianity. It may be time to remind ourselves of a few of their lessons—not to add to our misery but to alleviate our injured surprise and sorrow.’

While I think that our currently troubled economic times should remind us that things aren’t necessarily always going to get better, it’s worth pointing out that Seneca, or anyone living before the Industrial Revolution, was living in a vastly different world than ours. It’s almost too telling that Botton brackets the last 200 years as a time when the human psyche took a turn for the optimistic. If you look at any measure of well being — let’s say life expectancy — optimism seems like the natural reaction. Let’s look at these two charts:

As the first chart vividly shows, the world before the Industrial Revolution was vastly different from the world after it in a way that we can’t really appreciate. Greg Clark’s evocation of this transition is in Farewell to Alms is especially useful.

Before industrialization, any technological or sanitary advance that led to higher population and increased life expectancy just resutled in a malthusian “crunch” where the extra people would consume any surplus and the population would go back down as people died of hunger or disease. This brutal state of affairs, which of course inspired Malthus, would have an obvious effect on whether or not intellectuals counseled optimism or pessimism as the best default stance for evaluating the present and predicting the future.

Now, all of this is not to say that the tonic of someone like Seneca (or Keynes, or Minksy, or Marx) is useful in response to those who claim that just because things have been going well for a long time means they are going to indefinitely in the future. But notice how I reference three post-industrial economists as useful cautioners. I think what Botton is doing here, while intersting, actually shows the silliness of those like, say, Leon Kass, who insist that all the knowledge one needs to be a properly adjusted human being comes from humanistic study of classic texts.

When Botton evokes Seneca — a thinker who really is, in the grand scheme of things, quite obscure  — to come to the conclusion that “Because we are hurt most by what we do not expect, and because we must expect everything…we must…keep in mind at all times the possibility of dire events” I wonder why he had to go to 1st century Rome to think of something that smart people have been saying for as long as smart people have been saying things.

Especially because he’s talking about a financial crisis that isn’t all that inexplicable if one looked at modern economic history or read the work of economists and economic historians who discuss the problems of instability and asset bubbles. If everyone were more familiar with the work of Minsky, or read Paul Krugman’s columns about the housing crisis, or listened to Nouriel Roubini or, if you want to get all Great Books-y, read Marx, of all people, about the inherent instability of capitalism, and you’d have a much more useful diagnosis of the problem of over optimism thinking about financial markets than if you read Seneca. Another example of this tendency would be if you cited Burke’s work as an explanation for the invasion of Iraq would be a failure, as opposed to say, citing past American invasions/occupations or past invasions or Iraq. Sure, a telling citation of Burke will get you to the general conclusion that cultures can’t be remade overnight, but a look at the British experience in Iraq or America’s time in Vietnam would be much more useful in evaluating the specific question.

As far as I can tell, in the context of debates about policy – really anything, but especially police – the main advantage that familiarity with great works gives you is the ability to cite a wide range of thinkers that people instinctively respect but aren’t that familiar with to support a position that you already have.

Both graphs taken from Brad Delong, who gives proper credit here.

Despite the fact that I’m not an undergraduate there, I really do love UC Berkeley. Both my parents went there, I’ve been to a bunch of their football games, I live close to it and so on and so forth. Also, I’m an egalitarian liberal, so I’m double excited that Emmanuel Saez has won the John Bates Clark medal for being the best American economist under 40. The J.B.C.  medal is the second most prestigious award in economics, and is a very good predictor of future Nobel winners. Around 40% of the Clark winners have gone on to win Nobels. Also, unlike the Nobel, it’s only awarded every two years.

Saez is famous for his research on inequality. Basically, whenever you see a chart or graph or table tracking American income inequality, it’s based on research Saez did with his French college Thomas Piketty. As inequality has exploded since the late 70s, and especially in the past eight years, so has the relevance of Saez’s work. He’s certainly earned the honor.

It’s also a nice nod to UC Berkeley’s economics department. Academic economics is generally considered to be the domain of two institutions in Cambridge: M.I.T. and Harvard. Because of their prestige and proximity to the National Bureau of Economic Research, these two institutions get the vast majority of the best graduate students (nearly every academic economist you’ve heard of got their PhD at M.I.T. or Harvard) and a whole lot of the most prestigious economists end up at one of those two places. Berkeley, being the greatest public university in the world, also has a stellar economics department with some real world class talent (David Card, George Akerlof  and Christina Romer before she departed for D.C.), so it’s pretty cool that they’re getting some attention.

Econoblogging superstar Brad Delong, of course, is another sweet Cal economist.

I feel like, aside Eric Cantor’s dreams of being Newt Gingrich and a standing policy-preference for more corporate and capital gains tax cuts, there are a few conceptual problems that the entirety of the Republican leadership, and much of the conservative commentariat, have about our current economic crisis.

1. Unemployment is, aside from other economic problems (low growth, the financial crisis), is really bad for the welfare of people. This central fact can be elided by models of recessions which assume an average level of income and take a 100% welfare loss to one person being the same as a 1% loss to 100 people (Matt Rognlie has a better, more technical explanation here) and by the fact that, even if the income and modelable effects of unemployment aren’t huge, the happiness effects are very strong. Now, because unemployment is such a big deal politically and too individuals, we can expect the Republicans to get immediate political comeuppance if they can be effectively portrayed as anti-stimulus, and therefore anti-job.But, on the other hand, if unemployment remains too high, then expect Democrats to get pummeled in 2010 and 2012.

2. We really do need stimulus. Republicans and conservatives have had a variety of strategies to avoid confronting this essential fact. One is to adopt the absurd argument, most prominently promulugated by Eugen Fama of U Chicago, that because of the NIPA savings-investment accounting identity (basically, that private sector investment is equal to private savings, corporate savings and the likely-to-be-negative government deficit) means that stimulus can’t work to increase growth or decrease unemployment, in the long term.

The other bad, and equally silly, argument is the one spread by Michael Steele that the government can’t create jobs. This ignores the fact that actually the government creates plenty of real jobs but also that just getting people to work and getting money in their pockets may not be ideal, but as far as closing the output gap, stimuluating spending and increases general welfare, it’s a fine strategy.

There’s also the lack of recognition of the fact that monetary policy has failed and that, unless we want to just wallow in low growth and unemployment, we need to think of some way to close the output gap and stoke consumption. Becuase of this total ignorance about the need for fiscal policy to stimuluate the economy, we generally haven’t heard the good, constructive conservative stimulus proposals like this one sketched out by Greg Mankiw or this one by Bruce Bartlett. And because Republicans have become such No-Nothings, they weren’t able to constructively criticize the Obama stimulus plan. As Noam Scheiber argued, this should have been an engineering debate, not a poltical one. So, the GOP could have agitated to put in more payroll tax cuts or to reinstate the Investment Tax Credit or criticized genuinely non-stimulative spending. Instead, they made their baseline position an opposition to stimulus spending at all and 36/41 on the senate voted for the insane Jim Demint tax cut proposal. And where the centrists did go after the bill, they took out of the most stimulative parts.

But the main things one and two the Republicans understand all lead up to the big number three.

3. This recession really is different from past one. Not only are the drops in employment, growth and projected length exceed both the post WWII average, but they are probably only matched by the Great Depression, but there is no mechanism for us to naturally climb out the hole. As opposed to other recessions, where we eventually climbed out “naturally” (more or less), this recession, because it’s driven by a total crisis/freeze in the financial sector, could last indefinitely. Just look at Japan, which after 20 years of unimpressive growth, has had a one quarter GDP drop of 3.3 percent, with more bad times likely to come. As Matt Yglesias points out, Japan still hasn’t really fixed the problems that lead to the lost decade, and was able to climb out of the hole due to American-lead consumption of their exports.

But an export-lead recovery obviously isn’t an option if the entire world economy is tanking. So, we can’t just sit on our hands and pray for a reversion for the mean. In a depression, or a really large recession, or a finance-driven deep recession or whatever you want to call it, you can either wait a really, really long time and have the entire world face declining living standards for that entire time or you can try to take aggressive, quick action to get things back into shape. Now, obviously, there is no guarantee that whatever government action, be it stimulus or some sort of shock-fix to the financial sector. As far as I can tell, congressional Republicans and some commentators simply don’t understand the gravity of the crisis, or in Rush Limbaugh’s case, hope that Democrats fail anyway.

Free Exchange has an interesting post on the boom in finance salaries, discussing a recent Times article about research showing that “finance salaries display bubble characteristics that inflate when new innovation comes along. The bubble occurs when innovation is financed by debt or equity rather than existing capital. That creates demand for financial services, inflating paychecks and attracting skilled labour. The presence of skilled labour begets financial innovation, further inflating the bubble.” This makes sense a whole lot of sense. So, what’s our response to his bubble of a bubble behavior that results in massive inequality and eventually screws us all? Well, the research Norris, the author of the Times article, cites says that finance innovators will, in response to low salaries, go into government where they will become regulators.

This seems like a salutary development. The authors of the study, Thomas Philippon and Ariel Reshef, say that in the two times where sky-high pay in the financial sector immediately preceded a financial collapse, “regulators did not have the human capital to keep up with the financial industry, and to understand it well enough to be able to exert effective regulation. Given the wage premia that we document, it was impossible for regulators to attract and retain highly skilled financial workers.” So, now, better people will go into the regulatory profession and all will be well. The only problem is that more regulation (which is certainly needed) isn’t necessarily smart regualation. The problem Philippon and Reshef document is wasteful or superfluous financial innovation that, due to being debt financed, can expand to the point where it takes down the entire economy. So, if we get a bunch of new regulations that just result in similar chicanery and regulatory arbitrage, we won’t have gotten anywhere. Instead, Free Exchange argues, we need “smart” regulation. This is a rather banal answer, of course we need smart regulation that doesn’t result in wasteful regulatory arbitrage!

But how likely are we to get the regulatory balance just right? It seems like we shouldn’t put all our faith in financial regulation and instead adopt simpler policies to prevent these bubbles. So, along with higher capital requirements and trying to push back against bank consolidation (so we don’t get so many too-big-to-fail situations), I feel like increased marginal tax rates on the super-rich, along with more brackets for those at the pinnacle of the income distribution will do a lot to discourage this high-reward, socially non-optimal financial behavior without trying to outsmart the finance industry. 

And for all you who are thinking “Zeitlin, why are you writing about finance at 8 on Valentine’s Day?” let me say that I’ve already been out to dinner with a friend and I’m going to a play soon, so stop your crowing!

It’s pretty weird that the Democratic congress, and more specifically the Senate, is moving sharply to Obama’s left and put in provisions greatly restricting executive bay in their version of the stimulus bill. This is weird because it shows how misplaced, or if not misplaced, how oddly aligned the leftism is in the Congress. So, the Senate Democrats could have pushed for a bill without an AMT patch and with more money shifted towards infrastructure and transit spending, which would have moved their position to the left without being openly antagonistic towards the president. Instead, they inserted these pay provisions.

But let’s talk about the pay provisons. The Times says that they would “would prohibit cash bonuses and almost all other incentive compensation for the five most senior officers and the 20 highest-paid executives at large companies that receive money under the Treasury’s Troubled Asset Relief Program, or TARP.” Clearly, there are going to be two reactions from Wall Street. One is ceaseless complaining about the provisions. And so we see in the Post story on the provisions, the financial services industry’s cheap lobbyist crowing about how these provisions “undermine the current incentive structure.” The more sophisticated response would be to simply rearrange compensation for executive around the new restrictions. For example, the awards of restricted stock or other bonuses, under the Dodd Amendment, are limited to “one-third of their [executives] annual pay.” The other way around the restrictions is to give back the TARP money (or never receive it) and get a different job.

And so we have the dilemma, both in the short term and the long term. Clearly, we don’t want executives at banks which only exists due to incredibly generous taxpayer support to be taking huge bonuses and pulling down large salaries. But more important than just restricting salaries in general is to try to reform the institutional set-up of financial institutions that encourages relatively little money paid in salary and instead has  most compensation be paid in large, performance based bonuses.

The problem, and this has been known for a while, is that big bonuses encourage excessive risk taking. And while one would hope that some people who overleveraged on bad bets would get out of the game or not get bonuses, thus encouraging people to be more conservative, the facts of the last 6 or so years of the housing bubble clearly refute that. The problem is that, for reasons of human psychology and due to the general nature of finance, bubbles form and so it basically always makes sense to get a bunch of people to give you money, leverage it, and make bets on assets whose price you think are going to go up indefinitely.

And once so much of your pay is tied to performance, you realize that the ones taking the bigger, more leveraged and riskier bets are getting even bigger bonuses. In fact, the guy working at the next office may not have any skepticism about whatever bubble you’re both investing in and is thus making better returns than you are. You may even be at risk for losing your job, so you start making similar big bets. Expand this dynamic out to an entire industry with trillions of dollars are their disposal, and you get our current crisis.

Now, I don’t know how to reform the bonus-incentive structure in the long term. After the government no longer has the excuse of only restricting those receiving government money, real, harsh pay restrictions will be impossible to pass.

And while one consequence of any restriction on income is that it discourages income seeking behavior, I can’t help but suspect that somehow discouraging the best and the brightest from going into finance wouldn’t be a good thing. Do we really need such a large finance sector, if it has shown itself to be incompetent at the one thing of social value it provides: the spreading around of risk?

Of course, there’s a backdoor way of changing the incentives for people going into finance. Just raise marginal income rates on rich people, or better yet, create more brackets at the tippity top of the income scale. It is by no means guaranteed that, once (and if) the crisis is over, we will have the same income distribution that we had before. But it’s worth remembering that much of the growth in inequality, and specifically the assent of the hyper rich (the .1,.01,.001 percentiles) was attributed to people making a lot of money in the financial sector. So, if we had made it so that those risk-fed, bubble-based bonuses based on work that had little social value were highly taxed, maybe we would have gotten the double social benefit of more generously funding government programs that people use while discouraging this bad risk taking.

Gary Becker and Kevin Murphy, two conservative economists at U Chicago have one of the better sensible, economically grounded attacks on the stimulus plan in the Wall Street Journal. They make a bunch of points, but their main one is that due to the nature of the specific spending, which they contend is likely to be permanent (with the obvious exception of the state funding stopgap, this seems pretty true) the expected multiplier will be lower over time. The other long term concern is that, eventually, taxes will have to go up to pay for the permanent new spending, which will have negative effects on growth, and, in their estimation, should be counted against any immediate, stimulus related GDP gains:

The increased federal debt caused by this stimulus package has to be paid for eventually by higher taxes on households and businesses. Higher income and business taxes generally discourage effort and investments, and result in a larger social burden than the actual level of the tax revenue needed to finance the greater debt. The burden from higher taxes down the road has to be deducted both from any short-term stimulus provided by the spending program, and from its long-run effects on the economy.

We believe that it is incumbent on both supporters and opponents of the bill to thoughtfully evaluate each of these four factors. We recognize that how individuals will come out in their own evaluation of these factors will determine their attitude toward the stimulus package, and that there is considerable ground for reasonable differences of opinion.

Our own view is that the short-term stimulus from the legislation before Congress will be smaller per dollar spent than is expected by many others because the package tries to combine short-term stimulus with long-term benefits to the economy. Unfortunately, short-term and long-term gains are in considerable conflict with each other. Moreover, it is very hard to spend wisely large sums in short periods of time. Nor can one ever forget that spending is not free, and ultimately it has to be financed by higher taxes.

Look, these are reasonable concerns, and while I’d argue with them over their specific estimation of the value of the spending programs and the likely multiplier, they’re at least making sense. But the one thing that counts against their analysis is a big underestimation of just how big the crisis we’re in is. I’m sure you’ve all seen the super scary unemployment graphs and, just anecdotally, we’ve generally underestimated just how bad it’s been and with all the uncertainty in the financial markets, things could certainly get worse. I guess what I’m trying to say is that Becker and Murphy don’t seem to be grappling with the weird paradoxes of what Krugman calls Depression Economics.

As Krugman puts it (and let me note that he came to all these conclusions when he was just an universally respected mainstream economist), depression economics are weird, and overwhelming, radical and quick action is what called for. The possibility of ending up with a lost decade of high unemployment and low growth is just too devastating and so policy makers should do just about everything to avoid it.

So, sure, we should keep in mind that our stimulus spending should be as well targeted as possible and that we’re gonna have to pay it all back eventually, but this kind of dithering has the serious possibility of preventing the type of massive actions required to prop up consumption, demand and employment.

In my ideal world, Republican opposition to the stimulus would amount to hammering on how spending on infrastructure projects is likely to be too slow, how the spending that Obama does propose isn’t very stimulative and then proposing a stimulus that had a lot of targeted tax cuts to those most likely to spend them. In short, the Republicans in Congress, if they had any intellectual honesty or good faith, would propose something that looked like the Mankiw-stimulus.

But since the line being pushed by Republican lawmakers (not, and this is very important, conservative economists) is some bizarre hodgepodge of saying that all spending is bad no matter what along with the same tax cut proposals they have in times of prosperity, there is no real reason to take these arguments seriously. There are good faith, logical criticisms of the stimulus and possible alternatives to it, it’s just that the GOP isn’t interested in any of them

The problem doesn’t seem to be so much that conservatives and Republicans have “run out of ideas” it’s that they are simply uninterested in the good ideas that a conservative, opposition party would and should take up.

One of the more fascinating and original bits of social and economic criticism is Unjust Deserts by Lew Daly and Gal Aperovitz. The simple version of their argument is that nearly all economic growth and productivity gains can be attributed to social and public conditions that have little or nothing to do with the actions of any individuals. Our institutions and public investments create the conditions for growth and productivity and are actually the root cause of most anyone’s great individual wealth. So, if we assume that the pattern of income distribution should have something to do with desert, then our current socio-economic system, with very low taxes (for the developed world) on the rich, a tax preference for the types of income that rich people are likely to have and underinvestments in public goods, makes no sense from a moral standpoint. 

There are two ways to take this argument: one political and the other philosophical. Let’s deal with the philosophy first. Will Wilkinson, in both a fantastic diavlog with Daly and in a subsequent blog post, points out that assuming income distribution should reflect some notion of deserts is hardly non-controversial. Now, he comes to this conclusion from a libertarian perspective. In Will’s world, if people make an agreement to exchange some goods for services, as long as this interaction is fair, free and non-coerced, then we can’t object to the distribution that amounts from millions of these interactions. I think, in some basic sense, I’m closer to Will here. I lean heavily towards anti-foundationalism, meaning that I don’t put a ton of credence in claims of who “deserves” what. Instead, I think we can look pragmatically at which economic and political systems are the best. For example, Northern European countries have lower inequality, better public services and more social mobility. These outcomes seem to be better, on net, for just about everyone, so I think we should generally move in that direction. Closer to home, Democratic presidencies lead to more growth for everyone, while Republican presidencies tend to lead to slow growth for everyone except the richest. Ergo, we should probably vote for Democrats.

But clearly economic and social policy isn’t decided based on competing claims of desert or more basic claims over whether or not desert exists. Instead, there’s an ideology promoted by Republicans that A. Rich people deserve 120 percent of their income and that B. It’s better that rich people keep all they earn than to fund public goods. This strain of thought goes pretty deep into how Republicans think about politics — just see, how, when everything else failed, McCain attacked Obama as a redistributionist. And although he made some arguments about how government doesn’t do anything good with its money, his main argument was that redistbrution was ipso facto wrong. It’s into this situation where Daly and Aperowitz’s work is so important. If more and more people realize that these claims of desert are pretty dumb and that, in fact, public investments and institutions are responsible for the growth and productivity we all enjoy, then maybe Republican rhetoric on taxes will become less and less salient. 

*I should note that Outliers is much more likely to actually change how a signifigant number of people think about these issues, but I like talking about Daly and Aperowitz because they make a much more sophisticated and sound argument. 

**For more on Unjust Deserts, check out this interview in Dissent with the authors.

Mark Kleiman has a good post on a bunch of good urban and crime policies that Obama ought to pursue as president. As a general note, urban and crime policy seems to be an area—unlike, say, education —where wonks and academics have a pretty good idea of what works (or at least Mark Kleiman does) but because the electorally and politically significant symbolic overlays (i.e. black people being involved), there are some rather significant barriers to actually implementing any of these good ideas.

While most of the ideas are interesting, one stands out. Kleiman often makes the point that increasing taxes on alcohol is a pretty good idea. That’s because there is a pretty strong correlation between alcohol and violence, especially spousal abuse. To put it more concretely, “the relationship between the price of alcohol and the rate of assault, including spousal assault, is well-documented in the literature. Doubling the tax on beer (from a dime to twenty cents a can) would reduce the assault rate by at least 5%, and maybe as much as 20%.”

I have no reason to disagree with Kleiman here. Even if we didn’t use a sin tax to reduce a bad, distortionary tax in a revenue neutral fashion (like the payroll tax), the reduction in violent crime would certainly be worth it. What’s interesting—in a cute, bloggy speculative, lack of real evidence way—is how such a tax would affect college students, who have famously expansive beer drinking habits.

The usual behavioral response to an increased tax on beer would be to drink cheaper beer. That’s because we can assume that people want to drink a certain amount of beer, and with the fairly wide range in prices for booze, it’s easy to downgrade to Keystone or Busch without spending more money. The real interesting micro effects would be on those college students who are already drinking the real cheap stuff. One would think that college student beer drinking would be fairly inelastic, and that college students wouldn’t respond to a sales tax by buying less beer, they would just buy fewer of the non essential things (food, school books etc).

One real concern about high beer taxes is that, due to the aftermath of prohibition, there’s a lot of state-to-state (and even county-to-county) variation in beer prices because of the variation in sales taxes, which means you’ll have a lot of economically inefficient behavior (from the perspective of the government) just to avoid higher beer taxes (just look at Massachusetts, whose liquor stores suffer because the availability of cheap booze in New Hampshire).

An interesting way to dealing with this inefficient tax competition would be to complement sales tax increases with a federal increase in gas taxes. Since people are overly sensitive to the price of gas, a small increase in the gas tax would probably be effective in stopping people from sales-tax-shopping. And even if driving as a whole is fairly inelastic, extraneous driving to New Hampshire for cheaper beer driving is probably pretty elastic.

Of course, all of this could be avoided if we centralized more tax and economic policy, but that’s an entirely different argument.

And, one more thing, all of this stuff about college drinking is from observation of people who are over 21.

One of the things we hear from leftie critics of mainstream economics is that it’s an inflexible ideology always in favor of more free markets and less government. This, of course, isn’t true, but you couldn’t really blame people for thinking so in the heady pre-meltdown days. But today, I feel like the flexibility among free-market, mainstream economic types should be commended. We’ve had Ben Bernanke calling for a massive stimulus, Martin Feldstein calling for a large and quick stimulus and Greg Mankiw taking to the pages of the New York Times to explain why we’re living in a Keynesian moment. These are all three figures with impeccable mainstream economic credentials who have been appointed to top economic policy jobs by Republican administrations. This isn’t at all surprising – your basic economics textbook will say that, to prevent a deflationary spiral caused by a decrease in aggregate demand, you need to get the government to increase demand by engaging in a ton of deficit spending – but it goes to show that “mainstream economics” isn’t the hidebound handmaiden of disastrous conservative policy that it is so often made out to be.

Megan McArdle, following up on a cryptic post, elaborates a rather strange argument on the argument that the New Deal was responsible for saving America from a violent communist revolut:

There are two problems.  The first is that a program that must give people money so that they will not kill/imprison/etc the donors may be practical, but it is also immoral.  This means, it seems to me, that you can either claim that the New Deal is a sort of broad spectrum Dangeld, or that it is a moral necessity, but not both. 

The second is that this is not necessarily a good argument for New Deal programs.  If the concerns are merely practical, then perhaps the New Deal was the more cost effective way to buy peace; but perhaps not.  This could just as well be an argument for rich people buying bigger and better guns than poor people.  Even rich people are, presumably, entitled to shoot back.  

I think most of the people who make this argument are, in fact, being sophistic; they aren’t particularly interested in saving American capitalism, but they think that the people to whom they speak might be persuaded by this remarkably stupid and amoral argument.  I have, obviously, a mixed opinion of the New Deal.  But I find this particular “logic” an unbelievably offensive slur against my country.

There are good arguments against Obama appointing Larry Summers as Treasury Secretary. For one, he is generally thought of as being something of a pain to work with. Not only is he always the smartest person in the room, but he also lets everyone else know. For that, and a few other reasons, I think Tim Geithner would be a good choice. Check out Noam Scheiber’s profile of him for more.

But, seriously, people have to chill the fuck out over Larry Summers. Matt Stoller and Max Blumenthal, you are both not telling the truth when you say that Larry Summers advocated the pollution of underdeveloped countries during his tenure in the World Bank. This claim has been around since the early 90s and has been debunked plenty of times. If Larry Summers were really so horrible, would you need to tell lies about him? As far as more substantive claims against him, they are either tendentious or exaggerated. For instance, look at Stoller’s brief:

Summers was one of the key proponents of the banking deregulation of 1999 that led to the current financial crisis.  In addition, Larry Summers has argued that women are innately less gifted in science than men, that ‘Africa is Underpolluted’, that child sweatshop work in Asia is sometimes justified, and that job destroying trade agreements are good for America.

As far as banking deregulation goes, that’s really more in Robert Rubin, Phil Gramm and Alan Greenspan’s hands. Sure, Larry Summers doesn’t come off looking too good, but it’s not like he’s the chief villain of the late 90s. Also, I have yet to hear a good argument that the overturning Glass-Steagall has much to do with our current crisis. And I got Nobel laureate Paul Krugman on my side. As far as his comments about science and ability, he already lost the presidency of Harvard and I’m not exactly sure what his off-the-record, provisional, intentionally provocative comments have to do with his ability to be Treasury Secretary. Is Stoller worried that he won’t hire enough women? And re: the sweatshops and trade agreements, I’ll simply refer yall to “In Praise of Cheap Labor.” The author? Well, you have to read it to find out.

UPDATE: Noam Scheiber has a good defense of Summers here. His concluding point is very good. Summers has a long record of both setting policy and managing large institutions (including the Treasury Department). So, if you want to make germane criticisms of him, there’s a bunch of stuff to work with. The fact that critics are so quickly resorting to the specious (pollution memo) or the marginally relevant (gender/math controversey) proves that they are not making a strong argument. For a good argument against Summers, see here. I should also note that I have a pro-Summers bias. I just love ridiculously overachieving Jews*

*This is one reason why I’m so disappointed, as opposed to indignant, about, say, Noam Chomsky or Alan Dershowitz. 

Robert Samuelson has yet another mind bogglingly inane column. He first does his ritual criticism of “conventional wisdom,” declaring that stimulus in the form of direct government outlays to shore up consumer spending and/or employment (checks, jobs programs, public works, tax credits etc) is totally off the table. His reasoning is pretty weak. He notes that the first 152 billion dollar stimulus was mostly saved and that public works programs take a long time to get started. Well, his first point is fair, but it seems like a bigger stimulus could still lead to more consumer spending. And as far as public works goes, there are lots of projects that are ready to go except for a lack of funding. Also, most economists think we’re going to be slumping for quite some time, so the regular concerns about public works funding leading to these works being spent during a boom don’t seem to apply. Samuelson just ignores other ideas for more direct supply side stimulus like expanding unemployment benefits or increasing outlays for food stamps. These are much more directly tied to consumer spending, not to mention that they help out people who are directly suffering as a result of the downturn.

But let’s get to his three fashionably impolitic ideas. His first is actually decent – “Raise fuel taxes the equivalent of one cent a gallon per month for four years.” The arguments for it are the same as any argument for a carbon tax, and it makes no real sense as a stimulus measure to get us out of a slump

This second one is truly daft: “increase the earliest age that workers can qualify for Social Security from 62 to 64.” This measure wouldn’t function as a stimulus, wouldn’t save the government money (he even says that the checks retirees get later would be bigger). At best, it would encourage people to work longer, but compared to more direct forms of stimulus, it’s pretty weak tea.

His last suggestion is the only one that makes some sort of sense, even on its own terms: allow for offshore oil drilling. But his own reasoning is still quite lame “America’s huge foreign oil bill weakens our economy but also destabilizes the world economy. Oil producers don’t spend all they earn, dampening worldwide demand.” OK yeah, but offshore drilling won’t meaningfully affect the price of oil, especially since its crashed recently, for decades. Once again, as a stimulus measure, it makes no sense. The only good reason for offshore drilling I’ve heard articulated is that it would directly bit into our current account deficit, bu Samuelson doesn’t even mention that.

So, here we have a columnist for America’s preeminent newspaper for reporting and analyzing politics. He has the reputation of being highly numerate and for proving insight about economic policy. And he uses his position as a columnist to peddle three ideas that no economist would support as a stimulus measure in a slumping economy. He wraps his ideas up in the vestments of “controversy” and the fact that the president elect isn’t likely to implement any of them. In Samuelson’s world, the fact that an idea is politically unpopular and unlikely to be implemented is a sign of its strength. But, in the case of stimulus, the opposite is clearly true. We have a consensus from Ben Bernanke to Larry Summers to Jamie Galbraith that some sort of direct, classic stimulus is needed. What Samuelson is doing is trotting out his favorite ideas and saying that now is the best for them to be enacted. This type of column writing isn’t only misleading and pointless, it’s also quite unoriginal. 

There probably isn’t a better way to capture the hearts of the liberal blogosphere than declaring a love for graphic novels (just look at Yglesias’ Rachel Maddow swoon). But a mere declration of love isn’t the optimal way to induce blog-o-swooing. The best way to write posts entitled “Doctor Manhattan’s Rate of Pure Time Preference is Zero.” Awesome! (fairly large spoilers, however)

For a similar, though less visually interesting argument, check out Tyler Cowen and Derek Parfit’s “Against the Social Discount Rate.” 

I think if one put Doctor Manhattan and Derek Parfit in a room together, they would have a pretty interesting conversation.