Coordination Problem

And Now for the Good News

This year has certainly been one for the doom-and-gloom record books.  Even a die-hard optimist like yours truly has had to clean off his rose-colored glasses more times than he cares to remember, and misjudged the economy more than he cares to admit.  Granted, most of my current gloominess is the result not of the economy itself but of the way in which political actors, policy experts, and certain recent Nobel Prize winners have responded to the current recession.

But in the midst of all the doom and gloom, Radley Balko of Reason has done us all a nice favor by giving us an overview of the socio-economic good news in 2008.  Crime in general, sex crimes, cancer deaths and divorce are all down, life expectency and indicators of good juvenile behavior, not to mention average hours of leisure time, are all up.  He concludes:

Doom and gloomers have been predicting the downfall of American society for generations. The last 20 or so years in particular have seen incredible advances in technology that have given us a wealth of new choices, exponentially enhancing our personal and economic freedom. The worrywarts fret that our society can't handle that sort of freedom — that prosperity and unlimited choices coupled with the absence of need will spell our ruin.

This year's headlines aside, we seem to be handling it all pretty well.

I can think of no better way to ring out the old year and welcome in the new than a little perspective on the big picture.  Idiot politicians and Nobel Prize winners aside, I still hold to the same view as Balko does in his conclusion:  life on the 3rd rock from the sun has never been better.

I still firmly believe that human ingenuity, innovation, and achievement will always win out in the medium and long run over the forces of human hubris, ignorance, and mendacity.  Perhaps it is the remnants of the Randianism of my youth, but I could not wake up in the morning if I didn't believe the universe was a benevolent place full of wonder and joy there for the experiencing.  So as those of us who believe in liberty close out a year that has been awful for both the economy and good economics, we could all benefit from a little reminder that the amount of freedom we do have left continues to make the world an ever-better place for more and more of humanity. 

Those same forces of ingenuity and innovation and freedom have given us the technology that makes possible this blog and our ability to spread good economics and the message of freedom, even when both are under threat as never before.  Thanks to all of you, our commenters, for being an integral part of spreading those messages. 

Best wishes to all for a more free, prosperous, and peaceful 2009.

 

Baum on Capitalism...

In her last column of 2008, Bloomberg.com columnist Caroline Baum writes:

The year 2008 will be remembered as one that exposed the fatal flaws in free-market capitalism, sending it to an untimely death.

Or will it?

...

All I could think of was Winston Churchill’s assertion about democracy. Capitalism is surely the worst economic system, except for all the others that have been tried.

Full article available here.

Krugman's Historical Three Card Monte

Today's Krugman op-ed blog is a doozy.  See if you can spot the intellectual and historical sleight of hand here:

No modern American president would repeat the fiscal mistake of 1932, in which the federal government tried to balance its budget in the face of a severe recession. The Obama administration will put deficit concerns on hold while it fights the economic crisis.

But even as Washington tries to rescue the economy, the nation will be reeling from the actions of 50 Herbert Hoovers — state governors who are slashing spending in a time of recession, often at the expense both of their most vulnerable constituents and of the nation’s economic future.

Can you spot it?  He's quite correct that Hoover tried to balance the budget in 1932, and he's also arguably correct that doing so was harmful.  But notice what he doesn't actually say and only implies:  Hoover tried to balance the budget by cutting spending.  He did NOT.  In fact, he tried to balance the budget by signing the Revenue Act of 1932, which was a large tax increase, increasing the top marginal rate from the mid-20s to 63 percent. The effects of that tax increase on the deepening of the Great Depression can certainly be debated, but there's no doubt that it made matters worse to some degree or another, and that its relevance for cutting spending right now is questionable. 

What is particularly galling about Krugman's blog post op-ed (those are just the first two paragraphs) is that he both leads the reader to believe Hoover slashed spending (in fact he raised it) and also refuses to engage the question of whether the mistake Hoover made was "balancing the budget" per se, or raising taxes.  Again, one could have a good debate about the effects of the tax increase, but first Krugman would have to admit that it was in fact what Hoover did!  (UPDATE:  I should add that it's probably obvious why Krugman and other liberals would not want to admit that Hoover raised taxes to balance the budget - not only does it provide more evidence that Hoover was no friend of laissez-faire, it also puts them in the position of frequently taking the same policy position as Hoover did at the depths of the depression.  Talk about some history Krugman would certainly like to sweep under the rug...) Notice further how "Clintonian" this is:  he never lied here, just led the reader to believe something through implication that was not true.

In my last post, I wondered whether Krugman really read what his opponents have to say, leaving open the question whether he was ignorant or malicious.  Today's blog entry leaves much less doubt:  I'm doubtful he doesn't know the history and I'm far more certain that he very intentionally engaged in this sort of sleight of hand to take the important question of the role of tax increases off the table.

Nobel Prize winning scholars should behave better than that.  So should the Nobel Prize committee.

Paul Krugman Doesn't Get It, Part Whatever

What would Christmas be without more idiocy from Paul Krugman?  My present to Paul is a good fisking.  Here is the entirety of Krugman's blog post from today's NYT, with my commentary interspersed in italics:

Just a quick question for those who think that FDR prolonged the Great Depression by preventing a fall in nominal wages: what would be the benefits, right now, if the United States were to implement a Latvian program and cut everyone’s wages by, say, 15 percent?

First of all, it was both HOOVER AND FDR who are to blame in this story.  Second, those of us who take this position have not argued for the need for an across the board decline in wages.  The argument is that given the decline in prices caused by the Fed allowing the money supply to fall, not allowing wages to adjust in individual labor markets caused both high aggregate levels of unemployment and serious misallocation of labor across labor markets.  An across-the-board cut might have helped the first problem somewhat, but possibly worsened the latter. 

Why is it that people like Krugman can only think in terms of aggregate "programs" that have to be "implemented" rather than simply allowing markets to work?  It doesn't take a "program" to generate the needed declines in nominal wages, it just requires politicians (and expert economists) to stay the hell out.

Seriously, how would it help? The real monetary base would grow — but the Fed is already expanding the monetary base enormously, with little effect because short-term interest rates are essentially zero. (Yes, there would be a real balance effect, but it would be trivial.)

And now the real kicker:  no one is arguing for a fall in wages at the moment because we are not in the deflationary spiral that we were in from 1929 to 1933.  Geez Louise Krugman, do you actually read the arguments you claim to be responding to?  The whole rationale for allowing wages to fall instead of propping them up artificially was that nominal wages needed to fall so that real wages didn't rise and cause really high unemployment rates, like say, oh I don't know, 25%.  Somebody hit Krugman over the head with a copy of Friedman and Schwartz, then follow up with a slug of Vedder and Gallaway.

In other words, it won't help right now because we are not where we were in 1929-33, mostly because the Fed has supplied the necessary liquidity (if, perhaps, too much and with no clear way to absorb it back when the demand for money eventually falls).

Meanwhile, a general fall in prices would raise the burden of debt on everyone, almost surely having a contractionary effect on the economy.

So here’s the thing: if lower wages wouldn’t help now, why would they have helped in, say, 1935? Yet if you take away the wage argument, the whole FDR-made-the-Depression-worse thing falls apart.

ARGH!  Let's take the last point first:  now it's time to hit Krugman over the head with a copy of anything Bob Higgs has ever written on "regime uncertainty."  The argument that FDR prolonged the Great Depression hardly rests only on the claim he and Hoover didn't allow nominal wages to fall to adjust to the declining price level.  Higgs' work convincingly demonstrates that the bigger problem during FDR's years (including, say, 1935) was the regime uncertainty created by his constant "experimentation" and attacks on private enterprise, leading to very low levels of private investment.  So even if Krugman were right about wages, which he's not, the "thing" does not fall apart.

That aside, wages were already coming down by 1935, which is why unemployment rates were down from their worst years in 32-34.  Declines in nominal wages might have helped in 1935, although it's not clear how much of the unemployment then was due to wages being too high or private investors scared off by regime uncertainty.

So congratulations Professor Nobel Prize 2008, you have very successfully pushed over a strawman, making it abundantly clear you have no clue what people who you disagree with actually argue, and illustrated the fallacies of thinking in terms of "across-the-board solutions that have to be implemented."  And you did it all in one short blog post.  That might be a record for idiocy, even for you.

Why Bankruptcy Isn't the End of the World

One of the arguments that critics of the automobile bailout have made is that going into bankruptcy is not the end of the world, for the firm, the industry, or the economy.  Bankruptcy simply means that the courts step in to help the firm reorganize, sell off assets to pay of debts, etc..  The key point is that going into bankruptcy does not destroy the firm's capital, both physical and human.  As a result, that capital can become available for a new firm, perhaps even a competitor, to purchase at a discount and use more profitably than the bankrupt firm did.  In the case of the Big Three auto companies, doing things at lower cost and producing a better product would not be hard. 

If they declare bankruptcy and need to liquidate assets to pay off creditors, it's quite likely that other car manufacturers (and let's remember that "The Big Three" are not all of the "US auto industry" as many other firms have plants here) would be interested in buying up their factories and perhaps even rehiring their labor, though certainly with contracts less generous than the UAW's current ones.

If you doubt this scenario, check out this story on CNN.com today.  It involves a commercial bakery in Ashland, OH, that made Archway cookies.  It was closed a little while back by the private equity firm that owned it, leaving 300 workers without jobs or health insurance.  Then:

Lance Inc., a Charlotte, North Carolina-based snack food company, purchased Archway at a bankruptcy auction. And last week 60 workers were asked to return immediately, with perhaps more coming back in the months ahead.

They also provided the returning workers with a $1500 prepaid debit card, which many used for Christmas for their families, as well as immediate health insurance, not to mention coming back at their old wages and seniority.

Yes, it's a very nice holiday story, but it also shows a key economic principle:  allowing some firms to go bankrupt does not destroy physical and human capital, it only reduces their value.  As Israel Kirzner has long pointed out, every mistake made in the market by one entrepreneur represents an opportunity for another.  Bankruptcy is simply an orderly and low transaction costs process by which one firm's mistakes can be translated into opportunities for others. 

Well-functioning markets require that misallocated resources have opportunities to get reallocated to more valuable uses when those mistakes are revealed.  As Pete and Dave point out in their textbook, recessions are not when mistakes are made but when they are corrected - or at least that's what recessions SHOULD BE, if policymakers keep their fingers out of it.  Bankruptcy is one of the "microfoundations" of that correction process, and if we don't allow it to work, we simply perpetuate the mistakes that need correction and set ourselves up for much bigger problems down the road. 

Supporters of the auto bailout could use a refresher course on all of this. 

And happy holidays to 60 families in Ashland, Ohio, where bankruptcy proceedings allowed market correction processes to work, making for more sustainable longer-term jobs and, it would appear, more humane management.

Weathering Corruption in the Boston Globe

Today's Boston Globe covers my paper with Russ Sobel, "Weathering Corruption," which investigates the relationship between FEMA money and corruption in America. Check it out here.

FEMA, friend of corruption

Inflation is Everywhere and Always a MONETARY Phenomena: Isn't it?!

How can all these economists keep warning of deflation when the fed has been pumping money into the system like crazy?

Hans Sennholz: In Living Color on the Monetary Writings of Carl Menger

As readers of the blog know, my undergraduate teacher and mentor was Dr. Hans Sennholz.  The days we are living through right now are the days he taught his students about in his lectures and in his books, such as Age of Inflation (1979, rev ed 2006) and Money and Freedom (1985).  Sennholz was a critic of the world fiat currency system.  And in other books, such as Debts and Deficits (1987) Sennholz analyzed how fiscal imbalances and monetary irresponsibility went hand in hand.

Sennholz was a passionate defender of the teachings of the classical economists and the Austrian school of economics.  As a second semester junior and throughout my senior year, I was fortunate to be invited to his "graduate seminar" where the students (mostly from Argentina) that were earning their advanced degree from the International College under Sennholz would meet to discuss economics (Wednesday nights).  We read Adam Smith, David Ricardo, J. B. Say, John Stuart Mill, Carl Menger, Eugen Bohm-Bawerk, and Ludwg von Mises through the course of the year.  We discussed methodology, economic method, and public policy.  It was a great opportunity for me -- not yet a serious student, but still afforded the opportunity to be part of serious scholarly endeavors and witness it without the same expectations that the graduate students faced. I witneessed dissertation defenses and master thesis presentations in addition to our seminar discussions.  I just had to "wear a proper pair of trousers" (I was normally either in doctor pants, sweat pants, or shorts none of which were acceptable to Dr. Senhholz) and "keep up with reading" or as Sennholz characteristically explained "they will kick me out."  I had a wonderful undergraduate experience at Grove City College --- I was President of my fraternity (and all that implies), I was a co-captain of the tennis team (and we were very successful), I was dating my future wife and life partner, and I found my "calling" with economic argument and a career as a professional academic economist.  In short, professionally "I wanted to be like Hans".

Why did this man have such a powerful influence over me?  I think he was a great teacher of economics and he made the discipline come alive in a way that few teachers can do.  He spoke with a sense of urgency about the truth content of economics.  Listening to him made me want to read, and what I read made me want to listen even more carefully.  If a young student had any interest in economics, it would be hard for me to imagine a better "reading course" than I was exposed to at GCC designed by Dr. Sennholz --- first read Henry Hazlitt and Frederic Bastiat, then read Mises and Sennholz, then an indepth reading of the classics I listed above, and then a return to reading Mises, Hayek, Kirzner, Lachmman and Rothbard.  I might not have been as prepared as others entering graduate school for conventional economics --- I had read Mansfield's Microeconomics for intermediate, but my exposure to macroeconomics was reading Keynes (not a textbook) and Galbraith and Friedman.  Nor did I have formal course work in econometrics or mathematical economics as an undergraduate.  No, Sennholz had designed the major at GCC to include a year long history of thought sequence, and requirements in symbolic logic, as well as the economics courses which included principles, intermediate micro, contemporary (which in essence was intermediate macro), comparative, labor, and economic history.  Sennholz's courses ( I took everyone he offered, including futures trading) were mainly discussions of the main policy debates that followed from economic theory --- thus as I wrote in an essay honoring him many years ago now "relevance was a virtue" in his approach to economics.  Before I graduated I had read in economics not just the pro market side, but also critics of the mainline of economic teachings such as Malthus, Marx, Veblen, Keynes, and Galbraith, and not just Austrians but also Friedman, Stigler, and Buchanan on the market oriented side of the contemporary debates.  And we read original sources, not textbooks.  I did have courses in probability and statistics and calculus, but they were not tied to my economics major; just as I took several courses in philosophy and religion as part of my course of study.  Whatever I lacked in background for studying economic modeling and measuring, I more than made up for in my understanding of economic philosophy, public policy, and the writing up of economic argumentation.  This helped me because I understood the intuition of economics and what the modeling exercises were trying to capture and why it mattered for the underlying debates in economic theory and public policy.  And as Dave or Steve can attest to, we became obsessed with economics in graduate school --- including technical economics --- but from this perspective of getting at the underlying intuition (Dave remember the joy we had with Mike Alexeev and general equilibrium theory?  I am serious. Do you remember my presentation of Abraham Wald and the debates in the 1920s and 1930s on existence and stability? Or my paper on Stigler and Becker and utility theory).  As strange as it may seem given his extreme opposition to formalism, it was Dr. Sennholz who turned me on to the study of economic theory, and the urgency of getting the theory right in order to get the world of practical affairs right.

Well, today I stumbled upon a talk of his from right after I graduated from GCC in 1983. Thanks to the Mises Institute Media Project, you can see Dr. Sennholz discuss the monetary writings of Carl Menger.  I remember hearing a version of this lecture at GCC.  I think you can see in this lecture both his engaging style, but also this point about the urgency of the truth content I was stressing above, and also the connection between theory and practical policy which Sennholz always taught.  Bad theory results in bad policy; good theory guides good policy.  Enjoy!

It's the Scope not the Scale; or "The Rest is Just Scribbling and Bibbling"

Returning to the sheer awfulness of the Bush presidency, I wanted to address an argument "liberty" raises in the comments.  She argues that Bush wasn't so bad because of all the things he didn't actually do that FDR did.  No doubt, FDR is up there on the "awful" list, but I want to make the case for Bush's total awfulness by invoking a distinction Bob Higgs makes in Crisis and Leviathan.

Bob points out that the real problem with big government is Big Government.  What he means by that is that it's one thing for government to grow in scale, but when government grows in scope is when the real trouble starts.  The key to Bob's ratchet effect argument is that crises lead not just to government "scaling up" but to it acquiring powers that it didn't have before, i.e., a change in the scope of its powers. The other part of the ratchet effect argument is that when the crisis passes, the government might reduce its exercise of these new powers, but not all the way back to the pre-crisis level.  What people often miss is that this also means that those new powers lay dormant waiting for the next feasible situation in which they can quickly be activated. The long-run damage comes from the acquisition of those powers in the first place, not just their exercise in the specific crisis in which they are acquired.

Over the last few months (and I'm going to ignore the previous 7.5 years worth of similar points with respect to the "war on terror" and the Iraq mess), the Bush Administration has given the state a whole new bunch of powers that it did not have before in any real way. 

The Fed has given itself new responsibilities and powers that are nowhere to be found in any of its mandate, and it did so with the complete blessing of Bush.  Those powers have led to a doubling of its balance sheet in under a year.

The US government is now a part-owner of financial institutions (if not auto companies), and the power to do so is more or less new and represents a significant expansion of the scope of government power.

Third, the auto bailout represents an arrogant use of executive power (yet another in a long line of many by the Bush crew) in his unilaterally allocating TARP money to Chrysler and GM.  Exercising unilateral executive power that way within the economy represents a change in scope as well.  (And for our friend Sean:  can you point me to folks on the left who are objecting as loudly to this use of executive power as they were to those related to the war?  I'm not being sarcastic - I'd like to see it if it's out there.)

Many of the truly awful things Obama might do that "liberty" is concerned with will be things he will be able to do because of the precedent of the expansion of the scope of government power that the Bush Administration has engaged in over the last 8 years. And the blame for that expansion of scope belongs right at the feet of George W. Bush and arguably makes him the worst president of the last <insert large number here> years. Obama may well expand the scale, but it was Bush who ratcheted up the scope so that any Obama expansion will happen much more easily. 

Once the principles of government ownership, bailouts for everyone, Fed funding for non-banks, and unlimited executive power to intervene in the economy are granted, as the Bushies have done, anything Obama does will be just, in the immortal words of Mozart, "scribbling and bibbling."

Quote of the Day

It's still early, but I don't think anyone is going to beat Peter Klein:

"Bush and Paulson and Greenspan and their clique are “free marketeers” in the same way (to borrow from A. J. Jacobs) that Olive Garden is an Italian restaurant.  They adopt the language, and some of the form, of market advocacy without any of the content."