Economics

2010 10 25
What goes around


Posted by in: Economics, U.S. politics

I had occasion recently to reread bits and pieces of the book that turned me into a lefty. There is really no good reason why this should have been the book, but it was on the right used bookstore shelf at the right time.

The book is Frances Fox Piven & Richard Cloward’s The New Class War: Reagan’s Attack on the Welfare State and Its Consequences. I did not really know the name then, but glancing now at the Acknowledgments I see the authors thank, in 1982, a one Paul Wellstone for his comments on a previous version of the manuscript.

In the opening pages of their book, Piven and Cloward address the claim that it was concerns over inflation in 1980 that induced voters to toss out Carter and replace him with Reagan. They cite a Walter Dean Burnham (who?) to explain why that explanation won’t fly:

In both relative and absolute terms, the defections from Carter “were concentrated among those for whom unemployment was the most important problem. Among those selecting inflation, Reagan won by 67 percent, up only two points from Ford’s 65 percent showing in 1976.” By contrast, “among those worried about unemployment, the decline in Carter’s support was fully nineteen percentage points, from 75 percent in 1976 to 56 percent in 1980.”

We are seeing a similar defection away from Democrats now, and for the same primary reason. There is no need to cite the evidence in favor of huge Democratic losses next week. But here is recent polling data showing that concern over the economy and, more specifically, jobs decisively dwarfs concern about the budget deficit and/or national debt. And yet talk of the deficit and “ballooning debt” is all I seem to hear from the MSM and from the GOP candidates here in Wisconsin. Absolutely no one–not even Russ Feingold–is making the point that if we had a smaller deficit, unemployment would be much, much higher.

Of course, the GOP today will be just as eager to address these concerns once they regain (partial) power as Reagan was once he took office. And there is still little reason to rule out a double-dip recession, which would mirror the early Reagan years. Perhaps the only ray of hope is that despite those early trials for Reagan, he was reelected in 1984. Then again, at least Reagan could in 1984 ask the electorate with a straight face if they were better off than they were in 1979.


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2010 09 17
Mark Pauly on (Intra)class warfare


The other day I noted a seemingly bizarre inconsistency in Mark Pauly’s 1995 analysis of why the Clinton health reforms failed politically. I didn’t say, and don’t believe, that Pauly’s endorsement of the inconsistent political explanations was designed to promote a given ideological viewpoint. True, he seemed eager to discount the extent to which monied interests influenced the debate over health care. But at least he was willing to draw attention to those interests in the first place. That said, the following passage from the same text seems much less benign:

I hasten to add that this is not my own personal preference; I would prefer more redistribution. But I realize that I am being out-voted by other middle-class people who do not want to play more taxes. Indeed, I strongly suspect that a major blow to bipartisan health reform was the success of the president’s budget plan, which sopped up (and then some) any surplus willingness of the upper middle class to pay more taxes. We could have had universal insurance coverage or a lower budget deficit, but not both.” (Mark Pauly, “The Fall and Rise of Health Care Reform: A Dialogue,” 1995, p. 12.)

Here Pauly is claiming that it was the “upper middle class” who felt the brunt of the 1993 Clinton tax increases. This made them less willing to pay for health reform. Is this explanation plausible?

No, it is not.

According to economist Robert Pollin, the 1993 Clinton tax increases “increased the levy on [family] incomes over $140,000 from 30 to 36 percent, with an addition 10 percent surcharge for incomes over $250,000″ (p. 26). And according to the Center on Budget and Policy Priorities, these families had incomes in the top 5% of the national income distribution.

Here is a graphic from a report by the Federal Reserve Bank of Cleveland that shows the increase in taxes for families at different income levels:


Given that the the median family income was 54,369 in 1990, and given that only families in the top 3-4% (those above $200,000) really saw an appreciable increase in taxes, it seems to me quite inaccurate to say that the “upper middle class” paid for these increases. One might therefore think that the (upper) middle class should have been willing to pay higher taxes in order to finance universal health insurance for their fellow class-mates. That’s one way to look at it. Another way is to note that ostensibly non-ideological analyses misrepresented the nature of the tax increases, and thereby led the middle class to think their taxes had gone up. The point of such analyses, of course, would be to kill the increases politically. And the main reason one would want to do that is so that the rich would not have to pay higher taxes.

So I am beginning to question the sincerely of such Pauly pronouncements as, “I hasten to add that…I would prefer more redistribution.” That said, I’m still learning a ton from reading and re-reading Pauly’s latest book.


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2010 09 15
Intro, Meet Conclusion (Another in the “right-of-center health care analysis” series)


I recently mentioned Mark Pauly’s recent book on reforming the individual insurance market, which I plan to write more on shortly. But tonight I’m reading an exchange between Pauly and Princeton health economist Uwe Reinhardt from 1995 or 1996, and I’m simply flabbergasted by two claims Pauly makes. One the one hand, we get this statement from the introduction:

It is..probably true in large part, that the health care reform proposed by the president [Clinton] failed because Harry and Louise were more effective at scaring the middle class than were Ira [Magaziner] and Hillary [Clinton].

Then there’s this from the conclusion:

It might be helpful to point out a logical contradiction: if the middle class are so concerned about the welfare of the nonpoor uninsured that they will not force them to pay for the insurance coverage, why are the middle class unwilling to pay for that insurance for them? It appears that a little altruism is a dangerous thing…If we cannot convince the decisive voters of the value of what we value, then I think we need to accept the verdict of democracy.

So let me get this straight. Health reform failed because of a year-long insurance industry-funded campaign to scare the middle class. And it failed because the middle class decided in its infinite and dispositive wisdom that there is no social obligation to aid those without insurance. Huh?

To be fair, there is also this from the introduction:

[It is] a little surprising that two economists are talking about what is essentially a political issue, but I suppose that is the way it has to be.

God I hope that’s not true.

More on Pauly’s more recent book and John Goodman’s way of thinking about health care anon.


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2010 08 19
Kevin Drum Explains Social Security Trust Fund


Posted by in: Economics, U.S. politics

An admirable explanation that hits on the distributional ins and outs I referred to earlier this week.


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2010 08 17
Right Wing Health Reform Alternatives (I)


Posted by in: Economics, Health Care

I have moved on today to taking a look at John Goodman’s “Characteristics of an Ideal Health Care System.” Goodman has an informative and always pointed Health Policy Blog. He is President of the National Center for Policy Analysis, and the last page of his paper notes that the Wall Street Journal once called him “the father of Medical Savings Accounts.”

I expect I’ll be writing more about Goodman’s Ideal Plan, but one thing leaped out at me straightaway as somewhat curious. Like most proponents of Medical Savings Accounts, Goodman appears to want insurance to come in the form of low-premium/high-deductible plans.

Not being utterly callous, Goodman is willing to subsidize the purchase of insurance, to some extent (although he’s willing to offer subsidies of identical amounts to rich and poor alike). In order to determine the level these subsidies should be set at, Goodman argues that we already a socially set number: it is “the amount we expect to spend (from public and private sources) on free care for that person when he or she is uninsured.” Goodman then cites Texas, which he says spends an average of about $1,000 per year per uninsured person on free care. He then notes, “Interestingly, $4,000 is a sum adequate to purchase private health insurance for a family in most Texas cities.”

Although writing in 2001, Goodman’s $4,000 Texas insurance policy must have been a high-deductible policy. According to this Health Affairs article, average job-based family coverage was $588 per month in 2001, or $7,056 per year.  Surely a $4,000 policy, in the non-group market no less, would involve a significant deductible. If so, then the following is what I find curious:

A common misconception is that health insurance reform costs money. For example, if health insurance for 40 million people costs $1,000 a person, some conclude that the government would need to spend an additional $40 billion a year to get the job done. What this conclusion overlooks is that we are already spending $40 billion or more on free care for the uninsured, and if all 40 million uninsured suddenly became insured they would – in that act – free up the $40 billion from the social safety net.

If those $4,000 policies (in 2001) were high-deductible policies, then at least some, and perhaps many, trips to the ER by those with such policies will incur expenses that would not be reimbursed by their insurance. But if so, then the $40 billion that would go toward subsidies to insure the currently uninsured would not necessarily offset the entire $40 billion in free care that we provided to them now.

I really feel scummy pointing out that this health reform proposal with which I wholly disagree is not the free lunch Goodman presents it as. Ick.


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2010 08 17
Health Reform and Marginal Tax Rates


Posted by in: Economics, Health Care

I’ll hopefully have more thoughts on this soon. This post is just to get the two money quotes down.

In designing my upcoming course on ethical issues in health reform, I’ve been reading a lot of health economics, despite not knowing very much at all about the subject. And not knowing much at all leaves me helpless to evaluate disputes between health economists. A rule of thumb in these cases is to find out which experts are considered level-headed and always worth listening to by most of their peers. Again, how else could I proceed.

Two such experts in health economics are Victor Fuchs and Joseph Newhouse. Fuchs is well-known in many circles for his book, Who Shall Live? Newhouse is well-known for leading the RAND Health Insurance Experiment in the 1970s-80s. This week I have been reading article from Fuchs’ book entitled “Economics, Values, and Health Care Reform,” and a recent article by Newhouse on the recent health care reform law and the residual issues we are left with. Each is worth reading, but the latter is really, really informative, especially because Newhouse both praises the law for (what I see as) its virtues and expresses deep skepticism and concern over other elements. (If you want the paper, let me know in the comments.)

Here are two quotations from the aforementioned papers that I hope to return to in the coming weeks. First, Fuchs:

There are only two ways to achieve systematic universal coverage: a broad-based general tax with implicit subsidies for the poor and the sick, or a system of mandates with explicit subsides based on income. I prefer the former because the latter are extremely expensive to administer and seriously distort incentives; they result in the near-poor facing marginal tax rates that would be regarded as confiscatory if levied on the affluent.

And here’s Newhouse:

Although necessary to achieve compliance, the subsidies will have the negative effect of increasing marginal tax rates. Consider a family of four whose income is $55,250, or 250 percent of the federal poverty level. Their current marginal tax rate is 22.65 percent plus any state or local income taxes. Assuming that, as of 2014, the family buys the most generous health insurance plan covered by the subsidy, the premium will be limited to 8.05 percent of the family’s income. This feature of the law will effectively add 8.05 percentage points to the family’s marginal tax rate, since any additional dollar of income will reduce the subsidy by eight cents. Thus, the family’s marginal tax rate will rise by roughly a third. Economic research suggests that this would be likely to reduce the labor supply of those who are not the principal income support of the household.

Being a liberal and being largely ignorant in the way of health economics, I’m often too tempted to dismiss the sorts of concerns expressed here by Newhouse. Sometimes I have good evidence for this, as when I dismiss claims that raising the minimum wage will eliminate jobs. Sometimes I have to admit that I’m just not sure what to think about claims that it would be easier to ignore.


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2010 08 14
Krugman, Laniel, and Baker on those Gov’t Trust Funds


Posted by in: Economics, U.S. politics

Paul Krugman explains how we should think about all those claims that this or that trust fund is going broke. But one of my favorite explanations comes from Explananda’s friend Steve Laniel from an October 2009 post:

In any case, Medicare is “headed for insolvency” because it works off a fixed budget. Well, Part A (hospital insurance) does. Parts B (reimbursing doctors), C (Medicare Advantage), and D (the drug benefit) are funded out of general revenues, so they can only go insolvent when the U.S. government goes insolvent. Medicare Part A is forced to be responsible in a way that the rest of the U.S. government is not. Why does no one ever talk about the Department of Defense being “headed for insolvency”? If Landrieu is so concerned about the public fisc, why doesn’t she push for the DoD to be funded out of a dedicated payroll tax? Then every few years, we could go through a public rending-of-garments ritual over the DoD’s impending bankruptcy. I would enjoy this very much. At least then we’d have parity: conservative Republicans shedding crocodile tears over how Medicare will have to be cut to keep it afloat, and my party doing the same for the military.

Finally, a point from Dean Baker that I’ve not seen made before:

[W]orkers, and only workers, pay Social Security tax. It is a payroll tax that is capped at just $106,000, so the chairman of Goldman Sachs pays no more in Social Security tax than a senior teacher or firefighter who may also hit the wage cap. By contrast, most of the general budget is financed through personal and corporate income taxes, which disproportionately come from higher income taxpayers. So it matters hugely that the bonds held by the trust fund are repaid from general revenue, as opposed to coming from additional Social Security taxes.

I need to think more about the full distributional implications of this point. But I think the takeaway is that while a regressive payroll tax raised general funds for years under the guise of a medicare or social security “trust fund,” the accounting vehicle of the Trust Fund ensures that the inevitable “fix” when outlays outstrip revenues will not add insult to injury by also being regressive. Instead of increasing the regressive payroll tax, the revenues used to fix program deficits are those supplied by more progressive taxation on upper income individuals and corporations.


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2010 08 10
Food and Inflation


Matt Yglesias recently had a post on the proposed cuts in the SNAP program (a.k.a. foodstamps program) intended to offset proposed increases in child nutrition programs (e.g. school lunch programs). Yglesias cites this Monica Potts post that gives some background:

It’s worth noting that the increases in the food-stamp program were designed in the stimulus bill to be phased out once food-price inflation caught up to the expanded benefits, but because inflation was lower than expected, the benefits were going to last longer than anyone originally expected. It’s hard to imagine a situation in which politicians wouldn’t view those bigger-than-expected increases as free money. And it’s a small comfort to know the pot was raided for good rather than for ill.

This got me thinking of Mollie Orshansky, the brains behind the U.S. official poverty measure. That measure took the cheapest of four “economy food plans” and multiplied it by three, since at the time, in 1963, food constituted roughly one-third of the average family budget. Longtime critics of this measure have pointed out that the cost of food has increased much more slowly than the price of nonfood staples in the average family’s budget. Since the amount allocated for nonfood items is determined by the amount “needed” for foodstuffs, the official poverty measure fails to take differential rates of price growth into account.

This historical lag in food prices doesn’t necessarily entail a similar expected lag after the passage of the stimulus bill; but it is somewhat ironic that the issue of slow food price inflation has come up again in the context of policies ostensibly designed to aid the poor and near-poor but which end up adding insult to injury. After all, perhaps one way to make amends for screwing over the poor with an inadequate measure of non-food related resource deprivation might be to allow them a bit more in the way of food-related resources.

For more on recent and salutary developments in how the U.S. measures poverty, see this Yglesias post from March.


Howls of outrage (2)

2009 10 11
Can we Distinguish Insurance from Stereos?


In response to what he dubs “the stupidest argument against health reform”–namely the argument that universal health insurance requires people to pay for someone else’s health care–upyernoz writes:

“paying for someone else” is the whole concept behind insurance. the idea of insurance is that there are certain things (floods, catastrophic medical costs, car crashes) which can be so economically devastating that individuals would be ruined if they had to pay the entire thing out of their own pocket. insurance is a way of pooling risk, everyone pays in, only the unlucky ones draw out. but then everyone can feel more secure knowing they have insurance to fall back on if disaster hits.

in other words, all insurance involves you paying other people’s bills (or other people paying your bills). that’s what insurance is all about. you can call it “socialism” if you want, that’s not an argument, that’s just slapping a label on something. but if you happen to believe it’s evil to pay for other people, then cancel all your insurance policies.

While I’m certain ‘noz and I stand united on the moral imperative of health reform that gives all Americans access to high-quality affordable healthcare, I don’t think his account of the argument he targets is fair, and thus I don’t think he offers a very satisfying response to the person who endorses that argument. Here, as I understand it, is ‘noz’s line of argument:

1. Proponents of the Stupidest Argument Against Health Reform maintain that they should not be forced to pay for another’s medical care.

2. But proponents of the Stupidest Argument willingly buy various forms of insurance without complaining.

3. But buying insurance just is the paying for another’s medicare care.

4. So to be consistent, the proponents should either withdraw their objection to health care reform, or else “cancel all [their] insurance policies.”

I think we can see clearly where ‘noz’s line of argument fails by changing the story a bit:

1. Opponents of income maintenance policies maintain that they should not be forced to pay for another’s wages/income.

2. But opponents of income maintenance policies willingly buy stereos without complaining.

3. But buying stereos just is the paying for another’s wages (namely those who make stereos).

4. So to be consistent, the opponents should either withdraw their objection to income maintenance policies, or else stop buying stereos.

It seems clear that while purchasing a stereo does in fact pay another’s wages, it is false to say that paying another’s wages is the “whole concept” of purchasing a stereo. But then what distinguishes purchasing insurance from buying a stereo? Each seems to amount to the same thing: parting with a sum of money to procure a good or service which is available to one only because certain others are willing to help produce that good or provide that service only because they too get something out of the economic arrangement.

The fact seems to be that those who wish to buy stereos and those who wish to buy insurance may not really care about the economic arrangements and contracts that lie in the background of these purchases. They do not really care that buying a stereo and buying insurance involves paying an amount of money a portion of which ends up paying another’s bills. The one person wants a stereo, and parts with a certain amount of money to get it. The other wants protection from the economic risks associated with (the treatment of) ill health, and pays an insurance premium to get it. It just so happens that, in our world, the reason why these purchases are available to one at all is that other people, who play different roles in the relevant economic domain, also get something out of their involvement. So, again, what could make the purported difference between buying stereos and buying insurance?

If this analogy is as revealing as I think it is, it shows why the proponent of the Stupidest Argument may not be making the silly mistake that ‘noz ascribes to him. To extend the analogy: Assume a tax is levied on all stereo purchases in order fund income maintenance policies for the unemployed. And assume that a would-be stereo-purchaser objects to this. Then that objection cannot be met simply by pointing out that he didn’t have a problem paying another’s wage through his purchase before the tax was levied.

In the case of health insurance, what would be the analog to the stereo tax that the proponent of the Stupidest Argument objects to? Since insurance is typically paid for through premiums, the proponent will likely claim that he should not have to subsidize another’s premium. But this raises the question of whether the initial distribution of income is itself fair, as that is the distribution that determines who has what to put toward premiums. To the extent that it is unjust that some work long hours in dreary jobs for what is now a largely depreciated compensation package, that can provide a reason to ask those who are favored by the structure of the economy to give some back to subsidize the premiums of those who get the short end of the stick.

Another barrier to insurance access has to do with differentials in health status (of which “pre-existing conditions” are one kind). To use a stylized example, assume that you and I form a two-person health insurance market, and that I am fairly healthy and you have a disease that can be treated with only very expensive health interventions. In this situation, each of us is presented with the option to buy insurance. But which insurance we buy, if any, will be influenced by which insurance products are available. If the only insurance product is one that pays for the sort of interventions you need, that product will be very expensive. In that case, I may choose not to buy it, since I feel there are other things I’d rather spend that amount of money on. But that may leave you without the prospect of insurance, since the resulting premium for you will be the same price as the expensive medical care you were hoping to avoid having to pay for directly by purchasing insurance in the first place. You will face a similar problem if there are in fact several insurance products available, and if I choose one that is cheaper. For that one will be cheaper precisely because it doesn’t not cover the expensive treatment you need. So while you may be able to afford that cheaper product, it doesn’t do you much good.

These thought experiments seem to show that the proponent of the Stupidest Argument is also probably objecting to having to subsidize the insurance choices that the market makes expensive for others because they are either more risk averse than he his, or because they in fact require more expensive insurance than the proponent himself wishes to purchase with the funds he has chosen to dedicate to health risk reduction. This is in fact not an objection we should dismiss as stupid, as I think the two-person example shows.

I’m sure ‘noz and I agree that when the simple two-person example is replaced with the much more complex picture presented by the macro situation in the U.S. today–a situation in which income is not distributed fairly and where individuals’ health status is profoundly influenced by myriad social circumstances beyond their control–there is a solid argument in favor of providing all Americans with at least basic health care paid for by general, progressive taxation. But even if we are right, we cannot dismiss the objections of those who disagree with us simply by pointing out that all insurance involves using what was once one person’s money to pay for the health care of another.

The moral of the story is this: it is false to say that the “whole concept” of insurance as such is to pay for another’s care. Yes, it involves that, but the sense in which it does is just the sense in which buying stereos involves paying another’s wage. Not much of moral relevance follows. But, it is absolutely true that the whole concept of certain social insurance schemes is to spread risk and cross-subsidize care for appropriate moral reasons. But those reasons cannot themselves be teased out of the idea of insurance as such.


Howls of outrage (18)

2009 05 09
Recently read: Lords of Finance


Posted by in: Books, Economics, History

Liaquat Ahamed. Lords of Finance: The Bankers Who Broke the World

Who knew that 500 pages about central banking in the interwar years could fly by so quickly? I’ll leave it to economists and historians to assess the accuracy of the story Ahamed tells. What I can say is that the story is well told, moving briskly and with good humour over a complicated series of events. Ahamed structures his account around the lives of four central bankers, for the United States, Britain, France and Germany respectively. A fifth character, John Maynard Keynes, also makes a number of appearances, usually in the role of a gadfly. And there is a sixth item, of such importance to the story that it might as well be a character in its own right: gold.

Going into World War I, the major currencies of the world were on the gold standard. The central bank for a country—that is, the bank with a “monopoly on the issuance of currency”—would issue currency with the promise that it was convertible at a certain fixed rate with gold. Gold had to be held in reserves at a fairly conservative proportion to the total amount of currency in circulation. For a long time, this arrangement had the effect of limiting inflation, and providing a predictable, stable rate of exchange between currencies, which were pegged to the same standard.

The system meant that the supply of credit in an economy—indeed, in the global economy—was tightly correlated with the quantity of gold held in reserve. For a long time, the supply of new gold flowing into the global economy as a result of mining roughly matched the slow expansion of the economy. But this only masked the fact that it made little sense to tie the availability of a precious mineral to the business cycle, with its changing requirements for the availability of credit. As Lord Beaverbrook, the Canadian newspaper man based in Britain and one of the few prominent critics of the gold standard at the time, complained, “[i]t is an absurd and silly notion that international credit must be limited to the quantity of gold dug up out of the ground. Was there ever such mumbo-jumbo among sensible and reasonable men?”

World War I changed things, as it changed so much else. The nations of Europe had plunged into the conflict expecting a brief, successful encounter which would pay for itself in reparations, and emerged bloodied, shaken, and seriously in debt four long years later. The United States, which has a habit of entering world wars a bit on the late side, came out looking very well, and with an absolutely massive imbalance of the world’s gold in its reserves which it had acquired as a lender to many of the other belligerents. For the United States to have remained strictly on the gold standard would have supplied the economy with far more credit than would have been healthy. Meanwhile, Britain had so exhausted its resources that it was for a time after the war unable to honour its obligation to convert its currency into gold, effectively abandoning the gold standard for this period.

As Britain, France and Germany all struggled to put themselves back on a sound economic footing after the war, they dealt in different ways with the return to the gold standard. Britain, against the advice of Keynes, went back on gold as soon as possible, but at an unsustainably high rate of conversion. It was an attempt to regain the global preeminence in banking which Britain had enjoyed prior to the war, but the result was a deeply uncompetitive export market and steep consequent unemployment in Britain. France, by contrast, did rather well by pegging its currency at a fairly low rate. Germany, reeling from the war and unable to cope with the ruinous payments expected of it by the victors, took its economy on an absolutely wild inflationary ride.

Since the inflationary policies of Germany had been made possible in part by its abandonment of the gold standard, the economic chaos of Germany was interpreted by many as a warning of the perils of leaving gold. Without the discipline of gold, it was thought, governments, especially democratically elected ones, would fall into the same inflationary policies. Thus, behind the debate over the gold standard was a debate about government discretion over the management of the economy.

Ahamed traces the twisting course these economies took through the twenties, as central bankers struggled to learn the rudiments of modern central banking. His account aims to explain how crucial mistakes by some of the main players created the credit policies that underlay the speculative boom preceding the Great Depression. He then shows us how central bankers struggled to cope with the economic fallout of the depression, learning, often too late to prevent economically disastrous consequences, many of the tools that are now a standard part of the central banker’s tool kit.

There were a few points in Lords of Finance at which I wanted Ahamed to explain the workings of the economy more slowly. Like a lot of potential readers of this book, I have a pretty weak grasp of basic economics. But on the whole, this is a clear, readable, and entertaining book. As can be expected with any first printing, I noticed that Lords of Finance was not completely free of typos and errors. Just a few of the ones that caught my eye: If I’m reading it correctly, a sentence on page 249 seems to imply that Benedict Arnold was executed. The temperatures on page 329 should be specified in Celsius or Fahrenheit. That Montagu Norman walked about with a feather jauntily poking out of his hat is a nice detail, but it’s unnecessary to tell us this twice. And the statistician and economist Roger Babson’s anti-gravity pamphlet was titled Gravity—Our Enemy Number One, not, as Ahamed has it, Gravity—Our Number One Enemy.


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2009 02 18
Recently read: The Great Depression and the New Deal: A Very Short Introduction


Posted by in: Books, Economics, History

Eric Rauchway. The Great Depression and the New Deal: A Very Short Introduction

Good stuff. I started the book with a very hazy sense of the Great Depression and the New Deal and emerged less than 150 pages of lucid, compact prose later with a clearer idea of the circumstances, complications, setbacks and triumphs of the New Deal.

(The author blogs at The Edge of the American West, which is also worth checking out.)


Howls of outrage (2)

2008 09 17
Credit Default Swaps


Posted by in: Economics

I’ve wrote a post little while ago about the role that credit default swaps might have played in the whole Bear Stearns saga. And now they rear their ugly head again:

The Fed’s extraordinary rescue of A.I.G. underscores how much fear remains about the destructive potential of the complex financial instruments, like credit default swaps, that brought A.I.G. to its knees. The market for such instruments has exploded in recent years, but it is almost entirely unregulated. When A.I.G. began to teeter in the last few days, it became clear that if it defaulted on its commitments under the swaps, it could set off a devastating chain reaction through the financial system.

I’ll admit that I’m no expert in economics—god knows I have a lot to learn. But reading Dean Baker this morning reminded me how markets in things can work, if structured and regulated correctly. Baker was arguing that while we should have no intrinsic concern for the fates of short sellers, enabling this practice to occur in the right environment and with out undue distortion–that doesn’t mean with no government regulation– would be a good thing, a way for the market to regulate itself, to tell others, Whoooooaaaaaa!!!!! Simmer down now, ’cause there’s gonna be some tickers tumblin’ (or something like that). It seems to me that credit default swaps could have worked this way too. Because they are insurance policies issuing a payment if the bonds that the holder of the poilcy owns go bust, an unwillingness of issuers such as AIG to issue such policies could have indicated to potential buyers of bonds that maybe something isn’t right with them, thereby cooling the mortgage-backed-securities mania.

Of course, AIG was duped into thinking that the bonds were good and so bet on not having to pay out billions and billions in indemnities via their credit default swap obligations. And so, it seems, was everyone else. (Except Dean Baker, and a few others.) So the problems we’re seeing would not have been avoided simply by regulating the default swap market. But surely regulation there, combined with regulation elsewhere–especially the requirement that lenders make loans whose long-term sustainability does not depend on extremely unprecedented annual increases in homeprices–would have done some good. 

Moral: Another lefty communist supports government regulation. I know: woopty doo.


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2008 03 24
Who Was Bailed Out?


Earlier today, Atrios wrote:

I don’t know know enough about what either company is/was sitting on to really know what’s going on, but we do know that the Fed/Treasury said ok to this deal based on the idea that by essentially wiping Bear’s shareholders out, it wasn’t in any sense a “bailout” of the company. They weren’t rewarding [Bear's] bad behavior (though whether they were rewarding JPMorgan for bad behavior is another question).

Here’s what (I think) he means.

Those of you who have been following along will be acquainted with familiar with the alphabet soup of RMBSs, CDOs, and CDSs. Here’s how I understand it all working. Mortgage originators made many subprime loans and then bundled these loans into the residential mortgage backed securities (RMBSs) that constituted the foundational financial elements of all that was up for sale on Wall Street. But because such securities were made up of subprime loans, they carried all the risk that those loans themselves carried. So without further financial retooling, the interest rates needed to make these securities attractive to investors would have priced them out of borrowers’ reach. Enter CDOs. Collateralized Debt Obligations are used to repackage the revenues from many different kinds of mortgage backed securities, including prime and subprime loans. Thus CDOs provide a vehicle for investment diversification. Investors can purchase a piece of a CDO that, because of the variety of sources making up its revenue stream, carries a different risk than the risk associated with any particular RMBS that partially underlies it. Because investors can moderate the risk posed by subprime loans in this way, more funds are diverted into the subprime market. Finally, Credit Default Swaps (CDSs) acted as insurance policies on CDOs, with one party receiving a premium and the other receiving an assurance that if things went wrong, a compensating payment would be forthcoming. Thus, investors assumed they could limit their exposure to risk even further through the use of CDSs.

The initial problems in the subprime sector caused investors to panic, because the complexity of CDO creation left them without a clue as to how much risk any particular CDO was exposed to when subprime mortgages started to default. But now we are hearing that the bigger (or at least a huge) problem lies in the Credit Default Swap sector. Just as the increase of CDOs based on RMBSs were considered lucrative only because of an assumption of continued increases in house prices, so too were those who were receiving CDS premiums betting on never having to pay out the maximum indemnities that would be triggered by a Supreme Subprime Default Scenario (SSDS; hey, I want in on the acronym fun too, man!).

Two articles in yesterday’s Times shed a bit of light on what might now be going on.

First, we are told that

Today, the outstanding value of the swaps stands at more than $45.5 trillion, up from $900 billion in 2001.

That is both an absolutely staggering increase, and an absolutely staggering absolute valuation.

Next, Gretchen Morgenson drops this nugget:

It’s likely that JPMorgan, the biggest bank in the credit default swap market, had a good deal of this kind of exposure to Bear Stearns on its books. Absorbing Bear Stearns for a mere $250 million allows JPMorgan to eliminate that risk at a bargain-basement price. JPMorgan declined to comment on the size of its portfolio of credit default swaps.

So, if I understand this correctly, while the Fed’s action is clearly designed to save—or, if you like, bailout—the “system,” if you want to point to any one firm in the recently brokered (but unfinished) deal that can be said to have been bailed out, it’s probably better to look at JPMorgan, rather than Bear Stearns.


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2008 03 23
Recently read


Brecht. Galileo

Brecht explores the moral difficulties in Gallileo’s decision to recant. Not bad.

Paulos, John Allen. Innumeracy

A fun little book that provides a healthy dose of motivation to the non-mathematical to get their (our!) act together. Paulos provides lots of examples of fuzzy thinking that follow from a neglect of basic mathematics. At times Paulos seems to cast his net a bit more broadly than mathematics even, commenting on various fallacies in informal reasoning. But that’s ok – those mistakes matter too.

Frank. Falling Behind: How Rising Inequality Harms the Middle Class

Entertaining and reasonably well-written. Frank charts the rise of inequality in American society since WWII, and then explains why he thinks that inequality is so harmful. Some goods are absolute goods. These we care about regardless of how much other people have. Others are positional goods. These we value very differently depending on context, most importantly how others around us are doing with respect to that good. Frank argues that many more goods are positional than one might first think, and then ties this insight to his observations about rising inequality. The result is a decent critique of a lot of mainstream assumptions about inequality in American society, and more broadly of the social policies that have produced it.

Two quibbles. First, it’s ok to dumb down a bit for a popular book, but Frank’s remarks about evolutionary psychology were pretty silly at times. I’d have to read Frank’s other work on the subject to know whether I would find a more careful statement of his views silly. But anyway, I don’t really think Frank needed to introduce claims about evolutionary psychology in the first place. His motivation for doing so, if I understood it correctly, was just to point out that the psychological tendencies he’s attributing to us are fairly stubbornly entrenched. But a) you don’t need to point to evolutionary considerations to do that; and b) you shouldn’t point to evolutionary considerations to do that (just for starters, innateness and malleability are completely distinct issues).

Second quibble: Frank talks throughout about the middle class. He even put the middle class in the subtitle of his book. But the book really seems to be about how just about everyone gets screwed by rising inequality, even very well-off people. So perhaps the subtitle to his book ought to have been “How Rising Inequality Harms Us All.”

Tufte, Edward R.The Visual Display of Quantitative Information

Superb. Tufte wrote the book in the last seventies and early eighties; it changed the way many people think about how to display quantitative information in a clear, engaging and helpful way. Tufte’s book is part polemic against a dumbing down of statistical charts on the grounds that no one finds them interesting, and part analysis of what considerations go into getting it right. Good stuff.


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2007 07 24
Thank you, Deano!


Posted by in: Economics

While reading David Brooks’s list of neoliberal victories on the plane this morning, I was hoping–praying–that either Dean, Max, or Jared would write a prompt reply. And here it is. Thank you, Deano!

UPDATE: More here.


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