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November 4, 2009

Economist's View - 4 new articles

Brad DeLong: Slouching Toward Sanity

Brad DeLong says government action during the crisis may have prevented another Great Depression:

Slouching Toward Sanity, by J. Bradford DeLong, Commentary, Project Syndicate: In America today ... the Republican congressional caucus is just saying no: no to short-term deficit spending to put people to work, no to supporting the banking system, and no to increased government oversight or ownership of financial entities. And the banks themselves are back to business-as-usual: anxious to block any financial-sector reform and trusting congressmen eager for campaign contributions to delay and disrupt the legislative process.
I do not claim that policy in recent years has been ideal. If I had been running things 13 months ago, the United States Treasury and Federal Reserve would have let Lehman and AIG fail – but I would have discounted their debt for cash at face value, provided that the debt also came with sufficient equity warrants. That would have preserved the functioning of the system while severely punishing the banking and shadow-banking systems' equity holders...
If I had been running things 19 months ago, I would have nationalized Fannie Mae and Freddie Mac and ... shifted monetary and financial policy from targeting the Federal Funds rate to targeting the price of mortgages. Ever since 1825, the purpose of monetary policy in a crisis has been to support asset prices to prevent the financial markets from sending to the real economy the price signal that it is time for mass unemployment. Nationalizing Fannie and Freddie, and using them to peg the price of mortgages, would have been the cleanest and easiest way to accomplish that.
Nevertheless, policy over the past two and a half years has been good. A fundamental shock bigger than the one in 1929-1930 hit a financial system that was much more vulnerable to shocks than was the case back then. Despite this, unemployment will peak at around 10%, rather than at 24%, as it did ... during the Great Depression... Nor will we have a lost decade of economic stagnation, as Japan did in the 1990's. ...
It is worth stepping back and asking: What would the world economy look like today if policymakers had acceded to the populist demand of no support to the bankers? What would the world economy look like today if Congressional Republican opposition to the Troubled Asset Relief Program program and additional deficit spending to stimulate recovery had won the day?
The only natural historical analogy is the Great Depression... That is the only time when (a) a financial crisis caused a widespread, lengthy, and prolonged reinforcing chain of bank failures, and (b) the government neither intervened nor passed the baton to a consortium of private banks to support the system as a whole.
It is now 19 months after Bear Stearns failed ... and industrial production stands 14% below its peak in 2007. By contrast, 19 months after the Bank of the United States ... failed on December 11, 1930 ... industrial production ... was 54% below its 1929 peak.
Opponents of recent economic policy rebel against the hypothesis that an absence of government intervention and support could produce an economic decline of that magnitude today. After all, modern economies are stable and stubborn things. Market systems are resilient... A 54% fall in industrial production between its 2007 peak and today is inconceivable – isn't it? ...
The problem, though, is that all the theoretical reasons to think that depressions as deep as the Great Depression simply do not happen to market economies applied just as well to the 1930's as they do to today.

But it did happen. And it could have happened again.

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Greed versus Self-Interest

Political philosopher Michael Sandel:

...Citizens generally who looked at this - at the bailouts and the bonuses and have been outraged - they believe there is a difference between greed and self-interest. But here's no way of capturing that intuition in economic analysis because, according to economic analysis, in any case one is deploying self-interest or greed, which is simply self-interest squared, to serve a social purpose. That's what the economic model says. And you have to introduce some normative assumption about what is excessive pursuit of gain in order to make sense of greed as a vice independent of the self-interest that all of the economic models presuppose. So I think there are intuitions in everyday life that people have that the economic models simply don't capture, and greed is one of them."

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"Tax Cuts and Recoveries"

Do tax cuts spur economic growth?

Tax Cuts and Recoveries, by David Leonhardt, Economix: One big question about the 1983-84 economic boom (a boom I mention in my Wednesday column) is: Was it the tax cut?
Ronald Reagan signed a large tax cut in the summer of 1981, while the economy was in recession. Within a year and a half, the economy was booming. Conservatives, understandably, like to argue that the tax cut helped cause the boom.
I'm open to that argument. ... What's unclear is how big an effect tax rates have.
In 1982, with the economy in the second part of its double-dip recession, Reagan signed a tax increase, meant to reduce the deficit. Here's Bruce Bartlett, writing at
According to a recent Treasury Department study, Ronald Reagan proposed the largest peacetime tax increase in American history as part of a budget deal to get the federal deficit under control. The Tax Equity and Fiscal Responsibility Act (TEFRA) ... took effect on Jan. 1, 1983.
During debate on TEFRA, many conservatives predicted economic disaster. They argued that raising taxes in the midst of a severe recession was exactly the wrong thing to do. ... Said Rep. Newt Gingrich, "I think it will make the economy sicker." The Chamber of Commerce ... said it had "no doubt that it will curb the economic recovery everyone wants."
Looking at the data, however, it is very hard to see any evidence that TEFRA had a negative effect on growth. Indeed, one could easily make a case that its enactment stimulated growth.
A little more than a decade later, Mr. Gingrich made the same argument about Bill Clinton's tax increase. But ... the ... late 1990s expansion was the fastest of any in the past forty years.
Mr. Clinton's successor, George W. Bush, signed a large tax cut during his first year in office — as Mr. Reagan did. But Mr. Bush never signed a tax increase to reduce the deficit. And growth in the Bush years was slower than in the Reagan years or the Clinton years, even before the financial crisis hit.
The history seems to suggest that tax cuts are not the most reliable strategy for spurring growth, at least in the United States, where top income-tax rates are not sky high.
But maybe readers can offer an analysis that explains this history and still makes the case for tax cuts as the main engine of economic recoveries. ...

Just one quick note - for those anxious about the deficit and eager to do something about it, the Reagan experience shouldn't be used as an excuse to start raising taxes too soon. The time will come when deficit spending is no longer needed to spur the economy and at that point we should reverse course, but we shouldn't make the mistake of 1937-38 when an attempt to balance the budget too soon in the recovery caused the economy to fall back into recession.

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