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March 31, 2010

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"Obama to Open Offshore Areas to Oil Drilling"

Posted: 31 Mar 2010 01:17 AM PDT

The administration is supporting a significant expansion in offshore drilling for oil and natural gas:

Obama to Open Offshore Areas to Oil Drilling for First Time, by John Broder, NY Times: The Obama administration is proposing to open vast expanses of water along the Atlantic coastline, the eastern Gulf of Mexico and the north coast of Alaska to oil and natural gas drilling... The proposal ... would end a longstanding moratorium on oil exploration along the East Coast from the northern tip of Delaware to the central coast of Florida, covering 167 million acres of ocean.
Under the plan, the coastline from New Jersey northward would remain closed to all oil and gas activity. So would the Pacific Coast, from Mexico to the Canadian border. The environmentally sensitive Bristol Bay in southwestern Alaska would be protected... But large tracts in the Chukchi Sea and Beaufort Sea in the Arctic Ocean north of Alaska — nearly 130 million acres — would be eligible for exploration and drilling...
The proposal is intended to reduce dependence on oil imports, generate revenue from the sale of offshore leases and help win political support for comprehensive energy and climate legislation.
But ... it is no sure thing that it will win support for a climate bill... Mr. Obama and his allies in the Senate have already made significant concessions on coal and nuclear power to try to win votes from Republicans and moderate Democrats. The new plan now grants one of the biggest items on the oil industry's wish list — access to vast areas of the Outer Continental Shelf for drilling.
But even as Mr. Obama curries favors with pro-drilling interests, he risks a backlash from some coastal governors, senators and environmental advocates, who say that the relatively small amounts of oil to be gained in the offshore areas are not worth the environmental risks. ...
It is not known how much potential fuel lies in the areas opened to exploration, although according to Interior Department estimates there could be as much as a three-year supply of recoverable oil and more than two years' worth of natural gas... But those estimates are based on seismic data that is, in some cases, more than 30 years old. ...

Increasing the risks to the environment in an attempt to save the environment seems like a less than optimal strategy.

links for 2010-03-30

Posted: 30 Mar 2010 11:06 PM PDT

"Where on Earth has the SEC Been?"

Posted: 30 Mar 2010 04:05 PM PDT

Robert Reich says we don't need new legislation to stop deceptive accounting practices on Wall Street used to play "off-the-balance-sheet derivative games", there are already laws on the books that are supposed to stop this behavior. Unfortunately, the laws are not being enforced:

Fraud on the Street, by Robert Reich: The Securities and Exchange Commission announced Monday it had begun an inquiry into two dozen financial companies to determine whether they followed accounting practices similar to those recently disclosed in an investigation of Lehman Brothers.
Where on earth has the SEC been?
It's now clear Lehman Brothers' balance sheet was bogus before the bank collapsed in 2008, catapulting the Street and the world into the worse financial crisis since 1929. The Lehman bankruptcy examiner's recent report details what just about everyone on the Street has known since the firm imploded – that Lehman defrauded its investors. Even Hank Paulson, in his recent memoir, referred to Lehman's balance sheet as bogus. ... Its CPA, Ernst and Young, approved of this fraud against the advice of its own whistle blower, whom Ernst and Young fired.
Lehman's practices couldn't have been all that different from those of every other big bank on the Street. After all, they were all competing for the same business, and using many of the same techniques. Lehman was just the first to go under... In other words, the TARP covered the other bankers' assets and asses. ...
Congress is now struggling to come up with legislation to stop this from happening again. And the Street is struggling to stop Congress. As of now, the Street's political payoffs seem to be working. Proposed legislation still allows secret derivative trading in foreign-exchange swaps (similar to what Goldman used to help Greece hide its debt) and in transactions between big banks and many of their corporate clients (as with AIG).
But wait. We already have a law designed to stop this sort of fraud. It's called the Sarbanes-Oxley Act of 2002. ... Sarbanes-Oxley ... was designed to stop this. It requires CEOs and other senior executives to take personal responsibility for the accuracy and completeness of their companies' financial reports and to set up internal controls to assure the accuracy and completeness of the reports. If they don't, they're subject to fines and criminal penalties.
Sarbox is directly relevant to the off-the-balance-sheet derivative games the Street played and continues to play. No bank CEO can faithfully attest to the accuracy and completeness of its financial reports when derivatives guarantee that the reports are incomplete and deceptive.
So where has the SEC been?
I was on a panel a few weeks ago with a former chair of the Securities and Exchange Commission who was asked why the commission has so far failed to enforce Sarbox against Wall Street. He had no response except to mumble that legislation is meaningless unless adequately enforced. Exactly.
Bottom line: While financial reform is needed, there's no reason to wait for it. Sarbox is already there. And even if financial reform is enacted without loopholes, there's no reason to think it will be enforced if laws already on the books, such as Sarbox, aren't.

"Much of U.S. Was Insulated From Housing Bust"

Posted: 30 Mar 2010 02:52 PM PDT

Guess I should count myself as lucky -- I'm in a blue dot area. More here:

"Most U.S. metro areas actually experienced more moderate increases in house prices than the nation between 2000 and 2006. In fact, 249 of the 383 metropolitan areas tracked by the Federal Housing Finance Agency saw price increases below the national rate of 8.1% during the boom"... Many of these areas, in turn, didn't experience the resulting bust.

The authors say a lack of nonprime lending in these areas played a prominent role in insulating them from the boom and bust. "It is likely that causation runs in both directions — an increase in nonprime lending led to more significant home price appreciation [in boom areas], and more rapid home price appreciation led to a rise in nonprime lending"...

March 30, 2010

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Is a Frugal Policy the Better Solution?

Posted: 30 Mar 2010 12:51 AM PDT

Jeff Sachs is more hawkish than I would have guessed:

A frugal policy is the better solution, by George Osborne and Jeffrey Sachs, Commentary, Financial Times: Virtually all policy analysts agree that the path to renewed prosperity in Europe and the US depends on a credible plan to re-establish sound public finances. Without such a plan, the travails which have hit Greece ... will soon enough threaten the UK, US, and other deficit-ridden countries. In the recent duel of macro-economists, one camp has called for early budget consolidation... We agree. Others want more fiscal stimulus, delaying deficit reduction. We believe delaying the start of deficit reduction would put long-term recovery at risk. Such an approach misjudges politics, financial markets, and underlying economic realities.
Blaming our predicament on financial markets, as some in the second camp do, ignores the awkward truth that governments have enabled, if not enthusiastically promoted, recklessness, through chronic deficits and lax financial regulation. Our predicament, in this sense, is a political crisis at least as much as a financial one. We can't expect "credibility" by succumbing to temptation just one more time. ...
Self-described Keynesians, including Paul Krugman, and Lords Layard and Skidelsky, see the financial markets as benignly ready to finance budget deficits, pointing to low market interest rates. By contrast, we believe financial markets are perfectly capable of getting spooked about the prospects of debt financing in the medium term. ...
The general notion that delay is beneficial in the short term because it provokes more spending today – irrespective of future debt burdens – is also wrong... If the starting position is a large structural deficit, further fiscal "stimulus" can darken consumer and business confidence by creating fears about future debt burdens. These fears may be translated directly into higher borrowing costs today for government and the private economy. ...
Sustainable recovery is a medium- and long-term project: investing in the next generation of technologies, workers, and families. Those who are hurt between the collapse of the recent bubble and the start of a new growth era must of course be protected. But it is naive to believe that governments can create high-quality, high-productivity jobs that last by inflating bubbles or digging ditches.
Government and the private sector will be complementary forces in a real, sustained, job-creating recovery. The new jobs must be largely in the private sector. But the public sector has a critical role in ensuring that the conditions for sustainable growth are in place. These include the regulation of and finance for modern infrastructure, high-quality education, pre-commercial innovation, and a world-class science and technology base. ...
Our priority should be a medium-term fiscal framework, with the first steps starting this year. That must be matched by improvements in the delivery of health, education, skills, and technology; social protection for those in need; and a decent regard for the long-term investments needed to rebuild an economy crushed by the bubbles of wishful thinking.

The economy is not yet ready for an increase in taxes or a cut in spending. Cutting the deficit too soon could undermine the recovery and send the economy back into recession. We'll get there soon enough, but we're not there yet.

Their solution might be "sustainable" if we had the social programs in place to automatically protect those "who are hurt between the collapse of the recent bubble and the start of a new growth era." But we don't, and we aren't going to get them anytime soon, so the protection must come from sustained government intervention.

How long should the help be sustained? With labor markets in such poor shape, it's too soon for government stimulus programs to be scaled back. If anything, more help is needed. Once labor markets are healthy, we can and should begin to wind down the stimulus effort and begin to address long-run deficit issues, but, again, we're not there yet.

Disinflation Continues...

Posted: 30 Mar 2010 12:51 AM PDT

Despite all the worries about inflation, the latest release of the Dallas Fed's Trimmed mean PCE inflation calculations (a measure of the core rate of inflation) indicates that inflation is still headed downward:

[click to enlarge]

"The trimmed mean PCE inflation rate is an alternative measure of core inflation in the price index for Personal Consumption Expenditures"

Here are the recent data for the 12-month inflation rate (3/29 release):

Mar-09 2.26
Apr-09 2.24
May-09 2.08
Jun-09 1.94
Jul-09 1.66
Aug-09 1.60
Sep-09 1.45
Oct-09 1.51
Nov-09 1.40
Dec-09 1.37
Jan-10 1.18
Feb-10 1.04

links for 2010-03-29

Posted: 29 Mar 2010 11:04 PM PDT

"Immigration and the Welfare State"

Posted: 29 Mar 2010 03:33 PM PDT

Jeff Miron says "we should liberalize immigration because it will restrain the welfare state":

Immigration and the Welfare State, by Jeffrey Miron: Jason Riley has a nice column in today's WSJ about the interaction between welfare and immigration policies. He correctly notes that immigrants to the U.S. do not come mainly for the welfare benefits, but he worries this could change as welfare policies, like Obamacare, expand.

I share Riley's opposition to Obamacare, as well as his support for legal immigration. My one disagreement is his endorsement of the Friedman view on the relation between the welfare state and immigration:

In countries such as France, Italy and the Netherlands, excessively generous public benefits have lured poor migrants who tend to be heavy users of welfare and less likely than natives to join the work force. Milton Friedman famously remarked, "you can't have free immigration and a welfare state." There is a tipping point, even if the U.S. has yet to reach it.

Riley and Friedman may be right, but my hunch is that they have the sequencing backwards: we should liberalize immigration because it will restrain the welfare state. The European examples that Riley cites might seem to argue against this view, but these countries still restrict immigration significantly. My claim is that major expansions in legal immigration would cause substantially diminished support for generous welfare spending.

On the run, so I'll have to let you take this on in comments...

"Taking Hope in the Long View"

Posted: 29 Mar 2010 10:23 AM PDT

De long view:

Taking Hope in the Long View, by J. Bradford DeLong, Commentary, Project Syndicate: In the United States, we sit in the midst of 10% unemployment. In some countries, fiscal policy is crippled by legitimate fears that more deficit spending will trigger government-debt crises. In many other countries, fiscal policy is crippled by confusion between short-term cyclical and long-term structural deficits.

Meanwhile, banking policy is crippled by populist reaction against more bailouts, and monetary policy by a strange mindset among central bankers that fears inflation even as wage growth continues to drop. ...

It is time to calm down. And the best way to calm down is by taking the long view.
If all goes well in China and India in the next generation – and if nothing goes catastrophically wrong in the rich, post-industrial, North Atlantic core of the global economy – the next generation will reach a real milestone. For the first time, more than half of the world will have enough food not to be hungry, enough shelter not to be wet, enough clothing not to be cold, and enough medical care not to be worried that they and most of their children will die prematurely of micro-parasites.
The big problems for most of humanity will be to find enough conceptual puzzles and diversions in their work and leisure lives to avoid being bored, and enough relative status not to be green with envy of their fellows. And, of course, they will have to dispose of thugs who used to have spears but will now have cruise missiles and H-bombs...
How did this miracle come about?
Some say that it was ... the shift from a worldview that relied on prayer and the propitiation of spirits to one that relied on rational manipulation and management of nature and of society. But the Classical Greeks had natural philosophy, and the Classical Romans believed in figuring out what worked and applying it. Yet all they produced were some splendid works of architecture and infrastructure and a system of military training that spread their society beyond the Mediterranean.
Some say that the miracle stemmed from an agricultural revolution... But eleventh-century China had a bigger and earlier agricultural revolution than eighteenth-century Britain, and China would have to wait another millennium before emerging as a global power.
Some say that the European conquest of the Americas deserves the credit. But what was shipped back from America across the Atlantic to Europe ... was never real wealth. It was merely sterile gold and silver, some empty calories (in the form of sugar), and some psychoactive products –coffee, tea, chocolate, and tobacco.
Some say that it was the commercial revolution and the rise of the middle class that brought us to the brink of victory over scarcity. But Adam Smith in 1776, and David Ricardo a little later, looked forward to a future Britain that looked a lot like China – a full country with high agricultural productivity and a well-developed division of labor but a very poor peasantry and working class ruled by very rich landlords.
Or maybe it was the industrial revolution of the eighteenth century... But, as late as 1871, John Stuart Mill was writing that it was doubtful whether all of the industrial revolution's inventions had lightened the day's toil of a single worker.
Looking back, it is difficult to avoid the conclusion that it was at the end of the nineteenth century that something really special happened. That really special thing had three parts.
First, the advent of global communications meant that ideas invented or found or applied in one part of the world could be quickly made known to and adapted in other parts of the world, rather than waiting decades or centuries to percolate across the oceans.
Second, the coming of global transportation meant that any good idea could be put into practice to produce enormous profits as it was leveraged across the entire globe.
Third – and in large part a consequence of the other two – the rise of the professional inventor and the industrial research laboratory created a class of people whose business was not to make and apply a single invention, but to invent the process of continuous and constant invention and innovation itself.
Because all three of these developments occurred at roughly the same time, we had our critical mass and the chain reaction that has brought us here. Let's hope that we can keep it in motion, and that we don't spoil it by losing sight of what was really important in bringing it about.

When nearly 10% of the people are unemployed and government is looking the other way hoping it will somehow fix itself, I have no intention of calming down no matter how rosy the long view might be. It's nice that all these wonderful things are happening, and I also hope they will continue, or even accelerate, but that doesn't change the immediate needs one bit.

Calm down while people are struggling to make ends meet? I don't think so.

March 29, 2010

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Paul Krugman: Punks and Plutocrats

Posted: 29 Mar 2010 12:09 AM PDT

Will Republicans dare to oppose financial reform?:

Punks and Plutocrats, by Paul Krugman, Commentary, NY Times: Health reform is the law of the land. Next up: financial reform. But will it happen? The White House is optimistic, because it believes that Republicans won't want to be cast as allies of Wall Street. I'm not so sure. The key question is how many senators believe that they can get away with claiming that war is peace, slavery is freedom, and regulating big banks is doing those big banks a favor. ...
We have already ... stepped in to rescue troubled financial companies, so as to avoid a complete collapse. And you should bear in mind that the biggest bailouts took place under a conservative Republican administration, which claimed to believe deeply in free markets. There's every reason to believe that this will be the rule from now on: when push comes to shove, no matter who is in power, the financial sector will be bailed out. ...
The only question now is whether the financial industry will pay a price for this privilege, whether Wall Street will be obliged to behave responsibly in return for government backing. And who could be against that?
Well, how about John Boehner, the House minority leader? Recently Mr. Boehner gave a talk to bankers in which he encouraged them to balk efforts by Congress to impose stricter regulation. "Don't let those little punk staffers take advantage of you, and stand up for yourselves," he urged — where by "taking advantage" he meant imposing some conditions on the industry in return for government backing.
Barney Frank, the chairman of the House Financial Services Committee, promptly had "Little Punk Staffer" buttons made up and distributed to Congressional aides.
But Mr. Boehner isn't the problem: Mr. Frank has already shepherded fairly strong financial reform through the House. Instead, the question is what will happen in the Senate.
In the Senate, the legislation on the table was crafted by Senator Chris Dodd... It's significantly weaker than the Frank bill, and needs to be made stronger.... But no bill will become law if Senate Republicans stand in the way of reform.
But won't opponents of reform fear being cast as allies of the bad guys (which they are)? Maybe not. Back in January, Frank Luntz, the G.O.P. strategist, circulated a memo on how to oppose financial reform. His key idea was that Republicans should claim that up is down — that reform legislation is a "big bank bailout bill," rather than a set of restrictions on the banks.
Sure enough, a few days ago Senator Richard Shelby of Alabama ... claimed that an essential part of reform — tougher oversight of large, systemically important financial companies — is actually a bailout, because "The market will view these firms as being 'too big to fail' and implicitly backed by the government." Um, senator, the market already views those firms as having implicit government backing...: in any future crisis those firms will be rescued, whichever party is in power.
The only question is whether we're going to regulate bankers so that they don't abuse the privilege of government backing. And it's that regulation — not future bailouts — that reform opponents are trying to block.
So it's the punks versus the plutocrats — those who want to rein in runaway banks, and bankers who want the freedom to put the economy at risk, freedom enhanced by the knowledge that taxpayers will bail them out in a crisis. Whatever they say, the fact is that people like Mr. Shelby are on the side of the plutocrats; the American people should be on the side of the punks, who are trying to protect their interests.

links for 2010-03-28

Posted: 28 Mar 2010 11:05 PM PDT

Is Cap-and-Trade Really Dead?

Posted: 28 Mar 2010 02:07 PM PDT

I've been wondering about the validity of the claim that cap-and-trade is dead. Here's Robert Stavins on this issue:

Who Killed Cap-and-Trade?, by Robert Stavins: In a recent article in the New York Times, John Broder asks "Why did cap-and-trade die?" and responds that "it was done in by the weak economy, the Wall Street meltdown, determined industry opposition and its own complexity."  Mr. Broder's analysis is concise and insightful, and I recommend it to readers.  But I think there's one factor that is more important than all those mentioned above in causing cap-and-trade to have changed from politically correct to politically anathema in just nine months.  Before turning to that, however, I would like to question the premise of my own essay.
Is Cap-and-Trade Really Dead?
Although cap-and-trade has fallen dramatically in political favor in Washington as the U.S. answer to climate change, this approach to reducing carbon dioxide (CO2) emissions is by no means "dead."
The evolving Kerry-Graham-Lieberman legislation has a cap-and-trade system at its heart for the electricity-generation sector, with other sectors to be phased in later (and it employs another market-based approach, a series of fuel taxes for the transportation sector linked to the market price for allowances).  Of course, due to the evolving political climate, the three Senators will probably not call their system "cap-and-trade," but will give it some other creative label.
The competitor proposal from Senators Cantwell and Collins — the CLEAR Act — has been labeled by those Senators as a "cap-and-dividend" approach, but it is nothing more nor less than a cap-and-trade system with a particular allocation mechanism (100% auction) and a particular use of revenues (75% directly rebated to households) — and, it should be mentioned, some unfortunate and unnecessary restrictions on allowance trading.
And we should not forget that cap-and-trade continues to emerge as the preferred policy instrument to address climate change emissions throughout the industrialized world — in Europe, Australia, New Zealand, and Japan (as I wrote about in a recent post).
But back to the main story — the dramatic change in the political reception given in Washington to this cost-effective approach to environmental protection.
A Rapid Descent From Politically Correct to Politically Anathema
Among factors causing this change were:  the economic recession; the financial crisis (linked, in part, with real and perceived abuses in financial markets) which thereby caused great suspicion about markets in general and in particular about trading in intangible assets such as emission allowances; and the complex nature of the Waxman-Markey legislation (which is mainly not about cap-and-trade, but various regulatory approaches).
But the most important factor — by far — which led to the change from politically correct to politically anathema was the simple fact that cap-and-trade was the approach that was receiving the most serious consideration, indeed the approach that had been passed by one of the houses of Congress.  This brought not only great scrutiny of the approach, but — more important — it meant that all of the hostility to action on climate change, mainly but not exclusively from Republicans and coal-state Democrats, was targeted at the policy du jour — cap-and-trade.
The same fate would have befallen any front-running climate policy.
Does anyone really believe that if a carbon tax had been the major policy being considered in the House and Senate that it would have received a more favorable rating from climate-action skeptics on the right?  If there's any doubt about that, take note that Republicans in the Congress were unified and successful in demonizing cap-and-trade as "cap-and-tax."
Likewise, if a multi-faceted regulatory approach (that would have been vastly more costly for what would be achieved) had been the policy under consideration, would it have garnered greater political support?  Of course not.  If there is doubt about that, just observe the solid Republican Congressional hostility (and some announced Democratic opposition) to the CO2 regulatory pathway that EPA has announced under its endangerment finding in response to the U.S. Supreme Court decision in Massachusetts vs. EPA.
(There's a minor caveat, namely, that environmental policy approaches that hide their costs frequently are politically favored over policies that make their costs visible, even if the former policy is actually more costly.  A prime example is the broad political support for Corporate Average Fuel Economy (CAFE) standards, relative to the more effective and less costly option of gasoline taxes.  Of course, cap-and-trade can be said to obscure its costs relative to a carbon tax, but that hardly made much difference once opponents succeeded in labeling it "cap-and-tax.")
In general, any climate policy approach — if it was meaningful in its objectives and had any chance of being enacted — would have become the prime target of political skepticism and scorn.  This has been the fate of cap-and-trade over the past nine months.
Why is Political Support for Climate Policy Action So Low in the United States?
If much of the political hostility directed at cap-and-trade proposals in Washington has largely been due to hostility towards climate policy in general, this raises a further question, namely, why has there been so little political support in Washington for climate policy in general.  Several reasons can be identified.
For one thing, U.S. public support on this issue has decreased significantly, as has been validated by a number of reliable polls, including from the Gallup Organization.  Indeed, in January of this year, a Pew Research Center poll found that "dealing with global warming" was ranked 21st among 21 possible priorities for the President and Congress.  This drop in public support is itself at least partly due to the state of the national economy, as public enthusiasm about environmental action has — for many decades — been found to be inversely correlated with various measures of national economic well-being.
Although the lagging economy (and consequent unemployment) is likely the major factor explaining the fall in public support for climate policy action, other contributing factors have been the so-called Climategate episode of leaked e-mails from the University of East Anglia and the damaged credibility of the Intergovernmental Panel on Climate Change (IPCC) due to several errors in recent reports.
Furthermore, the nature of the climate change problem itself helps to explain the relative apathy among the U.S. public.  Nearly all of our major environmental laws have been passed in the wake of highly-publicized environmental events or "disasters," ranging from Love Canal to the Cuyahoga River.
But the day after Cleveland's Cuyahoga River caught on fire in 1969, no article in The Cleveland Plain Dealer commented that "the cause was uncertain, because rivers periodically catch on fire from natural causes."  On the contrary, it was immediately apparent that the cause was waste dumped into the river by adjacent industries.  A direct consequence of the "disaster" was, of course, the Clean Water Act of 1972.
But climate change is distinctly different.  Unlike the environmental threats addressed successfully in past legislation, climate change is essentially unobservable.  You and I observe the weather, not the climate.  Until there is an obvious and sudden event — such as a loss of part of the Antarctic ice sheet leading to a disastrous sea-level rise — it's unlikely that public opinion in the United States will provide the bottom-up demand for action that has inspired previous Congressional action on the environment over the past forty years.
Finally, it should be acknowledged that the fiercely partisan political climate in Washington has completed the gradual erosion of the bi-partisan coalitions that had enacted key environmental laws over four decades.  Add to this the commitment by the opposition party to deny the President any (more) political victories in this year of mid-term Congressional elections, and the possibility of progressive climate policy action appears unlikely in the short term.
An Open-Ended Question
There are probably other factors that help explain the fall in public and political support for climate policy action, as well as the changed politics of cap-and-trade.  I suspect that readers will tell me about these.

I agree that until "there is an obvious and sudden event — such as a loss of part of the Antarctic ice sheet leading to a disastrous sea-level rise,", it's unlikely that we'll get much change (though I have said it will be the extinction of a cute animal that can be tied to global warming that will trigger action). Though it's not something I can hope for even if it moves the process along, I see this as the most important missing ingredient.

"Human Capital: Literal Truth, Fairy Tale or Myth?"

Posted: 28 Mar 2010 01:11 PM PDT

Nick Rowe says "This is from my Carleton colleague Frances Woolley":

Human capital: literal truth, fairy tale or myth?, by Frances Woolley:

Part I: Education

Every undergraduate student in labor economics gets told the story of human capital. Education and experience make people more productive. The skills so acquired are called "human capital." This explains why some people earn more than others, and why some countries are richer than others.

Is human capital theory the literal truth? There is an element of truth in it. The typing skills learnt from Mr. Darby in grade 9 make me more productive than my hunt-and-pecking colleagues. Educating girls reduces fertility rates (pdf), promotes female autonomy, and has a host of other productivity-enhancing benefits. But there are many things that human capital cannot explain.

For example, if what is taught at universities actually makes people more productive, then simply taking university courses should be enough increase earnings. In fact, to get much of a payoff from university education, you have to finish your degree (the "sheepskin effect" ). One reason education pays is that completing a degree "signals" your ability, determination, competence and general stick-with-it-ness.
Perhaps we should think of human capital as a fairy tale, a reassuring bedside story. But the power of fairy tales is that they reflect certain elemental truths about the human condition. People who teach economics may find it deeply comforting to think that their pay is justified by their high levels of human capital.

But human capital is more than a comforting story – it is a myth that shapes our understanding of the world and thus public policy. Ontario's government is urging universities to increase retention rates, so everyone who starts university completes a degree. If the human capital theory is true, then this is sound policy: more students completing university means more human capital means a more productive economy. If, however, the value of university education is as a signal of ability, then one of the most important things that universities do is fail students. Unless some students fail, the ability to complete a university degree confers no special distinction on the graduate.

Whether or not human capital theory is true determines the best response to the demographic challenges much discussed this blog. If education makes people more productive, then more education can increase the productivity of our economy – possibly enough so that fewer workers are able to support the large number of pensioners. If, however, education is basically about sorting workers – if people are getting more and more degrees in hope of eventually capturing that one elusive stable professional job with benefits – then the best way of responding to the demographic crisis is to scale back post-secondary education. Doing so would effectively increase the size of the working age population substantially, easing demographic problems. ... [Part II: The experience part of the human capital equation]...

My case is unusual since I have a job in a university, but there is no doubt at all that education enhanced my productivity (i.e. that education was more than a signal to potential employers). If California had set tuition at just over $100 per semester at its state universities (colleges then), I'd most likely be selling tractor parts somewhere and hating it. That's what my grandfather did, that's what my dad did, and although my brother isn't in parts directly, he sells John Deere engines so he is involved in the tractor business as well (both my grandfather and my dad managed to work their way up to sales and, in my dad's case, part ownership and general manager toward the end of his career -- my brother and my dad have severe dyslexia, and they overcame much more than I did in achieving the success they realized).

I started working at the parts counter in tractor stores during high school, and I continued all through college to support myself. I hated that job, and it was all the motivation I needed to go to class every day and do my best (which did not rule out doing my share of partying -- I will be in surplus the rest of my life just from those four years...). I had a math professor who loaded his classes up in the morning, and was at the golf course by 1:00 every day (where his son was the pro). I had another who spent a lot of time hunting, fishing, and generally doing whatever he wanted with his free time. I looked at both of them, thought about the stupid tractor parts counter job I was doing and how bored I was with it -- how much I hated going there every day -- and thought "I can do that job." I can play golf every day, enjoy the outdoors, take summers off, etc. (When I showed up to work in the morning, I would write down the number 480 on a piece of paper -- that was how many minutes I had left until I could go home -- and then I'd write down and check off each minute one by one during the day. It was agonizing and counting every minute made it worse. If 15 minutes passed by without my checking off any numbers, a whole 15 minutes without thinking about getting out of there, I considered it a success. Occasionally, a whole hour might go by before I wrote down how long until the day was over, but that was rare. I remember thinking that all I wanted was a job where I wouldn't count the minutes from the time I got there until it was time to go home.) Somehow, though, during graduate school I became convinced that I was supposed to do research, not just play all day when I wasn't teaching, so I skipped the teaching jobs and took a position that required research. But I wouldn't be here without cheap tuition, the math guy who played golf every day -- I took every class I could from him and every other math class they offered that fit my schedule (when I found a good teacher I'd take every class he or she taught no matter what type of math it was), and all the economics I took from the professor who'd rather be hunting or fishing. And I certainly wouldn't be here without all the technical skills I learned (the computer science classes were very valuable). As I said, I have no doubt that my productivity was enhanced by going to college.

But I want to take on the basic premise that the purpose of an education is to enhance productivity, to prepare students for the workforce. That's part of it, certainly, though that is much more the case in professional schools that are attached to universities than in the universities themselves. I didn't just get technical skills from college -- math, computer science, etc. -- I got a liberal arts education (or, at least as much of one as you can get at a state institution charging $100 tuition). I learned things about the world and about ideas that I would not have learned elsewhere, things that helped me to think about and evaluate the world around me from new, different, and valuable perspectives. Even if I'd ended up back at the tractor store, and that was certainly a possibility since I got into graduate school by luck -- I only applied two places, Berkeley and Stanford, and got rejected at both places. (I didn't know how hard it was to get there from Cal State Chico and thought my grades/GRE/math training/letters would be enough, I was pretty naive at that time. I can still remember reading the letters on my front porch and feeling crushed.) A professor I was working for at the time helping with medical consulting (pricing of pharmaceuticals for Medicare) got me into Washington State with support after deadlines had passed. If that had not happened, and it was a bit of luck that it did, I wouldn't have gone to graduate school.

However, even if I'd ended up selling tractor parts, what I learned at Chico is something nobody could have ever taken away from me. We often forget about the education part of education and focus on the vocational training aspect, but to me the broad-based liberal arts education is one of the more valuable parts of the education I received. I tended to focus on economics, mathematics, and computer science. I only took courses outside those areas when I was forced to, and I am so glad they made me to take other courses. I loved geology even though I thought I'd hate it, psychology was surprisingly good -- I read the entire text after the course was over, I read most of the books for my undergraduate courses cover to cover at some point -- cultural geography was a surprise (lots of economics). Now that I think about it there were only one or two courses I didn't like and that was mostly because of the instructors.

I didn't always appreciate it at the time, but the general education part of the degree was of great value. That's one of the main reasons I wish I could have afforded to go to a better school than Chico. I doubt the technical training would have been any better, I made a conscious effort to cover all those bases and a motivated student could get what was needed without too much trouble, but the liberal arts part of the education would have likely been much better (and the opportunities for graduate study would have been considerably enhanced -- there are places you can't get to from Chico). I still have lots of holes in history, philosophy, the arts, religious studies, and so on that were left unfilled growing up in a small farming community with parents who never graduated from college. There were so many things I didn't even know I didn't know (though there are also insights that come with such an upbringing that cannot be learned in college or anywhere else, I think I understand things other people sometimes don't, so I don't mean to put down growing up in a small, farming community, not at all). However, even though Chico probably wasn't the best place in the world for a liberal arts educations, for me it was a great leap forward.

Given my background, and the near certainty that it was only the cheap tuition that saved me from a life I would have hated, I am very sad about what is happening to educational access in California and elsewhere. When I think of all the people stuck in their version of the job at the parts counter, people that could be doing so much more if the path were open to them, it makes me both sad for them and very, very appreciative that the state made it possible for me to find a way out.

I know there are many of you who don't see education the way I do -- as a ticket to someplace better and the only real chance I had -- but I believe education is the key to a better future and I will not give up trying to increase access to as many people as possible. I don't care at all if if dilutes the signal to employers, they'll just have to figure out some other way to cull the herd. The value of an education to an individual goes far beyond training for a job, and I see no reason to deny those benefits to anyone who has done the work required to prepare themselves for college level work.

Health Care Reform and Labor Mobility

Posted: 28 Mar 2010 10:35 AM PDT

I was surprised that arguments about the impact of health care reform on labor mobility got so little attention during the debate over the legislation. It's an important benefit to include in the evaluation of health care reform (I made this argument several times, and there were many others who made this point as well, but it never seemed to resonate):

Economy will get a boost from health care overhaul, by Mitchell Schnurman, The Fort Worth Star-Telegram: American companies can hire and fire workers with relative ease... Workers are free to move around, too, but for too many, health insurance has become a ball and chain. If they have a family or a pre-existing condition, it can be too risky to leave a big employer and join a small company, where coverage could be dropped at any time.
Health reform ... will change that... By guaranteeing access to affordable insurance, individuals will eventually gain as much flexibility as their employers, and that could usher in a new era of risk taking and innovation.
More people will be able to take a flier on a startup or join a small business. Entrepreneurs will find it easier to recruit talent, especially older workers. ...
One study reported that 1.6 million workers are "locked" into their jobs because they can't give up the benefits. Worries about health insurance reduce job mobility by as much as 50 percent, studies show, squashing opportunity and hurting efficiency.
Eliminate that friction, and guess who wins? Individuals and small businesses, which have ceded much of the labor market advantage to large employers that can afford to run the benefits gantlet.
"This is a big win for small businesses because they can be judged on the quality of their companies, not their health insurance," says John Arensmeyer, CEO of Small Business Majority, a nonprofit advocacy group.
Health reform is also likely to lower prices, or at least the pace of increases, for small companies. On average, small companies pay 18 percent more for the same coverage because they have less leverage with insurers. ...
By 2014, state and regional insurance exchanges will be in place, competing for millions of customers from small companies and the individual market. No one will be denied coverage, and rates are set within a narrower band. Over the next decade, changes from reform, including the exchanges, could save small businesses up to $855 billion, according to a study by Jonathan Gruber at MIT. ...
Large employers used to be known for stable work environments and generous pensions, and workers joked about the "golden handcuffs" that bound them. That's rare today except in government work. But health insurance remains a point of differentiation because big companies have the resources to manage it aggressively. ...
It's tough to compete for skilled workers when there's little prospect of getting insurance. Health reform levels the playing field. ...

One of the things that Republicans say they care about the most -- economic growth through the innovation that comes from small businesses -- will be helped substantially by the health care reform legislation Republicans did everything they could do to stop. That says something about what they really care about, and it does not appear to be small businesses or the uninsured.

When we talk about the net cost of health care reform, it's important to consider all of the costs and benefits. It's difficult to put a dollar value on mobility, but having observed people stuck in jobs they hate -- really hate -- just to keep health insurance, I'd guess it's worth a lot. And those benefits come on top of the $855 billion that small businesses stand to gain from this legislation, and come in addition to all the other benefits that come with health care reform.

When you hear about the net cost of health care reform in terms of what it will do to the deficit and the accumulated government debt, those are just the costs and revenues that the government must bear, it does not net out all the implicit and explicit benefits to the private sector that come from the legislation  (implicit and explicit costs to the private sector should also be added in, but I'd argue that the benefits to the private sector very clearly exceed the costs). When the benefits accruing to individuals and small businesses are included, the gains from reform are evident.

March 28, 2010

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"The Long-Term Impact of the Mortgage Crisis"

Posted: 28 Mar 2010 01:08 AM PDT

Richard Green is concerned about the old people of the future. Are they saving enough today?:

The long-term impact of the mortgage crisis--and why it keeps me awake, by Richard Green: My parent's generation behaved differently than mine in all sorts of ways. A paper of mine with Hendershott shows that they spent less, controlling for education, etc., throughout their life cycle than any other generation. One of the reasons for this is that they paid off their mortgages. According to the American Housing Survey, 70 percent of households headed by someone over the age of 65 have no mortgage at all. Loan amortization became a mechanism for forced saving, and as a a result, those born during the depression are in pretty decent shape financially. ...

My generation is different. Even under the most benign circumstances, we refinance in a manner that slows amortization. I refinanced ... twice to take advantage of lower interest rates--this was, of course, the right thing to do financially. But each time, the amortization schedule reset, and so it extended the period at which the mortgage would pay off. Now yes, one can take the money one doesn't put into home equity and put it in other savings vehicles, but it is not clear that everyone does that. Forced saving is slowed.

But this is not the worst of how people have handled their mortgages. A substantial fraction of borrowers pulled equity out of their houses, putting themselves on a lower savings path even in the absence of falling house prices.

I am going to run some American housing survey data on this, but it is hard for me to imagine that 70 percent of my generation will have no mortgage debt when we are elders. My parents' generation has used housing wealth to, among other things, finance long-term care. I hope I am missing something here, but the lack of housing wealth in the future could become yet another challenge as we seek to fund the needs of the elderly.

links for 2010-03-27

Posted: 27 Mar 2010 11:03 PM PDT

"Does Unemployment Insurance Necessarily Raise the Unemployment Rate and Decrease Employment?"

Posted: 27 Mar 2010 11:54 AM PDT

Menzie Chinn takes on Casey Mulligan (again):

Does Unemployment Insurance Necessarily Raise the Unemployment Rate and Decrease Employment?, by Menzie Chinn: Some analysts (e.g., most recently Professor Mulligan) have stressed the disincentive effects of unemployment insurance on the unemployment rate and the level of employment. I think it useful to consider the offsetting effects arising from various effects, and hence distinguishing between the two variables. In my view, the impact of UI is more complicated than it would seem at first glance, with UI potentially increasing employment while concurrently increasing the unemployment rate. In addition, according to newer research, even if UI extends unemployment duration, it still might be welfare-enhancing. In other words, some researchers appear to have had their worldview frozen in 1990. ...[...continue reading...]...

Will the GOP Remain the Party of No?

Posted: 27 Mar 2010 10:34 AM PDT

This is from The Myrtle Beach Sun:

DeMint, Graham let S.C. down on health care overhaul, by Isaac Bailey, The Myrtle Beach Sun: Two South Carolina legislators had the opportunity to shape the historic health care bill President Obama signed into law on Tuesday... Because the Senate version of the bill was going to be the foundation of the law, Sens. Lindsey Graham and Jim DeMint were our only two politicians who could have forced even more conservative ideas into the legislation. ... Neither did. Both shirked their responsibility to the state to walk lockstep with the GOP.
There was little reason to expect anything different from DeMint, who represents the party's Rush Limbaugh-wing. He didn't begin the debate saying we must find a way to bring down S.C.'s high percentage of the un- and underinsured. He didn't say we must find a way to stem costs that are spiraling out of control, bankrupting hard-working people for the sin of getting too sick. He didn't say the days of uninsured families having to leave coffee cans decorated with a sick loved one's photo on convenience store counters must end. He didn't say that if reform included strong tort reform so doctors would no longer feel the need to perform unnecessary tests that he would vote for it.
Instead, he said reform's defeat would be Obama's "Waterloo", that it would break the president. Only after his comments ignited a firestorm did DeMint propose a policy that most experts considered laughable. He was focused on politics, not people.
Sen. Graham began the debate differently. He knew if nothing changed, our health care system would eventually bankrupt us, which is why he initially supported the bipartisan Bennett-Wyden bill. ... But the proposal went nowhere fast. Instead of Graham engaging in the fight to incorporate the best parts of Wyden-Bennett - or any other effective plan - he fell in line with the rest of the GOP caucus.
He, too, became more concerned about his party's positioning for November than the people he was sent to Washington to represent...
The most vulnerable South Carolinians ... needed Graham and DeMint to lead. ... They didn't. Instead, they stood for the petty and ignored the real needs of the people. History won't forget. And neither should we.

And, from the local paper this morning:

Move past 'repeal, replace', Editorial, Register Guard: Republicans are preparing to march into the 2010 election under the dubious banner of "Repeal and replace!"
It's a losing strategy, one that GOP lawmakers should rethink before venturing too far down that road. The health care reform bill has been signed into law. ... The Republicans should turn the page on health care if they want to shed the "party of no" label that served both the GOP and nation poorly in the debate over health reform.
That doesn't mean that House Minority Leader John Boehner and other Republican leaders should publicly embrace Obamacare. That's unrealistic; their philosophical differences with Democrats on reform are too deep and broad, and Republicans resentment over President Obama's historic achievement precludes even the pretense of a political truce.
But Republicans face long odds in any attempt to repeal and replace health care reform, and they know it. ... As Sen. Jon Kyl, R-Ariz., acknowledged, repeal "is not realistic because Barack Obama would veto the bill and we don't have the votes to override it."
For Republicans such as Boehner, Kyl and DeMint, "repeal and replace" is an election strategy and not a practical legislative goal. ...
Repeal-and-replace Republicans eventually must face the difficult task of explaining why their apocalyptic predictions — everything from the death panels to the dismantling of democracy — didn't come true. In the months and years to come, many Americans, even those skeptical about the reform effort, will come to see the scare tactics as hyperbolic depictions of a bill whose moderate approach incorporated many Republican ideas.
Republicans have just suffered a devastating legislative defeat, and they are entitled to nurse their wounds. But the GOP's political aspirations — and the nation's interests — would be best served by full engagement on the many critical issues facing Congress, from financial regulatory reform to immigration to unemployment. ... Republicans remain fixated on their loss on health reform — so much so that some, including Sen. John McCain, R-Ariz., have publicly ruled out any bipartisan cooperation for the remainder of the current session.
The American people need — and deserve — a legislative process in which both parties are engaged and bring competing views to the table. By clinging to the cold corpse of the health care debate, Republicans will miss an opportunity to express a clear, compelling vision on other issues — a vision that could do far more to sway voters to their side this fall than continuing to flail away over health care. ...
While there is still time, Republicans should repeal and replace their catchphrase, and substitute another that bodes better for their party's future.

There's an inconsistency between free market ideology and the need for reform in areas like health care and financial services. One of the first steps in reforming the system is to acknowledge that the market won't take care of the problems itself. Once that is acknowledged, i.e. that regulation is needed to fix these market failures, the only question is whether that regulation will be of the "market-based" variety or by edict (e.g. this is the difference between system of tradable carbon permits that allow least cost carbon reduction strategies to emerge and a government set emission limit for each industry which generally does not achieve ca4rbon reductions at least cost).

With Democrats mostly opposed to old fashioned edict style regulation --  with their willingness to embrace market-based solutions to regulatory issues --  and with Republicans unwilling to embrace anything that Democrats propose, there is little ground left for those Republicans who are willing to admit that markets sometimes fail to stand upon. Democrats have taken the middle ground -- market based regulation -- from Republicans. This leaves Republicans with a choice of going along and compromising (and thereby embracing proposals they have made in the past, e.g. the health care bill looks an awful lot like the health care program Romney put in place in Massachusetts), or standing in opposition simply because it is a Democratic proposal. The choice they've made, standing in opposition to everything, is a losing strategy that allows policy to be shaped entirely be the other side. It will be interesting to see if a fissure develops within the Republican Party over this.

Will Republicans be able to share the market-based regulatory ground Democrats have taken away? There are already signs that Republicans will work with Democrats on financial reform, but there were early signs of a bi-partisan effort on health care as well, so we'll see how this plays out. I think people are fed up with banks and want something to be done, and Republican attempts to block legislation won't play well with the public at all. So I expect the coalition of no to be broken -- some legislators will see that they cannot continue just saying no and expect public support -- but not without big fights within the Republican Party between the extremists and the centrists. If Republicans do move in this direction, and it's more likely they'll do so on financial reform than on climate change legislation, you'll see an attempt to reclaim these policies as Republican (here's a great example: Health Care Reform--A Republican Idea?). And given the administration's centrist tendencies, in many cases they'll have a pretty good argument.