Thursday, April 30, 2009

Closing the barn door after the horse has gone

The Blue Dog Democrats, formerly known for their opposition to deficit spending, have thrown their support behind the President's budget because it promises "PAYGO," to pay for what they spend. Heritage tells us what meaningful PAYGO would look like:
1. PAYGO must be enforceable. ...The most effective form of PAYGO would include both a statute, enforceable by sequestration,
2. PAYGO should apply to all new policies. ...However, the current Senate PAYGO rule actually exempts all tax and entitlement changes
3. PAYGO should apply to “emergency” spending.
4. Congress should not stymie PAYGO enforcement. Not a single sequestration took place during PAYGO’s 12 years as law. Instead, lawmakers repeatedly passed legislation that forbade OMB from enforcing PAYGO at all.
5. PAYGO sequestration should apply to all mandatory spending.

Wednesday, April 29, 2009

Chrysler Debtholders settle with government

UPDATE from an earlier post, Bargaining in the shadow of bankruptcy, Chrysler Debtholders settle for $2B, after initially rejecting the government's offer of $1B.

Is there any air left in the housing bubble?

In long run equilibrium, consumers should be indifferent between renting and buying a home. This relationship has been used to identify price"bubbles," when prices are "too high" relative to their "fundamental" or long-run value. From Calculated Risk

Tuesday, April 28, 2009

Iceland's amazing boom then bust

Former student, Oli Arnarson, helped us write a new chapter on Iceland for the second edition of our textbook. I recommend his book to anyone who reads Icelandic.

The outlook for energy

Nice essay from Peter Huber:

By pouring money into anything-but-carbon fuels, we will lower demand for carbon, making it even cheaper for the rest of the world to buy and burn. The rest will use cheaper energy to accelerate their own economic growth. Jobs will go where energy is cheap, just as they go where labor is cheap. Manufacturing and heavy industry require a great deal of energy, and in a global economy, no competitor can survive while paying substantially more for an essential input. The carbon police acknowledge the problem and talk vaguely of using tariffs and such to address it. But carbon is far too deeply embedded in the global economy, and materials, goods, and services move and intermingle far too freely, for the customs agents to track.

Consider your next Google search. As noted in a recent article in Harper’s, “Google . . . and its rivals now head abroad for cheaper, often dirtier power.” Google itself (the “don’t be evil” company) is looking to set up one of its electrically voracious server farms at a site in Lithuania, “disingenuously described as being near a hydroelectric dam.” But Lithuania’s grid is 0.5 percent hydroelectric and 78 percent nuclear. Perhaps the company’s next huge farm will be “near” the Three Gorges Dam in China, built to generate over three times as much power as our own Grand Coulee Dam in Washington State. China will be happy to play along, while it quietly plugs another coal plant into its grid a few pylons down the line. All the while, of course, Google will maintain its low-energy headquarters in California, a state that often boasts of the wise regulatory policies—centered, one is told, on efficiency and conservation—that have made it such a frugal energy user. But in fact, sky-high prices have played the key role, curbing internal demand and propelling the flight from California of power plants, heavy industries, chip fabs, server farms, and much else (see “California’s Potemkin Environmentalism,” Spring 2008).
So the suggestion that we can lift ourselves out of the economic doldrums by spending lavishly on exceptionally expensive new sources of energy is absurd. “Green jobs” means Americans paying other Americans to chase carbon while the rest of the world builds new power plants and factories. And the environmental consequences of outsourcing jobs, industries, and carbon to developing countries are beyond dispute. They use energy far less efficiently than we do, and they remain almost completely oblivious to environmental impacts, just as we were in our own first century of industrialization. A massive transfer of carbon, industry, and jobs from us to them will raise carbon emissions, not lower them. ...

If we’re truly worried about carbon, we must instead approach it as if the emissions originated in an annual eruption of Mount Krakatoa. Don’t try to persuade the volcano to sign a treaty promising to stop. Focus instead on what might be done to protect and promote the planet’s carbon sinks—the systems that suck carbon back out of the air and bury it. Green plants currently pump 15 to 20 times as much carbon out of the atmosphere as humanity releases into it—that’s the pump that put all that carbon underground in the first place, millions of years ago. At present, almost all of that plant-captured carbon is released back into the atmosphere within a year or so by animal consumers. North America, however, is currently sinking almost two-thirds of its carbon emissions back into prairies and forests that were originally leveled in the 1800s but are now recovering. For the next 50 years or so, we should focus on promoting better land use and reforestation worldwide. Beyond that, weather and the oceans naturally sink about one-fifth of total fossil-fuel emissions. We should also investigate large-scale options for accelerating the process of ocean sequestration.

Monday, April 27, 2009

Did Barbie Have a Label Maker?

Someone I know (who shall remain nameless, but for the purposes of this post, let's assume she is female) has a strange fondness for her Brother PT-1800 Electronic Label Maker. She bought the thing a few years ago for around $40 - $50; I figured if it only takes $50 to make her happy, that's just super. Well, that was until this weekend when we were at the office supply store and she decided to pick up some replacement label supplies. Two label cartridges and sixty bucks later, I learned how Brother distinguishes high-value labelers from low-value labelers: price the labeler low and the labels high.

This type of indirect price discrimination scheme should be familiar to anyone who has bought a printer and toner cartridges or Barbie dolls and Barbie outfits (the source of one description of this type of pricing strategy: "Barbie Doll Marketing"). The moral of the story: I should have known better than to think happiness could be bought for fifty bucks.

Friday, April 24, 2009

I guess this is better than digging holes

Wait for the shot of the empty air traffic control office, with the active radar.

Thursday, April 23, 2009

Bargaining in the shadow of bankruptcy

The government is bargaining with Chrysler debtholders.

First the government offered $1.0 billion, and no equity interest in the new Chrysler, to a consortium of debtholders (mostly banks with pier loans: JPMorgan Chase, Goldman Sachs, Morgan Stanley and Citigroup).

The banks countered with $4.5 billion, and a 40% equity interest.

From CNBC: Treasury Raises Offer to Chrysler Lenders

Treasury has offered the lenders $1.5 billion of first-lien debt and a 5 percent equity stake in a restructured Chrysler ...
It will be interesting to see if the banks budge (and by how much). They claim they can get more than 65 cents on the dollar in liquidation - or $4.5 billion. Just 7 more days ...
Remember that it is the alternatives to agreement that determine the terms of agreement.


Lesson plan

I have to try this sometime:
An economics professor at Texas Tech said he had never failed a single student before but had, once, failed an entire class. That class had insisted that socialism worked and that no one would be poor and no one would be rich, a great equalizer. The professor then said ok, we will have an experiment in this class on socialism.

All grades would be averaged and everyone would receive the same grade so no one would fail and no one would receive an A. After the first test the grades were averaged and everyone got a B. The students who studied hard were upset and the students who studied little were happy. But, as the second test rolled around, the students who studied little had studied even less and the ones who studied hard decided they wanted a free ride too; so they studied little.. The second test average was a D! No one was happy. When the 3rd test rolled around the average was an F.

Wednesday, April 22, 2009

Signs of intelligent life

We criticized President Obama during the election for his hostility to trade agreements, particularly the one with Colombia. Now the President seems to be moving away from his protectionist rhetoric as a candidate. Needless to say, this is good news.

The president announced that his team must find a way to pass the agreement. With world trade down 80%, the pact opens new markets to the U.S. He demanded immediate action, asking Colombia's trade minister to fly to Washington this week.

Trying to Address Moral Hazard in Lending

One of the contributing factors to the housing bubble was a moral hazard problem between mortgage brokers and lenders with independent brokers selling "bad" loans to lenders. The problem was that with the increasing ability to securitize these loans and sell them to third parties, the lenders had no incentive to try to solve the moral hazard problem.

A proposal working its way through Congress tries to address this problem by requiring lenders to keep a portion of the loans they write. Two concerns with the proposal: (i) how much do you need to force the lenders to keep to give them an incentive to fix the problem? One early draft suggested requiring lenders to keep 5% of loans they write, but this may not create a large enough incentive. (ii) forcing lenders to keep part of these loans requires them to keep more capital on hand, reducing funds available for lending.

Monday, April 20, 2009

Consumer spending looks bleak going forward

Consumers are saving more, and paying down debt. Unless incomes start rising, this means lower consumption
US consumers have accounted for more than three-quarters of US GDP growth since 2000 and for more than one-third of global growth in private consumption since 1990. These trends were fueled by a surge in household debt,1 particularly after 2000 (Exhibit 1), and a decline in the personal savings rate—to a low of –0.7 percent, in 2005. From 2000 to 2007, US household debt grew as much, relative to income, as it had during the previous 25 years.
Remember: one man's consumption is another one's income.

Aligning bottler incentives with goals of Pepsi

Pepsi is acquiring its major bottling groups, in an attempt to better control the incentive conflict between Pepsi and its bottlers and over pricing, new product introduction, promotion, and quality. Points from the letter to the stockholders.
  • against a backdrop of changing Liquid Refreshment Beverage dynamics;
  • Provide flexibility across go-to-market systems to optimize revenue, productivity and costs by channel and customer;
  • Facilitate rapid decision-making and speed-to-market;
  • For these reasons, the combined beverage business would enhance our “Power of One” vision and contribute to a simplified, streamlined and agile beverage system.
I think this means that they want to better align the incentives of bottlers with those of Pepsi, particularly in the area of new product introduction, where the incentive conflict seems to cause a lot of problems.

Satire from the Onion (WARNING: adult content)

This summary is not available. Please click here to view the post.

The Falling Reputation of Economists

From Business Week
Economists mostly failed to predict the worst economic crisis since the 1930s. Now they can't agree how to solve it. People are starting to wonder: What good are economists anyway? A commenter on a housing blog wrote recently that economists did a worse job of forecasting the housing market than either his father, who has no formal education, or his mother, who got up to second grade. "If you are an economist and did not see this coming, you should seriously reconsider the value of your education and maybe do something with a tangible value to society, like picking vegetables," he wrote on
And, from Dilbert

Wednesday, April 15, 2009

Shiller on the Financial Crisis

Short interview of economist Robert Shiller from The McKinsey Quarterly.
I don’t want to say that I don’t think there will be a turnaround soon, but I think that many of us are too much expecting that it might come tomorrow or the day after. And this volatility is evidence of that. So I think it is quite possible that the stock market and the housing market, five years from now, will be close to where they are now.

Equity risk premia since 1929

We have blogged about the equity risk premia, the volatility index, and the drop in almost all risk premium right before the recent crash. The risk is back, or at least the market recognizes that risk is back. This means that investors are asking to be compensated handsomely for bearing risk.

Monday, April 13, 2009

Teachable moment

HT Greg Mankiw

Moral Hazard everywhere

First Sam Peltzman discovered that seat belts caused more accidents. Then other researchers followed his lead:
Researchers have found that improved parachute rip cords did not reduce the number of sky-diving accidents; overconfident sky divers hit the silk too late. The number of flooding deaths in the United States has hardly changed in 100 years despite the construction of stronger levees in flood plains; people moved onto the flood plains, in part because of subsidized flood insurance and federal disaster relief. Studies suggest that workers who wear back-support belts try to lift heavier loads and that children who wear protective sports equipment engage in rougher play. Forest rangers say wilderness hikers take greater risks if they know that a trained rescue squad is on call. Public health officials cite evidence that enhanced HIV treatment can lead to riskier sexual behavior.

Betting on GM Bankruptcy

Traders at rate the likelihood of GM bankruptcy prior to the end of the year to be 78%.

Hard to believe that economists designed this one

Heads, investors win, tails the tax payer loses.
Suppose someone is willing to fund your gambling.., and lends you $80 at zero interest. Better still, if you lose the bet you don’t have to pay him back. Under that scenario, a [risk neutral bettor]would pay $90 for a [(0, $100) lottery], giving him an even chance of winning or losing $10.

This is a microcosm of what the Public-Private Investment Program (PPIP) is intended to do: create an incentive for investors to pay $90 for a bet that is worth only $50.

Friday, April 10, 2009

Defined benefit pensions threatening civil order

We have previously blogged about looming defined benefits crisis:
And now, we discover how difficult this problem will be to solve:

State pension benefits are protected by law, and must be paid even if the fund is making a loss. Calpers, the largest fund, has lost $70bn in value in the past eight months, but still has to pay $11bn in benefits this year. Unless the fund starts recouping its losses soon, the California state government, which is already mired in a huge deficit, will have to lift contributions to Calpers starting from next year.

...According to the Pension Benefit Guaranty Corporation, which regulates and insures pensions, ...the current underfunding in public plans, which cover about 22 million workers, seems to be something north of a trillion dollars. And they're not insured.

The funds that are responsible are a different sort of headache; they'll be slapping heavy levies on local school districts and governments to shore up their capital. That will be a nasty burden on strapped local governments, particularly in places that are already in decline. ... In good years, the market booms, tax revenue soars, and not only does their mandatory pension contribution fall, but the state often offers extra help out of the tax windfall. In bad years, the state aid disappears, their mandatory contribution goes up, and the senior citizens on fixed incomes start assembling pitchforks and torches for the march on city hall.

They can't be serious...

...about wanting to regulate venture capital
Timothy Geithner recently told Congress that large venture capital (VC) firms should be forced to register with the Securities and Exchange Commission (SEC), and submit regular reports on their investors and portfolios. Data collected by the SEC would then be shared with a new risk regulator to ensure that VCs aren't "a threat to financial stability."

Since then, venture investors have been trying to solve the mystery of how they could possibly threaten the financial system. Their work involves very little banking. Venture firms raise equity from wealthy investors to buy ownership stakes in small companies. The VCs and the companies in which they invest use little or no debt.

....What Washington needs to understand is that bank-style regulation could destroy the culture that created the microprocessor.

In justifying new SEC registration requirements, Mr. Geithner said that Bernie Madoff's Ponzi scheme demonstrated that investors need more protection. He didn't mention that Madoff's firm was registered with the SEC as an investment adviser and had also been regulated by the SEC for decades as a broker-dealer. Also, Madoff was not running a venture firm.

This makes me want to switch to T-mobile

Wednesday, April 8, 2009

The problem with bipartisan compromise

Tme to recognize the obvious:
The government is trying desperately to find a middle ground between bankruptcy and nationalization, but I fear that middle does not exist. Little good comes from allowing private entrepreneurs to bet with public funds, so public funding leads inexorably to public control. The problem with large subsidized, nationalized companies isn't just that those entities will be run inefficiently. If GM is split up in a bankruptcy court, this will provide an opening for competitors, many of whom will buy up pieces of the company. If GM is kept whole and public, then taxpayers will pay heavily to crowd out entrepreneurship.

Competing with the Big Chains

Boston area independent booksellers appear to be having some success competing against the big chains.
Other small booksellers are withstanding the downturn with the same combination of community involvement, personalized service, events, e-commerce, and such extras as cafés or gifts or used books, that enabled them to survive the onset of megachains and

Hobie cats rule

Brother Charles showing off

Tuesday, April 7, 2009

Save a balding, middle-aged, fat guy... taxing his health care benefits.

Colleague Larry van Horn eats poorly and doesn't exercise to illustrate the moral hazard associated with subsidized health care. Nice video of Larry interviewed on the big problems of health care.

Wednesday, April 1, 2009

Oxymoronic: conservation without sacrifice

The Senate voted 89-8 to "bar any legislation under the budget that resulted in higher costs for gasoline or electricity." But this is the ONLY point of a Cap-and-Trade system, higher prices to encourage conservation--in effect, a sales tax.
Barbara Boxer, Environment and Public Works Committee chairwoman, accused her conservative critics of inventing a “new vocabulary” to portray climate legislation as a national energy sales tax.
Soon they will be creating subsidies to offset the effects of the higher energy prices.

FedEx threatening Congress

The US Congress is currently considering a law that would make it easier for unions to organize at locations like FedEx. FedEx's response: the company is currently threatening to cancel the purchase of billions of dollars worth of new cargo planes from Boeing if the law passes. Only about 1.5% of FedEx's employees are unionized (just the pilots) compared to over 1/2 of UPS' workforce. According to a FexEx spokesman, "the legislation could cripple the company and eliminate the need for the extra planes."