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Looking under All That Paper: The Paper Flap

Push is coming to shove over the Chinese-American paper flap. In the wings are other American companies. Some will makes claims of similar subsidies; others will use the opportunity to complain that China is not liberalizing fast enough in other areas.

As numerous articles point out, since 1983 the U.S. has granted China a free subsidy pass because it was an NME, a nonmarket economy. Accession to WTO status presumably started the switch to a market driven economy.

What is an NME? In short, a centrally controlled economy, one in which the government seeks to determine economic activity largely through central planning. Movement from an NME to a full-market economy is a complex and dynamic one. The Department of Commerce can act if it determines that a country is indeed subsidizing an industry. Such a country is not acting in accordance with free market principles. In fact, because the transition to a full-fledge market driven economy is dynamic, the DoC can move the goalposts, change the rules, as it were. As an economy liberalizes, more forceful definitions can be employed. See

The Economics of the Non-Market Economy Issue: Vietnam Catfish Case Study

for an examination of an NME controversy, as well as to some insights into the WTO and its principles.

The WTO requires that all free-market countries treat each other equally, that all strive to become market-driven, not centrally planned economies. There are three points I wish to make here:

The first is that the Department of Commerce may be correct that China is not allowing free market forces to determine the behavior its paper industry, that it is, in fact, distorting or subsidizing this industry. The question is—and it is a critical one:

Is China in this case abandoning “free market principles”? If it has, then those who are decrying the latest DoC move are not defending their own principles.

The second point is more general one. Maybe it is more of a question than anything else. Is China still a command economy? I would say it is. But I will address my peculiar reason for saying at the end of this post.

The third point is an observation and again a question. China has denied Carlyle’s offer to buy 85% of Xugong Construction Machinery. Carlyle has to be content with a 45% ownership. Has China resisted opening its markets to sales and acquisitions in a manner that violates the spirit of WTO membership?

There are a number of powerful forces moving silently behind the paper flap. Some of them are U.S. companies decrying unfair subsidies and currency manipulation. Others are large MNC’s who want a larger and larger share of the Chinese pie. Another is American labor that feels that it has been left out to dry as American companies have sought to profit from cheap Asian labor.

On this last score, I would like to offer my own peculiar thoughts, especially as to what a command economy is. Controlling and subsidizing prices is certainly one aspect of a command economy. Governmental control or ownership of companies is another. A centrally controlled economy, if it seeks to control the costs of production, is yet another. Into that cost of production, I would add labor. A free market economy uses governmental regulations to ensure that the true costs production are fairly determined by the market place. Without adequate rules to ensure fair competition within its labor force, China is in effect subsidizing the costs of production.

Whether you agree with my last point or not, there is a lot bubbling to the surface over some pieces of paper.

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Syrian Trips: White House Slams Congressional Republicans

Well maybe not as we read this CNN story:

The White House has criticized House Speaker Nancy Pelosi’s plans to stop in Syria next week during a Middle East trip that began Friday. She will be the highest-ranking U.S. official to visit Syria since relations deteriorated between Damascus and Washington. The United States has accused Syria of aiding the Sunni insurgency in western Iraq with weapons and fighters. Syria also is accused of supporting the militant extremist groups Hezbollah, a Shiite political party and militia, and Hamas. “We do not encourage and, in fact, we discourage members of Congress to make such visits to Syria,” said White House deputy spokeswoman Dana Perino. “This is a country that is a state sponsor of terror, one that is trying to disrupt the (Prime Minister Fouad) Siniora government in Lebanon and one that is allowing foreign fighters to flow through its borders to Iraq. “I don’t know what she is trying to accomplish, and I don’t know if anyone in the administration has spoken to her about it,” Perino said. “In general, we do discourage such trips.” Responding to a follow-up question, Perino added, “We think that someone should take a step back and think about the message that it sends … to our allies.”

OK, Dana Perino is playing the Democrats are traitors canard but why couldn’t CNN remind us that there are Congressional Republicans in the Pelosi delegation? ThinkProgress notes the delegation includes Reps. David Hobson (R-OH), Keith Ellison (D-MN), Tom Lantos (D-CA), Henry Waxman (D-CA), Louise Slaughter (D-NY), Nick Rahall (D-WV). And why didn’t the White House blast Rep. Robert Aderholt’s (R-AL) staff, Aderholt and Rep. Frank Wolf (R-VA) who are also visiting Syria? I guess Republicans visiting the Middle East is supporting the troops, while Democrats doing the same are supporting the enemy. How incredibly stupid!

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Real GDP Growth for the Past Six Years

AB reader ddickson is one of our very smart conservative friends here and he drops me an email talking about real GDP growth from 2000QIV to 2006QIV. I have graphed the quarter by quarter annualized growth rates for the past 24 quarters. We did see a large increase in 2003QIII, which led to a flurry of comments from the Usual Suspect of Bush cheerleaders who know nothing about economics (even as they pretend they do) as to how this was the best economy ever. But as our graph shows, this one-time jump in growth followed ten quarters of sluggish growth, so most Keynesians were expecting a vigorous recovery. For those of us who were hoping for a strong and sustained recovery, the subsequent growth rates were a bit of a disappointment.

But we now here from the Bush cheerleaders that the economy is great if not the best ever. Even the Federal Reserve seems to think we are near full employment, which is why they have raised interest rates and are not backing off. Let’s suppose that the smart folks at the Federal Reserve are right so comparing 2000QIV to 2006QIV is a decent way of looking at the growth rate of potential output. Real GDP (2000$) was $11,513 billion as of 2006QIV as compared to $9,887.7 billion as of 2000QIV, which represents a 16.44% increase over six years. In other words, the average annualized growth rate has been a mere 2.57%. So that supply-side miracle that the Bush cheerleading free lunch supply-side spinners keep talking about does not seem to have materialized. But why would anyone thing otherwise given the fall in national savings from the Bush fiscal irresponsibility that this Bush cheerleading free lunch supply-side keep endorsing?

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Donald Luskin on Free Trade: Guess He Skipped the Stolper-Samuelson Lecture

Let’s be clear – Donald Luskin knows nothing about economics. His college education consisted of going to Yale University and dropping out during the first semester. His incredible lack of knowledge comes through in his latest attempt to explain the benefits of free trade:

Make no mistake about it. The benefits of free trade are settled science. It goes all the way back to the 18th century, beginning with the path-breaking work of Adam Smith and David Ricardo. From then till now, the science of economics has deepened its virtually unanimous embrace of free trade. Today’s best-selling college economics textbook, Macroeconomics by Harvard’s N. Gregory Mankiw, enshrines among the “ten principles of economics” the axiom that “Trade Can Make Everyone Better Off.” Indeed it can, and indeed it has. During the last several decades of unprecedented global economic growth we have witnessed increasing global trade and falling trade barriers. For all the worry about “outsourcing American jobs,” the U.S. unemployment rate stands today at a low 4.5 percent. On the other hand, the Great Depression of the 1930s involved a collapse of global trade, triggered by the Smoot-Hawley Tariff Act. Back then there was no outsourcing. But the unemployment rate exceeded 20 percent.

Let’s separate the long-run or microeconomic issues and the short-run business cycle or macroeconomic issues for a moment. The benefits of free trade come from the efficiency benefits from the division of labor. Few deny this. But there has been a lot of economics since David Ricardo presented his simple comparative advantage model. Maybe real world economics is over Luskin’s head, but most economists have heard of the Stolper-Samuelson theorem. I seem to recall writing something on this suggesting that some people lose from free trade as their real wage is reduced.

Luskin jumps from the microeconomics to business cycle issues. He seems to think that the cause of the Great Depression was the Smoot-Hawley Tariff Act, which was passed in June 1930. Of course, this is absurd given the fact that the Great Depression was already on the way in 1929. Didn’t Milton Friedman and Anna Schwartz suggest the cause of the Great Depression was monetary policy? Or was it the Hoover decision to enact fiscal restraint? Reductions in aggregate demand can be caused by a variety of factors. And the Smoot-Hawley Tariff Act was a reaction to the decline in aggregate demand in the hope that this expenditure-switching policy would increase U.S. net exports. Of course, other nations retaliated. Such beggar-thy-neighbor policies likely worsened the global Great Depression, but they were not the cause.

Luskin also claims that the world has seen a great boom over the last few decades as a result of the opening of free trade. It seems to have forgotten about two periods. During the early 1980’s, the U.S. went through a very deep recession, which may have been one reason why President Reagan pushed through trade protection for certain sectors of the U.S. economy. A few years ago, we had another recession and we saw President George W. Bush pushing through protection for sectors like the steel industry. Is Donald Luskin so stupid that he doesn’t even remember these things?

Update: AB reader Spencer points us to this story:

The Bush administration, facing heavy pressure to deal with soaring trade deficits, said Friday it is imposing economic sanctions against China to protect American paper producers from unfair Chinese government subsidies … The action means that China’s imports of glossy paper will be subjected to tariffs ranging from 10.9 percent up to 20.4 percent as a penalty for subsidies that the Chinese government is providing for its own companies. Those extra duties will be imposed immediately on a preliminary basis pending further review in coming months to set the final penalty margin. The case, which was brought by NewPage Corp., was being closely watched by a number of other U.S. industries from steel to furniture. For two decades, the U.S. government has held that American companies did not have a right to challenge government subsidies granted to their foreign competitors if those companies were in “nonmarket economies” such as China. However, last year, the administration let it be known that it was ready to consider reversing that policy.

Spencer is wondering if Greg Mankiw will condemn this act. I bet he will join me in decrying this protectionist move. The real question is whether the National Review nitwits are even aware that George W. Bush is not the free trade advocate he claims to be. But maybe Donald Luskin will shock us all and also decry this protectionist policy from a Republican Administration. We’ll wait and see!

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Tax “Cuts”: Fill My Mug and Pass the Popcorn

Greg Mankiw provides this parable about tax policy:

Suppose that every day, ten men go out for beer and the bill for all ten comes to $100. If they paid their bill the way we pay our taxes, it would go something like this:

The first four men (the poorest) would pay nothing.
The fifth would pay $1.
The sixth would pay $3.
The seventh would pay $7.
The eighth would pay $12.
The ninth would pay $18.
The tenth man (the richest) would pay $59.
So, that’s what they decided to do.

The ten men drank in the bar every day and seemed quite happy with the arrangement, until one day, the owner threw them a curve. “Since you are all such good customers,” he said, “I’m going to reduce the cost of your daily beer by $20.” Drinks for the ten now cost just $80.

Greg continues with this parable, which can also be found here, commenting on the distribution of this alleged tax cut. I guess this is supposed to be a comment on the 2001 tax cut but there’s something missing here. In the real world, we did not get a tax cut – only a tax shift. Yes, government spending did not decline so somebody will have to pay more in taxes someday.

So let’s finish his parable by assuming that the owner raised the price of the munchies such as popcorn and the beer nuts. One cannot talk about talk about the distribution of the change in tax policy without bringing in the total picture. Yet, we often see our conservative friends implicitly denying that either sales taxes or employment taxes (or both) will have to be increased. Of course, this is one of many myths that get created when one falls for the free lunch fallacy that permeates Republican discussions of fiscal policy.

Hey bartender – pour me another pint and give me some more popcorn. It’s all free – right?

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The Stanford Experiment, and a Question

You probably reading about the “Stanford Experiment”, in which 24 Stanford students were divided up into two groups: prisoners and guards.

Initially nothing much happened as the students awkwardly tried out their assigned roles in their new uniforms. However, all that changed suddenly on the morning of the second day following a rebellion, when the prisoners barricaded themselves inside the cells by putting their beds against the door. Suddenly the guards perceived the prisoners as “dangerous”; they had to be dealt with harshly to demonstrate who was boss and who was powerless. At first, guard abuses were retaliation for taunts and disobedience. Over time, the guards became ever more abusive, and some even delighted in sadistically tormenting their prisoners. Though physical punishment was restricted, the guards on each shift were free to make up their own rules, and they invented a variety of psychological tactics to demonstrate their dominance over their powerless charges.

If people can slip into roles of viciousness and/or victimhood after a day or two, do unequal starting points and an unlevel playing fail in society self-perpetuate? Do they create abuse?

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Did Terminating the A-12 Navy Fighter Cost the 1992 Election?

A-12 Navy Fighter Program:

The following is why I oppose nearly every new weapon system on the table.

They follow the A-12 pattern. Except there has been no one to kill them since Cheney got “religion”.

In 1992 GHW Bush was not reelected. No failed large weapon system has been terminated since.

Jan 2003 “National Defense” NDIA’s (National Defense Industrial Association) Business and Technology Magazine:

“After more than a decade of litigation, the Department of Defense continues to seek vindication for its inappropriate use of a fixed-price contract and its faulty management of the $5 billion A-12 stealth aircraft research and development (R&D) project. “

Jan 7 1991 Secretary of Defense Richard Cheney terminated the contract to design the A-12 Avenger for default. The termination under federal law required the companies Mc Donnell Douglas and General Dynamics to pay back $1.3 B.

As far as I can determine the litigation is still in appeal and may get to the US Supreme Court if the court will hear a liability case.

In addition to the $1.3 B, interest of over $1B has accrued and litigation costs are in the hundreds of millions of dollars.

The Navy did not fold up and blow away after the A-12 ceased to exist. They quietly made a bigger cost plus, best effort, no specification too gold plated to redesign the F-18 for the price of a whole new airplane.

What I see happened: the Navy desired a “stealth” fighter like the Air Force’s F-117 which was in design and under heavy secrecy in the 1980’s. It had to fly off carriers which presented several design issues, but Mc Donnell Douglas had built the F-4 for carriers and so had the expertise, it was assumed. Development contracts in that time were fixed price. A fixed price means that the Navy agreed to pay in this case $5 B for the design and delivery of several prototypes of the A-12, in a given time and the A-12 would meet a system specification with performance and physical requirements so it would fit on a carrier and do the missions it needed to be performed. If the contractor can deliver at lower costs than the fixed price they make more profit. They also stand to lose money if costs are more than expected.

In fixed price developments with huge cost overruns the response was to either “equitably adjust” the price upward being very sympathetic to the contractor, or revise the specification and take reduced quality and also not harm the contractor’s profits. This is quite a very cozy relationship. Went on then and goes on now. No one ever loses money working for Uncle Sam. The taxpayer gets expensive stuff that is not so good.

The Navy had planned to adjust the expectations but an unforeseen catastrophe occurred. The Defense Contract Auditor working the project cried foul. This is the most successful whistleblower case in memory. The whistleblower stated with thorough evidence that the delay was so vast that the idea of running up the price was totally irresponsible and the failed design was such the Navy would spend huge amounts to fix it while it pretended it useful in the fleet.

Cheney had no choice but to terminate the program.

Contrast the A-12 to the F-22 or the B-2 or the Littoral Combat Ship. F-22 took many extra years with huge cost overruns and no one ever asked was it still worth doing. The Air Force is much smarter than the Navy, they learned to have “disciplined” contract auditors who would not make critical observations known outside the cozy “community”.

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Why Might Alan Greenspan Have Thought That He Could Have Influenced The Outcome of Elections?

In my previous post on the Fed and elections, I showed that for whatever reason, in the four consecutive close elections during the Greenspan era, there were unusually large changes in the levers that the Fed controls. One might call it coincidence, or one might note that these movements seemed designed to benefit the Republican candidate.

For instance, the 12 months through November 1992 saw the second largest percentage increase in real M1 per capita in the Fed’s history (in any 12 month period ending in November). 1996 – the single largest percentage decrease in real M1 per capita in the Fed’s history. 2000 saw the third largest percentage decrease in real m1 per capita in the Fed’s history. After three elections in which the Republican candidate came in second in the popular votes, 2004 saw a new approach: the third lowest real Fed Funds rate (i.e., the Fed Funds rate less the real inflation rate) in the Fed’s history. Truly, Greenspan liked historical extremes and even records around election time.

Now, say you’re cynical. You might think to yourself: “Why should Greenspan have thought that he could cause enough of a change in real GDP per capita to influence elections? And why didn’t he?

In earlier posts, I looked at correlations between real GDP per capita from 1959 to 2006. However, Bill Polley and PGL have suggested that there was a structural break in the 1990s – that the proliferation of new payment technologies meant that real M1 per capita became less and less important. I think they’re right. And I think there’s another structural break in the sample – after the collapse of the Bretton Woods System.

Table 1 below shows the correlation between real M1 per capita and real GDP per capita, using quarterly data for two periods: 1974 – 1991, and 1992 – 2006.

Through 1991, the movements in the money supply tended to follow changes in the economy. Put another way, the Fed reacted to changes in the economy. However, there was no reason to assume that the Fed couldn’t, well, move first. Since the correlation was positive, goosing the money supply when a friend was in office, and dropping it when an enemy was in office would seem to be a nice way to move the economy a bit, perhaps enough for some votes.

However, because of the structural break that occurred in the 1990s, the effect was precisely the opposite that someone who would have wanted to influence the election would have anticipated. That might well have led him to, well, push harder, so to speak, leading not only to slight attempts to goose things in the desired direction, but to the unusually large changes that were actually observed. Since he was normally in the business of reacting to, not leading change, it might have taken a while for him to realize what was going on. Perhaps even three tries. Put another way – in 1992, 1996, and 2000, if Greenspan wanted to influence the election, he might have, in fact, caused inadvertent damage to his own cause.

By 2004, enough time would have elapsed for someone working at the Fed to have realized that the world had changed – hence, the use of a new lever, namely a reduction in the Fed Funds rate. (There was also a bit of a decrease in the real M1 per capita for good measure.)

Now, if this is truly what happened, if Greenspan truly tried to influence elections and failed (or even got the opposite result than he wanted), does it excuse his attempts? Well, no. After all, its not the job of the Fed Chair to influence elections. Relying on incompetence or a structural break to even out the Fed’s bad behavior seems to me to be a risky strategy, and what’s to say the Fed today doesn’t have better information leading up to 2008? Enough people were incensed that the 2000 elections were, in effect, decided by the Supreme Court. Do we want the 2008 elections decided by Ben Bernanke?


Several readers have noted in comments and in e-mail messages that even unprecedented changes in real M1 per capita such as occurred in 1996 are not necessarily “unusual” and might have more to do with the Fed’s policy. The Taylor rule came up a few times. So… I’m collecting data now to check how the fed funds rate matches up with the Taylor rule.


Monthly M1
Monthly CPI
Quarterly population data which I then linearized into monthly
Quarterly real GDP per capita


As always, let me know if you want my spreadsheet.

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Marginalized and Maybe Scared

When Thomas Friedman sings the praises of Arnold Schwarzenegger—more importantly, when I sing the praises of Arnold Schwarzenegger–, then the world really has turned a corner.

Friedman has a nice piece in yesterday’s NYT:

How Many Scientists?

Here is Arnold talking to Friedman:

“The debate is over,” he said to me. “I mean, how many more thousands and thousands of scientists do we need to say, ‘We have done a study that there is global warming?’ ”

What is “amazing for someone that does not come from a political background like myself,” said Governor Schwarzenegger, is that “this line is being drawn” between Democrats and Republicans on climate change. “You say to yourself: ‘How can it be drawn on the environment?’ But it is. But the great thing is more and more Republicans are coming on board for this. Seeing how important this is. And more and more Democrats and Republicans are working together. … I said in my inaugural address: ‘There isn’t such a thing as Republican clean air or Democratic clean air. We all breathe the same air.’ Let’s get our act together, fix this problem and fight global warming.”

Go, Arnold! I hereby publicly retract all the nasty things I said about you.

Now put this little piece next to this one from Alternet, concerning the proliferation of creationist museums:

Creation Science Is the Christian Right’s Trojan Horse Against Reason

Other creationist museums are going up in Arkansas, Texas, California, Tennessee and Florida. Museums are part of a massive push to teach creationism in schools, part of a vast Christian publishing and filmmaking industry that seeks to rewrite the past and make it conform to the Bible.

They have created parallel research and scholarly institutions. They pump out articles in self-published journals to provide “evidence” that homosexuals can be cured, that global warming is a myth, that abortion can cause breast cancer, that something they call “post-abortion syndrome” leads to deep depression and suicide and that abstinence-only education is an effective form of birth control. This pseudo-science has seeped into the public debate.

What is happening here? Imhofe will be marginalized, but is a whole section of the Republican Party about to be marginalized? I think so.

I used to worry that the growth of fundamentalism was a profound threat to dealing with the immense problems that confront us.

Now, although it still is a danger and is fighting back, slowly but surely, it is closing itself off, pinched off like some cancerous, bulbous growth. With thousands upon thousands of scientists around the world throwing their voices into the battle over global warming, the religious right is slowly but surely being marginalized, talking only to itself in some weird kind of mad Ussher-mutter only it can understand. The louder and more insistent the religious right becomes, the more you can be sure: They are running scared. Real science is the name of the game.

Arnold gives me hope; so too do all the other Republicans who are starting to sense that they do not have to give a political nod to unthink-nothink.

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