Relevant and even prescient commentary on news, politics and the economy.

Merry Christmas!

by Rebecca Wilder 

  Merry Christmas!

Here’s a nice little model I discussed in 2007: The Economics of Christmas! Hope that you enjoy; I do. (This commentary was written in my more ‘academic days’ when I was inundated with models of theoretical macro.  As you have no doubt noticed, I’ve gone the applied financial route since then.)

 

The economic model of Santa delivering presents and spreading the Christmas joy – Santa is a social planner!

In advanced economic theory, there are two types of models: the social planner model (very much like its political connotation) and the competitive equilibrium model (again, very much like its market connotation). The social planner seeks to maximize the welfare (happiness) of all agents in the economy. The competitive equilibrium model allows for markets (households + firms + government) to determine the allocation of goods and resources. In theory, and if certain conditions hold, both models yield the highest and same amount of welfare.

From a theoretical point of view, the economic representation of Santa Claus delivering gifts at Christmas is that of a social planner problem. See, Santa Claus is in charge of gift giving and not the markets. He allocates goods (presents and coal) according to who has been good and who has been bad in order to maximize the welfare of all children jointly. Those who have been good are blessed with many presents, while those who have been bad are given coal. The economy of Christmas is full of many individual economic agents (the children). Each child writes Santa Claus a note indicating the presents that he/she desires; the presents that give each child joy. This represents a utility function in economics, where utility (joy) is dependent on the consumption of goods and services (each child’s choice of presents). Finally, the total welfare of Christmas is the spread of Christmas joy.

Santa’s economic problem below the fold:
Santa is a social planner that chooses the allocation of presents and coal in order to maximize the joint Christmas joy of all the children, given several constraints.

  • Constraint 1: There is a goodness level for each child that is dependent on the child’s behavior over the past year; this level may be positive or negative. 
  • Constraint 2: Each child specifies only those presents that give him/her joy. 
  • Constraint 3: The total amount of presents demanded by the children cannot exceed the supply of presents that Santa Claus carries on his sleigh. 
  • Constraint 4: Santa’s workshop is subject to an availability of resources: elves (labor), toy-building machines (capital), blueprints for toys, coal, etc. 
  • Constraint 5: Santa’s workshop is subject to the available technology (they cannot make hover-craft skateboards yet) and the type of toy production in the workshop (perhaps the elves work in an assembly line). 
  • Constraint 6: The toy-building machines may be used this year or next year and are subject to a rate of depreciation (older machines are slower and less-efficient at toy production). 
  • Constraint 7: Santa only has one night to deliver all gifts on his magic sleigh. Solution to the problem: The optimal allocation of presents and coal is delivered across the world in one quick night. 

The globe is spread with the highest amount of Christmas joy. What will be your allocation? I’ve been good this year – I think that I’ll be rewarded with a very nice present. Merry Christmas and Happy Holidays!

originally published at The Wilder View…Economonitors

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And So Happy Xmas…Now with Canadian Content

A couple of days ago, James Bianco, chez Ritholtz, noted a WSJ article entitled “Dividend Stocks Become the Heroes”:

This year, the 100 stocks in the Standard & Poor’s 500-stock index with the highest dividend yields are up an average of 3.7% before dividend payouts, according to Birinyi Associates. The 100 lowest-yielding stocks are down an average of 10%.

Is this a good idea? I understand the move to dividend-paying stocks—companies that admit they don’t know what to do with their excess cash are almost by definition better-run than those that hoard it without announcing future plans for its use (hi, MSFT!). And some companies have a lot of excess cash right now.

But there is a difference between paying a dividend because it’s the best use of funds for your investors and having a high dividend yield. Don’t believe me? Ask Bank of America shareholders ($2.56 Annual Dividend, just under an 8% yield) ca. 2008:



Or those who bought The Big C for its $2.08-cents-per share Annual Dividend (around 6-7% yield) in late 2007*:

Of course, banks might be the except. But here’s the past five years of Toronto Dominion, which was paying around a 3% p.a. Dividend** around the same time period:

What would have happened to your overall investment if you had gone for the higher-paying firms? It’s not pretty:

I like dividends; they’re an admission from a firm that it doesn’t know better than its owners what to do with some of its cash. But high-yielding dividends are often a sign of bad management giving away “excess” cash in good times.***

The first rule of finance: when something appears too good to be true, it probably is. Caveat emptor and may all your investments for 2012 be good ones.

*The graphic scale and dividend amounts were distorted somewhat by the 10:1 reverse split earlier this year.

**An annual dividend of US$2.28, with the stock trading around US$70-75 per share.

***This is not an unusual story, sadly. The collapse of LTCM, for instance, occurred after the fund gave much of its investment monies back to investors and then count not remain solvent for so long as the market remained irrational. (The contemporary equivalent is MF Global.)

(cross-posted from skippy the bush kangaroo)

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This Time Is Different: Federal Debt Didn’t Dive Before the Depression

Randall Wray made a fascinating observation a while back:

Since 1776 there have been six periods of substantial budget surpluses and significant reduction of the debt. … The United States has also experienced six periods of depression. The depressions began in 1819, 1837, 1857, 1873, 1893, and 1929.

And I confirmed it (graphs):

Every depression in U.S. history was preceded by a big drop in nominal Federal debt.

Except this one. (Assuming that it would have been a depression absent herculean efforts by the Fed et al.)

gross debt

There was that dip in the 90s, but if we want to posit that, based on history, it was an at-least-necessary cause of the crash, we have to ask: why, in this case, did it take almost a decade to have its effect?

A lot of things have changed since 1929.

• We have the FDIC and similar (explicit and implicit).
• The Fed is a much more active player in controlling government “debt” levels.
• The financial system is far more globalized. International flows of financial capital are much larger in proportion to the real economy.
• The stock of outstanding private debt is proportionally much bigger relative to government debt. Ditto the issuance and retirement of private debt relative to government issuance.
• In the 00s in particular, private debt issuance went crazy.

I think there might be a story about private debt carrying the economy for years after government debt got pulled, so we didn’t experience the effect right away.

But I’d love to hear other and better-articulated stories to explain what strikes me as a pretty big anomaly.

This brief conversation might provide a springboard:

rjs: as i’ve understood it, when it became clear to george bush that if clinton surpluses continued & our debt was paid down, the financial system would soon experience a dearth of safe assets & would freeze up; so his adminstrations tax cuts were initiated in order to keep levels of AAA assets high enough for the markets to operate…

David Beckworth: I remember some commentators making that point back in the early 2000s. It would have been interesting to have seen, though, what would have happened had the debt been paid down. Would structured finance made even more AAA-securities to compensate? Would interest rates been lower back then too?

rjs certainly gives George Bush far too much credit for monetary sagacity. But the general point remains.

Cross-posted at Asymptosis.

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It’s Beginning to Look a Lot More Riskless (To the tune of…)

There’s such fun in disastering.
When you’ve won the mastering.
Of the u-ni-verse!

Hat tip to RJ Sigmund:

Lyrics by Marcy Shaffer

(Dan here … lyrics under the fold)

It’s beginning to look a lot more riskless.
At least for guys like me.
It’s neat being this elite.
The government makes it sweet.
Complete with robber baron guarantee!

It’s beginning to look a lot more riskless.
Chill has turned to thrill!
We converged, now our flanks give thanks.
We merged all the ranks of banks.
That we did not kill!

When liquidity traps
Slid to maps of collapse?
We heeded treasury’s pleas.
Leapt to the call, and adept-er than all.
Kept the stall from becoming a freeze.
And since what cracked is still intact?
We act like regencies!

It’s beginning to look a lot more riskless.
Unemployment’s popped!
Though i know how the bleeding hearts.
Show their misleading charts.
Neighbor, all my labor costs have dropped!

It’s beginning to look a lot more riskless.
Bonuses restored!
When up yon in this monarchy.
Echelon-esty, you see.
Is its own reward!

Parades of more aides
For high frequency trades.
Since brigades want into our pools.
Incentive retentive
For those thought inventive.
Who plot augmentive new tools.
So abstruse that we’re let loose
To go produce new rules!

It’s beginning to look a lot more riskless.
As we nurse the purse.
There’s such fun in disastering.
When you’ve won the mastering.
Of the universe!

There’s such fun in disastering.
When you’ve won the mastering.
Of the universe!

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A Surfeit of Dearth? Tight "Money" and the Decline of AAAs

This Credit Suisse graph posted by Cardiff Garcia on December 5 has been getting some serious attention in wonkier sections of the econoblogosphere:

And Angry Bear‘s own Rebecca Wilder gave us this on December 21:

2007-2011 in charts: moving down in quality

2007…

…Vs. 2011

Brad DeLong discussed this on December 21, riffing off David Wessel’s piece where he jumps on the bandwagon with a tarted-up version of the Credit Suisse chart.

David Beckworth has the best commentary I’ve found on the subject so far:

…many of these safe assets serve as transaction assets and thus either back or act as a medium of exchange.  AAA-rated MBS or sovereigns have served as collateral for repurchase agreements, which Gary Gorton has shown were the equivalent of a deposit account for the shadow banking system.   The disappearance of safe assets therefore means the disappearance of money for the shadow banking system. 

Emphasis mine.

This prompts me to suggest a radical idea that I’ve been hesitant to broach for fear of revealing myself to be the internet econocrank that I am: that all financial assets are, in some very real or at least useful definitional sense, “money” — even though you can’t necessarily use them to buy a pack of gum at the corner store (you have to trade them for something currency-like first). I’ll get back to that in a future post.

Izabella Kaminska made a similar point back in November:

…quality collateral has become the most sought over security in town. So much so, in fact, that some quality collateral is hardly circulating.

…the best indicator of collateral crunch intensity is instead the repo rate. The lower the rate, the greater the crunch.

The wider the spread between Libor and the secured (repo) rate, the greater the general distress in the market. The following chart reveals just how good an indicator of general market stress it is:

“Some quality collateral is hardly circulating.” That starts to sound decidedly like a “velocity of money” argument.

And indeed, Cardiff Garcia frames it just this way:

Now, if you’ve read your Manmohan Singh (or your Izzy Kaminska or your Tracy Alloway), you’ll know that this availability is the first of two parts of the collateral shortfall effect. The other part is the shortening of “re-pledging chains”, otherwise known as a reduction in the velocity of collateral and which Singh explains thusly:

Intuitively, this means that collateral from a primary source takes ‘fewer steps’ to reach the ultimate client. This results from reduced supply of collateral from the primary source clients due to counterparty risk of the dealers, and the demand for higher quality collateral by the ultimate clients.

And why does it matter? Singh again, emphasis ours:

The “velocity of collateral”—analogous to the concept of the “velocity of money”—indicates the liquidity impact of collateral. A security that is owned by an economic agent and can be pledged as re-usable collateral leads to chains. Thus, a shortage of acceptable collateral would have a negative cascading impact on lending similar to the impact on the money supply of a reduction in the monetary base.

Brad DeLong gives us some theory that will sound familiar to readers of my recent posts:

And when an economy is short of AAA assets, it can fall into a recession — but not a monetarist or a Wicksellian recession, rather an Minskyite recession–because in the absence of long-enough collateral chains the web of banking intermediation would have to run on trust that isn’t there.

Again, emphasis mine.

The upshot: the global economy needs more babysitting scrip. Since money issuers continue to labor under the gold-standard fallacy that they can’t just create money, issue more scrip like the babysitting co-op did — that they have to “borrow” it (and this stricture is inscribed in law) — the only way to create that scrip is for governments to issue more bonds. So banks can issue money using those bonds as collateral, allowing shadow banks to keep their collateralized towers from teetering.

It’s a stunningly byzantine and dysfunctional approach to managing the supply of money to the real economy that produces human-consumable goods and services (though it works out very nicely for the bankers, personally). But it’s what we’re stuck with.

If this doesn’t make sense to you, try here.

Cross-posted at Asymptosis.

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The Corporations That Occupy Congress

The Corporations That Occupy Congress

 by David Cay Johnston via taxprofblog and Reuters

Some of the biggest companies in the United States have been firing workers and in some cases lobbying for rules that depress wages at the very time that jobs are needed, pay is low, and the federal budget suffers from a lack of revenue.
Last month Citizens for Tax Justice and an affiliate issued Corporate Taxpayers and Corporate Tax Dodgers 2008-10. It showed that 30 brand-name companies paid a federal income tax rate of minus 6.7% on $160 billion of profit from 2008 through 2010 compared to a going corporate tax rate of 35%. All but one of those 30 companies reported lobbying expenses in Washington. Another report, by Public Campaign, shows that 29 of those companies spent nearly half a billion dollars over those three years lobbying in Washington for laws and rules that favor their interests. … The report – “For Hire: Lobbyists or the 99 percent” – says that while shedding jobs, the 30 companies are “spending millions of dollars on Washington lobbyists to stave off higher taxes or regulations.”
….
Company reports to shareholders show that among the 30 companies in the Public Campaign report, the 10 firms that spent the most on lobbying during the same three-year period fired more than 93,000 American workers. …

Worth reading the whole piece.

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Essential Health Benefits and cost benefit analysis: can we maintain doctors’ incomes and provide decent care for all?

by Linda Beale

Essential Health Benefits and cost benefit analysis: can we maintain doctors’ incomes and provide decent care for all?

 So we thought we had finally created a national system of health insurance that would permit near-universal coverage for essential health benefits to every American.

But the Obama administration says it is not going to write rules regulating exactly what benefits must be covered.  Again bowing his head to the GOP personal responsibility/states’ rights mantras, the president is willing to let states “experiment” like they do with Medicaid.  Question whether this amounts to allowing right-wing states to shift benefits to private profits and away from care for Americans?
This goes back to the recommendation from a panel at The National Academic of Sciences, which said that the federal government should take cost into consideration in deciding what’s essential to be provided by health insurance plans under the reform act and that new benefits should be ‘offset’ by cost cutting elsewhere. Robert Pear, Panel Says U.S. Should Weigh Cost in Deciding ‘Essential Health Benefits'”, New York Times, Oct. 7, 2011, A14.
 
But a primary problem with cost-benefit analysis as typically understood is that it favors the status quo because any new benefit for which money must be expended will cost compared to the current system, and the benefit is much harder to turn into a quantitative number that will prove that the cost is worth it.  It is very hard to do truly ‘dynamic’ cost-benefit analysis–the assumptions used tend to be a one-size-fits-all and it is hard to calculate the way that the immediate benefit builds even more substantial long-term benefits and then result in much lower costs down the road,

so that current costs that will have substantial long-term benefits that may not add up to significant numbers until years or decades have passed will tend to be viewed as negatives, whereas maintaining a terribly ineffective and unjust status quo will be seen as positive.  Even more killing for any cost-benefit analysis of medical reform where part of the reason for the problem is the exorbitant pricing that creates large profits for doctors and for-profit hospitals is that If ‘costs’ take into account the fact that decent health care modeling should reduce the highest end medical provider incomes (like the excessive profits made by private nursing homes and hospitals and surgeons who do not work on salary, etc.), then of course the cost-benefit analysis will favor the status quo where those that have money get good care and those that don’t die.

One of the ways that the failure to adopt at least a public option or ideally a single (national) payer option for health care reform shows is that the panel suggested that the minimum coverage required should conform to what small employers provide–typically much less generous coverage than that provided by large employers.  As the October New York Times article on this noted, “This reading of the law was unexpected, but the panel said it was justified because small businesses ‘will be among the main customers for policies in the state-based exchanges.'”  Id.  Not surprisingly, the article also concludes that “the recommendation is likely to please employers and insurance companies and could cause concern among some advocates for consumers and patients with particular illnesses who want more expansive benefits.”  Id.  Again–just more evidence that the right option for health reform is an extension of Medicare for all, not this piece-meal attempt to appease health insurers and health providers by attempting to guarantee that they can still reap huge profits out of what should be a universally provided public good.

originally published axingmatter

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A boom in shale gas? Credit the feds.

A boom in shale gas? Credit the feds.

 By Michael Shellenberger and Ted Nordhaus (hat tip to Barry Ritholtz)

Since the high-profile bankruptcy of Solyndra, the solar company that received $535 million in federal loan guarantees, many have concluded that government efforts to promote energy technologies are doomed to fail. Critics cite the abandoned synthetic fuels program, attempts to capture carbon pollution from coal plants and next-generation nuclear reactors as further proof of this conclusion.
Many often point to the shale gas revolution as evidence that the private sector, in response to market forces, is better than government bureaucrats at picking technological winners. It’s a compelling story, one that pits inventive entrepreneurs against slow-moving technocrats and self-dealing politicians.
The problem is, it isn’t true.
…..
While details vary, the story is basically the same for nuclear power, natural gas turbines, solar panels, and wind turbines — pretty much every significant energy technology since World War II. That’s because the private sector alone cannot sustain the kind of long-term investments necessary for big technological breakthroughs in the midst of volatile energy markets and short-term pressure to produce profits.
No doubt, government energy innovation investments could be made more efficiently and effectively. But it would be a mistake to imagine that we’d be better off without them.

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The Broad Sovereign Downgrade

by Rebecca Wilder

The Broad Sovereign Downgrade

Recently I’ve spent time thinking about global bond investors, especially those conservative investors that stick with the high-quality sovereigns. I’ve got news for them: the share of high-quality investment grade sovereigns – BBB- and above is investment grade – is shrinking. Some bullet points comparing ratings in December 2007 to December 2011:

  • From a sample of 76 emerging market (EM) and developed market (DM) economies, 23 sovereigns have been upgraded by S&P (I use S&P specifically, but the agencies usually move in lockstep at a lag). These upgrades span both EM and DM markets, but EM dominated with 19 upgrades overall..
  • The number of high-quality investment grade sovereigns – A- and above – fell by 6.
  • The AAA universe shrank by 2 economies – more is to come with imminent downgrades in Europe.


2007-2011 in charts: moving down in quality
2007…






…Vs. 2011

The Wilder View…Economonitors

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Madoff and Mankiw and Inequality–the corporatist ideology at work

by Linda Beale

  Madoff and Mankiw and Inequality–the corporatist ideology at work

There are two letters to the editor in the Times today that are worth noting–as usual, the ‘real’ analysis is hidden in the interior pages, positioned next to a huge ad (for an investment adviser, no less).
Chris Cannon from San Francisco notes that treating Madoff as the iconic symbol of the financial disruption caused by the credit bubble is problematic.

“Everyone agrees that Mr. Madoff broke the rules.  But the damage done by those acting as allowed by our ineffective rules cost the public much more.  ‘Our troubled financial times’ are the product of a bubble economy fueled by cheap money, an abject failure by rating agencies, regulatory agencies that have been hamstrung by regulations written by financial lobbyists, and a laserlike focus by some bank leaders on yearly bonuses.”  Letters, New York Times, Dec. 18, 2011, at BU 7.

Steven Conn, Yellow Springs Ohio, notes that Greg Mankiw (economic adviser to Republicans, and specifically to Mitt Romney) misses the boat on understanding the way that economics is burdened with ideology.

“He seems not to understand that economists aren’t really objective and dispassionate scientists.  Economics is merely a set of tools with which we build the kind of society we want to live in.  Defining what that means is, of course, an ideological proposition, and thus all economic ‘theory’ is freighted with ideological baggage.”  Letters, New York Times, Dec. 18, 2011, at BU 7.

These two ideas are related.

 One of the reasons that someone like Madoff could get away with a long-term, enormous economic scam is that the reigning economic ideology from 1980 to 2010 has been the neoliberal belief in unfettered markets, taking power with ‘reaganomics’ and the acceptance of ‘greed is good’ corporatism that took hold in 1980, in which those that are sleazy, fraudulent or just intent on having things work out a certain way can take enormous means to achieve their petty ends–like hiring just-out-of-Congress people to panhandle for them in the halls of Congress and to hobnob with regulators, drafting the rules that govern the industry.  It is the enormous expansion of this corporatist perspective that permits money to buy the rules that caused the financial crisis and that continues to pervade the policy solutions that can get through a Congress that is behoven to lobbyists and Big Money in various industries.
As long as we leave tax policy fundamentally to the corporatist moneybags and ideological economists, we can expect regulations to fall short of what they ought to do to protect ordinary Americans; corporations to make money out of failing to do what they ought to do to protect their workers, their customers, and their communities; tax laws that fail to exact a reasonable share of the fiscal burden from the very wealthy (such as the current trend towards decimation of the estate tax, often the only way that some extraordinarily wealthy families pay much of anything, because most of their income is in the favored form of capital gains and income on capital); and the passage of stupid laws that take away our most precious Constitutional rights–like the legislation under consideration that will permit the MILITARY TO DETAIN US CITIZENS WITHOUT DUE PROCESS.
And the result of these tax and economic policies will be a continuation of the trend towards a two-class society of the very rich and the rest of us that has been aided and abetted by reaganomics.  See Allegretto, the few, the proud, and the very rich, Berkeley Blog, Dec. 2011.

The share of wealth held by the top fifth is about 87.2 percent while the bottom four-fifths share the remaining 12.8 percent of wealth—so the Occupiers are correct in their assessment. And, the riches of those in the top 1 percent are about 225 times greater than that held by the typical family—it was 125 times in 1962—so, Grandma was correct too.
***
In 2007 (the most recent SCF) the cumulative wealth of the Forbes 400 was $1.54 trillion or roughly the same amount of wealth held by the entire bottom fifty percent of American families….Upon closer inspection, the Forbes list reveals that six Waltons—all children (one daughter-in-law) of Sam or James “Bud” Walton the founders of Wal-Mart—were on the list. The combined worth of the Walton six was $69.7 billion in 2007—which equated to the total wealth of the entire bottom thirty percent!  Id.

originally published at http://ataxingmatter.blogs.com/tax/2011/12/madoff-and-mankiw-.html

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