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

Catch-Up Links

I have been a Bad Blogger this week. (As opposed to my usual practice, which seems to be described as Blogging Badly.)

While I intend to continue the New Tradition (think of me as Waylon, without the speed), following are Snow Day Links:

D-Squared was on fire on Wednesday: both Bank Lending Channel and The Foundations of Mathematics and the Roots of Finance are essential.

For all those of you—looking straight at you, o six-footed one—who believe TARP was the right idea to save the economy, here’s another data point: “Overall bank lending in the US economy shrank 7.4% in 2009 — the sharpest drop since 1942.”

James Hamilton looks at Those Other Programs that support the banks without providing any funds to the rest of the economy (though I don’t think he put it that way).

With all the talk of Liquidity needs and Greek bonds, jck at Alea posts an essential chart.

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A scaled model of debt driven stimulus

by divorced one like Bush

Well, here is what I’m doing to support the US of A’s economy. It’s a lesson in the real model of economics. It is a scaled version of the concept of stimulus. I even did it by using financing just to make the model as close to real as possible. (OK, I had to finance it but…I used my credit union.) Yes, I’m driving up the debt, but I’m creating jobs and I’m build wealth.

I purchased locally to assure my bank supplied money (debt) is multiplied as much as possible. When this garage is done, I will have created over a dozen or more jobs directly and who knows how many as the debt money goes from the first exchange of hands (me to who ever) to the second exchange (whoever to whoever’s whoever). Notice, that this is all happening via a producer economy not a financial economy. Any rescuing of banks is taking place by moving money into the hands of people first.

I’m even adapting to these hard economic times. I’m looking else where to earn a living. Actually, I’m looking to reduce my expenses by improving the effectiveness of my time. The practice (yes, health care has taken a hit) and the flower shop are slow so I will be honing my mechanic skills and fixing my vehicles my self.

Alas, there is a down side. The wealthy rent collector will no longer be collecting the rent.

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Romer appears again Or: John Mauldin argues like a claims reviewer

by divorced one like Bush

So I check my mail today, 10/17 (been attending continuing ed this weekend) and find that as a member of the National Association of the Self-Employed (150K strong) I will now receive a news letter of sorts from a John Mauldin by receiving his latest: Muddle Through, R.I.P? Muddle Through is some interpretation of his from 2002 as to what the economy was. In a word the economy was: Yawn. Slow growth, jobless recovery.

He then gets into his real message: Deficits as far as you can see thus, we’re screwed. Here we come Japan, “Japanese Disease”, unless we can get savings and there is a way to do it. (Can you guess where he’s going?)

Mr. Mauldin starts off with some math and explanation to make his case:

GDP (Gross Domestic Product) is defined as Consumption (C) plus Investment (I) plus Government Spending (G) plus [Exports (E) minus Imports (I)] or:
GDP = C + I + G + (E-I)
(For the wonks out there, GDP is usually termed “Y”.)

This equation is known as an identity. An identity is an equality that remains true regardless of the values of any variables that appear within it. That means it is not a guess or an approximation. It is simple reality.

Thus, if there is a government deficit, there must be savings by both consumers and businesses, plus capital flows from outside the country, to offset that deficit in order for there to be any money left over for investments… There must be savings in order for there to be investment. And without investment, you do not get job growth or economic growth.

During his Japanese Disease part of the argument we get to the bottom line:

Since government deficit spending has no long-term multiplier effect, growth has been nonexistent. (By the way, that research about multiplier effects has also been done by Christina Romer, the chairman of the current President’s Council of Economic Advisors, and further explored by European economists. There is general agreement on these facts.)

He then quotes Professor Barro (do you see now where he’s going?):

“…The government problem is complicated by the fact that the tax multiplier is 3, meaning that a 1% change in taxes will change GDP by about 3% over time. More recent research (Barro & Redlick, September 2009, “NBER Working Paper 15369″) suggests that a 1% cut in the marginal tax rate would raise GDP in the ensuing year by 0.6%. With the deficit rising due to a zero spending multiplier, the tendency will be to try to raise taxes to pay for this higher level of expenditures, which will further depress aggregate spending and output.”

Yes, there it is, some Romer interpretation. But, we’re not fully there as to the solution. The banks are missing in this presentation until Mr. Mauldin asks who will buy this debt? “I think that the buyers of the debt could be US banks for quite some time…” then notes that banks are not lending and asks:

So where do banks put their cash and reserves they are not lending? At the Fed and in Treasury debt. If you can leverage capital at ten to one (as banks can) and if you get 2% (for longer-term debt) and if you only have costs of, say, 50 basis points (or 0.5%), you can make a return on equity of 15% with no risk.

Thus, they are not lending because there is no need to in order to make money which has hurt small and medium businesses by cutting off their “life blood” resulting in no job creation.

Oh, another thing, banks are taking a hit on commercial real estate so they need to save (his words are “raise capital”). Poor banks are just trying to survive and the lowly job seekers are just the collateral damage. So sorry.

Are you following? Massive government deficit is causing the banks to park their government created money in the government and it’s killing our jobs because the small and medium business can’t get a loan because the banks need to save in order to cover the commercial real estate losses.

Large government deficits choke off the very investment that we need to create jobs.

So just what would the banks do about the commercial real estate losses if the government didn’t have this massive debt to make money off of? How would they save? Does this part of his argument not suggest that the deficit is good if the goal is to save the banks? That has been the goal after all.

This get’s us to the Romers specifically. At the end of the debt bad (but good for the banks), we’re contracting Japanese Disease, banks are being banks (being savings institutions) and it is all killing the jobs we get this:
Given that the current Congress is hell bent on massively raising taxes in 2011, we are likely to dip back into recession by then, if not before. Remember, taxes have a multiplier effect of three. That means tax cuts increase GDP (over time) by three times their amount. But tax increases reduce GDP by three times the increase. That will make deficits worse, and unemployment will again start to rise from already high levels. Twenty states have already raised sales taxes, and more are raising other taxes. It is a vicious spiral.

You know what is missing from his argument which, because it is missing makes it a bastard argument? It is this:
Panel (d) shows that the point estimates for the effect of a deficit-driven tax increase of 1% of GDP on GDP are consistently positive. However, there are too few tax changes of this type for the effects to be estimated precisely. The maximum impact is a rise in GDP of 2.48% (t = 1.03). While one should be very cautious in reading anything into such imprecise estimates, the results are suggestive that tax increases to reduce an inherited deficit may be less costly than other tax increases.

You know what is another example of a bastard argument? It is the one made by the person that took some medical well baby guidelines and implemented a policy that prevented a 4 month old from getting health insurance coverage for being too fat!

Bastardization of research happens all the time by the health insurance industry. I hope there are other doc’s on Mr. Mauldin’s email list that make the same recognition of his argument. I don’t see how they can’t. We deal with it every day.

Sure glad I have the doc’s here at AB that are into economic wellness care.

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Draining liquidity from the banking system

by Rebecca
(cross posted at Newsneconomics)

Prof. Jim Hamilton at Econbrowser (thanks Mark Thoma for the link) addresses one of the Fed’s standard methods of draining liquidity from the banking system: reverse repurchase agreements. Basically, the Fed will transfer some of its assets to the banking system via short-term loans taken out with its Primary Dealers, presumably offering standard (Treasuries) and less standard (MBS or agency bonds) assets as collateral.

Reverse repurchase agreements simply slosh around the assets (MBS, agencies, and Treasuries) between the Fed and the Primary Dealers, rather than removing the assets from the Fed’s balance sheet permanently. Eventually, though, the Fed must sell the securities outright onto the open market – we are far, far from that!

This is all hot air for now. How can the Fed soak up the expansionary liquidity, let alone unwind $1 trillion in assets, when the banking system is still shedding pounds?

The Fed is considering another route, too: conducting the same repurchase agreements with the money-market mutual fund industry in tandem. An excerpt from the FT:

The Federal Reserve is looking to team up with the money-market mutual fund industry as part of its strategy to ensure that its unconventional policies to stimulate the economy do not produce a bout of post-crisis inflation.

The central bank envisages eventually draining liquidity from the financial system by engaging in trades called “reverse repos” with the deep-pocketed money-market funds. In these, the Fed would pledge mortgage-backed securities and Treasuries acquired during the crisis as collateral for short-term loans from the funds.

The obvious counterparties for reverse repo deals are the Wall Street primary dealers. However, the Fed thinks they would only have balance sheet capacity to refinance about $100bn of assets. By contrast, the money-market funds have $2,500bn in assets, which means they could plausibly refinance as much as $500bn in Fed assets. Officials think there would be appetite on the part of the funds, which are under pressure from regulators and investors to stick to low-risk liquid investments.

The Fed is solely attempting to assuage inflation angst at this time; it’s still very premature to talk about an exit of expansionary policies when credit markets still crimp the stimulus that the Fed so desperately wants to get into the open market (much of the base, roughly $855 billion on September 23, 2009 and up from $2 billion in August 2008, remains on balance with the Fed in the form of “excess reserves). Just look at the crunch in the consumer credit space (chart to left).

As Prof. Hamilton suggests, the mechanisms of the reverse repos should successfully sterilize the base before it starts to become inflationary (with either the Primary Dealers and/or the Mutual Funds industry). However, one of the programs through which the Fed utilized previously to sterilize its liquidity, and to which Prof. Hamilton refers, – the Supplementary Financing Program – is unlikely to be an avenue for removing liquidity.

In fact, it’s quite the opposite. The Treasury already announced its imminent plan to liquidate the bulk of its $200 billion account with the Fed. There’s another $200 billion in excess reserves with which the Fed must contend (see my previous post here).

It’s easy to get the liquidity into the financial system. But getting it out without collapsing the economy or allowing inflation pressures to build? Well, that’s a different story.

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Welfare Reform not a Disaster, Interlude; or What Do We Mean When We Say Aid

Those of you who want to argue that something being “just symbolism” are invited to consider the fate of “Aid to Families with Dependent Children.”

AFDC is clear and precise. It tells us that we are helping a specific set of people: Families with Dependent Children. Not just the father and the mother, but the next generation of human capital as well. The people who are supposed to be the cogs in the engine of capitalism.

A funny thing happened on the way out of “welfare reform” (discussed by Robert here and here): the program got renamed to “Temporary Assistance for Needy Families.” Note that the emphasis is now on the transience of the assistance, and the families are described as “needy” before they are families. No mention of children at all; might well be great-grandma and a bunch of septagenerians living on their Social Security checks and whatever they stuffed under the mattress in the manner of John Updike’s father.*

Another “funny” thing that happens on the way through welfare reform is that state block grants lead to strange allocations.

There is a version of this in international development; let’s call it the Easterly Paradox.** Generally, what you do is look at the aid a country officially received over the past X number of years (X generally >20) and declared with a Harumph! that, if the people had been given that money directly, they would have $XX,XXX each.

What you don’t bother mentioning is that 85-90% of that money—75% if the country is extremely lucky—went to domestic supppliers of “intellectual property.” That is, it went to U.S. management consulting teams (generally at full retail) who “taught” people their method of irrigation or record-keeping or something else that was essential.***

Short version: our foreign aid budget subsidizes domestic firms significantly more than it produces actual foreign aid.

You would think, though, that the same thing would not happen domestically. But it appears you would be wrong.

Using the recently-released Statistical Abstract data, following are graphic displays of the amount of money allocated to TANF that was actually spent as aid from 2003 to 2006. (Click individual graphics to enlarge.)

Note: The following graphic is accurate. The state of Mississippi in 2004 spent a negative US$7MM on TANF aid.

In summary, for the four years of most recent data, the U.S. has averaged spending less than 50% of the monies allocated to TANF on providing actual Assistance to Needy Families.

The next time someone tells you we spend too much money on helping people, point out that most of that money goes to people who are employed as administrators, counselor, and finance officers.

*Let’s ignore the anecdotal evidence that, if there was one reason that Naderites kept citing for their opposition to Gore, it was “welfare reform.”

**Pause while three people get the joke.

***See Paul O’Neill’s exasperation in Ron Susskind’s The Price of Loyalty when he tried to explain that transporting water to a village on a small scale would cost $25,000, not the $25MM-ish that Arthur Andersen had told the local leaders.

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Random Notes, or, More Posts I Don’t Have to Write

Greg Mankiw presents Yet Another Reason to regret skipping the AEA this year, though somehow the word “intentional” was left out of the description.

Stan Collender, of all people, does the job I wished someone would do on Martin Feldstein’s WSJ op-ed. I may have beaten him by a day in calling it out, but there’s nothing so perfect as Collender’s conclusion:

Finally, something that’s not in the Feldstein piece: dollar for dollar, military spending doesn’t provide as much an economic return as domestic spending. Building an extra tank or missle that then sits idle because it’s not needed provides a one-time boost to the economy. But building a road, bridge, tunnel, sewer, or information superhighway that is needed continues to provide benefits as people, goods, and information travel faster, less expensively, and far more productively than would have otherwise been the case.

That means that starting with the headline, Feldstein was seriously mistaken.

Differences between now and 1992, positive version: In 1992, Dave Barry made a legendary appearance at the National Press Club. At some point during the Q&A, he declared that he was going to end all of his answers with the phrase “failed Clinton Administration.” (There may have been cheering.)

UPDATE: I was trying to think of a nice way to be rude about Tyler Cowen’s NYT piece on how “the seeds of the crisis” were planted by the resolution of the LTCM crisis.* () But Buce at Underbelly saves the day with a two-point takedown (not the three-pointer of Collender, but still aces) called Long-Term Confusion:

Tyler Cowan has an amazingly confused piece in this morning’s NYT arguing tht we owe our current plight in large part to the “bailout” (I use the term advisedly) ten years ago of Long-Term Capital Mangement (link). But the point of LTCM, as Tyler’s own piece acknowledges (but Tyler ignores) is precisely that LTCM was not a bailout, except perhaps in the sense that the Feds provided lunch.** Okay, and a little bit of arm-twisting. But I should think that would be on the approved list for even the most hairy-chested libertarian. The message was: look, we love ya, and we will work with ya, but we will not put skin in the game. [italics mine, but they could have been his]

In 2008, the NPC appearance of note is by Paul Krugman (h/t EconLib, again of all places), whose six part presentation and q&a session is available on YouTube and therefore easier to watch for the Internet-impaired than his Nobel Lecture.***

McMegan Wuz Robbed! Then again, that’s nothing compared to the abomination of this voting, where something that’s already remainder and long-forgotten appears to be winning.

And, finally, proof that it’s really TOUGH to live in Hoboken.

Happy New Year!

*If Robert Samuelson had published the same piece, Brad DeLong would not have been nice. As it is, we can just assume DeLong hasn’t read it yet amidst his globetrotting.

**Meaning in this case literally the food for the sixteen conversants, fifteen of whom anted up.

***Yes, I assume anyone who accesses YouTube from a non-networked machine has a downloading program. Also, am I the only one who just realised that YouTube is maintained on a Linux-based server?

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