Why The "Dismal Science" Is So Dismal

I have to share the following post from yesterday's blog by economist Jared Bernstein:

There's No Market For Good Economic Policy

Sep 19, 2011

A few weeks ago I referred to austerity economics—fiscal or monetary tightening when we need both to be expanding—as akin to the medicine of medieval times.  Bleeding patients was thought to cure them, but it generally made them weaker and less resistant to disease.

Paul Krugman uses the same analogy today and I was reminded of an aspect I hadn’t thought of before, having just finished a (great) historical novel covering the period in history when medicine was just beginning to wake up (World Without End by Ken Follett).

The way Follett tells it, by the end of the 14^th century, private hospitals began offering alternative treatments to those in the monasteries.  Monks were still practicing bleeding and other “austerity” measures, but early physicians were beginning to understand that such practices were…um…contractionary to your health.
So people began to migrate away from the monks and their ancient ways.

In other words, there was a market—you could choose, and once people were able to assess the different results, the choice was obvious.

And here is where the analogy breaks down.  Unemployed workers, families unable to make their budgets on shrinking paychecks and falling incomes, small businesses suffering from a lack of foot traffic—they can’t go across the street and try a different macroeconomic policy.
They have to accept the austerity whether it’s coming from the Fed (“we’ve got some other tools here but we’re just not ready to use ‘em”), the Congress (“the President’s jobs plan won’t work”), the European Central Bank (“price stability uber alles!”), or the medievalists of Europe (“only by contracting will you grow!”).

I guess one could argue there’s an election market for such choices, and in some sense, the “throw the bums out” dynamic fulfills that role.  But it’s a slow, cumbersome, and noisy process—there’s so much misinformation that it’s hard for people to sort out the facts, so you end up with politicians who claim to be different but have their leeches and bleeding bowls at the ready (see Republican field).

The only way out of this mess is to reach more people—voters—with the evidence-based facts of the case.  It won’t always work—the noise machine is powerful and well-funded.  But the truth will out.
I mean…I hope it will…it will…um…right??  Hello…anyone there??!!

Risks of Risk Avoidance

Life is full of risks. It may be that most risks can be avoided. Avoiding risks also avoids benefits.

Take, for example, the case of Wikileaks. The failure to share information among government agencies contributed to the attacks of September 11. But sharing information carries the risk that someone with access will abuse that access.

Or take the case of Solyndra, the risk of government guaranteed loans against the possibility of a technological breakthrough. No risk, no breakthrough. That outcome is certain.

The best comment on that issue, and the most appropriate cautionary advice, was posted today by economist Jared Bernstein:

Solyndra, Risk, and Risk Aversion

Sep 17, 2011

The bankruptcy of Solyndra, a solar panel manufacturer that got a government loan of over $500 million from a (GW Bush era) loan-guarantee program, is garnering a lot of headlines.   Opponents of the administration are salivating at the opportunity to use this as an example of all things bad about activist economic policy, “picking winners,” and so on.

De facto, this was a bad investment choice.  And if it was influenced by anything other than the objective risk analysis, as some critics are alleging, that should be brought to light.

But if this episode, amped up by the intense private market ideology of our time, leads us to become totally risk averse in terms of government’s investment agenda, to shut down our efforts to foster innovation in clean energy, for example, we will deeply undermine our economic future.

Solyndra’s potential edge was that the company figured out a way to make solar panels without polysilicon, a key ingredient in solar panel construction, and one whose price looked high and volatile through the mid-2000s, making the Solyndra investment an interesting and potentially useful hedge.

But as this NYT article points out, the price fell steeply and the decline appears to have largely occurred before the loan was finalized:

“…the price drop meant that before Solyndra had received a single DOE loan guarantee dollar, a major part of its cost proposition had been undermined, if not erased.”

I’ll get back to that part of the case in a moment.  My point here is to remind us why it’s important for gov’t to make these investments and why the wrong lesson from this case would be to turn tail and run from such public/private endeavors.

There are many reasons for the federal government to play a role in this part of the market, ways in which the market historically fails to adequately invest in potential technological advances.  They come under the rubric of negative externalities—barriers that block market forces from delivering what we need, including barriers to entry, expansion, coordination, and innovation that no single, private firm can solve on its own.

–Research Barriers: R&D can be prohibitively expensive and few firms can support the amount of research needed to advance new endeavors, like advanced battery or solar technology.

–Coordination Barriers: No single firm could coordinate national projects like the internet or smart grid

–Innovation-to-Production Barriers: Firms need help getting out of the “valley of death,” that period between discovery of an innovation and the development of the production processes that enable it to be affordably adopted by society.

–Credit Barriers: Markets will underinvest when returns are particularly uncertain—it’s a classic externality in that firms cannot typically recover the costs of R&D in new areas of research.  Eg, when the internet was just an idea, too few private lenders, including venture capitalists, would support basic research on the idea.

–Exports: Firms need the federal government to help open export markets and pushback against unfair trade practices.

So how do we square these perfectly reason rationales, ones adhered to in every advanced economy, with our perfectly reasonable desire not to waste valuable taxpayer dollars on bad choices?

The answer is that we must recognize and accept some credit risk.  There will be cases when research goes down fruitless paths and when a hedge like Solyndra turns out to be trumped by ensuing events.  Risk analysts deciding to guarantee the loan in this case may have legitimately believed the price decline in polysilicon would soon reverse and that it made sense to foster an alternative.  But they may also have missed an important structural shift in supply and demand.

Either way, the key word is “risk.”  We can totally avoid such risk, but in so doing, we will unquestionably hurt our long term economic prospects.  Think about the development of early machine tools that gave rise to manufacturing, railroads, transistors, lasers, satellites, and the internet.

In every case, some or all of the above externalities/barriers were present.  Had the gov’t practiced the level of risk aversion now being advocated in the wake of the Solyndra bankruptcy, the private market would not have developed them, at least not here in America.

Think about that the next time you use a cellphone, GPS, or post or read a blog.  We should always strive for better, more accurate risk analysis.  But if we try to avoid any risk at all…well, then we can enjoy ourselves kicking back and watching the rest of the world pass us by.

Employment to Population Ratio

Here's a graph from the St. Louis FED showing changes in the ratio of working age employed to the population. The ratio began falling in 2007, plunged in 2008 and only stabilized about eight months after President Obama was inaugurated. The graph doesn't address wages or quality of employment.

Death Panels?

My sister would have become eligible for Medicare three and a half months from now. She didn't make it.

I don't blame anyone in particular for her early death. She had health insurance. She received excellent care. But she might have lived a longer and still productive life except for two failures of our health care system. Both were caused by our reliance on market mechanisms to provide solutions to health problems.

There are seemingly endless choices of pharmaceutical products for chemotherapy. Sharon's oncologist, based on extensive diagnostic tests, chose one particular treatment. It worked well. Her cancer seemed under control.

As time passed, the manufacturer and medical practitioners learned that, though the drug was effective for my sister, it wasn't effective for many others. The manufacturer withdrew it from the market.

My sister's condition worsened.

The oncologist searched the pharmacopeia and found another treatment that he thought might be effective, though not as effective as his (no longer available) first choice.

As he expected, the second choice was not quite as effective, but seemed to be working.

Then a few weeks ago when another round of chemotherapy was scheduled, the hospital informed my sister that they were unable to find any of the necessary medication. A few days later, on August 19th, I read in the New York Times that government officials, the drug industry and doctor's groups were "rushing to find remedies for critical shortages of drugs to treat a number of life-threatening illnesses, including bacterial infection and several forms of cancer."

By mid August of this year, 189 drugs crucial to treatment of childhood leukemia, breast cancer, colon cancer and certain infections were in short supply. The drug for treating my sister's cancer was among them.

Weakened from lack of treatment and related complications, my sister passed away September 2d.

There were many factors affecting her death, some out of our control. But the final straw was the failure of the drug market reliably to supply life saving medications. Does the drug industry have death panels?

In any case, when the drug companies withdrew one medically necessary, safe and effective drug from the market and drastically reduced the availability of another, not for medical reasons but for marketing reasons, they had no regard for my sister's life.

"Do not ask for whom the bell tolls -
It tolls for thee."

-John Donne

Hurricane? What Hurricane?

In case you missed the news, today North Carolina Senator Burr joined 37 other Republicans and voted against funding disaster relief for Hurricane Irene.

Just reflect on what our communities would look like now and in the coming weeks without FEMA and SBA efforts in disaster assistance. What would businesses do in Eastern North Carolina? Has anyone in Pamlico County seen Senator Burr lately? If you do, you might want to ask him what he was thinking about the needs of his constituents.

Jobs? Income?

The poverty and income statistics released today look pretty bad. The headline is that real median income (in 2010 dollars) since 2007 has been pretty much in free fall. Median income peaked at the end of the Clinton administration and went into decline during most of the George W. Bush administration, bottoming out in 2005 and beginning a moderate improvement until 2007. Then free fall. The rate of decline slowed a bit in 2008 and 2009, leading some political figures to prematurely declare recovery at hand. Any economist who joined that chorus should lose his or her economist license (if there is such a thing).

Just a reminder: President Obama was elected in November 2008, but was not sworn in until Tuesday, January 20, 2009.

Mobsters and Racketeers

My wife and I watch a lot of movies on Turner Classic Movies (TCM). A recurring theme is about criminal enterprises. In 1930's and 1940's movies, the bad guys were into bootlegging and associated entertainment, the numbers racket, gambling and loan sharking.

Bootlegging was mostly done away with by repeal of prohibition, except in states like Mississippi that continued prohibition except for local option beer and wine. (Mississippi figured out a way to capture revenue from the illegal sales of liquor, while maintaining the moral purity of formal prohibition.)

Bootleggers were awash with cash and had to invent other enterprises. Some even invested in legitimate businesses. Joseph P. Kennedy, for example, went into movies.

In the last three or four decades, state governments have muscled into territory formerly controlled by mobsters and racketeers. The numbers game, for example, has been largely taken over by state lotteries. Gambling has migrated to casinos, many on native American reservations. States across the country either have their own ABC stores or regulate alcohol sales to their own benefit.

What's an honest bootlegger to do?

And now banks and other financial institutions regulated by the states and the federal government have moved into loan sharking in a big way. Much of the discussion at last night's Republican Party presidential debate was devoted to a plea for less regulation in order to free financial institutions interested in expanding the loan sharking business.

The struggle between the lending (creditor) class and the borrowing (debtor) class is an ancient one wherever there is a money economy. When you hear people speaking about "sound money," you know the speaker is representing the interests of the creditor class. In the late nineteenth century, the dispute was over use of gold alone or both gold and silver for coinage. William Jennings Bryan's famous "cross of gold" speech addressed the issue.

Today the same class and their lackeys rail against any inflation, no matter how slight, in favor of minimal regulation (if any at all) of financial institutions, in favor of draconian restrictions on bankruptcy and so forth.

It seems we have exchanged mobsters for banksters.

Wars and Rumors of War

Yesterday was the tenth anniversary of Al Quaida's attack on two symbols of American wealth and power: the World Trade Center and the Pentagon. There were observances and remembrances all over America.

Let them be the last such observances.

In three months, we will have the seventieth anniversary of Japan's attack on America at Pearl Harbor. I remember that day quite clearly.

Unlike September 11, December 7th was not remembered with a one-month remembrance, a six-month remembrance, annual remembrances and a tenth anniversary remembrance. We were too busy on the home front collecting scrap paper, tin cans, scrap metal, growing food in victory gardens, converting from peacetime to wartime production, freeing resources for the troops in the field by rationing most products, and putting everyone's shoulder to the wheel.

In the six months after Pearl Harbor, Colonel Doolittle led a B-25 raid on Tokyo, our aircraft carriers fought Japanese carriers to a standstill in the Coral Sea, and our carrier task forces sank four Japanese aircraft carriers near Midway, halting the Japanese advance. Before the first anniversary, we built a major army air corps base in New Guinea, started ferrying supplies to China over the hump of the Himalayas and the Burma Road and our submarines took the war to the very gates of the Japanese home islands.

In the meantime our scientists and engineers developed nuclear weapons and a way to deliver them.


Three years and eight months after Pearl Harbor, Japan surrendered at a ceremony on the decks of the battleship Missouri in Tokyo Bay. Three months earlier, we had accepted the German surrender in Europe.

By that time, the only celebrations we wanted to observe were V-E Day (victory in Europe) and V-J Day (victory in Japan).

No wonder I don't remember national remembrances of December 7th. A lot of other things were going on.

In 1947 the Truman Doctrine established a policy of supporting "free people who are resisting attempted subjugation by armed minorities or by outside pressures." Later that year we created the Marshall Plan to speed European recovery. In 1948, we responded to a Soviet blockade of Berlin by the Berlin Airlift. In June of 1950, North Korean troops attacked South Korea across the 38th parallel, and we came to their aid. Later that year, the Chinese People's Republic entered the war.

By the tenth anniversary of the Japanese attack on Pearl Harbor, we had just recently defeated the Chinese at the Battle of Heartbreak Ridge. No anniversary observance that year, either.

We never pretended that Japan attacked the United States because they hated our freedoms. We understood that The United States stood in the way of Japan's imperial ambitions. That's why they attacked.