Monthly Archives: April 2016

The Mervyn King Book

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It is called The End of Alchemy. I can give it faint praise, but not much more than that.

1. It is long-winded.

2. I share his view that risk-based capital regulations inject a false sense of precision into bank regulation.

3. His main idea is this:

The aim of the PFAS [Pawnbroker for all seasons] is threefold. First to ensure that all deposits are backed by either actual cash or a guaranteed contingent claim on reserves at the central bank. Second, to ensure that the provision of liquidity insurance is mandatory and paid for upfront. Third, to design a system which in effect imposes a tax on the degree of alchemy in our financial system.

Here is how I understand the idea would work. A bank would make a risky loan of, say, $100. The bank and the central bank would agree that in an emergency the loan could be sold to the central bank for, say, $90. In that case, the bank could finance up to $90 of the loan with deposits. This would replace deposit insurance, risk-based capital regulations, and other attempts to reconcile the desire to prevent the bank from failing with the need to address moral hazard.

I do not see how this can handle modern financial instruments. Take AIG, for example. Their problem was that liquid liabilities appeared seemingly out of nowhere, as “collateral calls” on the credit default swaps that they had written on mortgage securities. There is no way that this contingency would have been built into King’s system. King writes,

No doubt there would be other practical issues to resolve, but the reason we employ high-quality public servants is to solve such problems.

That was the exact sort of hand-waving that came with the original TARP proposal to buy up the “toxic assets” in order to fix the financial system. Those of us who understood the financial instruments involved knew that it was impossible to work that way, and TARP as implemented did not work that way at all.

4. Perhaps of all the high-level officials involved in central banking over the past twenty years, King’s thinking is the most nuanced, realistic, and humble. And yet his ideas did not impress me. This is going to sound really arrogant, but I do not believe that the central bankers know enough about finance to be able to fulfill their promise to stabilize financial markets.

Three Axes and Communism

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A reader asks,

how does conservative opposition to Communism (in the second half of the 20th century) fit on the civilization-barbarianism axis? I’m not sure that the Soviet Union or communist China are really thought of as “barbarians”. It seems weird that the main competitor in a space race can be a “barbarian”.

Put yourself in the mindset of 1950. In America, religion is still sacred, so to speak. Recall that Churchill described Lenin as a bacillus sent on a train from Germany into Russia. There was a fear that Communism was like a spreading infection, with many in the west having succumbed to the disease. There was some awareness of Stalin’s butchery of his own people (although this awareness increased considerably a few years later). There was much awareness that Communist “show trials” had mocked the rule of law.

Communists were not primitive in the sense that many environmentalists today are primitivists at heart. The were not medieval like Islamists. But they were against religion, family, and freedom, and they appeared to be willing to use any means, including lies and violence, to spread their ideology. That was sufficient for conservatives to view Communism as barbaric. In fact, conservatives’ characterization of Communists as barbaric greatly disturbed Americans on the left, who saw anti-Communism as extreme and irrational.

Among libertarians, Rand was very anti-Communist, but Rothbard was inclined to blame America for the Cold War. Thus, there was no consensus libertarian position on Communism.

Progressives, like Galbraith and Samuelson, admired the Soviet Union for its engineering achievements. Conservatives thought that Soviet engineering prowess made them more threatening, not less so.

Communism

Martin Gurri Watch

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Forfare Davis writes,

Whereas conventional forms of collective action, they argue, are reasonably predictable based on demographic information, the hyper interactivity of social media amplifies the role of individual personality as a dominant variable in outcomes that resemble viral outbreaks of collective action of a very unpredictable kind.

He refers to a book by Helen Margetts and others.

The fading of the Constitution means that the political vehicle has lost its brakes. Davis argues that social media have put the mob in the driver’s seat. He does not think it will end well.

You may find the entire essay interesting.

Stimulate Demand, Restrict Supply

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Zac Townsend writes,

San Francisco’s policies are out-of-line with building almost anywhere else. For example, nowhere in San Francisco do you get density bonuses for affordability (like in New York City) and nowhere in San Francisco can you build as of right (like in almost every other municipality). And, perhaps most importantly, no where else is there a belief that you can solve a housing affordability crisis without encouraging the building of more housing.

Read the whole thing.

In my view, the way to look at public policy in food, health care, education, and housing is that it seeks to stimulate demand and restrict supply. It makes no sense from the standpoint of economic theory, but it makes perfect sense from the standpoint of public choice.

Yes, I Saw This

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From Claudio Borio and others.

The hitherto unsuspected villain in this story is the misallocation of resources – in our case, labour – during the credit boom and its long post-crisis shadow. More generally, the findings support the view that the disappointing developments we have been witnessing may be the result of a major financial boom and bust that has left long-lasting scars on the economic tissue (e.g. BIS 2014, Borio 2014, Borio and Disyatat 2014, Rogoff 2015) rather than the reflection of a structural, deep-seated weakness in aggregate demand.

Pointer from Tyler Cowen.

Yes, this seems to support PSST, but they use methods that are of a sort that I cannot endorse. I do not think that “aggregate” productivity growth is well measured to begin with, and then when you try to decompose that into smaller pieces, you really lose me. Another way of putting this is that aggregate productivity is a concept borrowed from the model of the economy as a GDP factory. If your conclusion is that reallocation of resources matters for economic performance, then that suggests that the GDP factory is not a good model, which in turn makes your methods suspect.

By the way, there will be some discussion of PSST in a podcast I did with Russ Roberts that will come out in a few weeks, which in turn is about my forthcoming book, Specialization and Trade, which will come out early this summer. Meanwhile, you will find relevant papers here.

Arthur Brooks, the Dalai Lama, and My Blog

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Brooks (note, not David) writes,

each of us must aspire to what the Dalai Lama calls “warmheartedness” toward those with whom we disagree. This might sound squishy, but it is actually tough and practical advice. As he has stated, “I defeat my enemies when I make them my friends.” He is not advocating surrender to the views of those with whom we disagree. Liberals should be liberals and conservatives should be conservatives. But our duty is to be respectful, fair and friendly to all, even those with whom we have great differences.

Is there any higher authority?

Three Sources of Limits on Liberty

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Going back to Handle’s comment on problems for libertarian thought, he writes,

obsession with explicit state / government action and insouciant attitude regarding social pressures, when, in the modern era, the latter may have emerged as an even worse threat to the exercise of traditional liberties.

The ‘local freedom to coerce’ problem. If we are trying to increase welfare by giving people what they desire, we have to recognize that one of the things people desire is ‘a community’ and for their communities to have particular characters and sets of norms. There are certain forms of social experience or community life which are impossible to coordinate if the overall enterprise is deprived of some of the core, and at least mildly coercive, attributes of sovereignty.

On the first point, John Stuart Mill also worried about social pressure as a restriction on liberty. And on the second point, Barry Goldwater and Milton Friedman (at least if I remember correctly the relevant passages in Capitalism and Freedom) were against Federal intervention to protect African-Americans from segregation, even segregation imposed by state and local governments.

So these are longstanding problems for libertarians. My own position is that the best way to deal with social opprobrium or discrimination is to give the people who are hurt by those phenomena as much opportunity to exit as possible. I think that once you construe it as a problem that government must solve (by passing Civil Rights laws or regulating organizations) the overall consequences are likely to be worse than letting the problem be resolved through exit.

I hasten to add that exit is not a solution to every problem. Cities, in particular, are bundles of externalities. For any individual, some of these externalities are positive, and some of them are negative. If the positive externalities are strong enough, you will stay in a city and put up with major negative externalities. In theory, using government to get rid of those negative externalities would be an improvement. In practice, I have to say that it is the local government that is the negative externality where I live. That is, if you ask me what would motivate me to move, the first thing that comes to mind is the local government, which increasingly is going to collect taxes to pay for union pensions, not to provide actual services.

Jason Furman on Tax Reform

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He says,

The awkward fact, however, is that more than half of the value of these tax expenditures reflects exclusions from income that actually make it easier for individuals to file taxes. Many tax expenditures allow taxpayers to exclude or deduct income that is not received in cash and would be much harder to measure precisely than wages on a W-2. Taxing home production, imputed rent on owner-occupied housing, pension earnings, inside buildup on life insurance policies, and all government benefits would move the tax system closer to many economists’ ideal “Haig-Simons” concept of taxable income, but would in fact make filing taxes much more complex.

Pointer from Mark Thoma. Keep in mind that Furman is still part of the Obama Administration and so is not completely free to speak his mind. Still, I would bet he believes at least 90 percent of what he says here. I think that the one thing he leaves out is the payroll tax. I would place a high priority on reducing the payroll tax, which I think can be counted as progressive tax reform.

Kling vs. Haidt

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A commenter asks,

Could you do a post comparing and contrasting your three-axis model with Haidt’s five-or-six parts of mortality? (Care/Harm, Liberty/Oppression, etc.)

The main contrast is in terms of purpose. With the three-axis model, I do not propose to explain why people differ in their political views. I think of someone’s preferred axis as the easiest way to communicate with them about an issue. When you hear an issue described in terms of your preferred axis, it resonates with you. When you hear it described on someone else’s axis, it does not resonate with you so well.

Haidt’s moral foundations are supposed to explain political views. He describes them as six dials that are set to different levels. The idea is that if you measure each person’s moral dial settings, you can predict their political leanings. There is an implication that there is a causal relationship between the dial settings and political views.

I do not think of the causality as running from the three axes to political views. It might very well be the other way around–once you choose your political tribe, your preferred axis follows from that. I am agnostic about causality.