Romneycare Update

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Philip Klein writes,

As Modern Healthcare reports:

Massachusetts, whose health care reform program was used as a template for the Patient Protection and Affordable Care Act, had the highest per capita health spending in the U.S. in 2009. According to the commission’s report, the state spent $9,278 per person on health care in 2009, which was 36 percent higher than the national average of $6,815, and 11.2 percent more than the next-highest state, New York, which spent $8,341.

When Romneycare was enacted, I wrote,

If more Massachusetts consumers enjoy coverage without any deductible, then the average per-person expenditure on health care of $6,000 seems likely to go up.

Indeed, it seems that per capita health spending went up over 50 percent in just the first three years under Romneycare. At the time, many of its proponents were saying that Romneycare would hold down health care spending.

When people are insulated from having to pay for health care, health care spending goes up. You might want to insulate them, anyway. But the theoretical ways that you reduce spending–by cutting down on emergency room visits, or through better prevention–do not pan out in practice.

Killing Financial Institutions with Kindness

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Viral V. Acharya and Bruce Tuckman write,

Well, heck, I can’t copy/paste from the paper. Anyway, they suggest that when the lender of last resort provides funding to firms with illiquid assets, those firms remain too highly levered and actually increase their risk of default. They mention a number of solutions, but it seems to me that Bagehot had yet another–lend freely, but at a penalty rate. If the lender of last resort charges a high interest rate, then the recipient firms have an incentive to sell assets sooner rather than later.

Toward a New Macroeconomics, Part Two

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The creation/destruction matrix tells us about employment. What about inflation?

In my view, there is no reliable Phillips Curve. Also, the behavior of velocity means that the monetary authority cannot precisely control inflation (or nominal GDP). Instead, there are three regimes for inflation.

1. Anchored expectations. People expect inflation to be low. When the central bank alters the money supply, velocity tends to move in an equal and opposite direction.

2. Hyperinflation. The fiscal deficit is out of control. Government spending far exceeds what the government is able to take in through taxes and borrowing. Money is printed at an ever-accelerating rate, and its velocity rises as households and businesses try to minimize their losses from holding money. The private sector becomes reluctant to use money at all, and its use becomes increasingly confined to transactions with the government.

3. Inflation fever. As in the U.S. in 1970-1985, inflation reaches a level where it becomes a major factor in the financial planning of households and businesses. They put cost-of-living escalators into contracts. They adopt financial innovations that allow them to minimize holdings of non-interest-bearing money, creating upward lurches in the velocity of money. This behavior in turn reinforces inflation, producing a vicious cycle of high and variable inflation.

In terms of the monetarist equation, MV = PY, I view velocity has highly unstable. When inflation expectations are anchored, monetary policy is ineffective because of offsetting movements in velocity. Under hyperinflation, there is no independent monetary policy–money is printed to fund the government debt. When there is inflation fever, velocity is high and variable, and the monetary authorities can do little about this. In the early 1980s, perhaps Paul Volcker was able to turn things around. Or perhaps the bond market vigilantes, by raising long term real interest rates, boosted the value of the dollar and brought down oil prices, thereby breaking the inflation fever.

Toward a New Macroeconomics, Part One

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This is a concise summary of what I currently believe.

Low Creation High Creation
Low Destruction Corporatist Stagnation Schumpeterian Boom
High Destruction Minsky Recession Rising Dynamism

There is high creation when new businesses are launching and growing at a high rate. There is high destruction when incumbent businesses are disappearing at a high rate.

When the incumbents use government power to hang on, we have corporatist stagnation. That would be my diagnosis for Europe starting in the 1980s and Japan starting in the 1990s. The U.S. is at risk of falling into that quadrant.

Schumpeter describes a boom in which new businesses are emerging but incumbent businesses have not yet gotten the memo. You get Amazon growing while legacy bookstores remain.

A Minsky recession describes what we have seen in the U.S. in the last five years. Minsky said that when you have a financial crisis, businesses try to minimize outside funding and live off profits. Mark Perry shows what happens as a result.

The fact that the US economy is producing 5.6% more output now than in 2007 with 2 million fewer workers would explain why corporate profits are at record levels and more than 40% above the pre-recession peak (not adjusted for inflation).

Rising dynamism describes the U.S. in the 19th century, Japan in the 1960s and 1970s, and China more recently. Old patterns of economic activity are rapidly giving way to new ones.

David Andolfatto on Asymmetry

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He writes,

the labor market is a market for productive relationships. It takes time to build up relationship capital. It takes no time at all to destroy relationship capital.

Pointer from Mark Thoma. Note that this should make firms hesitant to fire workers, because of the cost of having to re-fill the position if it turns out that it was needed. I believe that this reinforces the asymmetry.

Noah Smith’s Crazy Utopian Idea

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He writes,

I want to move back toward a society where the hard work of an unskilled laborer is considered worthwhile in social interactions, regardless of how many dollars it brings home. I want to move back toward a society where being a good parent or a friendly neighbor earns as much respect as making a hundred million dollars on Wall Street.

In other words, I want our “democracy” back. We need to redistribute respect.

Pointer from Mark Thoma. To realize this utopia, the mainstream media would have to respect people who belong to the tea party. That is why the idea struck me as crazy.

Fun Re-reading

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For the macro book that I am working on, I wanted to refresh my memory for how the financial crisis played out. I went back to blog posts that I wrote in 2007. You can find them here. Scroll down to December, and look for posts “subprime daily briefing” (sometimes named slightly differently).

I staked out an early position against bailing our borrowers. I have no regrets there. At one point I said that the total wealth loss from the crisis would not be as large as the loss from popping the dotcom bubble–I think I was wrong about that.

I also staked out an early position in favor of capital forbearance by bank regulators, meaning that they would not force banks to sell assets at distressed prices to meet capital requirements. I still think that compared with what regulators actually did, this was a better approach.

Also interesting are the various links from the posts. For example, I found a paper by Michael Bordo, dated September 28, 2007.

Many of the financial crises of the past involved financial innovation which increased leverage. The 1763 crisis was centered on the market for bills of exchange, Penn Central on the newly revived (in the 1960s) commercial paper market, the savings and loan crisis of the early 1980s on the junk bond market, LTCM on derivatives and hedge funds.

In the most recent episode, the financial innovation derived from the securitization of subprime mortgages and other loans has shifted risk away from the originating bank into mortgage and other asset backed securities which bundle the risk of less stellar borrowers with more creditworthy ones and which were certified by the credit rating agencies as prime . These have been absorbed by hedge funds in the US and abroad, by offshore banks and in the asset backed commercial paper of the commercial and investment banks. As Rajan ( 2005) argued, shifting the risk away from banks who used to have the incentives to monitor their borrowers to hedge funds and other institutions which do not, rather than reducing overall systemic risk increased it by raising the risk of a much more widespread meltdown in theevent of a tail event as we are currently witnessing.

Placebo vs. Knee Surgery

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From the WSJ:

But researchers in Finland who studied two sets of patients—one that received the surgery, and another that was led to believe that it had—observed no significant differences in improvement between the groups after one year.

This is for torn meniscus. It interests me because a lot of people I know have had such surgery. Of course, it also illustrates Hansonian medicine–giving placebos is a less effective way of showing that you care.

Neil Wallace on Money

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He says,

“Money is memory” is a better idea. It leads you to think about various kinds of payment instruments in terms of the kind of informational structure that supports them. The money that is the best current counterpart to the “money is memory” idea is currency. You don’t need much of an informational network for currency; in fact, you probably don’t need any, except for worrying about counterfeiting.

Read the whole thing. Pointer from Tyler Cowen. At this Cato event, George Gilder and I talked about money as a low-entropy channel, and during the Q&A I used that metaphor to suggest that Bitcoin is not functioning as money.

Wallace also offers this ominous quote.

while one can imagine arrangements in which control of the price level is maintained in the presence of large and unsustainable government deficits, it rarely happens.

What Kind of Corporatism?

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A commenter on this post writes,

corporatism is the only game in town (http://stumblingandmumbling.typepad.com/stumbling_and_mumbling/2012/07/crony-capitalism-the-only-capitalism.html). The question then is what KIND of corporatism?

Libertarians who say that regulation = corporatism and who shrink back from any effort to regulate end up de facto enablers for the worst kind of corporatism from a progressive POV: the kind that makes the public in public/private partnership the junior partner.

I believe that you get the benefit of markets when businesses are allowed to fail. The worst evil of corporatism is its protection of incumbent businesses. What disturbs me about the progressive vision is that it seems to involve regulation of a static business environment rather than encouragement of a dynamic market with creative destruction.