Strong opinions, weakly held

Tag: financial crisis (page 1 of 5)

Where we are today

Ezra Klein sums up the current state of the union as briefly and accurately as you could hope for:

When they were asked about shifting their focus to the future when the economy was so bad in the present, they explained that they got pretty much everything they thought they could get — and, in fact, more than they thought they could get — in the tax-cut deal, and it was time to let that work. Left unsaid is that they can’t get anything more out of a Republican House, and so there’s little point in begging.

In the meantime we’re treated to Republicans repeating the words “failed stimulus” over and over as if they cannot be used separately, in spite of the fact that state governments all over the country are facing massive deficits in the absence of the federal stimulus dollars that saw them through the worst of the crisis.

We have to do something about jobs

Felix Salmon on today’s job report, which showed a gain of 64,000 private sector jobs and a loss of 159,000 government jobs:

The U.S. does not have the luxury of waiting indefinitely for job growth to resume. Already we’re at the absolute limit: any longer, and most of the unemployed will be long-term unemployed and, to a first approximation, unemployable. This country simply can’t afford an unemployable underclass of the long-term unemployed — not morally, not economically, and not fiscally, either.

Ezra Klein puts the numbers in context:

Take the report’s “good” number: 64,000 private-sector jobs. That’s about 35,000 less than the 100,000 or so jobs needed to keep up with population growth. It’s about 180,000 less than the number of jobs needed to get back to 5 percent unemployment in the next 10 years. It’s about 257,000 less than the 320,000 jobs needed to get back to 5 percent unemployment in five years.

What caused the financial crisis?

Paul Krugman and Robin Wells assess the various explanations for what caused the financial crisis and come to their own conclusions in a piece for the New York Review of Books. They also take a stab at explaining why the recovery has been so lackluster. It won’t surprise you to learn that they see the poor recovery as being caused by a lack of demand driven by people paying off debt at every level of the economy, and that continued deficit spending by the government is the only thing that will see us through. Despite other explanations, it seems pretty obvious at this point that lack of demand is what’s slowing recovery, and that the real debate is over whether it’s preferable for governments to spend more money and risk inflation down the road, or to let more people suffer because they don’t have jobs right now.

Why the economy needs stimulating

Modeled Behavior explains our fundamental economic dysfunction, with charts:

This is a failure of our basic institutions of production. The job of the market is to bring together willing buyers with willing sellers in order to produce value. This is not happening and as a result literally trillions of dollars in value are not being produced.

Let me say that again because I think it fails to sink in – literally trillions of dollars in value are not being produced. Not misallocated. Not spent on programs you don’t approve of or distributed in tax cuts you don’t like. Trillions of dollars in value are not produced at all. Gone from the world entirely. Never to be had, by anyone, anywhere, at any time. Pure unadulterated loss.

This is what has bothered me for months — the opportunity cost of having so much human and industrial capacity idle. We live in a world where many, many things are needed and wanted by people, and the capacity to produce them exists but is going unused. I don’t know if another round of government spending will help or if that’s what we should do, but “stimulus” is exactly the right word for what needs to happen.

His main point is that this loss should bother everyone to the extent that they’re willing to move beyond their political hobby horses and look for a solution. That isn’t happening.

Our reduced size economy

Here’s something I wrote in January, 2009, about fiscal stimulus:

Before the housing bubble burst, the economy was a size XL shirt. Now it’s size L shirt. The economy is rapidly losing weight so that it can fit into the size L shirt. What this means is closed down factories, canceled construction projects, and massive job loss.

The purpose of fiscal stimulus is to stretch the shirt back out to size XL. This works by replacing consumer borrowing (by way of home equity loans, cash-out refinances, and credit cards) with government borrowing. The idea is that the government will stretch the shirt until the economy grows enough for the shirt to remain size XL without fiscal stimulus.

And my bigger question is this: what if the size L economy is the new normal, and the only thing that will save us in the end is population growth? What then is the proper course of action for the government? If the current crisis is a product of structural change, what’s the best recourse? Replacing consumer borrowing with government borrowing isn’t going to save us if there’s no path back to the size XL economy anytime soon.

Looking at today’s job report, it strikes me that we’re going to be stuck at size L for quite some time.

One proposal to fix the federal budget

University of Delaware economics professor Laurence Seidman has a proposal that’s too sensible to ever be adopted for fixing the federal budget. Here’s his description of the problem:

The worst federal budget policy is the one we’re now following: ignoring the looming large future deficits while refusing to enact temporary fiscal stimulus to combat the recession. As long as Congress and the president refuse to tackle the large looming future deficits, financial markets and the public will rightly stay nervous.

He suggests three things, the first is a “normal unemployment balanced budget rule” for Congress. It would require the annual federal budget to be balanced if the unemployment rate is 6%. The second is a set of changes to entitlement programs that would avert their future budget-busting growth. And the third is a set of stimulus programs pegged to the unemployment rate:

At the same time, Congress should enact a set of temporary tax cuts and expenditures to stimulate the economy. This legislation must contain a phase-down schedule so that these temporary measures are phased out as the unemployment rate, which is currently over 9 percent, falls below 9 percent, then 8 percent, then 7 percent, and are completely terminated when the unemployment rate falls to 6 percent. Note that these temporary measures would have no effect on NUBAR, because they would be completely terminated when the unemployment rate falls to 6 percent.

It’s the kind of idea that would work if we had two parties that were interested in restoring economic growth and fixing our future budget problems. Instead we have one party that wants the economy to stay broken for political reasons, and another party that prioritizes avoiding perceived political risk over actually fixing problems.

The state of liberal economic thinking the economy

Brad DeLong captures the general line of thinking in an article for The Week, entitled Keynes & Co. have lost the stimulus argument. In it he explains why he’s pessimistic about our current economic situation, things the government can do to restore economic growth, and why the government probably isn’t going to do any of those things. Here’s his summary of the current situation:

The good news is we have avoided another Great Depression. But it seems ill-advised for Barack Obama to stand up on a Friday morning in early July and say that the economy is “headed in the right direction” (even if, as he said, “we are not headed there fast enough”) and to highlight “the sixth straight month of job growth in the private sector.” The employment-to-population ratio has been flat since November. Over the past six months–since the downturn ended–the U.S. economy has not been recovering from its near-depression, and not been putting a greater and greater portion of its potential labor force to work. Rather, it has been bumping along the bottom. There is a big difference between the economy getting “better” and the economy “no longer getting worse rapidly.”

Ultimately, I come down on Krugman/DeLong side in this debate. There are specific things the government needs to do to get the deficit under control (or, alternatively, it could just do nothing), but those are structural changes to the federal budget. In the meantime, we need economic growth.

One case against further stimulus

If you, like me, read a lot of liberal blogs, you see people arguing every day that the best thing the government can do right now is spend more money to stimulate the economy and restore economic growth. For example, it’s become clear that the spending in the stimulus bill in 2009 has been offset fully by the contraction in government spending at other levels that resulted from falling tax revenues. And the general argument is that as long as interest rates are low for government bonds, we should take advantage and borrow money to prop up the economy. I find this argument persuasive, so I’m on the lookout for solid counterarguments.

Analyst John P. Hussman, in a long (and important) article arguing that the economy is not really in recovery and that the worst is yet to come, describes a pattern that we’re seeing right now:

From an inflation standpoint, is important to recognize the distinction between what occurs during a credit crisis and what occurs afterward. Credit strains typically create a nearly frantic demand for government liabilities that are considered default-free (even if they are subject to inflation risk). This raises the marginal utility of government liabilities relative to the marginal utility of goods and services. That’s an economist’s way of saying that interest rates drop and deflation pressures take hold. Commodity price declines are also common, which is a word of caution to investors accumulating gold here, who may experience a roller-coaster shortly. Over the short-term, very large quantities of money and government debt can be created with seemingly no ill effects. It’s typically several years after the crisis that those liabilities lose value, ultimately at a very rapid pace.

Reinhart and Rogoff continue, “Episodes of treacherously high inflation are another recurrent theme. Indeed, there is a very strong parallel between our proposition that few countries have avoided serial default on external debt and the proposition that few countries have avoided serial bouts of high inflation. Even the United States has a checkered history. Governments can default on domestic debt through high and unanticipated inflation, as the United States and many European countries famously did in the 1970’s.

“Early on across the world, the main device for defaulting on government obligations was that of debasing the content of the coinage. Modern currency presses are just a technologically advanced and more efficient approach to achieving the same end. In many important episodes, domestic debt has been a major factor in a government’s incentive to allow inflation, if not indeed the dominant one. If a global surge in banking crises indicates a likely rise in sovereign defaults, it may also signal a potential rise in the share of countries experiencing high inflation. Inflation has long been the weapon of choice in sovereign defaults on domestic debt and, where possible, on international debt.”

This is why many smart people are talking about inflation even though we’re currently experiencing deflation. On one side, we have the risk of inflation or default down the road if we keep borrowing money now. On the other side, we have the risk of a deeper, more painful recession and less economic growth down the road if we go with austerity. And we have two parties in Congress who are making decisions about what to do based on their immediate political future rather than the long term interest of the country. We are so screwed.

We need to restore economic growth

The big macroeconomic debate is over deficit spending. Should the federal government keep borrowing money and spending it to lower unemployment and hasten economic recovery, or should it focus on fixing its balance sheet by cutting spending and possibly raising taxes? Ireland went for the latter approach, and the New York Times reports on the results. Ezra Klein has the Cliffs Notes version. I’ll go even shorter: it’s been a disaster for Ireland.

How the credit crisis affected Zappos

Anti-bailout sentiment certain runs high these days, and I think it’s because people don’t see the effect that the credit crisis in the fall of 2008 was having on non-financial businesses. In an article in Inc explaining why he sold the company to Amazon.com, Zappos founder Tony Hsieh talks about the effect of the credit crisis on his company:

At the time, Zappos relied on a revolving line of credit of $100 million to buy inventory. But our lending agreements required us to hit projected revenue and profitability targets each month. If we missed our numbers even by a small amount, the banks had the right to walk away from the loans, creating a possible cash-flow crisis that might theoretically bankrupt us. In early 2009, there weren’t a lot of banks eager to give out $100 million to a business in our situation.

That wasn’t our only potential cash-flow problem. Our line of credit was “asset backed,” meaning that we could borrow between 50 percent and 60 percent of the value of our inventory. But the value of our inventory wasn’t based on what we’d paid. It was based on the amount of money we could reasonably collect if the company were liquidated. As the economy deteriorated, the appraised value of our inventory began to fall, which meant that even if we hit our numbers, we might eventually find ourselves without enough cash to buy inventory.

These are the problems most businesses were facing in late 2008. You can oppose the bailouts on principle, but doing so is a luxury afforded by the practical effects of those same bailouts.

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