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Tradeoffs Don't Exist
Or so say Larry Summers and Mark Thoma who argue that we can have a bailout and a stimulus package and still have tax cuts and more spending on energy, health care, education and all the other goodies that we have been promised. Salesman Summers explains:
Just as a family that goes on a $500,000 vacation is $500,000 poorer but a family that buys a $500,000 home is only poorer if it overpays, the impact of the $700bn programme on the fiscal position depends on how it is deployed and how the economy performs. The American experience with financial support programmes is somewhat encouraging. The Chrysler bail-out, President Bill Clinton’s emergency loans to Mexico, and the Depression-era support programmes for housing and financial sectors all ultimately made profits for taxpayers...
Does this sound familiar? I can hear it now. A vacation sir is consumption but a home, ah a home, that's investment. Investments pay off. Just look at the American experience. Rising home prices! Never a downturn. Isn't that encouraging? Hell, at prices like these you can hardly afford not to buy. Yes sir, a home that's a wise investment. And that makes you sir, a wise investor. And a wise investor, well a wise investor can certainly afford a nice vacation.
Posted by Alex Tabarrok on September 29, 2008 at 07:05 AM in Economics | Permalink
Comments
If you are interested in the relationship between the Bush-Rove political strategy for bringing about a realignment of voters and the subsequent mortgage meltdown, see my article:
http://vdare.com/sailer/080928_rove.htm
Posted by: Steve Sailer at Sep 29, 2008 7:09:33 AM
Rising home prices! Never a downturn. Isn't that encouraging?
Hallelujah, brother! We is all saved!
I'm so happy, I could just ... cry!
Posted by: at Sep 29, 2008 7:27:21 AM
Mind me being a pleb for just a sec, but if taxpayers make a profit, then you're already in another housing bubble?
Posted by: Naadir Jeewa at Sep 29, 2008 8:04:57 AM
Investments ALWAYS pay off, right? Because they are INVESTMENTS, right? So, let's call something an "investment" so it will justify leverage.
Posted by: Andrew at Sep 29, 2008 8:08:27 AM
Steve Sailer nails this one:
Screwing around lowering down payments just pushed the discovery of this fact off into the future, after we've wasted all that money on homes, which aren't really investments in the sense that they generate new wealth, they're just expensive consumer durables. And, they aren't all that durable, either.
http://isteve.blogspot.com/2008/09/speculators-in-exurban-bubble-markets.html
I like that. Homes as "expensive consumer durables." Reminds me of the saying that "We don't really own anything, everything is merely rented."
Also of the old wisdom that in real estate you make your money when you buy, not when you sell.
Posted by: at Sep 29, 2008 8:08:35 AM
I think Summers is targeting his point at the majority of people who see the bailout as costing 700 billion dollars. It won't cost that because it is an investment of sorts. Your point is fair but most people grasp so little of what is going on that Summers' improves comprehension at the margin.
Posted by: Michael Foody at Sep 29, 2008 8:34:19 AM
Michael,
I too think that bailout plan will cost less than $700 billion but the fact of the matter is that it could cost more so it's not clear to me that Summers is helping things.
Alex
Posted by: Alex Tabarrok at Sep 29, 2008 8:45:09 AM
If the home is your primary residence then you are consuming it, not investing in it.
You'll probably need a mortgage. That means that that $200,000 house could cost you between $400,000 and $600,000. I'm not aware of too many investments that require to pay 2 to 3 times the value of the initial investment?
If you stay in it long enough, you will likely have to renovate and upgrade. A new roof. A new bathroom. A new kitchen. New flooring. You rarely see a 100% return on those 'investments'. No, a primary residence is a money pit. You might make a profit if your timing is right or if you stay in your house long enough
Michael Foody: I'd go one step further. The bailout is not just an "investment of sorts". It's a reward for making poor decisions.
Posted by: Vincent Clement at Sep 29, 2008 9:03:33 AM
The test here is; Would you buy this investment if you weren't being forced to buy it? I think the nays have it.
Posted by: Randy at Sep 29, 2008 9:26:54 AM
In fairness Alex, home prices in the aggregate, over the long run, tend to rise at least equal at the rate of inflation, if I remember correctly. I'm not sure Summers' contention rests on the idea that home prices NEVER turn down but there is in fact a distinction between investment and consumption. A home (to live in) is a decent investment for most people which is why so many people, including economists, buy them.
Posted by: Dan at Sep 29, 2008 9:37:14 AM
"a family that buys a $500,000 home is only poorer if it overpays"
-- isn't that the heart of the problem? People overpaid, and financial institutions let them?
Is Summers argument really supposed to make me less angry?
Suppose the end cost isn't $700 billion but $110 billion. That's still bleeping gigantic. We will have costs amounting to $1,000 per American household and taken on substantial risk while doing it. [lest we forget, we also own or guarantee Fannie, Freddie, AIG, ...]
Posted by: ZBicyclist at Sep 29, 2008 9:55:36 AM
ZBicyclist: Is Summers' argument really supposed to make us less angry?
It is if you are one of the majority of people that fundamentally misunderstands what is going on. The 110 billion and risk is probably a preferable situation to what they currently understand to be the case (Most people seem to think of the $700 billion dollars as a price tag for a chance of avoiding economic collapse they understand it as a pure dead weight loss). Summers is correcting a misunderstanding. That he's doing it with another less gross misunderstanding is a fact but given the fact that situation is so complex and conceptually difficult to be pretty much entirely inscrutable to over 99% of people (myself included).
Posted by: Michael Foody at Sep 29, 2008 10:59:31 AM
Alex, I imagine you are aware of the original contingency that allowed Treasury to have $700B on its books at any one time, not just a ceiling of $700B. In other words, Paulson could keep going back to the well.
I'm not sure if that provision has been changed in this latest iteration; if not, taxpayers could lose a lot more than $700B.
Posted by: meter at Sep 29, 2008 11:45:49 AM
I don't think this says there is a free lunch:
"I see nothing wrong with asking the people who have benefited the most from our economic system in the past to play the largest role in helping to repair it. We don't have to give up our aspirations for the future, we just need those who have benefited so much from our economic system to step up to the plate and help us move forward."
The bigger point is that if we are going to do a stimulus package - and I believe one is necessary - it's better to look for ways to do it that have long-run payoffs. There's a difference between spending money to build a new bridge (gov investment), and spending the same money in a large, one-time fireworks display (gov consumption). The investment continues to pay into the future, the fireworks explode, give a brief thrill, and, except for the memories, are gone forever.
Posted by: Mark Thoma at Sep 29, 2008 12:50:31 PM
I think there's way too much being made of Summers' words because of his poorly-chosen example. My reading is that he was attempting to explain the difference between expensing and capitalizing a cost, and why the bailout package is more like the latter than the former. He could have said: "A company that spends $500,000 on an employee party is $500,000 poorer but a company that buys a $500,000 piece of capital equipment is only poorer if it overpays."
Of course, you can quibble with whether the bailout is a good deal for the government or not; I think it's probably not. However, it seems possible that the government and only the government is able to make money on this deal. First, their financing costs are much lower. Second, they have a much greater ability to change rules they don't like for their benefit (like helping restructure mortgages so that some homeowners can stay in their homes). Third, they (hopefully) won't have to worry about a run on the bank, and thus face no pressure to liquidate assets in a tight time frame.
I don't want the purpose of this post to be misconstrued. I don't think this is a great deal for taxpayers. But I do think the above two points are being misconstrued to some degree.
Posted by: Kyle S at Sep 29, 2008 1:03:38 PM
Ah, thank you, Alex, for your breaths of fresh air on a blog that has become quite vapid of late.
Posted by: Anonymous at Sep 29, 2008 1:53:35 PM
Did Summers work for Worldcom?
Posted by: physecon at Sep 29, 2008 2:06:51 PM
I betcha Summers is a closet credit snob.
Posted by: Dave at Sep 29, 2008 5:16:39 PM
Summers is "cost-benefitting"
All costs and benefist must be considered. The 7 bi will not be thrown away. We just don't know whether it's going to pay-off or not, because investiments can fail.
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Posted by: 租車 at Oct 2, 2008 9:56:20 PM
I believe that summer's statment is correct. Even with the bailout and the stimulus package I believe that we can afford tax cuts, and more spending on things such as education, energy, and health care. I believe this because like summers say's those things are more of an investment than they are an expense. Especially with energy because even if we pour a lot of money into researching alternative energy in the short term, that could save us a lot of money in the long term because it will reduce our dependance on foreign oil.
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