Marginal Revolution

Are you Brian Donnelly?

The financial collapse of Iceland.

Economic topology, the video version.

Via Josh Hall, here is econjobrumors.com.

Abandoned house goes for $1.75 on eBay.

Economic experiments, using people with "personality disorders."

The sting of capital market segmentation

Greg Mankiw shows that real interest rates are rising on inflation-adjusted government bonds.  Paul Krugman shows that short-term Treasury yields are down.  The state of California cannot get short-term financing.  There is simply no one willing to lend.  Yet I would have no trouble buying a second home and getting another mortgage at a reasonable rate of interest and I am hardly a rich man.

Credit market segmentation is always there but it doesn't usually matter this much.  The parts of the credit market that are paralyzed by fear are the major problem right now.  And until that problem is cleared up, we will witness a step-by-step disembowelment of the American economy. 

The clock is ticking.  We need very rapidly to get to the point where natural lenders are willing to lend and "cross-market arbitrage" is no longer a dirty word.

The Money Meltdown

A new blog to track the financial crisis.  It provides a good overview of mainstream sources and general background.  By the way, they point to this IMF paper on previous international crises.

Hat tip to Fimoculous blog.

No, No, No!

Fannie Mae said it will set aside the loan of a woman who shot herself as sheriff's deputies tried to evict her from her foreclosed home....

"We're going to forgive whatever outstanding balance she had on the loan and give her the house," Faith said. "Given the circumstances, we think it's appropriate."

In other words, the taxpayers are now subsidizing self-injury.

The countercyclical asset, a continuing series

Nicer than tasers:

Mr. Borg, past president of the North American Securities Administrators Association, adds that in past market downturns he saw people turn to chinchillas, worm farms and super-breeds of rabbits. Emus, too, were big. "Eventually, people got tired of them and just let them go," he says. "To this day, you'll be in West Texas and a big emu running wild will just come up next to your car."

Here is the link and thanks to John De Palma for the pointer.  The National Alpaca Registry is doing well:

Peggy Parks, a 49-year-old auditor in Johnstown, Pa., turned to an unusual farm animal. "I've lost a fortune in stocks, and my 401(k) is falling through the floor. I feel comfortable in alpacas," she says. She invested $56,000 in a small herd that she believes has a better outlook than most mutual funds because of the animals' breeding potential.

Markets in everything

Kiwi song videos about chess boxing.  The interviews produce several remarks of interest plus some nice accents.

Over the last year a few of you sent me links about chess boxing.  I thank you all but I rejected your mainstream taste to hold out for something quirky.

Prophets of Accountancy

Here is Franklin Allen and Elena Carletti, circa 2006:

When liquidity plays an important role as in times of financial crisis, asset prices in some markets may reflect the amount of liquidity available in the market rather than the future earning power of the asset. Mark-to-market accounting is not a desirable way to assess the solvency of a financial institution in such circumstances. We show that a shock in the insurance sector can cause the current value of banks’ assets to be less than the current value of their liabilities so the banks are insolvent. In contrast, if historic cost accounting is used, banks are allowed to continue and can meet all their future liabilities. Mark-to-market accounting can thus lead to contagion where none would occur with historic cost accounting.

Here is a comment on that same paper.  I thank Scott Cunningham for the pointer.

The Economic Consensus v. Politics

The consensus among economists is now clear, the best strategy for dealing with the financial crisis is to recapitalize the banks that need recapitalization.  Paul Krugman, John Cochrane, Luigi Zingales, Douglas Diamond, Raghuram Rajan and many others all advocate some form of recapitalization as do Tyler Cowen and myself.  Krugman would prefer a recapitalization in the form of nationalization.  In my view, there is still plenty of private money to buy banks at the right price and my preferred model is the FDIC leading a speed bankruptcy procedure, as was done brilliantly with Washington Mutual (Cochrane also supports this model.)  In the middle are most of the others who have a variety of good ideas to require the banks to raise equity in various ways. 

The consensus policy of economists would put most of the burden of adjustment on politically powerful holders of equity and bonds.

There is also a consensus among economists that the bailout bill is not the right policy.  None of the above economists, for example, is enthusiastic about the bailout.  My bet is that all of us think that the bailout has a substantial likelihood of failing.  The support that exists is born out of hope and fear not judgment and experience.  Nevertheless, the political consensus is that a bailout is what we will get whether it is likely to work or not.   

Addendum: Lynne Kiesling draws the Olsonian conclusion.

Concise Encyclopedia of Economics

It is now on-line.  Contributors include Armen Alchian, Gary Becker, Avinash Dixit, Claudia Goldin, Greg Mankiw, Paul Romer, Pete Boettke, Tyler Cowen, Bryan Caplan, Russ Roberts and many others.

On another topic, from elsewhere, here is Arnold Kling on net worth certificates.  And here is Russ Roberts on home prices.  Here is Bill Easterly's Op-Ed on development and the crash.

How did the credit rating agencies misfire?

A second view is that because the methodologies used for rating CDOs are complex, arbitrary, and opaque, they create opportunities for parties to create a ratings “arbitrage” opportunity without adding any actual value. It is difficult to test this view, too, although there are reasons to find it persuasive. Essentially, the argument is that once the rating agencies fix a given set of formulas and variables for rating CDOs, financial market participants will be able to find a set of fixed income assets that, when run through the relevant models, generate a CDO whose tranches are more valuable than the underlying assets. Such a result might be due to errors in rating the assets themselves (that is, the assets are cheap relative to their ratings), errors in calculating the relationship between those assets and the tranche payouts (that is, the correlation and expected payout of the assets appear to be higher and therefore support higher ratings of tranches), or errors in rating the individual CDO tranches (that is, the tranches receive a higher rating than they deserve, given the ratings of the underlying assets). These arguments are complex and subtle...

That is from a very interesting paper by Frank Partnoy.  The paper is not always easy reading but so far it is the best piece on its topic I have found.  This was another good section:

If the mathematical models have serious limitations, how could they support a $5 trillion market? Some experts have suggested that CDO structurers manipulate models and the underlying portfolio in order to generate the most attractive ratings profile for a CDO. For example, parties included the bonds of General Motors and Ford in CDOs before they were downgraded because they were cheap relative to their (then high) ratings.67 The primary reason that the downgrades of those companies had an unexpectedly large market impact was that they were held by so many CDOs.

Thus, with respect to structured finance, credit rating agencies have been functioning more like “gate openers” rather than gatekeepers. The agencies are engaged in a business, the rating of CDOs, which is radically different from the core business of other gatekeepers. No other gatekeeper has created a dysfunctional multi-trillion dollar market, built on its own errors and limitations.

There is also a good discussion of how the ratings agencies have claimed First Amendment protection for their activities, more or less successfully.  p.96 offers some good policy conclusions.

Sentences to ponder

I think it's very telling that in two days of hearings and two weeks of discussion we have yet to see *any* detailed mechanism for how Paulson's plan will increase the supply of, say, inventory loans.

Here is more, mostly on the commercial paper market, interesting throughout.

Assorted links

1. What could $700 billion buy in the developing world?

2. Nobel predictions, via Greg Mankiw

3. The crisis in pictures, via Chris F. Masse

4. Critique of Hubbard and Mayer

The Economic Organization of a Prison

A famous paper in economics showed how cigarettes became a medium of exchange in a POW camp (even leading to booms and slumps depending on Red Cross deliveries).  For a long time cigarettes were the money of choice in American prisons as well but today, according to a great piece in the WSJ, the preferred medium of exchange is mackerel.

There's been a mackerel economy in federal prisons since about 2004, former inmates and some prison consultants say. That's when federal prisons prohibited smoking and, by default, the cigarette pack, which was the earlier gold standard.

Prisoners need a proxy for the dollar because they're not allowed to possess cash. Money they get from prison jobs (which pay a maximum of 40 cents an hour, according to the Federal Bureau of Prisons) or family members goes into commissary accounts that let them buy things such as food and toiletries. After the smokes disappeared, inmates turned to other items on the commissary menu to use as currency...in much of the federal prison system mackerel has become the currency of choice.

I loved this point which raised the possibility of significant mack seignorage.

...Mr. Muntz says he sold more than $1 million of mackerel for federal prison commissaries last year. It accounted for about half his commissary sales, he says, outstripping the canned tuna, crab, chicken and oysters he offers.

Unlike those more expensive delicacies, former prisoners say, the mack is a good stand-in for the greenback because each can (or pouch) costs about $1 and few -- other than weight-lifters craving protein -- want to eat it.

Thanks to Brandon Fuller for the link.

Net worth certificates, from the FDIC

One alternative is a "net worth certificate" program along the lines of what Congress enacted in the 1980s for the savings and loan industry. It was a big success and could work in the current climate. The FDIC resolved a $100 billion insolvency in the savings banks for a total cost of less than $2 billion.

Here is more.  Here is an FDIC summary of the program, under the heading "Other Resolution Alternatives."  To the extent bank recapitalization is needed, this is the best way to do it.  As Andrew Sullivan will tell you, experience really does matter.  I would like to see more economists promote this idea as an alternative to Treasury warrants. 

What will happen with the dollar?

Keith asks, as do others:

I had been curious as to how this whole situation will effect the dollar...If you find the time, I would like to know or see the future of the dollar in this situation.

Please note that I am a "buy and hold" guy, not a trader, and I am certainly not a currency trader.  But I'll cover the dollar vs. the Euro.

My inclination is to think the dollar will hold its value.  I don't trust any of the macro models of currency values and we do know that purchasing power parity, while very approximate, and exerting its force only in the long run, does not imply a bearish stance toward the dollar.

Here is a list of European banks with assets greater than the gdp of their respective home countries.  And read this.

As for this country, the Chinese now regard us as "battle tested."  We have been through some truly major bumps, yet no major U.S. politician has called for "not paying back the Chinese."  We've even guaranteed the $350 billion in agency securities held by the Chinese central bank and without a stir.  I think the Chinese are shocked by that and in many ways they now trust their investments more than before, not less.

The Chinese do not have comparable trust in "Europe."  If something went wrong in the financial realm, who would they call up on the phone?  Which country?  What do they think is the power base of the head of the ECB?  What political party does that person belong to?  What favors can be traded and with whom?  Whose answer would count as definitive?  Keep in mind that for all of China's modernity, their leaders are still communist party functionaries.

The negative scenario for the dollar is where the Chinese economy collapses, not where the Chinese become too afraid to buy dollar-denominated assets.

Bush, Bernanke, Paulson -- we call them leaders.  The Chinese think of them as the customer service department.  I suspect the Chinese get straighter answers from them than we ever do.

Plans, plans, plans

There is the O'Neill plan:

His plan to deal with the crisis would start with a "discounted cash-flow analysis'' of distressed instruments that are clogging the financial system. The government would guarantee the assets, paring back the support as principal and interest payments were made, he said. "That should take care of the liquidity problem because if they have a government guarantee at a specified level they should trade just like cash,'' O'Neill said.

Or the Soros plan.  And here is a "SuperBond" plan to recapitalize the banking system. 

And then there is the Phelps plan for capital injection in return for warrants.  Not to mention the French plan.

Or how about the Wright plan:

...to let any American with a mortgage swap it out for a government one at 7% for up to 50 years (to get the monthly payment down to where the borrower can handle it). The Treasury will pay off the existing mortgage with bonds (which it can sell cheap right now). If a borrower wants to default instead s/he can do so, and then the lender can mortgage the property on the above terms.

So many plans!

Here are some solar greenhouse plans.  And here are Silly Billy's World's Elementary Lesson Plans.

Roger Congleton's notes on the credit crisis

They are a good outline to many events behind the current crisis; many of you have been writing to me and asking for background reading.

Another of my colleagues, David Levy, just published this short piece (with Sandra Peart) on the ratings agencies and the idea of experts.

The best parenthetical statement I read today

(The fictional 18th century heroine, Moll Flanders, recognized that a high self-regard can be dangerous, arguing that women who believe themselves beautiful are easier to seduce: “If a young woman once thinks herself handsome, she never doubts the truth of any man that tells her he is in love with her; for she believes herself charming enough to captivate him, ’tis natural to expect the effects of it.”)

Here is the link.

Heard in the Halls at GMU

R: "I'm quite pessimistic about the current financial system.  I've been buying gold."

A: "Gold?  That's not pessimistic enough.  I've been buying rice."

The Snowball

The subtitle is Warren Buffett and the Business of Life.  Is it massive?  Yes.  Does it contain numerous revelations about his childhood, his "slight obsession" with trains, his love of collecting, and his sex life?  Yes.  Is it well written and well researched?  Yes.  Does it cover many financial episodes (most of all Salomon Brothers) and famous characters?  Yes.  Is it number one on Amazon?  Yes.  Does it contain analytic depth?  No.  Did I like it?  Yes, but for a return which is mostly biographical in nature, it's a lot of detail to wade through.

My views on the crisis -- a summary statement

A few inattentive malcontents are complaining that I haven't stated my views.  I have, but if you want them, or some of them, in one neat place, devoid of subtlety or explanation, here they are:

1. Glass-Steagall repeal was not a major cause of the financial crisis, nor was government-induced "minority lending."

2. We should use regulation to move more of the currently unregulated derivatives markets to the clearinghouse model.

3. The crisis represents a massive conjunction of both market and governmental failure.

4. I would not nationalize banks as ongoing concerns, at least not short of a far more extreme emergency than the current status quo.

5. The modified Paulson plan was better than nothing -- especially after the market had been scared -- but far from my first choice.  In any case the plan would have been revised almost immediately.  The Paulson and Dodd plans were never that far apart.

6. My first choice is to induce and if need be to force more information revelation, identify the insolvent banks, close them up, and give the battle-tested FDIC a much greater role in the whole process.

7. In the meantime the Fed should not worry much about inflation.

8. The critical deregulatory mistake was allowing excess leverage.  Many deregulations get blamed but in fact contributed little to the problem.

9. Everyone says that letting Lehman die was a big mistake but I'm not yet convinced.  Maybe a bracingly high TED spread is what we need.

10. Libertarians are overrating the moral hazard argument, as many equity holders have been wiped out.

11. If someone is pushing conclusions and not identifying the potential weak points in his or her arguments, be suspicious.  Also beware of anyone pretending to offer you simple answers.

12. I have a long and complicated view on the relevance of Austrian Business Cycle Theory which resists easy summation, but markets could have and should have been more cautious in response to Greenspan's easy money policies.

13. Insolvent hedge funds and the commercial paper market remain outstanding issues which are not easy to address.

14. I agree with Arnold Kling about relaxing capital requirements though at this point I don't expect it to help much.

15. The crisis is complex and has many causes; there won't be a simple or quick solution.

If you wish you can google to the details.  Also, I don't believe I had offered #9 before on this blog.

The countercyclical asset, a continuing series, revisited

Many of you like this series and I am no longer puzzled as to why.  The countercyclical assets in recent times are A and B and best of all C.

From the Hill

“The House of Representatives is currently experiencing an extraordinarily high amount of e-mail traffic. The Write Your Representative function is therefore intermittently available. While we realize communicating to your Members of Congress is critical, we suggest attempting to do so at a later time, when demand is not so high. System engineers are working to resolve this issue and we appreciate your patience.”

Here is the story.  The associated explanation is this:

The House is limiting e-mails from the public to prevent its websites from crashing due to the enormous amount of mail being submitted on the financial bailout bill.

Gee, I wonder if all those people are for or against the bailout?

I thank Carrie Conko for the pointer.

Who is Greener?

There is a new InTrade.com contract, this one on whether oil futures and the Democratic President contract move in the same direction on Election Day.  Right now it's running at about 50 percent, which means an Obama victory won't on average bring a higher price of energy.  Mark Thoma directs us to this interesting article on the bursting of the Green bubble, most of all among the Democrats.

Is sanity on its way?

Maybe, just maybe:

The U.S. Senate may consider expanding the authority of the Federal Deposit Insurance Corporation as part of a package of legislation to reduce turmoil in the financial markets, Senate Banking Committee Chairman Christopher Dodd said today.

You'll note that the FDIC specializes in concentrating its actions on insolvent banks, which is exactly what we should be doing.  The FDIC also has experience in this area, believe it or not.

Did "minority lending" drive the crisis?

This is one of the queries I receive, in varying forms, every day.  Did policies such as the Community Reinvestment Act significantly worsen the housing bubble and the subsequent collapse?  Basically not, although in my view these were bad policies for other reasons.  They contributed to our current problems by only a small amount and of course these policies have been around for a long time before the housing bubble ever got started.  Here is one back-of-the-envelope debunking of the "diversity recession" idea.  Matt Yglesias links to some other debunkings.

You can, however, cite the general obsession with extending home ownership as strong evidence that putting Democrats in charge does not suffice to solve our regulatory problems.

Only polite comments will be left standing...

The problem is that both of you are right

David Brooks is right that the failure to pass the bailout represents a massive failure of American governance and leadership, most of all at the Congressional level.  That's true even if you think, for other reasons, that the bailout was a bad idea.  (Can any hero be cited in this debacle?)  Andrew Sullivan (and others, including myself) was right that early versions of the Paulson plan bypassed checks and balances and gave far too much power to the Executive Branch.  So Congressional oversight was needed.

That's the problem, namely that both of these views are right.  And this is just one reason, of many to come, why the Paulson plan (whether or not we need it) will not work as promised.

Should the Fed pay interest on deposits?

Steve Randy Waldman says yes:

I would support a standalone act authorizing the Fed to pay interest on deposits immediately. I would prefer that Congress impose limits on the quantity of deposits on which interest can be paid, to limit the risk and interests cost to taxpayers, but that limit could be quite loose for the moment. This approach has the advantage of getting liquidity into the banking system far more quickly than the Paulson Plan ever could have, and drawing a clear line between the liquidity and capitalization aspects of the plan. It could be implemented immediately by passing the one sentence Section 128 of the Paulson Plan in isolation (although again, I'd prefer to muck it up with a limit on the quantity of paid deposits).

Freed of its balance sheet constraint, the Fed might consider injecting funds into the banking system by purchasing a diversified portfolio of holdings in money market funds that trade in commercial rather than government paper. This would help relieve the stresses in the commercial paper market very directly, and reduce the likelihood of a disorderly adjustment in nonfinancial commercial credit markets.

On a different tack, here are some very good ideas from Paul Light, an expert on bureaucracy.  And did you know that the FDIC currently has the power to guarantee short-term interbank lending?  The Paulson plan was in fact quite slow, so maybe its failure will force us to look for other and better options.

Mexico fact of the day

Foreign banks account for 80 percent of the financial system in Mexico, 51 percent in Peru, 29 percent in Chile and 22 percent in Brazil.

Here is more on the general issue of international contagion.

The best and worst case scenarios

The best case scenario: The bad banks continue to be bought up, there is no run on hedge funds next Tuesday, only mid-sized European banks fail, money market funds keep on buying commercial paper, and the Fed and Treasury continue to operate on a case-by-case basis.  Since Congress doesn't have to vote for something called "a bailout," it can give Paulson and Bernanke more operational freedom than they would have otherwise had.  The American economy is in recession for two years and unemployment does not rise above eight or nine percent.

The worst case scenario: Credit markets freeze up within the next week and many businesses cannot meet their payrolls.  Margin calls cannot be met and the NYSE shuts down for a week.  Hardly anyone can get a mortgage so most home prices end up undefined rather than low.  There is an emergency de facto nationalization of banks to keep the payments system moving.  The Paulson plan is seen as a lost paradise.  There is no one to buy up the busted hedge funds, so government and the taxpayer end up holding the bag.  The quasi-nationalized banks are asked to serve political ends and it proves hard to recapitalize them in private hands.  In the very worst case scenario, the Chinese bubble bursts too.

I still think some version of the best case scenario is more plausible, but I wish I could tell you I am sure. 

Why not nationalize?

Megan McArdle piles on:

...what works in the banking system of a small economy does not necessarily work in a large one.  For starters, no offense to the Swedes, but very few other countries are affected by what happens in their economy.  One family, the Wallenbergs, indirectly controls something like 30-40% of Sweden's GDP.  Even now, the Swedish financial system is considerably less broad and complex than that in the US; it's not a world financial center.  And in 1992, everyone's financial system was a whole lot less complicated than they are now...

Possibly the biggest problem with this plan, among many, is that Sweden is essentially able to command the labor of its bankers; they have relatively few alternatives without starting over in a new country and a new language.  American government has no such leverage.  Yes, the folks in the mortgage departments royally screwed the pooch, but running a major bank is not something you can hand over to a GS-17.  Nor is it a job for academic economists. 

And, of course, the political ramifications in the United States are very disturbing.  A small homogenous country with a parliamentary system and a lot of social capital invested in the government is going to do better at nationalizations than we will.  The fractious structure of the American legislative system means--as we've just seen--that huge amounts of political maneuvering and log-rolling will go into the running of any national banking system.  Imagine the banking system run by the Department of the Interior.

...The problem with the Japanese system (or at least, one major problem) is that for political, social, and career reasons, banks kept pouring money into zombie firms, trying to salvage the bad loans of a decade ago.  Is a nationalized banking system less or more likely to do this than a private one, in America?  I imagine any banking head, appointed or career civil service, would get a lot of calls from Senators and congressmen demanding that the bank prevent companies in their districts from going under.

There's lot of talk in the blogosphere in favor of the Swedish plan, but not much consideration of its drawbacks. 

Words of wisdom from K. Harris

Money market trouble was the trigger, and it's back. The direct response was a $50 bln insurance fund, not in place yet. How about $200 bln in insurance, with a 15-minute turn-over for enrollment? Give the FDIC a green light - already backed by Treasury, so no legislation needed. Put everything in place that can be done without legislation and that directly addresses the issues that confront us, instead of issue that are behind other issues. Financial firms will need to worry about staying in business, but they won't have to worry about liquidity. Moral hazard is a lesser concern.

The big unfixable thing is that the government teased a hungry market and then jerked the bacon away. Can't fix that now, but there are other approaches to the problems we have.

He is a commentator over at calculatedrisk.blogspot.com.  My personal, oversimplified rule of thumb is that as long as trading continues The End of the World has yet to come.

It's also worth considering the new equilibrium.  If things do not totally tank right now, Paulson and Co. truly have zero credibility -- for better or worse -- the next time they claim that some particular policy action has to be done.

Bailout plan fails in the House

Seriously.  205-228.  They can still revote, by the way.  Maybe this is one of those "field experiments" I have read about...

Michael's bleg beg

He sounds like a very loyal MR reader to me:

Would you be willing to post a financial crisis topic bleg thread, where people can submit questions in comments and you occasionally pick from those questions?
I have so many questions as I try to get a handle on this stuff. I bet others do too, and that many questions are the same.

I make no promises but ask away...

And I haven't forgotten your earlier requests, I hope to return to many of them once we are out of the woods.

The ride is getting bumpier

The TED spread is high, the T-Bill yield is low, banks are disappearing, etc.  It sounds grim and it is grim.  The "bright side," if I may call it that, is that the financial sector really does need to shrink.  It is doing so at an accelerated pace.  That is one problem from having so many derivatives markets but it is also their virtue.  There may be speculative swings in price but when reality arrives you can't run away from it.  And a high TED spread can be a good thing too, forcing banks to shrink or consolidate or shed assets.  Bank consolidation raises profits and allows retained earnings to finance activity in the former losers.  If there is any consolation, this is not Japan of the 1990s, which was the original worry of many people.

The bumps may yet destroy the sled, but what appears to be bad news can in fact turn out to be good news.  Stay tuned...

Is the Sweden plan so much better?

Paul Krugman, Brad DeLong, and Matt Yglesias are all endorsing the Swedish plan for partial bank nationalization.  Maybe it's better than what we'll get (I haven't read through the latest draft), but I don't think they are addressing the weaknesses of the idea.  Namely:

1. Solvent banks don't need to be nationalized.  Insolvent banks should be shut down.  Maybe they're mostly insolvent, but that is second-guessing market prices just as much as Paulson's view that bank assets can be bought on the cheap.  The implicit view is that current equity markets are overvaluing these banks.  (It is complicated, however, because current equity prices are not independent of the government plan and there can also be hovering in the neighborhood of insolvency.)  An alternative proposal, of course, is to reveal which banks are solvent and which are not.

2. There is much talk about taxpayers participating in the upside.  First, bank ownership is probably not an efficient way of redistributing wealth (is it what you want for Christmas?).  Second, Greg Mankiw's friend scored a telling point:

...we would all be better off if high schools taught the Modigliani-Miller theorem. MM implies that the price of the asset (again,assuming the auction gets it right) will adjust to offset the value of any warrants Treasury receives. In this case of a reverse auction, imagine that the price is set at $10. If Treasury instead demands a warrant for future gains of some sort, then the price will rise in the expected amount of the warrant -- say that's $2. Then the price Treasury pays for the asset will be $12. Some people might prefer to get $12 in cash and give up a warrant worth $2 in expected value. Fine, that's a choice to be made. But the assertion that somehow warrants are needed is simply wrong.

I haven't seen a good response.

3. Swedish governance is in many ways of higher quality than American governance.  It involves lower transactions costs, more social unity, and it is more inclusive of many different interest groups.  For one thing, the concentration of wealth in Stockholm makes it harder to use policy to redistribute wealth across regions.  Instead they redistribute wealth across genders and age groups but those forms of redistribution don't distort the banking system so much.  The Swedish banking system is also "small as a whole" compared to surrounding markets; you can't say that about the USA.  Note also that Swedish banks, circa the early 1990s, were simpler creatures than today's American banking firms.

4. The U.S. doesn't have any tradition of successful nationalization.  We've had plenty of interventions, but for whatever reasons nationalization has not been the preferred model.  I don't think it is just ideology.  The diffuse and highly federalistic American political system is lacking in accountability and thus it is poorly suited for such policy actions.

5. Nationalization makes it harder to raise private capital next time there is a crisis.  It is a high time preference solution.

6. Presumably the government wants to show it is doing a good managerial job, but in fact the sector needs to shrink.  And would a government-owned bank cut off the flow of credit to, say, Chrysler?

The Workhouse Test

The new Bailout plan has some interesting restrictions on CEO compensation and golden parachutes.  For example:

...a prohibition on the financial institution making any golden parachute payment to its senior executive officer during the period that the Secretary holds an equity or debt position in the financial institution.

This could either be a disaster or a saving grace.  If you think the situation is very dire and also that Wall Street is ruled by greed then it's a disaster as the captain may prefer to go down with his ship, rather than give up the golden parachute (life-jacket?).  Thus, those who think the situation is very dire must be gambling on CEO altruism!

On the other hand, if you think that there is still private capital out there ready to buy at the right price then this clause may mean a smaller public bailout than many are predicting.

It all reminds me of the workhouse test.   

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.    

A new insurance proposal

From Mehrling and Kotlikoff:

Rather than ask Hank Paulson to determine the price of each and every toxic asset, let's have him simply set prices for the ABX insurance policies (or credit default swaps, as they are called). Right now these insurance policies are selling for crazy prices because nobody can insure against systemic risk. Nobody, that is, except the government. The government is in a unique position to insure against system-wide risk because its own decisions determine, to a very large degree, the extent of this risk.

Were the government to start selling the ABX insurance policies at reasonable prices, our Cinderella mortgage-derivatives market would suddenly wake up and start pricing every mortgage-related security in sight based on these ABX prices. If Hank does this, the market will do essentially all the pricing; Hank will have only a handful of prices to set, not thousands.

Here is another explanation of the same.  And more here.  I miss the good 'ol days of squabbling about single-payer plans and the Milton Friedman Institute.

Casey Mulligan is now blogging

Here.  Casey is a very well-known economist at the University of Chicago and he works on public choice.  Here are many of his papers.  And here is his post arguing that the real economy is not so closely linked to Wall Street. 

Hat tip to Greg Mankiw.

Vulture Capitol

Much like John McCain, Rudy Giuliani, who accompanied the presidential candidate on a campaign plane earlier today, is very interested in what happens with the government's bailout plan. That's because his law firm, Bracewell & Giuliani, is letting potential clients know it can best steer them--with its new Task Force-- to deal with the bailout.

See the photo and press release, which says this:

Mr. Giuliani noted that the Bracewell Task Force includes a former Comptroller of the Currency, a former Assistant Secretary of Legislative Affairs of the U.S. Department of the Treasury, former members of Congress from both political parties, former federal prosecutors, and former SEC enforcement attorneys.

They will even have a blog, to update people on the latest revenue opportunities.  I thank a loyal MR reader for the pointer.

Labor market outcomes for transgendered individuals

Yes economists study this too:

We use the workplace experiences of transgender people – individuals who change their gender typically with hormone therapy and surgery – to provide new insights into the long-standing question of what role gender plays in shaping workplace outcomes. Using an original survey of male-to-female and female-to-male transgender people, we document the earnings and employment experiences of transgender people before and after their gender transitions. We find that while transgender people have the same human capital after their transitions, their workplace experiences often change radically. We estimate that average earnings for female-to-male transgender workers increase slightly following their gender transitions, while average earnings for male-to-female transgender workers fall by nearly 1/3. This finding is consistent with qualitative evidence that for many male-to-female workers, becoming a woman often brings a loss of authority, harassment, and termination, but that for many female-to-male workers, becoming a man often brings an increase in respect and authority. These findings challenge the omitted variables explanations for the gender pay gap and illustrate the often hidden and subtle processes that produce gender inequality in workplace outcomes.

Here is the article.  I'm not so sure this solves the identification problem, since it ends up looking at atypical individuals (those who switch to female may not be the same personality types as those who switch to male).  But, on this topic, what do I know?

I thank Zuzanna for the pointer.

Not from The Onion: The Teenage Put

Parents are abandoning teenagers at Nebraska hospitals, in a case of a well intentioned law inspiring unintended results.

Over the last two weeks, moms or dads have dropped off seven teens at hospitals in the Cornhusker state, indicating they didn’t want to care for them any more.

...Under a newly implemented law, Nebraska is the only state in the nation to allow parents to leave children of any age at hospitals and request they be taken care of, USA Today notes. So-called “safe haven laws” in other states were designed to protect babies and infants from parental abandonment.

..The moral of this story appears to be that safe haven laws need to be very carefully and narrowly written to ensure they’re not abused by parents.

From now on I will will tell my kids, "Behave! or we're moving to Nebraska!"