Thursday, October 16, 2008

Baker has to go

How can this guy be a column writer for the Times?

So we are about to witness something extraordinary. America ... is about to have the most left-wing government in what used to be called the industrialised world. ... In Europe, Conservatives rule in Germany France and Italy, and despite the miraculous recent apparitions of the Dark Lord Mandelson of the Manipulative Genius and Saint Gordon of Perpetual Financial Succour, the Tories still look likely to take over within the next two years. Meanwhile, across the Atlantic, a fully Democratic Government will take office with a domestic agenda that would make European hearts pine nostalgically: huge expansion of healthcare; a vast programme of public investment in modern energy technologies; a liberalising social agenda to be pursued, as is now customary, through stacking the courts with politically activist judges.

Anyone who's spent any time in any of these countries, or even just reads the newspapers would know that nothwithstanding the fact that the Democrats are to the left of the Republicans, there's no way an Obama government would be more left wing than the Merkel government in Germany or even a Tory government here. This is just stupid.

Horse race reporting from the BBC

On a BBC TV news programme a couple of nights ago something to the effect that the Obama and McCain economic plans aren't that different but that "Obama does empathy better".

Three hundred BILLION in tax cuts for the wealthy vs. tax cuts for the majority; a promise to end a three TRILLION dollar war asap vs. at some point one day maybe in a "hundred years"; a real national healthcare systems vs. continuing with the most expensive and least fair system in the developed world.

How different do their policies have to be before news coverage moves away from "he said, she said" and "on the other hand" nonsense to saying something substantive?

We rightly call out leaders from non-western countries when they're being crazy, why are we so afraid to say that today's Republicans are simply not fit for government?

An emerging narrative

Nicholas Nassim Taleb doesn't seem to be a big fan of the financial sector, but in one way the notion of the "Black Swan" he has popularized is helping to weave a narrative which provides cover for the looting carried out by the sector. It goes like this: the crisis was fundamentally unpredictable, a real Black swan event, so who could have known? Shrug. Call in the government. Wait a couple of years. Start looting again.

This is a huge distortion of what has really happened. While the full extent of the crisis has been a surprise I think to most people, the underlying issues - a house price bubble, crazy short-term incentives and a mass capture of national wealth by the finance sector - have long been recognized by a number of commentators. Of course, the ruling elites have never wanted to hear these views, so for some years they've filled the opinion pages of WSJ, FT, London Times, Telegraph etc. with hand-picked cheerleaders for the looting. Now that the sleight of hand has become plain to see, the story has switched to this one of complete unpredictability.

The problems with the finance sector were no Black Swan. The sector's been sucking the nation dry for some years, and with a compliant government buying into it's story has driven (i) a crazy house price bubble, (ii) a huge misallocation of human capital (read smart young people) away from other tasks (health, energy, research, training, transport) into an increasingly zero-sum, if not negative-sum financial game, (iii) a capture of wealth (something like 40% os all UK corporate profits, and that's after paying out those huge salaries; finance adds some value, but that much relative to everything else?) leading to the remarkable phenomenon of stagnant real wags at a time of increasing productivity and (iv) a broader corruption of the public sphere in which taxes are seen as nothing more than a drag on the economy, leading to under-provision of public goods at a time when they're needed more than ever.

Beware the emerging narrative. The underlying causes of this mess have been evident for years, and need to be addressed as soon as possible.

Wednesday, October 15, 2008

Housing madness continues

UK house prices are way out of line. It's a bubble, it's distorting the economy and is one of the underlying elements in the financial crisis. Banks whose assets include IOUs on houses are not going to get all their money back. For that reason their assets are worth less than was thought by optimists during the bubble. It's going to get worse before it gets better: people are going to default, banks are going to have to face up to reality, sellers are going to have to face the fact that people are not going to pay five times their salary for a place to live and so on.

Yet the government seems determined to keep the bubble inflated. It appears to be insisting that the two newest branches of the government, HBOS and RBS, keep lending at 2007 levels, i.e. too much. I can understand that you'd want to "smooth" the house price crash, and I hope this is what they have in mind, but it looks awfully like a desperate attempt to keep the bubble going.

Newsnight had a couple of house price cheerleaders on last night: an estate agent and some guy who wrote a book called "How to make a million in housing" or something like that. And these guys of course are gung ho about the housing business being the backbone of the economy and so forth. The presenter asks a perfectly reasonable question: why not follow other countries which have long imposed fairly hard rules on how much you can borrow (effectively as a damper on bubble formation)? Guests just ignored the question and keep shaking their pom poms. What a joke. This is like asking thieves about preventing robberies. Meanwhile Yvette Cooper refused to even say that there's something wrong with 125% mortgages.

House prices will drop. It's only a questio of how long psychology and government intervention keeps them artificially high and how much broader economic damage is caused in the meantime.

Monday, October 13, 2008

An oldie

From this blog in August 2007:
The labour market distortions induced by extremely high wages in the finance sector are worrying. Put simply: is it really efficient to have legions of bright young physicists and engineers (usually trained at great public expense) slugging it out in the City in the hope of a becoming lucky young millionaires instead of doing research on, say, sustainable energy, or designing genuinely innovative new products?

Arm twisting

A question is being asked about the consumers who over-stretched to take on huge mortgages which goes like this: no one was twisting their arms to take on these loans, isn't there an element of personal responsibility? Sure there's some element of personal responsibility but let's not pretend that decisions to take on huge loans are made in isolation. If everyone else is taking out huge mortgages, house prices go up, and for an individual family the choice is to follow suit or live in a bad neighbourhood (say). Mortgage decisions are in this sense coupled: the prices of homes depend on how much others are willing to borrow, so the prudent have to pay a very high price, in terms of quality of life, possibly for a long period, before a house price bubble deflates and their prudence pays off. This simple fact limits the negative feedback we can expect to see cautious borrowers exert.

Worse, in the UK, the house buying mania is so deep seated that it's actually very difficult to raise a family in rented accomodation. The rental market for familiy houses is thin and the tenancy regulations not great for people in that position.

If even prudent individuals feel compelled, for quite rational reasons, to buy at inflated prices, you know you've got huge systemic problems!

I suggest:

(1) Act to make the rental market bigger and better. There needs to be a range of rental options at every level. The option to rent has a key role to play in controlling house prices inflation during bubble formation, by drawing the prudent out of the market.

(2) Impose limits on how much people can borrow. Mortgage borrowing is akin to an arms race: you need to control how much people can bid, or in small, locally rational steps, they'll bid prices up so high it hurts most of us.

(3) Simplify the mortgage business. How does the huge layer of brokers and other intemediaries add value? If there isn't a clear answer, get rid of them, and move to a simpler, stripped down mortgage service, using new regulation if needs be.

Bursting the bubble

Gordon Brown is being widely praised for leading Britain's relatively well thought out bank bailout. However, it's worth remembering that Brown was Chancellor the whole time the huge house price bubble was inflating. Basic indices (house prices relative to rents, incomes etc.) have been hugely over trend for some time, and the lines of Roubini, Shiller and Krugman have been sounding warnings about the bubble for years.

Against that background, you have to criticize Brown for not taking action earlier to control rampant house price inflation. Quite apart from the fundamental role this has played in the crisis, excessively high house prices have also caused huge distortions in the economy, resulting in vast transfers of wealth and misallocation of resources.

Among other things, this means that we now need to begin taking steps to deflate the bubble. Clearly, you don't want to do this too fast - that would be too much of a shock and would probably push us into a terrible recession - but we do need to get house prices back to the right level (i.e. close to trend). As of now, we're not hering anything about this from the government, but I hope we will once things have settled down a bit.

Saturday, October 11, 2008


This crisis has awakened me form my blogging slumber. What's going on is outrageous.

Our banks are no longer viable entities. They have now been promised vast sums of our money, through a variety of schemes. Yet the bankers who created the whole mess are not really losing very much, and are, at this very moment, continuing to receive large salaries. There has been no guarantee of a moratorium on bonuses, only vague words. Am I wrong to think that at the very least, these rescue schemes should work as follows. Firms should be free to sign up or not, but if they do want to take huge chunks of public money to recapitalize, they should see salaries capped, across the firm, at the top civil service rate, say. Furthermore, they should open up their books to a comprehensive investigation by a new investigative unit (if we're spending this kind of money, we can afford something like this - think of it as a Keynesian stimulus), with a remit to prosecute actions that were either truly fraudulent or simply cases of gross irresponsibility, criminal charges in the first case and civil in the second. Firms that do not wish to be exposed in this manner, or who do not wish to cap their wages, would be free to take their chances in the open market (I understand it's important that a critical mass of banks get back on their feet, but putting the scheme this way frames the issue correctly: while it's necessary, it's also the government doing the sector a favour.)

Yet this is not what is happening, certainly not in the US, and not even here in the UK. Two nights ago a senior banker on Newsnight explained, with a straight face, that all this talk of doing away with "$2m bonuses" and so forth would come to nothing because that is how "it works" in the City.

These people beggar belief. They are not only the biggest theives seen in the history of business, but have so convinced a generation of political leaders with their pseudo-economics (unfounded, as far as I can tell, in either theory or empirical evidence) that it seems that even after what has happened the moral response has been muted.