Coyote Blog

Climate activist Adam Sacks at Grist:

We must leave behind 10,000 years of civilization; this may be the hardest collective task we've ever faced.  It has given us the intoxicating power to create planetary changes in 200 years that under natural cycles require hundreds of thousands or millions of years"”but none of the wisdom necessary to keep this Pandora's Box tightly shut.  We have to discover and re-discover other ways of living on earth.

We love our cars, our electricity, our iPods, our theme parks, our bananas, our Nikes, and our nukes, but we behave as if we understand nothing of the land and water and air that gives us life.  It is past time to think and act differently.

If we live at all, we will have to figure out how to live locally and sustainably.  Living locally means we are able get everything we need within walking (or animal riding) distance. We may eventually figure out sustainable ways of moving beyond those small circles to bring things home, but our track record isn't good and we'd better think it through very carefully.

Likewise, any technology has to be locally based, using local resources and accessible tools, renewable and non-toxic.  We have much re-thinking to do, and re-learning from our hunter-gatherer forebears who managed to survive for a couple of hundred thousand years in ways that we with our civilized blinders we can barely imagine or understand.

Yep, let's all return to that sustainable world of 8000BC, scrap the worldwide division of labor and all our technology, and go back to subsistance farming and travelling by horse.  Gee, what a happy time that was...

Interestingly, this guy is making an incredibly common failure among physical scientists -- the attempt to apply conservation of mass/energy physical models or bacteriological growth models to economic growth:

Endless growth is an impossibility in the physical world, always"”but always"”ending in overshot and collapse.  Collapse: with a bang or a whimper, most likely both.  We are already witnessing it, whether we choose to acknowledge it or not.Because of this civilization's obsession with growth, its demise is 100 percent predictable.  We simply cannot go on living this way. Our version of life on earth has come to an end.

Here is what I wrote, in a post titled "Physics, Wealth Creation, and Zero Sum Economics"

My guess is that this zero-sum thinking comes from our training and intuition about the physical world.  As we all learned back in high school, nature generally works in zero sums.  For example, in any bounded environment, no matter what goes on inside (short of nuclear fission) mass and energy are both conserved, as outlined by the first law of thermodynamics.  Energy may change form, like the potential energy from chemical bonds in gasoline being converted to heat and work via combustion, but its all still there somewhere.

In fact, given the second law of thermodynamics, the only change that will occur is that elements will end in a more disorganized, less useful form than when they started.  This notion of entropic decay also has a strong effect on economic thinking, as you will hear many of the same zero sum economics folks using the language of decay on human society.  Take folks like Paul Ehrlich (please).  All of there work is about decay:  Pollution getting worse, raw materials getting scarce, prices going up, economies crashing.  They see human society driven by entropic decline....

[But] the world, as a whole and in most of its individual parts, is wealthier than in was in 1900.  Vastly more wealthy.  Which I recognize can be disturbing to our intuition honed on the physical world.  I mean, where did the wealth come from?  Out of thin air?  How can that be?

Interestingly, in the 19th century, scientists faced a similar problem in the physical world in dating the age of the Earth.  There was evidence all around them (from fossils, rocks, etc) that the earth had to be hundreds of millions, perhaps billions of years old.  The processes of evolution Darwin described had to occur over untold millions of years.  Yet no one could accept an age over a few million for the solar system, because they couldn't figure out what could fuel the Sun for longer than that.  Every calculation they made showed that by any form of combustion they understood, the sun would burn out in, at most, a few tens of millions of years.  If the sun and earth was so old, where was all that energy coming from?  Out of thin air?

It was Einstein that solved the problem.  E=mc2 meant that there were new processes (e.g. fusion) where very tiny amounts of mass were converted to unreasonably large amounts of energy.  Amounts of energy so large that it tends to defy human intuition.  Here was an enormous, really huge source of potential energy that no one before even suspected.

Which gets me back to wealth.  To balance the wealth equation, there must be a huge reservoir out there of potential energy, or I guess you would call it potential wealth.  This source is the human mind.  All wealth flows from the human mind, and that source of energy is also unreasonably large, much larger than most people imagine.

In 1946, a factory might employ its own cafeteria staff, the people who cleaned the bathrooms and windows, the folks who painted the building, even mechanics for the motor pool.  Today, all that stuff is outsourced.  The work and jobs are still there, but the jobs have been outsourced to service companies so the factory can focus just on production.

Are manufacturing jobs numbers smart enough to take this into account, or is the (relative) decline in manufacturing jobs in part attributable to unwinding of vertical integration and outsourcing of work to service companies?

To be very specific:  Is an accountant in a factory a manufacturing job, or a service job in the government numbers?  Certainly this person is a service worker if he is an independent contractor working for the factory, but what if he is employed in the factory with an office in the factory on the factory's payroll?

Anyone know?

A Cafe Hayek Reader asks:

Imagine we had entirely private health insurance market "“ no Medicare or Medicaid.  If I live to be sixty-five, I will probably have a personal and/or family history that indicates a strong probability of developing an expensive chronic condition. I would wager that is true of almost all sixty-five year olds.

So here is my question: which insurer in their right mind would take on my risk?

I suspect none. Once philanthropy and savings were exhausted, I would surely risk a painful life and preventable death.

Do I want this? Does anyone? Isn't "socialized" medicine for older people an unpleasant moral necessity for our wealthy society? Please note I am deeply suspicious of most arguments cast in moral terms in discussions of politics and economics. I ask these questions guardedly.

I answer in the comments:

Imagine we had entirely private life insurance market "“ no government options at all. If I live to be sixty-five, I will probably have a pretty high probability of dieing in the next 15 years or so. I would wager that is true of almost all sixty-five year olds.

So why would anyone insure me?

Because the life insurance market has developed a very reasonable solution to this -- you negotiate a term life rate for X number of years. Your rate might be Y a year for 10 years, or 1.5Y a year for 20 years, or 2Y a year for 30 years. The longer the rate guarantee, the higher the rate. You are explicitly paying higher rates than you might have in younger, less risky years to make sure you get a coverage guarantee at an affordable rate in later, risky years.

Of course, if you play the grasshopper and never buy insurance until you are 65, your price is going to be awful. But I don't think it is a reasonable role for government to do all kinds of individual-liberty-defying and costly things just because you did not take responsibility for your old age earlier in life. However, saying that, I of course know that this is EXACTLY what the government does with Social Security.

I have a high deductible individual insurance plan from Assurant who specializes in insuring individuals, and they have been evolving to a pricing model sort of similar to the term life model I listed above, though they are not quite there yet.

To the folks that say this is no solace for folks already 65, that is an implementation transition issue, not an argument against the market's ability to deal with this. Certainly a lot of folks have paid Medicare taxes for years and are counting on it. Some kind of phase out, possibly where the government redirects Medicare funds to make up the difference in policy prices for having not started locking in earlier, is possible. But the question was not an implementation question - it was a question of whether the market inherently fails for 65-year olds, and I think the answer is that it does not. We have a perfectly serviceable analog in life insurance to prove it

I call this the "failure of imagination" argument against free markets.  Some sector of the economy (such as education) has been dominated by government for so long that folks can't imagine a private model.  For example, when I argue for private grade school education, I can't tell you how often people say "private schools are all really expensive, no one could afford them."  Private schools are expensive because in the current government model, the only market niche for private schools is for families that can afford to pay the government for education they don't use and then pay a second time for a private school.

Show him this chart, via Carpe Diem

From the AZ Republic, Paul Krugman is claiming that the administration's stimulus spending, which I don't think has even reached $100 billion of the programmed $1 trillion, has officially averted another Great Depression:

Aggressive stimulus spending by governments helped the world avoid a second Great Depression

but full economic recovery will take two years or more, Nobel Prize-winning economist Paul Krugman said Monday....

"We have managed to avoid a second Great Depression ... but full recovery is at least two years and probably more," Krugman said.

This is just a pure joke.  First, the total additional spending was tiny compared to the size of the world economy.  Second, almost none of the stimulus money has actually been spent -- even the article goes on to say that "Most of the money will flow in 2010."  So is Krugman arguing that just the notion of stimulus spending, without the actual spending, has saved us?  Third, most of the early projects were typically stupid, whatever governments could ram through their procurement processes in a short period of time.   I challenge even the most ardent Keynsian to argue this stimulus was truly structured to target underutilized resources, or whatever their theory is.  I would love to see Krugman stand up in front of a doctoral committee and justify this wild-assed supposition with actual facts and analysis.

But the even more incredible unproven (and in fact entirely non-verifiable) part of the statement was that we were even headed for a second Great Depression anyway.  Many of us from the sidelines said that this looked like a recession similar in magnitude to that of the early 1980's, and in fact that appears to be exactly what we got.  The whole "second Great Depression" meme is merely a giant straw man used first to stampeded ill-conceived spending legislation through Congress with little scrutiny and now to provide a fake alternative against which Obama and company can declare victory.   Krugman is so far in the tank, its impossible for me to even think of him as an economist any more.  The Nobel Laureate who now retails non-verifiable claims.

The fact is that this was a normal recession blown out of proportion first by the Bush and later by the Obama administration.  From the very beginning, it looked much like the recession of the early 1980's or the bank crisis of the early 1990's, and it recovered for the same reason - there are fundamental strengths in the economy.  In fact, the length of the Great Depression was in fact the aberration, caused more by FDR's wild proposals (the worst of which was the National Industrial Recovery Act) which tended to dampen the investment that normally picks up at the bottom of the cycle to take advantage of reduced asset values and input costs.

Other Assertions by Krugman

Interestingly, economist Krugman appears to think that the problem with the financial system is that people can make money in it.  Really?  Gosh, I thought people just invested billions of dollars for the warm feeling it gives them:

He said there was a need to restructure the global financial system and impose tighter regulations to avoid a repeat of the economic crisis, but expressed concern that the momentum for reforms appeared to be easing.

"We do not have the political will to do that just yet ... I suspect clever people can still make a lot of money from the financial system in the next few years," he warned.

I also thought this was funny, in the context of the recent financial mess.  He says:

"Over-reliance on self-regulation is a mistake," he said. "Global regulators should err on the side of investor protection and financial stability rather than rely on a 'buyer beware' regulatory regime."

I must say it is surprising to see Krugman saying this.    Let's think about mortgages, the primary driver of the recent financial difficulties.  In mortgages, the investor is the bank making the loan.  So is Krugman advocating for more protection of mortgage lenders and their insurers like AIG against home buyers who take their money and then don't pay them back?

Update: Oh, and TARP never bought any troubled assets, just was used to bail out a few selected politically connected companies.

I remember in the 1970s the sight of oil company executives getting dragged before Scoop Jackson's committee in Congress, forced to defend themselves against charges they were holding tankers offshore to drive prices up.  Hilariously, this was at the exact same time oil company executives were testifying in front of a Congress begging legislators to allow them to build the Alaska pipeline.  But demonizing oil companies simultaneously for both decreasing and increasing the supply of oil has been a tradition for decades.

Anyway, I have always found it intriguing how behavior in one industry made unsympathetic by the media can be treated so differently from identical behavior in a more media-cherished industry.  Check this out:

U.S. dairies will remove 86,710 cows from their herds to be sold to slaughterhouses as part of an industry-funded program intended to boost milk prices by curbing output.

The buyout is the third such cull in nine months, the Arlington, Virginia-based National Milk Producers Federation said today in a statement. The most recent buyout completed last month involved 101,000 cows, the most ever for the groups so- called Cooperatives Working Together program, which began in 2003.

Note further that this appears to be acceptable behavior in milk but not in oil, despite the fact that milk is heavily subsidized and the beneficiary of government price supports while oil companies simply pay a whole boatload of taxes.

It turns out there is one other such example in the news, where an industry is destroying hundreds of thousands of units of inventory, with the inevitable result of raising prices (particularly to the poor), all with the facilitation and in fact funding from the Obama Administration.  Can you guess what that is?

Income inequality was the topic de jour during much of the election.   The left argued that median wages had stagnated, and tried very hard to date this stagnation from 1980 so that it could be blamed on Ronald Reagan.   Others have argued that the the whole median family wage stagnation thing was overblown, as 1) families had changed alot over 30 years;  2) Compensation had changed (such that wages were less of total compensation with the rise in value of health care plans); and 3) individuals matter, not quartiles, and individuals were doing well and still had mobility between income bands.

My sense is that the income inequality numbers have always been fraught with problems.  For example, rich people have huge incentives to manage the income numbers on their tax returns, so trying to draw conclusions about top earners from their tax returns is a bit dangerous.  Just the shift from C to S corps and LLC's over the last 30 years has fundamentally shifted what income high net worth entrepreneurs show on their tax returns.

All that being said, I think it is clear the income gap has grown, and it really started growing in this country around 1970.  Whether this matters is a different story - its clear from comparing to European countries that while our gap has spread vs. their income gaps, its almost 100% because our rich are richer than their rich.  Our lowest quintile is pretty comparable (here).  If that is the case, its an interesting question to see if this bothers folks.

Anyway, I think there still is work to be done to fully explain and rationalize these income inequality numbers.  But I still find it hard to believe they are not somehow related to immigration.  After all, dropping 20 million new immigrants, many of them quite poor, into the bottom quintile of US workers over the last 20 years certainly tends to pull down medians.  Just compare these two charts, with income inequality on the top and the percentage of residents in any given year that are foreign-born (legal or illegal immigrants).  I fitted the two charts together manually to get the time scales to line up, I don't have time to replot them together as I should.  Click to enlarge.

Its hard to see, by the way, how the top chart really reflects a trend starting with Reagan (as much as the left so desperately wants it to be true).  Something happened around 1970 to reverse the curve.  I have offered one possible cause.  I do so reluctantly, because I don't want to be misunderstood -- I am a big supporter of open immigration and would hate to give the anti-immigration folks any ammunition.

Anyway, you are welcome to discuss.  It is something I am thinking about but don't have an answer for.

Postscript: This is the chart comparing the top and bottom US deciles to countries in Europe on an absolute dollar basis. The conclusion I draw is that our poorest are in about the same shape as the poorest in Europe, but our rich are richer than in Europe.  Given this, does our income inequality still worry you?

The reason the analysis is done this funny way is that what one usually sees is some country like Chad with the poor at 80% of the median income.  But 80% of almost nothing is still almost nothing.  So this chart converts everyone to apples and apples - almost.  I still think it underestimates how well off the US poor are, maybe some sort of exchange rate vs. PPP problem.

My son is at the age in high school that he needs to find a job, either during the summer or after school or both.  But this is not an easy chore.  The economy certainly has a lot to do with this, but Congress has been doing its share to keep teenagers unemployed as well:

Thanks to an ill-advised law enacted with bipartisan support in 2007, the cost of providing an entry-level job to individuals with few skills or minimal experience will be going up by more than 10 percent. Those who cannot find a job paying at least $7.25 an hour will not be permitted to work. Welcome to the latest chapter of America's minimum-wage folly.

Those who press for a higher minimum wage often claim that making entry-level jobs more expensive won't reduce the number of entry-level jobs. Were the government to compel a 41 percent increase (see graph above showing the 41% increase in the minimum wage from $5.15 in 2006 to $7.25 this year) in the price of gasoline or movie tickets or steel, every rational observer would expect a drop in the demand for gasoline, movie tickets, or steel. Yet when it comes to the minimum wage, politicians and journalists somehow persuade themselves that making workers more expensive won't reduce the demand for workers.

But that's exactly what it does. Artificial price floors - mandatory minimum prices set higher than what the market will bear - generate surpluses. Minimum-wage laws are no exception. The price floor imposed by the government on the supply of low-skilled labor results in a labor surplus, which is just another way of saying higher unemployment.

The laws of supply and demand are not optional. They weren't enacted by Congress and Congress can't override them. Minimum-wage laws don't make low- and unskilled Americans more productive, more experienced, or more desirable. They merely make them more expensive - and more likely, therefore, to be unemployed.

People often think of the minimum wage as a restriction on employers -- that they cannot pay less than a certain number for a job.  But it is also equally a restriction on job seekers -- my son cannot legally offer to take a job for less than $7.25, even though he would probably gladly do so.  For teenagers, just gaining the experience of working and building basic skills (like showing up on time, following procedures, interacting with customers and fellow employees) has enormous value, such that even a nominal payment of a few dollars an hour would more than compensate him for his labor.

But I think there is another factor that increasingly limits teenage jobs that is not often discussed - liability.  I never really thought about this until I was running a business and found that my company and I may be personally liable for bone-headed decisions made by far off employees I have never met.  In our super-ligious society, does a company really want 15-year-old boys interacting with the public, no matter how much or little they are paid, when even one teenage-boy-style flip comment or sexual joke might result in a lawsuit?

Previously, I have written a number of articles on the minimum wage focused on the other end of the age scale.  My company hires folks in the seventies and eighties, a practice that is increasingly difficult to maintain with the minimum wage increasing.

Meddle in the economy too much, and investment dries up as entrepeneurs sit on the sidelines to see what's next:

"America isn't hiring precisely because of government policy. Small business owners, who are usually the first into and the first out of the job pool, are standing by the fence and watching. They are paralyzed by regulatory uncertainty. If they hire someone who ends up doing poorly, will they be able to fire that person? Will they have to pay their health care bills after they've been terminated? If so, for how long? Who will pay for all these stimulus checks? If it will turn out to be small business, why would they hire instead of keeping costs low to prepare for the big tax bill? Where will the market move? Are you in the right business or are your clients in a politically disfavored industry? . . . Jobs aren't languishing despite the government's best efforts. They're languishing because of them."

Via Glenn Reynolds

As I wrote before, Waxman-Markey puts most of the onus for CO2 reduction on refiners and transportation fuels, so that is the area we will see the most price increase if the bill passes.

So I ask you, after putting this huge effective tax on refiners, which will also in some cases force refiners to shut down capacity and produce less fuel, how long will it be before a politician starts to demagogue oil companies for rising gasoline prices and/or fuel shortages?

This is at the end of the day why Congress wanted cap-and-trade rather than a carbon tax.  By putting the tax on unsympathetic targets like oil companies, Congress and Obama can pretend that inevitable consumer price increases are the oil companies greedy fault, and not related to the actions in Washington.

A while back I worried that frequent, random, and unprecedentedly extensive Obama interventions in the economy and private commerce could well cause any economic recovery to stagnate as businesses sat on their wallets waiting for more clarity.   Though the ins and outs of the Great Depression are endlessly debated, there is good evidence that the Depression was extended by just this effect, in particular by the effects of the National Industrial Recovery Act, America's flirtation with Mussolini-style fascism.

Economist MaxedOutMama (who, to her credit, was sounding alarms last year long before most everyone else including me were) says that there is still a lot to be worried about and that businesses are indeed sitting on their wallets:

The rolling four-quarter change for GDP is now -2.5%. Far more frightening is the same figure for gross private domestic investment, which in Q1 was -23.6%, and has now been falling since fourth quarter 2006! Gross private domestic investment is the fundamental driver of this economy and just about every other economy, and at no time can one ever rack up a such a string of GPDI decreases in an economy without generating a pretty intense recession.

That is the first thing on which every realistic economist must stay concentrated. Talk about a credit crisis does not address the fundamental economic operator, and dumping a lot of stimulus money into the economy will not overcome a recession produced by collapsing GPDI unless it boosts domestic investment - which our stimulus package does not.

In fact, I would argue that government actions over the last 6 months, from executive compensation controls to Waxman-Markey to health care "reform" all do just the opposite -- suppress investment by increasing uncertainty.

By the way, the inflation I have been promising for a while has obviously not occured yet.    The Fed says they have it under control.

The Federal Reserve signaled Wednesday that the weak economy likely will keep prices in check despite growing concerns that the trillions it's pumping into the financial system will ignite inflation.

Fed Chairman Ben Bernanke and his colleagues held a key bank lending rate at a record low of between zero and 0.25 percent. And they pledged again to keep it there for "an extended period" to help brace the economy.

Inflation is this massive rock that takes a while to start moving.  The Fed has pushed the rock right to the top of the mountain but says not to worry, if it starts accelerating down the hill they will be able to stop it.   Don't believe it.

After business school, I spent years in corporate marketing and planning roles.  A big part of those jobs were prioritizing investment projects against limited available funds.  Perhaps it is due to this experience, but to me it seems dead obvious that shifting capital and other resources to projects businesses would not have done on their own is clearly going to result in losses to the overall economy.  It can be argued that such investments pay off in other ways, and certainly I so argued when we were discussing cleaner water and air, but the whole notion that green spending and requirements will create jobs is just a myth.

I covered this before, but here is a Spanish study on the Spanish wind programs Obama said he wished to emulate (via Carpe Diem):

1. As President Obama correctly remarked, Spain provides a reference for the establishment of government aid to renewable energy. No other country has given such broad support to the construction and production of electricity through renewable sources. The arguments for Spain's and Europe's "green jobs" schemes are the same arguments now made in the U.S., principally that massive public support would produce large numbers of green jobs. The question that this paper answers is "at what price?"

2. We find that for every renewable energy job that the State manages to finance, Spain's experience cited by President Obama as a model reveals with high confidence, by two different methods, that the U.S. should expect a loss of at least 2.2 jobs on average, or about 9 jobs lost for every 4 created, to which we have to add those jobs that non-subsidized investments with the same resources would have created.

3. The study calculates that since 2000 Spain spent €571,138 ($800,000) to create each "green job", including subsidies of more than €1 million ($1.4 million) per wind industry job. The study calculates that the programs creating those jobs also resulted in the destruction of nearly 110,500 jobs elsewhere in the economy, or 2.2 jobs destroyed for every "green job" created.

I am a little late on this, but here is the latest from Brink Lindsey, another member of the Princeton Tower Club libertarian blogger set:

Yet the return to peacetime and prosperity did not result in a shift back toward the status quo ante. The more egalitarian income structure persisted for decades. For an explanation, Krugman leans heavily on a 2007 paper by the Massachusetts Institute of Technology economists Frank Levy and Peter Temin, who argue that postwar American history has been a tale of two widely divergent systems of political economy. First came the "Treaty of Detroit," characterized by heavy unionization of industry, steeply progressive taxation, and a high minimum wage. Under that system, median wages kept pace with the economy's overall productivity growth, and incomes at the lower end of the scale grew faster than those at the top. Beginning around 1980, though, the Treaty of Detroit gave way to the free market "Washington Consensus." Tax rates on high earners fell sharply, the real value of the minimum wage declined, and private-sector unionism collapsed. As a result, most workers' incomes failed to share in overall productivity gains while the highest earners had a field day...

Krugman sees the rise of inequality as a consequence of economic regress"”in particular, the abandonment of well-designed economic institutions and healthy social norms that promoted widely shared prosperity. Such an assessment leads to the conclusion that we ought to revive the institutions and norms of Paul Krugman's boyhood, in broad spirit if not in every detail.

There is good evidence that changes in economic policies and social norms have indeed contributed to a widening of the income distribution since the 1970s. But Krugman and other practitioners of nostalgianomics are presenting a highly selective account of what the relevant policies and norms were and how they changed.

The Treaty of Detroit was built on extensive cartelization of markets, limiting competition to favor producers over consumers. The restrictions on competition were buttressed by racial prejudice, sexual discrimination, and postwar conformism, which combined to limit the choices available to workers and potential workers alike. Those illiberal social norms were finally swept aside in the cultural tumults of the 1960s and '70s. And then, in the 1970s and '80s, restraints on competition were substantially reduced as well, to the applause of economists across the ideological spectrum. At least until now.

The "treaty of Detroit" model, if it ever even existed in the first place, is merely NRA-lite, an echo of the Mussolini-style corporate state FDR tried to create before the war.  Read the whole thing - Brink is, as usual, hard to excerpt.

One thing that is seldom mentioned in discussions of income inequality is the absolute wealth of the lower income brackets.  The evidence is pretty strong that the lowest income brackets in the US do at least as well as comparable brackets in Europe (especially after you correct for immigration), which have pursued the corporate state model Krugman longs for.  Our rich are richer, but our poor are about the same, and unemployment is systematically lower here.  So the problem is, what?  Just envy?

More on income distribution and mobility here.

A lot of the lefty sites are gearing up the "poor aren't sharing in the benefits" bandwagon again.  This is usually brought out of the garage whenever someone wants to put a really progressive soak-the-successful tax plan on the table.  So get ready.

The key to parsing their argument is to understand the following distinction:  Do you care about quintiles, or individuals?  Because if you care about quintiles, then there is no doubt that the real median income of the lowest income quintile has not advanced much over the last 15-20 years.  But quintiles are not individuals, and the evidence is that individuals are still doing well, whatever bracket they begin in.  Because you see, while the average for the bottom quintile may not be much higher than the average for that bracket a decade ago, the fact is that the people in that bracket have changed.   As Mark Perry writes:

A common misperception is that the top or bottom income quintiles, or the top or bottom X% by income, are static, closed, private clubs with very little turnover - once you get into a top or bottom quintile, or a certain income percent, you stay there for life, making it difficult for people to move to a different group. But reality is very different - people move up and down the income quintiles and percentage groups throughout their careers and lives. The top or bottom 1/5/10%, just like the top or bottom quintiles, are never the same people from year to year, there is constant turnover as we move up and down the quintiles.

He quotes some stats from Jeffrey Jones and Daniel Heil:

How much income mobility exists in America? Research consistently affirms that there is substantial upward income mobility in the United States, with the lowest income earners typically showing the strongest results. A Treasury Department study of the 1996"“2005 period used IRS income tax data to discern considerable mobility: more than 55% of taxpayers moved to a different income quintile. More than half the people in the lowest fifth of earners moved to a higher quintile over this period (29% to the second, 14% to the third, 10% to the fourth, and 5% to the highest).

Moreover, there is a great deal of movement in and out of the top income groups. The Treasury data show that 57% "of households in the top 1% in 2005 were not there nine years earlier." The rich sometimes get richer, but they get poorer as well. The study also reveals that income mobility has increased, not decreased, during the past twenty years. For example, 47.3% of those in the lowest income quintile in 1987 saw their incomes increase by at least 100% by 1996. That number jumped to 53.5% from 1996 to 2005.

The Pew Economic Mobility Project tried to track actual people, and not brackets, from tax returns.  This is an imperfect science, but the only real way to look at income mobility.  They found that 90% of white children and 73% of black children whose parents were in the lowest income quartile in the base period were later to be found in higher income quartiles.  But this chart, from the same study, is really telling:

(click to enlarge)

That is a pretty amazing picture, marred only by something apparently bad occurring with the kids of middle class African Americans.

So how can there be so much income gain everywhere without the averages for the lower quintile increasing.  I would offer at least two explanations:

1. Immigration. As people gain skills and seniority, they progress to higher income brackets and out of the lower quintile.  However, there is a constant stream of low-skill immigrants moving to this country to fill in the bottom quintile.  It we were to do a quintile analysis apples to apples leaving out new immigrants in the period, I guarantee you would see the median income for the lower quintile increase.  As I wrote before:
   

   Frequent readers will know that I am a strong supporter of open immigration....However, I am tempted to become a close-the-border proponent if the left continue to use numbers skewed by immigration to justify expansions of taxation and the welfare state.  Whether they are illegal or not, whether they should be allowed to stay or not, the fact is that tens of millions of generally poor and unskilled immigrants have entered this country over the last several decades.  These folks dominate the lower quintile of wage earners in this country, and skew all of our traditional economic indicators downwards.  Median wages appear to be stagnating?  Of course the metric looks this way "” as wages have risen, 10 million new folks have been inserted at the bottom.  If you really want to know what the current median wage is on an apples to apples basis back to 1970, take the current reported median wage and count up about 10 million spots, and that should be the number "” and it will be much higher.

   By the way, even for these immigrants, their position in the lower quintile represents upward mobility for them.  Being in the middle of the lower quintile probably is a huge improvement over where they were in their home country - almost by definition, or they would not be working so hard to get here.

2. Safety Net. Some large portion of the bottom quintile are supported by the US government's safety net.  And there are pretty good fiscal reasons why the typical real incomes generated by that safety net have not increased over the last 20 years.  And even beyond the fiscal issues, there are incentives issues as well -- at some point, increasing how lucrative the safety net is can reduce the incentive to get off the safety net and find a job.  Just ask the Swedes.  There is a delicate balance between humanity and sustaining folks vs. killing their motivation.In some ways the left's use of the lack of lower quintile progress as an indictment of American capitalism is wildly ironic.  Basically what they are saying is that the 80% of people who support themselves through capitalist endeavor are doing progressively better but the 20% of the people supported by the government are stagnating -- and therefore we need to increase the role of government.

Bill Whittle makes a great point in this video which is at the heart of the problems with this administration:  While Obama and his young policy wonks may be smarter (or at least think they are smarter) than other folks individually, they cannot possibly be smarter than the sum of 300 million well educated, realtively affluent Americans making decisions for themselves.  Every technocrat founders on these rocks, when they substitute their decision as command and control planners for individual decision making (example).   Everyone talks about a revival of interest in Ayn Rand, and that is great, but it is Hayek who has never been more relevent.

More on the failures of technocrats here.

Kevin Drum, echoing Paul Krugman, looks at rising interest rates on Treasuries and decides that there is nothing to see here, move along.   You will all be relieved to know that these rising interest rates have nothing to do with a couple of trillion dollars in new government borrowing, and the effect that this borrowing (and wild money printing) might have on

• Inflation
• Sovereign risk
• Supply and demand for credit

Boy, do I feel better.

PS - And remember, if interest rates do start exceeding historical norms, Krugman will discover that it is Bush's fault.

I was listening to NPR in a cab a week ago Sunday and heard an interview with Michael Moore on the [then] impending bankruptcy of GM.  It is perfectly logical to interview Moore on such a topic, as he has been a long-time critic of GM's management, and I was curious to see what he would say.

In the interview, Moore was asked why GM failed.  I wish I had a transcript to ge the exact words, but in effect he said that 1) GM failed because it did not pay its workers enough and 2) GM failed because the US has not promoted enough mass transit.

Huh?  This is certainly a unique perspective, that GM with some of the highest manufacturing labor costs in the world, failed because its labor costs were not high enough.  His "logic" seems to have been that by not paying its workers enough, GM caused real middle class income to stagnate for decades which therefore reduced demand for its cars.   And don't even get me started on the proposition that GM was worse off because the government did not subsidize competitive transit modes enough.   I guess it does not really surprise me that Moore, who wants the US medical care system to emulate Cuba, would be so illogical.  But how does a seasoned journalist just let this stuff pass in an interview?  Incredible.

It strikes me GM has at least four problems that led to its bankruptcy:

• Tendency to give too much away to the UAW, both in $ and work rules concessions
• Uninspired design largely out of contact with consumers
• Operational processes that produce way too many errors
• Bloated, expensive, and slow bureaucracy

It is astoundingly hard to see how federal government ownership of GM will fix any of these.   The Obama intervention in the bankruptcy has been one long giveaway to the UAW, and it is already clear that any radical or painful restructuring steps will be muddled in the political process.  What we really needed were innovative radicals swooping in a picking up assets in bankruptcy, to be run in totally new ways.  What we get instead are 31-year-old grad students with no experience in automobiles or any other business enterprise calling the shots:

It is not every 31-year-old who, in a first government job, finds himself dismantling General Motors and rewriting the rules of American capitalism.

But that, in short, is the job description for Brian Deese, a not-quite graduate of Yale Law School who had never set foot in an automotive assembly plant until he took on his nearly unseen role in remaking the American automotive industry."¦

But now, according to those who joined him in the middle of his crash course about the automakers' downward spiral, he has emerged as one of the most influential voices in what may become President Obama's biggest experiment yet in federal economic intervention.

While far more prominent members of the administration are making the big decisions about Detroit, it is Mr. Deese who is often narrowing their options.

I can say this will end poorly with some confidence, as I too at 31 found myself to be a smart but inexperienced guy advising Fortune 50 CEOs for McKinsey & Co.  I am embarrassed to this day at the solutions we used to push that blinded us with their elegance but turned out to make no sense in the real world.

The Obama administration reminds me of nothing so much as a grad school policy seminar suddenly finding itself running a government.   All that naive technocratic hubris we once kept safely bottled away in Cambridge and New Haven has been released to wreck havok on the real world.

For more, read my previous work on why GM should fail, and try to see if anything proposed to day gets at the issues discussed.  At the end of the day, what those in the Obama Administration and their many supporters fail to understand is the very basic concept of how wealth and value get created, and how this relates to the deployment of assets.  I won't go into depth on this topic today, but suffice it to say that pumping a trillion dollars or so of government borrowing into the least well-managed institutions in the country is not a recipe for growth.

Update: George Will has more.

But one reason Amtrak runs on red ink is that legislators treat it as their toy train set, preventing it from cutting egregiously unprofitable routes. Will Congress passively accept auto plant-closing decisions? Rattner says that Washington's demure vow is: "No plant decisions, no dealer decisions, no color-of-the-car decisions." He is one-third right. Last week, under the headline "Senators Blast Automakers Over Dealer Closings," The Post reported, "Because the federal government is slated to own most of General Motors and 8 percent of Chrysler, some of the senators said they have a responsibility, as major shareholders do, to review company decisions."

With the help of the California legislature, we can make it three out of three, as California is mulling legislation to ban certain car colors to stop global warming (lol).

Update #2:  More on the Chrysler shotgun wedding with Fiat.

I guess it is not surprising that Lester Brown continues to scream "famine" despite being wrong about global food shortages and agricultural collapse for forty years running.  What is amazing to me is that respectable journals like Scientific American still give the guy the time of day.  But here they are this month, giving Brown plenty of print space to repeat his warmed-over apocalyptic visions and manipulated data.  Ronald Bailey has the whole story.

One of Brown's problems is that he looks at food capacity  way too narrowly.   For example, a large amount of food growing capacity are currently used for fuel.  Farmers receive billions of dollars to divert huge portions of the world's crops from the food supply to motor fuel.  Should the world ever face a real food emergency, this capacity could quickly be freed up (as it should have been already) by elimination of ethanol and other biofuel mandates and subsidies.

Further, what Brown always seems to ignore is the fact that every year, the amount of farmland dedicated to growing crops is actually shrinking around the world.   Just as he doesn't look at the capacity that is diverted to the fuel supply as an effective food inventory that can be tapped, the same is true for millions of acres of farmland that, while by definition more marginal than current acreage, could again be pressed into service should the need arise.

Good for Megan McArdle:

when did it become the government's job to intervene in the bankruptcy process to move junior creditors who belong to favored political constituencies to the front of the line?  Leave aside the moral point that these people lent money under a given set of rules, and now the government wants to intervene in our extremely well-functioning (and generous) bankruptcy regime solely in order to save a favored Democratic interest group.

No, leave that aside for the nonce, and let's pretend that the most important thing in the world, far more interesting than stupid concepts like the rule of law, is saving unions.  What do you think this is going to do to the supply of credit for industries with powerful unions?  My liberal readers who ardently desire a return to the days of potent private unions should ask themselves what might happen to the labor movement in this country if any shop that unionizes suddenly has to pay through the nose for credit.  Ask yourself, indeed, what this might do to Chrysler, since this is unlikely to be the last time in the life of the firm that they need credit.  Though it may well be the last time they get it, on anything other than usurious terms.

I am not sure I agree with the last part.  While banks seem to have an unbelievably long memory when it comes to you or I trying to get a loan after we forgot to return those Columbia House records 15 years ago and couldn't pay our bills, major banks have goldfish memories when it comes to major losses.  Whether it be lending to Latin American companies or to industries like airlines that go bankrupt with clockwork regularity, banks seem perfectly capable of repeating the same mistakes over and over again.

This is in part due to something I was trying to tell folks waaaaay back in October with the threatened liquidity crisis -- banks have to lend.  There is simply no good business model for a bank that involves sitting on hoards of cash under the mattress.  And when you have tens of billions of dollars to lend, you can't just do it in $100 increments -- you have to lend big slabs to large institutions.  And given that lots of other banks are trying to lend to the same guys, someone is going to issue that $300 million line of credit to Chrysler a couple of years hence.

Megan McArdle points out the real problem that carbon taxes and other CO2-abatement approaches have -- they only really work if it they are painful.  I mean, the whole point is not supposed to be to raise government revenue or just arbitrarily raise prices.  The whole point is to change behaviors, and the most powerful tool for behavior change is price changes.

Global warming activists are talking about 80% CO2 reductions.  This is an enormous number, especially since the relative cut has to be even higher to account for future growth, as reductions are generally pegged to current (or as in Kyoto, past) CO2 emissions levels.

A 40-cent gas tax is not going to do it.  Or, looking at how much behaviors changed when gas prices recently went up to $4, a $2.00 gas tax is not going to do it.  The Europeans have $6+ gas taxes and that is not enough to reach the levels activists want for this country.   It is likely going to take $10+ gas to even start to get the reductions in use and the shifts to much more expensive carbon-less technologies that would be required to hit 80% type goals.

All this means that we are NEVER going to have a carbon tax that really reflects the necessary rates to hit the emissions targets Obama and the alarmists claim to be committed to.  That is why we will get backdoor taxes that try to hide the tax and shift the blame away from Congress.    But none of these schemes, including cap and trade, will have any meaningful impact unless they lead to consumer price increases that change behaviors of the end users**.  But these approaches are preferable to lawmakers, as they somewhat disguise the relationship between legislation and prices, and give them some ability to blame private companies for the price increase, even where these increases are the inevitable result of carbon caps.

Postscript: This is further complicated because the major technologies the government is attempting to subsidize as part of meeting these goals are virtually useless.  Two in the transportation sector - ethanol and electric vehicles - are of questionable merit.  Ethanol has about zero efficacy in reducing Co2, and may actually increase it (but it is essential if one wants to win the Iowa caucuses).  Electric vehicles have some potential, but their impact is dependent on how electricity is generated.  Based on the current mix, shifts to electric vehicles just shift emissions from one place to another without much net reduction.  If someone were to propose a massive nuclear and electric vehicle program, they might convince me they were on to something.

**PS#2: I suppose you could reach these goals without fuel price increases.   Two alternatives:

• Mandate certain transportation and other technology solutions, as well as certain limits (e.g. maximum house size, maximum number of TV's, etc).  This still has cost, though, in terms of enormous losses in personal liberty as well as likely enforced higher costs of major purchases, like cars.  So this is still likely a price increase, it just shows up in a different place.  Also, this may well not work -- there is very good evidence that without price changes in fuel, consumers react to higher MPG in their cars by driving more, thus sibstantially dilluting the carbon effect.
• Enforce carbon limits combined with price caps on fuel and electricity.  This would be effective, probably, but of course would result in massive shortages of gas and electricity.  The rationing challenge would be enormous.

Flowing Data draws my attention to this nutty chart in the New Scientist  (I have never read the New Scientist, but my experience is that in periodicals one can generally substitute "Socialist" for the word "New").  Click to enlarge.

Will the world really run out of Indium in 5 years?  Of course not.  New sources will be found.  If they are not, then prices will rise and a) demand with be reduced and b) efforts to find new sources will be redoubled.  Push come to shove, as prices rise too much, substitutes will be found (which is why John D. Rockefeller probably saved the whales).  Uranium is a great example -- sure, proved reserves are low right now, but companies that mine the stuff know that there is tons out there.  That is why they are going out of business, there is too much supply for the demand.  Any spike in price would immediately generate tons of new developed resources.  And even if we run out, there are enormous quantities of thorium which is a potential substitute in reactors.

Absolutely no one who was old enough to be paying attention to the news in the 1970s could have missed charts very similar to this.  I remember very clearly mainstream articles that we would run out of oil, titanium, tungsten, etc. by the early 1990's.  Seriously, name one commodity we have plain run out of (*cough* Julian Simon *cough*).

People say, well, the resources have to be finite and I would answer, "I suppose, but given that we have explored and mined about 0.000001% of the Earth's crust and none of the floating mineral reservoirs in space (called asteroids), I think we are a long, long way from running out."

You would think that the guys running this analysis would get tired of being so wrong so consistently for so many decades, but in fact their real point is not about resources but about the US and capitalism.  The point of the chart is not really to say that the world will credibly run out of tungsten, but to tell the world that it is time to get out their pitchforks because the US is stealing all their wealth and resources.  It is an age-old zero-sum wealth fallacy that has never held any water, but remains a powerful talking point among socialists none-the-less.

For socialists, wealth is not created by man's mind and his effort -- it is a spring in the desert with a fixed flow rate.  It just exists to be taken or fought over.  The wealthy, by this theory, have not earned their wealth, they are just the piggy ones who crowd to the front of the line and take more than their share from the spring.  Unfortunately, socialists have never been able to explain why the spring, which flowed so constantly (and so slowly) for thousands of years, suddenly burst forth with a veritable torrent in lockstep with the growth of capitalism in the west.  And why it seems to dry up in countries that adopt socialism.

Postscript: A while back I posted on the New Economics Foundation  (remember what I said about "New") and their claim the world had just gone into ecological debt.

If you move solar panels out of the Arizona desert, they are going to produce less electricity.  You almost don't have to tell me where they are going -- if they are currently close to the optimal spot for maximum solar energy production, then moving them is bound to reduce their output.

Seems obvious, huh?  So why is it so difficult to understand that when the government moves capital and other resources away from the industries where the forces of market optimization have put it, output is going to go down.

Subsidizing renewable energy in the U.S. may destroy two jobs for every one created if Spain's experience with windmills and solar farms is any guide.

For every new position that depends on energy price supports, at least 2.2 jobs in other industries will disappear, according to a study from King Juan Carlos University in Madrid.

U.S. President Barack Obama's 2010 budget proposal contains about $20 billion in tax incentives for clean-energy programs. In Spain, where wind turbines provided 11 percent of power demand last year, generators earn rates as much as 11 times more for renewable energy compared with burning fossil fuels.

The premiums paid for solar, biomass, wave and wind power - - which are charged to consumers in their bills -- translated into a $774,000 cost for each Spanish "green job" created since 2000, said Gabriel Calzada, an economics professor at the university and author of the report.

"The loss of jobs could be greater if you account for the amount of lost industry that moves out of the country due to higher energy prices," he said in an interview.

We all know from reading the media that the Obama administration is 1) full of brilliant people way smarter than the rest of us and 2) driven by science.  So this insightful exchange between a reporter and White House spokesman Robert GIbbs vis a vis this Spanish study should come as no surprise:

Q: Back on the President's speech today, a Spanish professor, Gabriel [Calzada] Álvarez, says after conducting a study, that in his country, creating green jobs has actually cost more jobs than it has led to: 2.2 jobs lost, he says, for every job created. And he has issued a report that specifically warns the President not to try and follow Spain's example.

MR. GIBBS: It seems weird that we're importing wind turbine parts from Spain in order to build "” to meet renewable energy demand here if that were even remotely the case.

Q Is that a suggestion that his study is simply flat wrong?

MR. GIBBS: I haven't read the study, but I think, yes.

Q Well, then. (Laughter.)

In two sentences, Mr. Gibbs demonstrates that 1) He is an idiot and 2) He has no respect for science.  The correct, intelligent response would be "I can't comment, I have not read the study yet."  Mr. Gibbs does deserve credit for being an apparent master of the non-sequitur.  I have been trying to think of an eqivilent formulation.  The best I can come up with is to suppose someone said that "publicly funded sports stadiums generate no new economic activity and are just a taxpayer subsidy of sports owners, players, and ticket holders" and getting the response that  "how can this be when people still go to the games?"

I was afraid that all this braininess in the White House was going to eliminate the humor from Administration pronouncements but I see that won't be the case.

Apparently, the Obama administration may soon put limits on short-selling.  If so, this is cargo-cult thinking at its worst.  Prices fell really fast, so it must be the sellers' fault!  If we could just stop all this selling, then prices would never go down!

Here is my previous explanation of why short selling is in fact a critical tool to moderate bubbles, adding to the irony that we should be considering limits on this tool while suffering a bubble-induced recession.

At the start of the bubble, a particular asset (be it an equity or a commodity like oil) is owned by a mix of people who have different expectations about future price movements.  For whatever reasons, in a bubble, a subset of the market develops rapidly rising expectations about the value of the asset.  They start buying the asset, and the price starts rising.  As the price rises, and these bulls buy in, folks who owned the asset previously and are less bullish about the future will sell to the new buyers.  The very fact of the rising price of the asset from this buying reinforces the bulls' feeling that the sky is the limit for prices, and bulls buy in even more.

Let's fast forward to a point where the price has risen to some stratospheric levels vs. the previous pricing as well as historical norms or ratios.  The ownership base for the asset is now disproportionately made up of those sky-is-the-limit bulls, while everyone who thought these guys were overly optimistic and a bit wonky have sold out. 99.9% of the world now thinks the asset is grossly overvalued.  But how does it come to earth?  After all, the only way the price can drop is if some owners sell, and all the owners are super-bulls who are unlikely to do so.  As a result, the bubble might continue and grow long after most of the world has seen the insanity of it.

Thus, we have short-selling.  Short-selling allows the other 99.9% who are not owners to sell part of the asset anyway, casting their financial vote for the value of the company.  Short-selling shortens bubbles, hastens the reckoning, and in the process generally reduces the wreckage on the back end.

Megan McArdle hilariously commented:

I don't understand why the Commission doesn't focus on something more effective, like installing lavish statues of Mammon on trading floors so that traders can better propitiate him.

Update: By the way, this could be argued to be just another piece of corporate welfare.  CEO's hate short sales of their stocks, and would love Congress to ban the practice altogether.  The fact that the practice enforces accountability on them, I am sure, has nothing to do with it.  The reality is that if buying and selling are thought of as voting for or against a company's or asset's value and prospects, then banning short selling is a way of disenfranchising most of the world from this process.

By the way, not that I think it should matter from a policy perspective, but have you noticed that the shorts seem to be right an awful lot?  In retrospect, more shorting of bank and insurance stocks 3 years ago would have been a good thing.

This is an update to these two posts on the Geithner toxic asset / bank bailout plan.  In those posts, we looked at a hypothetical investment with a 50/50 chance of being worth 0 or 200.  From this, we said that the expected value was 100, and looked at payout scenarios under the Geithner plan.

A number of folks wrote me that I had missed part of the point of the Geithner plan.  The original assumption of the plan was that the banking system is in a liquidity crisis, and fire sales of assets are reducing the pricing of such assets well below their expected hold-to-maturity value.  According to the Treasury white paper:

Troubled real estate-related assets, comprised of legacy loans and securities, are at the center of the problems currently impacting the U.S. financial system...The resulting need to reduce risk triggered a wide-scale deleveraging in these markets and led to fire sales. While fundamentals have surely deteriorated over the past 18-24 months, there is evidence that current prices for some legacy assets embed substantial liquidity discounts...This program should facilitate price discovery and should help, over time, to reduce the excessive liquidity discounts embedded in current legacy asset prices.

Their point is, in our example, that the asset worth 100 is only trading at, say, 50 due to a liquidity discount and the point of the plan is to make this discount go away.

This does make it clearer to me how these guys are justifying this program.   If we look at the program on the original analysis, based on expected values of assets held to maturity, we got this profile of returns:

The bank returns in the analysis were based on the alternative of hold to maturity.  It is all a zero-sum game - gains at the banks and investors come directly out the the taxpayer's pocket.

If, however, one assumes the asset is trading below expected value, say at 50, due to a liquidity discount, then Geithner can argue the banks get a higher return for the same taxpayer subsidy IF the returns are based on a base case of selling out at the fire-sale market price.

In this case, with these assumptions, we get some "free value" or a multiplier effect of the taxpayer subsidy equal to the liquidity discount.

Is this a valid way of looking at it?  Well, the first problem is that this seems like an awful lot of money to spend of taxpayer money just to eliminate a fleeting (in the grand scheme of things) liquidity discount.  Banks have a zero-subsidy alternative to achieving the same end, which is simply to hold the investments to maturity, or until the market eliminates the liquidity discount.  Those of you who own a home know that you are going to take a hit on value if you have to sell now, while the market is a flooded with homes for sale, vs. two or three years from now.  Anybody proposed lately to bail ordinary folks out of this liquidity discount?

But perhaps the more telling criticism of Geithner's assumptions come from a recent paper by a group of Harvard Business School and Princeton professors who have looked at the current market pricing of these toxic assets, and have found little or no liquidity discount.

"The analysis of this paper suggests that recent credit market prices are actually highly consistent with fundamentals. A structural framework confirms that bonds and credit derivatives should have experienced a significant repricing in 2008 as the economic outlook darkened and volatility increased. The analysis also confirms that severe mispricing existed in the structured credit tranches prior to the crisis and that a large part of the dramatic rise in spreads has been the elimination of this mispricing."

Three conclusions are drawn:

• Many banks are now insolvent. "...many major US banks are now legitimately insolvent. This insolvency can no longer be viewed as an artifact of bank assets being marked to artificially depressed prices coming out of an illiquid market. It means that bank assets are being fairly priced at valuations that sum to less than bank liabilities."

• Supporting markets in toxic assets has no purpose other than transfering money from taxpayers to banks. "...any taxpayer dollars allocated to supporting these markets will simply transfer wealth to the current owners of these securities."

• We're making it worse. "...policies that attempt to prevent a widespread mark-down in the value of credit-sensitive assets are likely to only delay "“ and perhaps even worsen "“ the day of reckoning."

Update: Critics of the study argue the authors only looked at the most liquid portions of the toxic asset portfolios, thus missing the problem they claim to be studying.  From this brief critique, they seem to have a point.

Michael Rozeff looks at the paper's findings in the context of Austrian economics, and concludes that in fact, Geithner and company are delaying a recovery in lending, as bankers are frozen in a game of chicken, hoping to make things bad enough to attract government subsidies without making them so bad the institution fails before subsidies arrive.

By contrast, the Austrians, as well as other financial analysts, have argued from the outset that the basic problem is not liquidity of the financial system. The argument on the Austrian side is that the banks and other financial institutions have not been in trouble because there is not enough liquidity to buy their loans. They are in trouble because they made bad loans that are worth far less than their values as carried on the banks' books. The banks are often insolvent. Furthermore, these banks do not want to and refuse to sell these loans at the low values to get the liquid funds they want. They are playing politics. They are getting a better deal (a) by shifting some of these loans to the FED in return for Treasury securities, and (b) getting bailed out by taxpayer funds.

In the Austrian interpretation, the banks have waited while the government came up with various devices to bail them out with other people's money. The latest is the Geithner PPIP that uses an FDIC guarantee to private parties to buy the bank loans at prices above market value. In the same vein, the accounting regulatory authority known as FASB has just allowed the banks leeway not to carry these bad loans at their market value by voiding the mark-to-market rule.