demandside

Plus stimulus (cont.) and a long and long overdue look in our mailbag……Forecast Friday without a forecast.

Since Demand Side does better with economic forecasting than political forecasting, while at the same time, the policy direction is an important component of any outlook, we are withholding our updated forecast until next week.  We’ll give you a list of pluses and minuses that will be in the mix in a moment.

First today’s lineup — After the pluses and minuses, a continuation of the discussion of the prospect of stimulus, particularly addressing the question of whether you can have stimulus that is paid for, or do we have to go further into debt?

Followed by the mailbag.

Followed by the report on our Demand Side speculative portfolio.

Now.  The next forecast may or may not need to factor in the positive effect, which we’ve detailed before, of a Democrat in the White House.  We can predict one thing.  If a Democrat is elected, the unemployment rate will drop after the first year.  This is the nearly universal experience of the labor market under Democrats, a drop year after year in unemployment.

Many economists and financial observers — most, in fact, by far — do not look at the politics.  There is no column on the spreadsheet.  This is how pro-growth can still be assumed as a Republican attribute in spite of the low-growth experience with the GOP.  But here’s our look at the pluses and minuses that will be informing next weeks forecast.

In the plus column:

• dropping energy prices
• apparently there will be early action on a stimulus/recovery program
• there is good support for increased infrastructure spending
• a home owners loan corporation will be put in place.  Both Obama and McCain support something along these lines.  McCain’s idea is to buy up mortgages at full value and this would likely not fly.  The logical alternative is the New Deal style, where mortgages are bought at discounts.  This is what will be passed and McCain would no doubt sign.

Should Obama be elected, you could add

• rationalized health care will be on the horizon
• a service corps may be an early help to employment
• a home owners loan corporation of appropriate dimensions will be in place.
• dramatically higher spending on infrastructure
• a fundamental rebuilding of the financial architecture from the ground up.

Now, the minuses

There is an ongoing credit crunch

Tremendous losses in financial assets have yet to be realized

The fallout from the financial sector has not hit the real economy.  That is, the housing bust set off the first quarters of the recession; the financial sector meltdown followed; but the credit freeze and the full impact of the consumer retrenching have not yet hit.

The consumer is dead

The dollar is stronger, strangling the export market

fuel prices are erratic

interest rates are erratic

farm prices are collapsing, which will send the farm states into a tailspin

the financial crisis has been a huge distraction from other priorities, including global warming.

the current condition of infrastructure is weak.

international trading partners are getting hammered

no coherent trade regime/currency exchange system is in place.

Fed policies to date have been futile, but have compromised the central bank’s balance sheet.  Hopes for a new consumer bubble arising from lower interest rates or potentially reduced reserve requirements will never happen

You can see our previous forecasts at DemandSide one word dot net.  Remember when you look there that our calls for negative growth and high unemployment came at the same time many others, including the Fed’s governors were predicting the potential avoidance of a recession.

The consensus forecast is now dismal.  We may surprise to the upside, you never know.

MUSIC

Now back to stimulus

Among the casualties of the failure of the last stimulus package has to be Larry Summers, who arrived on Capitol Hill during the height of concern with the stone tablet and the three commandments:  Targeted, Temporary, Timely.  Summers was the successor to Robert Rubin as Treasury Secretary under Bill Clinton.  He then went off to Harvard to be head man.  One or another episodes led to an early time from that position.  He now appears at Congressional hearings and academic symposia as one of Harvard’s select University Professors.

He got the timely and temporary, though it is less clear about the targeted.

The staging was perfect, the Congress acted swiftly, the checks were in the mail in a bare three months.  We should have been suspicious, however, when the most ardent supporter of the measure turned out to be George W. Bush.

I understand the rebate checks were precisely what Ben Bernanke would have suggested.  In fact, I heard yesterday that in Bernanke’s academic career he was known as helicopter Ben, for suggesting that money from helicopters was a good way to avoid depression.

You have heard us use the phrase “dropping checks from helicopters,” but we must admit we did not know this was the actual recommendation of Mr. Bernanke.  Perhaps he thought it was similar to John Maynard Keynes’ famous example, of burying ten pound notes in bottles and hiring people to dig them up.  Not similar enough.  At least with Keynes, you have a job to begin the cycle with.

Back to Stimulus One passed in February, signed in February, implemented starting in May.

As you heard here before it happened, the business tax break component was pocketed with no comment, while the rebate checks themselves resulted in about forty cents of spending on the dollar.  The balance of the rebates was used to pay down credit, to save, to buy Chinese goods at WalMart, or just to offset the higher cost of fuel.

It’s hard to imagine a less stimulative use of the deficit unless, perhaps, you were to give insolvent banks tens of billions at low interest rates and call it equity, or something like that.

Competing with Summers three T’s in another hearing room at the Capitol were the three P’s — Permanent, Productive and Paid For.  We heard it from Congressman Brian Baird, though we cannot testify that he originated the three P’s.  The occasion was the report of a blue ribbon commission on transportation infrastructure.

The commission proposed the phase-in, at five cents per year, of a gasoline tax of — eventually — 83 cents per gallon.  The tax could provide $250 billion in infrastructure spending for roads, bridges, rail, and mass transit for fifty years.  That is what the commission figured would be needed to overcome past infrastructure neglect and produce a modern transportation system.

Had that plan been initiated, the nation would have $250 billion in infrastructure spending now in place and another $250 teed up for next year.  The cost of a gallon of gasoline would be only a dollar less.  Hundreds of thousands of people would be employed who are idle now.  Dozens and hundreds of companies would be ramping up for new bids rather than cutting staff.

I call this costless, even though there is a gas tax increase.  Costless because we are producing infrastructure that will substitute for imported oil.  Inasmuch as there is a supply-demand component to the price, the future price will be less than the non-infrastructure price.

Now imagine global warming.  Avoiding costs from global warming is no longer possible.  Our opportunity is past.  But we can avoid extinction.  The earlier we act on this, the better, the less costly, and the more sane.  We simply need the financial scheme to bring forward the survival premium to the present day.  Is that so much to ask?

If we can bring forward the cost of building a MacMansion on the tenuous cord of a subprime loan, we can bring forward the immense benefit of saving the planet on the rope of rationality.

Again, we are going to suspend our discussion of stimulus before we get too far into the tax question, because we need to pay tribute to our listeners.   We’ll pick it up again on Monday.  Many of you will be disturbed with one of my suggestions.  But that is then and this is

Now, too long delayed, the mailbag.

We’ve gotten some very nice e-mails, and we appreciate them very much.

Author : R McKenna

These are excellent articles about Keynes. Two other books worth looking at on Keynes are:

Donald Moggridge, “John Maynard Keynes: An Economist’s Biography” (1992)

Donald Markwell, “John Maynard Keynes and International Relations: Economic Paths to War and Peace” (2006)

The latter is especially topical - highly relevant to the present crisis, and (for example) Keynes’s thinking about the need for international coordination of economic policies, and the development of international economic institutions. Should be essential reading for the global economic summits/’new Bretton Woods’.

Hello Alan,

I continue to listen to your podcasts.  I like them very much. I always learn something about economics.

I thought I would like to share with you a link to this page: http://www.archive.org/bookmarks/siliconchip

There you can find access to 5 talks given by Mr. Joseph Stiglitz about Globalization.  You can hear the audio as a stream or download them to your PC.

I think I heard you say once that you had a problem with the bandwidth limit for your podcasts. If you are interested I think you can upload your audio files to www.archive.org where they will be hosted without charge and I think without bandwidth limitations. You can also choose if you want to give it any special license.

Have a good day.

Paul

I would like to recommend the podcasts (especially those from early June) to my friends .. but they seem to be missing.

Hoping this is a simple oversight and not intentional ..

Keep up the good work,

- Roger Humphrey

Alan,

Just wanted to send a quick thank you for your enlightening podcasts!  Your work has done much to broaden my awareness and win me over to the demand side.

C

_________________________________________________

Christopher Conner, PharmD, PhD

You said the Dubai and London loopholes were closed. I  must have missed that on the mainstream media. Can you provide some reference for that? In light of Michael Greenbergers testimony that seems very significant.  Of course I just erased the podcast of his testimony after keeping it for so long thinking I might need to reference it.

Where do you go to get old podcast?

Here is something you might be interested in ;

http://www.kaisernetwork.org/health_cast/hcast_index.cfm? display=detail&hc=2484

The opening speaker is Uwe Reinhardt of Princeton who is a foremost thinkers on medical economics. I’d suggest to watch his talk via the video. He is a great speaker and it seems he is proposing universal health care in a demand side fashion that will make it like infrastructure rebuilding the next growth industry for our economy.

Thanks again for your podcast.  I do my best to spread the word.

George Balella MD

Great podcast as always. You need a greater audience. I will tell all 2 of my friends and push your podcast on all the sites I blog on ( liberal and conservative and classic liberal and neo-liberal).

Have you applied for a job with Barak Obama. Seriously the message you tell is not getting out by his campaign as far as I can tell.

A Princeton man I think I heard.  You must know of  Uwe Rheinhart then. I’m a Pediatrician ( that’s a doctor who didn’t go into it for the money) and Uwe spoke to us eloquently and re-assuredly of how nationalized health care is not only doable but will be a growth industry and will be a boom to the economy as entrepreneurs are more likely to strike it out on their own not changed to a job for health insurance reasons.  This message is just one of many you put forth that I’d love to see enter Barak national speeches.

Thanks again, George Balella MD

Mr. Harvey -

Given a $700 billion (min.) debt financing approach on a $15 trillion economy (U.S.), why not restart the fiat economy.

Q:  What would be the impact globally for all debt to be forgiven, as in the Bible:

Lev 25:10  And ye shall hallow the fiftieth year, and proclaim liberty throughout all the land unto all the inhabitants thereof: it shall be a jubilee unto you; and ye shall return every man unto his possession, and ye shall return every man unto his family.

I am no economist, but am curious what your response would be.

I listen to and enjoy your Podcast.  I think you do your country a great service.

Thank you.

But here’s a letter

from windy city

Mr Harvey,

I listen to every one of your podcasts. My beliefs are more in line with a Cato style liberal, but I do enjoy hearing and considering other points of view.

But simply replaying Bloomberg podcasts is below you. You can do better than that.

As a suggestion, the Jeffrey Sachs\’ Bloomberg interview could have been stopped in certain places for you to make points (or I suppose disagree with). Then at least there would have been ‘some’ content from you.

You\’ve had other podcasts from political hacks and the other 2 or 3 economists that agree with you that have been little more than an intro from you and a replay of other peoples work.

Simply replaying other peoples work and claiming it as your own is intellectually lazy and borders on plagiarism. It also lends itself well to jokes that the left wants to live off the work of others. And in this case it is true.

from Windy City

I appreciate this e-mail.  You can e-mail too at Alan@demandside dot net.

In this era of U Tube, rebroadcasting may be vaguely plagaristic, but

I do hope nobody thinks I taking credit for the economists that appear on the specials.  It is entirely for your convenience that I root these out from the various sources. I would add, too, that excerpting these voices from their original broadcast source is by no means an easy task.  You should compare, for example, the original Joseph Stiglitz to our edited version.  It is a matter of literally hours.  So plagarism?  I am giving, I hope, complete recognition to the voices.  I edit out the interviewers not to take credit for their work, but to shorten and focus the pieces.

That being said, I do take some encouragement to blather on myself more often.

As far as hacks who agree with me.  Yes, Roubini, Stiglitz, Soros, Schumer, agree with me, but no, they are not hacks.

One of the definitions of an economist is a person who can cogently tell you why what he predicted would happen didn’t.  And economists benefit greatly from a general absence of interest in calling them on their mistakes.  That is not necessary with the people you hear here.  Their calls have been affirmed by events time and time again.

I would like to add James Galbraith to this list and recommend you pick up his conversation with Bill Moyers last Friday on your iPod.

I condense them to make them useful, but I do not interrupt them because for the most part they are correct in my view, and who am I to interrupt Joseph Stiglitz?  or George Soros?  I let Jeffrey Sachs ramble on about Russia last week because I was among those who had misunderstood his assistance to that nation in the early 1990s and actually blamed him for the Shock Therapy that destroyed that great opportunity to move Russia into a mixed economy.

As to the joke about the Left wanting to live off the work of others.  I don’t know that joke.  It certainly is not much of a living.  You COULD send me money.

The purpose of Demand Side is to offer the perspective of this student of economics who has not drunk the kool-aid and continues to channel the orthodoxy of the New Deal and Keynesianism.  The bad news for the general, educated citizen is that the economics profession is a mess of Neo-Classical and Monetarist pap sponsored by an ideological aristocracy who show up at seminars and use mathematics and statistics on human behavior.  The good news is that you can learn more than these guys know in a very short time, since most of it is based on assumptions that are absurd and so they and the models they allow can quickly be eliminated from the reading list.

But speaking of making a living — and again, a sincere thank you to Windy City — let’s take a look at our funny money investment account.  One month ago, beginning actually on September 16, we took an imaginary $100,000 and began investing it in the markets.  We operated on the idea that the oil market was a bubble and we could invest on the downside.  Plus we are afraid that the fundamentals of the U.S. economy are so poor that the dollar might collapse.  And during the past two weeks we took some profits and bought GE on the idea that infrastructure is the only way out of an economic collapse.

So,

Security	No. Shares	Price	Date	Transaction Amount	Balance on Account	Security Description
					100,000
DDG: US	200	82.87	9/24/2008	(16,574)	83,426	ProShares Oil & Gas
DDG: US	200	82.87	9/24/2008	(16,574)	66,852	ProShares Oil & Gas
DUG: US	400	35.1	9/24/2008	(14,040)	52,812	ProShares UltraShort Oil and Gas
FXE: US	400	141.62	9/16/2008	(56,648)	(3,836)	CurrencyShares Euro Trust
DDG: US	-200	109.71	10/16/2008	21,942	18,106
GE: US	500	20.45	10/10/2008	(10,225)	7,881
DDG: US	-200	118	10/27/2008	23,600	31,481
DUG US	-400	56.8	10/27/2008	22,720	54,201
FXE: US	-300	125.39	10/27/2008	37,617	91,818
GE: US	-500	17.73	10/27/2008	8,865	100,683

This is Alan Harvey

from the Demand Side

Plus Wednesday’s Idiot of the Week:  Nina Easton of Fortune Magazine and Fox News with the black helicopters of Fannie and Freddie……….

Stimulus — the casual financial reporter in all media still suggests that the new federal stimulus package will be another rebate check.  I’ve heard it too often, in spite of the signals coming up from policy makers.  We believe that checks from helicopters having been tried once should not be repeated.

For one thing, a new stimulus package will be enacted in the aftermath of an election, not in the run-up to one.  For another, the last stimulus package did not work.  As we predicted at the time, there was more whimper than bang for the 160 billion buck.

We’re going to need as efficient a use of the stimulus money as possible, particularly considering tomorrow’s GDP number, which we predict will coil your socks to the downside.

But first, it’s Wednesday, time for Idiot of the week,

Nina Easton. She’s Washington editor of Fortune magazine, where she writes the Power Play column, and a political analyst for FOX News.

Here from On Point with Tom Ashbrook.  Jack here is Jack Beatty, senior editor at The Atlantic.  Mat is Mat Bai, political writer for the New York Times Magazine.

ASHBROOK

Better source is hearsay from an unnamed Obama economist in a personal conversation.

As long as there are deep pockets in the Radical Right, we’ll have blindness like this.

This blaming of Fannie and Freddie is a complete red herring, a paper defense to the sword of reality.  But more appalling is that this woman has a place at the table.  I have the same reaction watching the NeoCons who authored the blunder of Iraq appearing as experts on foreign policy.  The arsonist being featured in a seminar on fire safety.  Or less pejoritively and more accurately, an advocate of the flat earth debating with scientists, perhaps in front of a satellite picture of the globe.  These may be expensive and well-designed tinfoil hats, but they’re still tinfoil hats.

One wishes they would find a room with the LaRouchies and stop bothering the adults.

Idiot of the week:  Nina Easton

Now on to stimulus………… with audio from EPI’s Jared Bernstein and others testifying before the House Budget Committee.  Robert Pollin is an American economist and activist. He is a professor of economics at the University of Massachusetts-Amherst and founding co-director of its Political Economy Research Institute (PERI).  Then we look at a couple of recovery measures that increase demand without increasing the deficit.  That leads us into taxes.

BERNSTEIN

Plus Paul Volcker on the crisis, rebuilding from the ground up, an exchange rate stabilization idea, and the stimulus/recovery prospects…………………..

Bretton Woods II.0

The great hand wringing among economists these days is about unrealistic expectations for a new international financial order to replace the Bretton Woods agreement of 1944.  Politicians and peoples are panicking.  Economists are offering lame excuses.

It seems to us like this is a very do-able thing.

First, the old order has broken down, and the choice is between no system and a new system.

• There is panic in international markets and currency calamities occurring that emphasize that no stable exchange rate system exists.  The Bretton Woods I scheme was unilaterally abandoned in 1971 by Richard Nixon.
• The International Monetary Fund has long since abandoned its original mandate and morphed into an arm of Market Fundamentalism Inc.  Past interventions by the IMF have been to benefit Western financial interests at the expense of developing economies.  The IMF has been the foremost proponent of the so-called “Washington Consensus,” a pro-market, anti-government ideology that has not worked where it has been tried, in the U.S. or elsewhere.
• The dollar may be the only legitimate reserve currency standing at the moment, but that cannot last, since it is working for nobody except the U.S., and not very well for the U.S.

It is not as if the United States is benefiting from the existing scheme and all others are losers.  Far from it.  The free market fundamentalism that has devastated societies across the globe has also wrecked the American economy.  The American industrial base has been eviscerated by the flow of jobs to low-wage nations.

In Russia, just as the average citizen was lifting his head, he is beaten down again by collapsing oil prices.  In Brazil, enlightened macroeconomics are being wiped out by a run on its currency.  In Eastern Europe, South Korea, the Baltics, financial turmoil has triggered yet another flight of capital and another destruction of currencies.  Stock markets are being flattened.  Ironically the major sponsor of global free market fundamentalism — the IMF — is being looked to for help.  Absurdly, they are continuing to demand austerity as preconditions — measures that are so far out of touch that they are barely whispered as possibilities for the United States.

Against this backdrop, George W. Bush has called for an economic summit.  Or actually, these fundamental economic issues are hidden behind a backdrop of panic and confusion and despair and increasing hostility.

Three first three legs to a new economic order must be:

• A stable currency exchange regime.
• An end to the Washington Consensus’ tenet of free-flowing capital.
• A functioning international institution that benefits all nations.

Nothing to it, you say?

Consider.  This has to be the final straw for the floating exchange rate system, which has meant de facto dominance for the United States, since the dollar has become a so-called reserve currency, a note which everybody assumes will retain its value.  At the same time, and in the same stroke, developing nations so recently the targets of investment capital are now beggared as capital flows away.  In the free market the only way to influence the rate of exchange is by jumping in on the supply or demand side.  Such efforts are futile in the face of the tens of trillions in so-called hot money that flow every month.  Intervention in past crises has succeeded only in emptying central bank reserves.

This realization, that the current system has not, is not and cannot work, is the only necessary motivation to fix things.

A catalyst for this, and a good part of an eventual remedy, is the Tobin Tax.  It would be a big first step to stability, but only a first step.

Named for Nobel laureate James Tobin, an economic architect of the Kennedy and Johnson era, the Tobin Tax would levy a minute tax on financial transactions, including currency trades.  As small as one-tenth of one percent, such a tax would be incidental to legitimate transactions in the real economy, but would slow down the hot money drastically.

Why?

Because this free-flowing capital is itself seeking tiny differences in return from one country to the rest.  The “carry trade,” borrowing in one country and lending in another, is an example.  Unwinding the carry trade has unwound economic development.

Such a tiny tax, one tenth of one percent, would destroy the margins for money that is moved from one currency to another many times.  One estimate I saw was twenty times per year.  Since each transaction brings another imposition of the fee, twenty produces a two percent tax over the year.

Slowing down financial trading might make things more dull for computer screens from London to Singapore and Dubai to Wall Street, but it would only solidify real economies and trade in real goods and services.

As important for agreement to a Bretton Woods II.0, it would generate hundreds of billions of dollars in revenue.  Even such a tiny tax multiplied by the immense financial markets would mean a huge source of stabilizing capital for use in all manner of productive pursuits.  The tax would be paid by the financial sector, appropriately enough, considering the hundreds of billions flowing in to rescue them.  Plus, and as importantly, it would require an international cooperative arrangement of a breadth not seen before, but patently necessary — as demonstrated by the fiasco we are currently witnessing.

Some short of structured exchange rate scheme is also essential.  We must trade goods for goods through the medium of money.  Trade which involves immense deficits by the United States and surpluses by the other nations of the world is upside down, to the detriment of all.  The skilled manufacturing workforce of the U.S. was decimated by the cheap labor of nations whose governments insisted on surpluses.  These foreign nations are now outraged by the collapse of their export market — the American consumer — and the simultaneous collapse of equities and currencies.  The economic evisceration of the United States and the illusory wealth of the net exporters are now obvious as two sides of the same coin of debt.

Paul Volcker, former head of the Federal Reserve, mentions in TODAY’S EXCERPT FROM a recent appearance at the Women’s Economic Roundtable an exchange rate mechanism he worked on twenty-five years ago.  As I understand it, adjustments to currencies would be triggered by certain levels of excess reserves.

To be clear, currencies must adjust the price of their exchange in order to equilibrate the trade of goods.  It is the purpose of trade to move wheat to Asia and electronics to America, multiplied by the millions of products and hundreds of countries.  This is trade.  It is not trade to move Asian electronics to the U.S. and pictures of dead presidents on green paper to the vaults of Asian central banks.  But the latter has been the experience on net of the world since about 1980.

And also to be clear, as devastating as the floating exchange rate regime has been to many of the world’s economies, more devastating has been its brother, the free flow of capital.  The movement of vast amounts of often highly leveraged capital in and out of nations has been a basic tenet of the free market fundamentalists, as epitomized by the IMF.  This tenet has to be buried with the Washington Consensus.

Capital committed to a nation for projects or product development ought to be committed for more than overnight and in a form that does not morph in the middle of the project.  But as we see with the current headlong rush out of developing nations, this is not so.  Financial contracts treat capital as completely liquid.  The currencies are decimated, plans are cut in half, and nations are left to pick up the pieces.  The Tobin Tax is a dam against this wash of capital, but more stable structures ought also to be considered.  The institution required to administer the tax is the perfect institution to consider and implement a more structured exchange rate regime.

So.  A Tobin Tax:

1. Slows the destabilizing free wash of capital (and to some degree the radical variances in exchange rates)
2. Creates hundreds of billions in new revenues from an extremely broad base and an extremely low rate levied on financial actors.
3. Necessitates a forum for international economic cooperation that will have new legitimacy and an independent budget.

Voila:  Bretton Woods II.0

Plus Paul Krugman on Ben Bernank…………….

Paul Krugman received the Nobel Prize in economics this past month.  You may have noticed Krugman is not among the economists favored here on Demand Side, but we still think it was nice.

Here is an excerpt with Krugman and Fresh Air’s Terry Gross.

Yes, the crisis is far bigger than Bernanke is able to deal with by giving money to banks.  We notice with continuing dismay that there is a marked absence of enthusiasm at the Fed in supporting the real economy which gives value to the securities that are dragging us into the drain.

George Stephanopolis, George Will, David Gergen, Tom Friedman, Donna Brasil.

As an unreconstructed Keynesian, I am appalled by this discussion.

We ought to be arranging our financing apparatus to promote productive activity, making food, increasing plant and equipment, reshaping transportation infrastructure, educating people of all ages, and oh yes, protecting the planet from global warming.

Instead we are making out that the financial apparatus is telling us what to do.  The choices of the banking system and shadow banking system have created such chaos and damage that they have taken rational action off the table.  Or if not their blunders, action is prohibited by virtue of the extreme measures being taken to rescue these profligate banking insitutions.

It is absolutely vital to rescue policy makers and the public  from this kind of thinking.  Generate productive activity and prosperity will follow.  Allow the entrenched interests to paralyze us and nobody will survive.

Not making room on the list of priorities for prosperity, and even more centrally, not understanding that a collapsing economy will do nobody any good displays a foolishness that is masked almost completely by the personal reputations of these news anchors and the confusion of their audience.

It will not be enough for Obamanomics to work, it will also be necessary to explain clearly what is working and why.  Otherwise we will slip back into the all-too-familiar market knows best foolishness.  Look, Paul Krugman got a Nobel Prize, but for every Krugman there are three Myron Sholes or Robert Lucases or Robert Mundels.

In any event, it will not be enough for Obamanomics to work.  It will be equally necessary to be able to explain clearly what is working and why.  Inevitably public works spending will generate jobs and consumer demand will pick up.  At that point the free marketeers will say, “We can take it from here.  We’ve learned our lesson.  Things are different now.  We’ll be good boys.”  Hell.  They’re already saying it.

FOOL

Inevitably the call will go out to shut down the public sector, so the responsible folks in the private market can again create their Hummers and one dollar hamburgers and so on.  The excesses of the freeforall market may have been extremely costly, but we need it in order to have an efficient economy.  This is what happened after the reforms of the New Deal.  There was an insistent, persistent pushing to dismantle the market structure of Glass-Steagall, for example, which has led us right back into the same chaos and apparently with even less idea of how we got here than in the Great Depression.  Social Security and public works spending are to this day anathema to House Republicans, whose campaigns are funded by market fundamentalist ideologues.

Economics as a discipline must also be held to account, yes.  The utter failure of the supply side nonsense must be exposed and realized.  The massive economic failure is not an accident or a minor blip or something that might have been avoided if one or two evil-doers had been put in their places.  It is an inevitable result of bad economics, which has allowed markets to be structured by their participants and government to be regulated by those who ought to be the regulatees.

Unfortunately, although market fundamentalism is dangerous and wrong, it is familiar and easy to explain.  In order for necessary public support to be mobilized, it will be necessary for the alternative demand side economics to be widely understood.  This is not so easy.  In fact, although economists had enormous prestige coming out of the Great Depression and World War II, it was not because people understood very well the principles they were practicing.  It was, in fact, the absence of broad comprehension that paved the way for the demagoging of the New Deal and Keynesian economics and the return of the classical and monetarist BS in the 1970s and 1980s.  Managing aggregate demand had worked to produce the most prosperous society in human history, but those who ran the economy could not or would not explain what was going on sufficiently to counteract the simplicity of the Reagan Revolution.

Taxes bad, regulation bad, government bad, corporations good.  Easy to understand.  Leas to tens of trillions in debt and a dilapidated economy, but easy to understand.  The why of the reverse has to be understood.

Rather than pick apart the confusion here, let us examine the purpose of a stimulus or recovery program.  Recovery efforts need to stablize and hopefully increase aggregate demand.  Because demand determines supply.  As we’ve said previously, this will not happen with a new consumer bubble because the consumer has been destroyed by the past consumer bubbles.

Focus is now on a public works, aid to states and help to the unemployed type of stimulus.  This is a much better idea than the checks from helicopters stimulus and much, much better than tax breaks for businesses.  Effective demand will stimulate supply, but no amount of better plant will create a sale.

A dollar of investment can generate much more than a dollar in increased demand because of the interrelated nature of our economy as described by the multiplier.  A dollar spent on capital gains tax reduction will generate less than forty cents of demand.  A dollar spent on extending unemployment benefits will generate more than one dollar seventy of demand.

In the first case the multiplier is point four.  In the second 1.7.

The multiplier works because the person who gets the first dollar spends it and it becomes income to a second person who spends it, and so on.

The reason the first bailout didn’t work is the person who got the first dollar paid down her credit card, put the money in savings, bought cheap goods from overseas suppliers, or just put higher priced gasoline in the tank.  The first two generated no increase in economic activity, because there is no economic activity involved in saving.  The second two generated a boost, but for China and the oil producers.

Infrastructure spending is high multiplier because it spends one hundred percent of the first dollar on American jobs.  The subsequent rounds of spending are deeper.  Rather than spending one hundred percent of his income on saving or discretionary spending, a job-holder spends on the whole spectrum of economic activity, from house payments to day care to groceries and so on.

Further, insofar as infrastructure improves the efficiency of the economy, that efficiency improvement is a gain to private actors.

Aid to states and local governments is a way of preventing the multiplier from acting on negative numbers.  These levels of government are not able to run deficits, so they are scaling back, and yes, each dollar of job cuts is multiplied.

Here’s a good tax cut offset by a good tax:  A one dollar per gallon tax on gasoline that is offset by a one thousand dollar reduction in payroll taxes per year.  That is, no net tax increase on the individual, but a change from taxing payroll to taxing gasoline.  If you wanted to, you could use your tax cut in payroll taxes to fund your tax increase in gasoline.  But of course, people would prefer to use their money for something else.

Why is this a good tax?  It is not only the evniromental benefit of reducing gasoline consumption.  Oil is a resource that is imported, or even if domestic, is not particularly labor intensive.  Insofar as we shift from paying the owners of energy resources to doing something else, we are shifting income from the passive to the active and from the sidelines to workers and jobs and the demand that pulls the economy forward.

I bring up this good tax here to introduce other measures of increasing economic output that do not involve net borrowing that we’ll look at next week  The nonsense at the table with George Stephanopolis includes that even the highest income folks should not face tax increases.  We’ll visit that next week.  Suffice it to say here that the class distortions now in place offer plenty of opportunity for revenue that will not reduce economic activity.

But here’s a letter

from windy city

Mr Harvey,

I listen to every one of your podcasts. My beliefs are more in line with a Cato style liberal, but I do enjoy hearing and considering other points of view.

But simply replaying Bloomberg podcasts is below you. You can do better than that.

As a suggestion, the Jeffrey Sachs\’ Bloomberg interview could have been stopped in certain places for you to make points (or I suppose disagree with). Then at least there would have been ‘some’ content from you.

You\’ve had other podcasts from political hacks and the other 2 or 3 economists that agree with you that have been little more than an intro from you and a replay of other peoples work.

Simply replaying other peoples work and claiming it as your own is intellectually lazy and borders on plagiarism. It also lends itself well to jokes that the left wants to live off the work of others. And in this case it is true.

from Windy City

I appreciate this e-mail.  You can e-mail too at Alan@demandside dot net.

In this era of U Tube, rebroadcasting may be vaguely plagaristic, but

I do hope nobody thinks I taking credit for the economists that appear on the specials.  It is entirely for your convenience that I root these out from the various sources. I would add, too, that excerpting these voices from their original broadcast source is by no means an easy task.  You should compare, for example, the original Joseph Stiglitz to our edited version.  It is a matter of literally hours.  So plagarism?  I am giving, I hope, complete recognition to the voices.  I edit out the interviewers not to take credit for their work, and I hope I acknowledge all of these shows, but to shorten and focus the pieces.

That being said, I do gather these voices here because am lonely.  And from this side of the microphone it sounds like I am blathering on forever.  I am happy to be encouraged to do more of it.  In fact, it is far less time-consuming.

I also put Roubini, Stiglitz, Soros, Schumer and the others up because not only do they agree with me, but they have a track record of being right.  I condense them to make them useful, but do not interrupt them because for the most part they are correct in my view, and who am I to interrupt Joseph Stiglitz?  or George Soros?  I let Jeffrey Sachs ramble on about Russia last week because I was among those who had misunderstood his assistance to that nation in the early 1990s and actually blamed him for the Shock Therapy that destroyed that great opportunity to move Russia into a mixed economy.

But I am accepting the point.  We will suppose you can find these on your own and don’t need my Readers Digest version of them.

As to the joke about the Left wanting to live off the work of others.  I don’t know that joke.  It certainly is not much of a living.  You COULD send me money.

The purpose of Demand Side is to offer the perspective of this student of economics who has not drunk the kool-aid and continues to channel the orthodoxy of the New Deal and Keynesianism.  The bad news for the general, educated citizen is that the economics profession is a mess of Neo-Classical and Monetarist pap sponsored by an ideological aristocracy who show up at seminars and use mathematics and statistics on human behavior.  The good news is that you can learn more than these guys know in a very short time, since most of it is based on assumptions that are absurd and so they and the models they allow can quickly be eliminated from the reading list.

But speaking of making a living — and again, a sincere thank you to Windy City — let’s take a look at our funny money investment account.  One month ago, beginning actually on September 16, we took an imaginary $100,000 and began investing it in the markets.  We operated on the idea that the oil market was a bubble and we could invest on the downside.  Plus we are afraid that the fundamentals of the U.S. economy are so poor that the dollar might collapse.  And during the past two weeks we took some profits and bought GE on the idea that infrastructure is the only way out of an economic collapse.

So,

DDG US is up 35 percent since 9/16.  We sold half of our stake to get the GE.  That is a short oil and gas company ETF.  DUG US, an ultra-short oil and gas ETF is up 56 percent over the month.  Our FXE:US, a dollar short ETF is down nine percent, but it is a great portion of our funny money holdings.  And the GE we bought two weeks ago is off eleven percent already.  Starting with 100,000, we are up fifty-three hundred and sixty-eight dollars in realized gains and our portfolio is worth $101, 648, and we still have about twenty-five hundred in cash.

We are up over eight percent for the one month, although to demonstrate the extremely speculative nature of this game, you should note that is about two percent less than this morning..  We’ll be cashing out of the short oil between now and $50 per barrel and we’ll tell you how it goes it two weeks.

Bernanke has bet the house, we hope his theory is right.  But it likely is not.

oday, Idiot of the week, Ben Bernanke.

Audio from his speech to the Economic Club of New York last week.

Bernanke looks not so much like Baffled Ben as I have called him, but more like Pall Bearer Ben in the CSPAN video.

BERNANKE

Enough.  I probably let that go on too long, but it is fascinating how Bernanke’s dry Fedspeak cannot conceal the increasing momentum of the financial unraveling.

“Now has the tools.”

I have the recurring image of a bridge that has collapsed.  With all the derivatives, credit default swaps, hedge fund schemes, and the rest, 30-to-1 leverage was just not enough.  The bridge collapsed under the weight of bad securities and bad practices predicated on a housing bubble.  The enormous leverage ratios are coming back down on them in a multiplied seismic event.

To say this is a crisis of confidence is something like saying we should cross the bridge even though it has collapsed.  Papering over the current mess or throwing up a few struts against its weakest members is like putting plaster over the cracks.  It is not very convincing.

Confidence has been lost and continues to be lost because these institutions are opaque with regard to their real financial positions.  They don’t trust themselves is what the interbank lending rate is telling us.  Why should we trust them?

It is not a crisis of confidence, it is a crisis of structural damage that needs to be repaired, or rather a market that needs to be restructured to a more sound design.  The current scheme of government props and combining failing banks with larger banks is a practice of lashing a crumbling column to its neighbor and saying that makes things stronger.

What we need is a bridge of many support columns spaced to share part of the load.  What we are getting is a span supported by a few huge pillars of uncertain strength.

And this does not even address the shadow banking system.  AIG was an insurance company that wrote gargantuan sums of credit default swaps, unsupported insurance on financial events that have now come to pass.  There is a dark forest of unregulated hedge funds and private equity funds which will unwind with perhaps devastating consequence.  They are not yet mentioned by the Fed and Treasury.

As for the so-called novel aspects of the crisis, the complexity of the financial instruments and the speed of light that connects the world.  These are the problem only insofar as the complexity and the speed involve opaque instruments and unregulated markets.

Bernanke and Demand Side have two different views of acting quickly.

The Fed Chairman claims that he acted quickly, although somewhat later he mentions that he waited until all other options were exhausted before condoning direct government intervention.

The acting quickly part is his so-called “classic tenets of central banking” practice of injecting liquidity and cutting interest rates.  This is classic only for the past twenty years, when Maestro Magoo, Alan Greenspan, used a river of cheap money to wash away every negative economic event.  Prior to Greenspan, Volcker ignored the S&L’s (and actually contributed to their downfall) when he restricted the money supply to combat inflation.  Both are monetarist solutions, and neither solves anything, but only kicks the can down the road.

The Volcker experiment created enormous unemployment on the front end and the S&L debacle on the back end.  The current Greenspan/Bernanke sequence of monetary expansions has — as attested to by George Soros and many others — led directly to a sequence of financial bubbles.  Ever bigger bubbles which are now collapsing.

The word “classic” in Mr. Bernanke’s speech, should be corrected to “modern.”  Prior to Volcker, Greenspan and Bernanke, the Fed was relatively subdued.  And we must notice that prior to these three the trend growth of the economy was twice what it has been since.

In the very distant past, the enormous stresses of transition from war to peace under Harry Truman, which included inflation pressures greater than any we have seen since, was accomplished with no — zero — monetary tools.  Monetary policy was closely held by the administration and closely linked with fiscal policy until the Treasury Accord of 1951, which extracted sovereign control of monetary policy for the unelected Fed.

We will say that Bernanke acted quickly, but quickly in doing the wrong thing.  It was obvious from the beginning that banks had been crippled by their own hand and that the system needed to be recapitalized.  You will remember Paulson waving in the sovereign wealth funds in the fall of 2007.  Demand Side wondered at the time why the US sovereign wealth fund didn’t move in.

And Bernanke is admitting here that his riding to the rescue did not rescue anything.  But he is not deterred.  Fannie and Freddie, Lehman, AIG, TARP, etc., etc.  Perhaps his best line of the evening from Bernanke is the “we will not stand down” line.

RECAP 30

Bernanke’s academic and professional reputation lie with the theory that saving the banks will save the economy.  Many politicians during the recent rush to TARP were impressed that this man was a great expert on the Depression.  That was a naive attitude, because it did not understand that Bernanke’s theory has not been tested, and it is far different than the remedies applied by those on the ground during the Depression.

During the first 100 days, FDR and his brain trust required bad banks to close, all banks to be subject to regulation and transparency, and only then the good banks were recapitalized.  And then, and even then, the economy did not recover simply because banks returned to solvency and started lending again — the Paulson/Bernanke line — but recovered only after the Roosevelt Administration applied fiscal recovery programs for jobs, public works, and ultimately because of the fiscal shock of the Second World War.

So we do not share Mr. Bernanke’s confidence that,

RECAP 130-147 Hoisted from Comments: Kaleburg: Grasping Reality with Both Hands: The Semi-Daily Journal Economist Brad DeLong: Re: “There is a serious misconception among many macroeconomists that this is a replay of the events that triggered the Great Depression. We don’t have a liquidity crisis, we have a trust crisis brought on by an overabundance of inscrutable financial instruments.”

If you actually look at the Great Depression, it started with a liquidity crisis [in the fall of 1929], but [that soon came to an end, and] through the 1930s there was more than twice as much money sitting around in T-bills getting 0.8% as there was money running up real estate and stock prices in the 1920s. While the main fear in the 1930s was that the weak recovery would collapse, there was a real fear that this money might fund a new bubble from which recovery might be unimaginable. We are still in late 1929. Secretary Mellon, in his annual fiscal statement, was quite optimistic despite the 15% drop in housing starts. He didn’t have the advantage of hindsight either.

I’m with the dead parrot theory. Preserving zombie banks is a waste of money. If the problem is credit, the government should provide credit, not prop up obsolete credit organizations.