IPE at UNC

Midweek Links

2009-11-10T10:51:00.001-05:00

Posting has been light as deadlines mount. But I want to keep the lights on, so here are some links:

-- Social scientists are under attack in Iran, by UNC-CH Sociology professor Charles Kurzman.

-- Seymour Hersh on nuclear security in Pakistan.

-- The rise of East(ern) Germany?

-- A&L Daily has all the 1989 links.

-- A photoessay on lithium mining in Bolivia, which is used in making the world's batteries. Alex wrote about this a few months back.

-- Stiglitz: The global recession is not over.

-- Tyler Cowen on the importance of stories. I wonder how this would fit in with the burgeoning diffusion literature?

FYI

2009-11-08T18:27:00.002-05:00

For those in the area, Fareed Zakaria will be speaking to the Triangle Institute for Security Studies tomorrow on Duke's West campus. More info here.

Also, UNC will be hosting the annual meeting of the Peace Science Society Nov. 20-22. Some big names and interesting papers, and a lot of overlap with IPE. Info (including a schedule and list of papers) here.

Cuban Authorities Harass Blogger

2009-11-07T15:51:00.002-05:00

Yoani Sanchez, a well-known Cuban blogger who runs Generation Y, a blog that has become a thorn in the side of the Cuban government, was detained and harassed by Cuban authorities yesterday in Havana. She relayed the experience on her blog this morning:

Near 23rd Street, just at the Avenida de los Presidentes roundabout, we saw a black car, made in China, pull up with three heavily built strangers. “Yoani, get in the car,” one told me while grabbing me forcefully by the wrist. The other two surrounded Claudia Cadelo, Orlando Luis Pardo Lazo, and a friend who was accompanying us to the march against violence. The ironies of life, it was an evening filled with punches, shouts and obscenities on what should have passed as a day of peace and harmony. The same “aggressors” called for a patrol car which took my other two companions, Orlando and I were condemned to the car with yellow plates, the terrifying world of lawlessness and the impunity of Armageddon.

I refused to get into the bright Geely-made car and we demanded they show us identification or a warrant to take us. Of course they didn’t show us any papers to prove the legitimacy of our arrest. The curious crowded around and I shouted, “Help, these men want to kidnap us,” but they stopped those who wanted to intervene with a shout that revealed the whole ideological background of the operation, “Don’t mess with it, these are counterrevolutionaries.” In the face of our verbal resistance they made a phone call and said to someone who must have been the boss, “What do we do? They don’t want to get in the car.” I imagine the answer from the other side was unequivocal, because then came a flurry of punches and pushes, they got me with my head down and tried to push me into the car. I held onto the door… blows to my knuckles… I managed to take a paper one of them had in his pocket and put it in my mouth. Another flurry of punches so I would return the document to them.

From CNN, via Raices de Esperanza (Roots of Hope), a US-based non-profit, non-partisan organization, founded in 2003 that through cultural and academic initiatives, seeks to unite Cuban youths living on the island with those living in the United States:

Before agents released Sanchez, they warned her that her writings had gone too far, the nonprofit said. Freedom of speech is limited in the island nation, where media are controlled by the government.

Earlier this year, the blogger was named one of the world's 100 most influential people by Time magazine. The government barred her from traveling to New York in October to receive a journalism award.

This should serve as a reminder to how lucky we are to essentially be able to write what we want, when we want without being harassed by government officials, whereas in Cuba, just 90 miles south of the Florida Straits, the same freedoms aren't available.

The OECD in Nominal Spending Perspective

2009-11-06T22:29:00.004-05:00

The above picture, from David Beckworth, is shocking. It shows that nominal spending (total demand in an economy) among OECD countries had a jarring drop last year, and that this is the proximate cause of the economic slowdown. (For a short post on why nominal spending matters, see this post). Beckworth is arguing that the Fed screwed up majorly by targeting inflation rather than spending, and is still making the same mistake.

Krugman hates this, although he admits it' power with this parenthetical: "monetary policy doesn’t matter (unless it can affect expected future inflation, but that’s another story)". BUT THAT IS THE STORY! As Beckworth writes:

If an economy is running at full employment, then any sudden increase or decrease in nominal spending will give rise to changes in real economic activity that are not sustainable. This is because there are numerous rigidities that prevent prices from adjusting instantly. There is simply no way to suddenly jar nominal spending (i.e. create a nominal spending shock) and not have real economic activity move as well.

Note that the key here is not to aim for inflation stability, but to aim for nominal spending stability. This is because inflation is merely a symptom of nominal spending shocks.

Krugman tries to trump this as he always does, by saying that in a liquidity trap monetary policy cannot get any traction. But it can if it commits to a certain nominal target over time. This is what Scott Sumner has been saying since his first post (and he does not disappoint in his response to Krugman). And as the Free Exchange blog argues, Krugman cannot possibly prove that the central bank is powerless when they haven't even tried to affect inflation expectations. Instead, the Fed has repeatedly sounded hawkish when it comes to inflation. If Bernanke came out tomorrow and said "inflation is soon going to spiral upwards, and there's nothing we can do about it" then present spending would almost certainly jump. Instead, the Fed is committing to holding inflation down when if anything it should be committing to holding it up. Given the Fed's anti-inflationary history, this commitment is viewed as credible. Faced with that reality, spenders are quite rationally holding on to cash, and this has depressed the economy.

In other words, Krugman is arguing that something that hasn't been tried cannot succeed. But there are very good reasons for thinking it can: if the Fed were to make a commitment to future nominal spending (or even explicit inflation targets), it would move money in the present. If money moves in the present, then nominal GDP goes up. If nominal GDP goes up, then the economy grows back into full employment.

I Don't Think This Means What You Think It Means

2009-11-06T13:59:00.003-05:00

Trade skeptics Eyes on Trade noticed that wages decline during a recession:

On Nov. 3 the U.N. agency on labor, the International Labor Organization (ILO), released a 15-page report finding that real wages fell in countries around the world, including the U.S. and some other wealthy nations, raising questions about whether workers are sharing in any global economic recovery.

The report included data from 35 countries, and found that monthly wages have fallen almost 2 percent in the U.S. since January 2009. The ILO found that inflation-adjusted wage growth fell sharply around the world in 2008 to 1.4 percent, down from 4.3 percent in 2007, and wages continued to fall in a number of countries in 2009.

This continuing drop in real wages around the world illustrates the need for trade policies and agreements that protect workers’ rights and prevent a further “race to the bottom” in global wages.

So first of all, this means that real global wages actually increased in 2008, though at a slower rate in 2007. And it is not surprising that wages fell during a global recession in 2009. Why? Well, what is a recession? It is a drop in economic output. In other words, the world produced fewer goods and services in the first half in 2009 as it had before. The IMF projects that global GDP for all of 2009 will be negative 1.1%. When output goes down, employment goes down. When employment goes down, so do wages.

More importantly, this has nothing to do with a "race to the bottom" in wages. Wages aren't down because states are trying to lure foreign capital by weakening standards; wages are down because economic activity is down, full stop. A "race to the bottom" story would have to show that real wages declined even as output increased. The U.N. report cited by EoT contradicts this story by demonstrating positive wage growth in 2007 and 2008 (years in which output increased), as does this ILO report (pdf).

The truth, of course, is that "race to the bottom" narratives are too simplistic: exposure to trade affects different states differently, affects some standards differently than others. In most cases, trade exposure improves labor standards (perhaps through a "California effect"). But in terms of wages, on average workers in export-oriented industries get higher wages whether they work for locally-owned firms or MNCs. (Dr. Oatley discusses this on pp. 366-372 of his textbook.)

Roubini: Expect Another Financial Collapse

2009-11-06T12:22:00.004-05:00

Last February (and again in May) I wrote about the intertemporal carry trade on the dollar being undertaken by the Obama administration and the risks associated with that. Nouriel Roubini has taken that ball and run with it:

Let us sum up: traders are borrowing at negative 20 per cent rates to invest on a highly leveraged basis on a mass of risky global assets that are rising in price due to excess liquidity and a massive carry trade. Every investor who plays this risky game looks like a genius – even if they are just riding a huge bubble financed by a large negative cost of borrowing – as the total returns have been in the 50-70 per cent range since March. ...

So the combined effect of the Fed policy of a zero Fed funds rate, quantitative easing and massive purchase of long-term debt instruments is seemingly making the world safe – for now – for the mother of all carry trades and mother of all highly leveraged global asset bubbles. ...

But one day this bubble will burst, leading to the biggest co-ordinated asset bust ever: if factors lead the dollar to reverse and suddenly appreciate – as was seen in previous reversals, such as the yen-funded carry trade – the leveraged carry trade will have to be suddenly closed as investors cover their dollar shorts. A stampede will occur as closing long leveraged risky asset positions across all asset classes funded by dollar shorts triggers a co-ordinated collapse of all those risky assets – equities, commodities, emerging market asset classes and credit instruments.

Here's how this basically breaks down: because U.S. interest rates are so low while the dollar is falling, investors can borrow dollars and sell them for other assets, thus making a tidy profit for doing basically nothing. Roubini's point is that these "other assets" are risky assets across the globe, and the increased demand for them has created a bubble that will necessarily reverse when the dollar stops falling. This assumes that the prices of these risky assets -- equities, commodities, etc. -- are inflated, and there is a lot of room to fall when the dollar rises (and indeed, that the dollar is currently under-valued or close to it).

But considering that asset prices are still well below their peaks, it is possible that there is still slack in the system, and the increased demand for these assets reflects some of that slack being tightened. In other words, the return of demand for risky assets reflects sentiment that Roubini describes as "We avoided a near depression and financial sector meltdown with a massive monetary, fiscal stimulus and bank bail-outs. Whether the recovery is V-shaped, as consensus believes, or U-shaped and anaemic as I have argued, asset prices should be moving gradually higher." Roubini sees this rise as precipitously steep rather than gradual. He may be right. But it's not clear that we should freak out just yet. Asset prices dropped much more than they probably should have last fall, and the dollar rose much more than it should have. Part of this is a simple correction. Couple that with the fact that the global economy has stepped back from the precipice, and there are good reasons for the rapid bounce-back in asset markets that we've seen.

To be sure, there is a real danger that we'll overshoot again. But Roubini expects "the biggest co-ordinated asset bust ever" yet asset values remain somewhat depressed. And while it's true that the value of the dollar cannot fall to zero, as Roubini says, it is similarly true that all asset value cannot fall to zero. Even if we gave up all the gains made in March, we'd be right back where we were in March and the fall would be less severe than the Sept.-March collapse.

Another Downside of Limiting the Pay of Bankers

2009-11-06T11:20:00.003-05:00

A while back Alex and I went around on whether limiting the pay of bankers would make the system more stable. Jeffrey Friedman and Wladimir Kraus are asking the same question:

The real scandal of bankers’ pay contributing to the financial crisis is that nobody, literally nobody, has offered a shred of evidence that it did contribute to the crisis. Yet public opinion, the financial press, and the regulators have decided that it did, and drastic new regulatory policies are being constructed on that basis. Moreover, when we consult what evidence is known, it seems that bankers, far from deliberately courting disaster so as to boost their pay, unintentionally took risks that jeopardized their own wealth.

We can see some of the results in the huge hits taken by key bank executives, such as Richard Fuld of Lehman Brothers, who lost $1 billion by retaining his Lehman holdings until the bitter end. Sanford Weill of Citigroup lost half that amount. Ohio State economists Rüdiger Fahlenbrach and René Stulz have shown that banks whose CEOs held a lot of their banks’ stock fared worse in the crisis than banks with CEOs who held less stock. The CEOs who held stock in the riskier banks must have been ignorant of the risk, or they would have sold their shares.

Ignorance, not a perverse pay structure, also seems to have been at work at Bear Stearns. William D. Cohan’s "House of Cards" suggests that before losing about $900 million in stock when the bank imploded, Bear Stearns CEO James Cayne had no idea that anything was amiss. In fact, he was obsessed with the construction of a huge new headquarters building that would testify to the permanence of Bear Stearns, formerly the upstart of investment banks.

The available evidence seems to show that bankers were trying to be prudent:

Indeed, 93 percent of the mortgage-backed securities purchased by banks either were rated AAA or—better yet—were insured by Fannie Mae or Freddie Mac, with implicit federal guarantees. It turned out to be a mistake to trust the AAA ratings, but in making this mistake, bankers again demonstrated that they were not seeking short-term profits to boost their annual bonuses. Had that been the bankers’ aim, they would not have bought AAA-rated mortgage-backed bonds, which, being “safe,” paid a lower interest rate than AA- and lower-rated bonds. Bankers who were indifferent to risk because they were seeking higher return should have bought the more-lucrative, riskier bonds, but they did so only 7 percent of the time.

Alex might say "So what? The fact is that the crash happened, and now the government is on the hook for all these bad bets. Therefore the government should limit pay." My response is that it would depend: if the government assumed the contracts made by financial institutions, this should include compensation contracts as well. If the government didn't want to assume those contracts, they should have made that a condition of taking TARP money rather than re-writing the rules after the fact. There's a better case for limiting compensation contracts made after the government investment, but to my knowledge those are not the contracts under discussion.

Even more concerning to me is the fact that the internal practices of these firms have now become politicized. How is that a good thing for the firms themselves or the investment that taxpayers have made in them? Indeed, despite the president's assurances, we've already seen fairly drastic meddling in the auto industry which has led them to make poor business decisions for the sake of political expediency. Is that really what we want?

Finally, while none of us want to see another financial crisis, it will happen. When it does, we are now incentivizing banks to refuse any government assistance. This could make future crises much worse, and unnecessarily so. The government may also be handicapping itself: if it believes, or behaves as if it believes, that the real cause of the crisis was the incentives created by compensation contracts then it may miss an opportunity to reform the regulatory structure in other ways that could actually have positive effects.

How Effective Is International Law?

2009-11-03T21:47:00.004-05:00

It starts here (and with the Bloggingheads above), then here and here, then here, here, here, and ending (for now) here. The debate is centered on Posner's new book, The Perils of Global Legalism, which I have not yet read but which seems to argue that international law is generally not effective.

One interesting aspect of the debate is the players: Farrell is an international relations scholar, Posner is a lawyer. Posner is advocating more rigorous methodological inquiry by lawyers (e.g. applications of rational choice theory) while Farrell is warning of their limitations. Farrell cited Daniel Davies on the topic:

The Folk Theorem in game theory states that any outcome of a repeated game can be sustained as an equilibrium if the minimax condition for both players is satisfied. In plain language, it can be summarised as stating that “if we take strategic considerations into account, there is a game-theoretic rationale for practically anything”.

To which Posner responded:

I agree with Henry’s discussion of the limits of rational choice theory and so don’t understand why he thinks I commit the fallacies that he describes. It would be one thing if I said that states’ compliance with treaty X is consistent with rational choice because the folk theorem allows for cooperation, while states’ noncompliance with treaty Y is consistent with rational choice because the folk theorem allows for noncooperation. Or if I said that states comply with treaty W because they care about their reputations for complying with W but that states fail to comply with treaty Z because they don’t care about their reputations for complying with Z. But I never make such arguments, instead ruling out the first type of argument as uninformative and the second as circular. My account of international law is parsimonious, and the usual criticism directed at it is not that it can be manipulated so as to explain anything, but that in fact it fails to explain why certain legal regimes have been successful. So, for example, if in fact states do overcome a collective action problem and collectively sanction states that violate human rights, that is a problem for my theory, not something that I try to explain away by asserting that states have an interest in (say) having a good reputation for enforcing human rights treaties.

I'm not going to discuss this exchange more broadly because I don't have the time to do it justice, but this is the blogosphere at its best: two brilliant scholars, from different disciplines, arguing intelligently about real problems and real research. This is the "invisible college" that DeLong refers to. If you are at all interested in international law, human rights, state sovereignty, or high-minded debate, please read these posts.

You're So Vain, You're Prolly Think This Article Is About You

2009-11-03T16:05:00.004-05:00

Krugman and DeLong need to read more carefully. When Ned Phelps wrote "Keynesian economics, which had been nearly forgotten inside the macro field, has found new voices from outside" (bold added) he wasn't talking about them, unless they think that they are outside of macroeconomics. He was talking about non-macroeconomists who don't understand Keynes and misappropriate him to advance political agendas. Which is why he put "Keynesians" in sarcastic scare quotes.

Krugman says that "nobody, and I mean nobody" holds the position that fiscal stimulus is effective in all kinds of slumps. And yet here is Robert Reich a decade ago:

Keynes’ basic idea was simple. In order to keep people fully employed, governments have to run deficits when the economy is slowing. That’s because the private sector won’t invest enough. As their markets become saturated, businesses reduce their investments, setting in motion a dangerous cycle: less investment, fewer jobs, less consumption and even less reason for business to invest. The economy may reach perfect balance, but at a cost of high unemployment and social misery. Better for governments to avoid the pain in the first place by taking up the slack.

No discussion of monetary policy, or liquidity traps, or any of the conditions Krugman laid down. In fact, he applies the argument to Germany in the late-1990s, which was very far away from the zero-bound on monetary policy!

Want more? Here is Krugman accusing Keynes' biographer Robert Skidelsky of missing Keynes' best point (and in the process accusing Keynes himself of the same thing). And here is Brad DeLong saying that the Romers believe that "all types of fiscal stimulus are more potent than conventional estimates would lead us to believe" (in this paper, in which the words "liquidity trap" and "zero-bound" are not found, and monetary policy shocks are controlled for), but the period under study contains no occasions of a liquidity trap.

I could go on but the point is that many people, including some macroeconomists and many non-macroeconomists, do believe the things that Krugman says nobody believes and many other things besides. Phelps was talking about them, not Krugman or Mankiw.

Brad DeLong Spoke Truth and Wisdom in 2003

2009-11-02T02:49:00.004-05:00

And he reminds us today. Back then he was happy to espouse certain conservative traits which he hasn't recanted:

I begin from a different point, from the observations that we Americans alive today are all the recipients of an extraordinary and unmerited gift, an inheritance of institutions, principles, and organizations that is without peer anywhere on the world today and that is of inestimable value. We aren't independent liberal individuals making a social contract in the rational light of Enlightenment Reason. Instead, we are heirs who have received an enormous inheritance from our predecessors. As Burke wrote, we "claim and assert our liberties as an entailed inheritance derived to us from our forefathers, and to be transmitted to our posterity--as an estate specially belonging to the people." It's not a contract, or if it is a contract it is not one just between those alive today. Again, as Burke puts it, if you are to think of a social contract you have to recognize that it is not "a partnership agreement in a trade of pepper and coffee, calico, or tobacco, or some other such low concern, to be taken up for a little temporary interest, and to be dissolved by the fancy of the parties.... It is a partnership in all science; a partnership in all art; a partnership in every virtue and in all perfection. As the ends of such a partnership cannot be obtained in many generations, it becomes a partnership not only between those who are living, but between those who are living, those who are dead, and those who are to be born."

The rest of the post is more partisan, so your mileage may vary, but I think all of it is very good.

I should once again reiterate that this has major implications for immigration policy, which I consider to be the greatest civil rights issue of our day.

Happy (Belated) Halloween

2009-11-01T02:52:00.003-05:00

50k met at the corner of Franklin and Columbia tonight. A strong turnout, to be sure.

On a somewhat more serious note, Stephen Walt runs down a list of top 10 bogeymen in international politics in recent history. I'd add "terrorism" (defined broadly) to his list, which is a concern but not any sort of existential threat, but otherwise it's strong. And I think that the phobia of immigration is the most concerning and most pressing.

Is Iran Irrational?

2009-10-31T15:37:00.004-04:00

Jeffrey Goldberg passes along this quote from Yossi Klein Halevi:

In the last few years, Israelis have been asking themselves two questions with increasing urgency: Should we attack Iran if all other options fail? And can we inflict sufficient damage to justify the consequences?

As sanctions efforts faltered, most Israelis came to answer the first question affirmatively. A key moment in coalescing that resolve occurred in December 2006, when the Iranian regime sponsored an "International Conference to Review the Global Vision of the Holocaust," a two day meeting of Holocaust deniers. For Israelis, that event ended the debate over whether a nuclear Iran could be deterred by the threat of counter-force. A regime that assembles the world's crackpots to deny the most documented atrocity in history--at the very moment it is trying to fend off sanctions and convince the international community of its sanity--may well be immune to rational self-interest.

Bold added. Let's think about this. Why rational reasons might Iran have for building nukes?

1. Israel has a bunch of them, and Iran is scared of Israel for reasons described in Halevi's article: they quite often act rashly, and Iran wants to deter that.

2. Iran is a Persian Shia state in a largely Arab Sunni region. Their largest regional competitor (other than Israel) is Saudi Arabia, and they are nervous that Iraq will once again become a major regional power. Iran wants to deter other regional states, and preserve its status as a big player in the Middle East.

3. The U.S. military is on either side of them in Iraq and Afghanistan, and has been rattling its saber in Iran's direction since 1979. Iran wants to deter a U.S. invasion.

4. The pattern of recent history is that if you do not have nuclear weapons and challenge the U.S., you run a high risk of being invaded or attacked by the U.S. or Israel (Iraq, Afghanistan, Syria, Balkans, etc.). If you do have nukes and challenge the U.S., you run a zero risk of being invaded or attacked by the U.S. or Israel (Pakistan, N. Korea). The lesson is obvious and clear: if you want to deter international interference, get nukes.

As comforting as it might be to think of Iran as irrational and irresponsible (since that justifies aggressive action of the sort discussed in Halevi's piece), the truth is likely the opposite: if Iran is pursuing nukes, it is for very rational reasons.

Revealed Preferences

2009-10-30T16:54:00.001-04:00

It was Kim Il Sung who used to say, “Communism is rice,” meaning the system would succeed by giving the people enough to eat. The famine was caused by mismanagement and the inability to adapt to the collapse of the Soviet Union and the economic transformation of China. …

By the way, Kim Jong Il is famous for being one of the biggest foodies in Asia. Throughout the nineteen-eighties and well into the famine, he flew couriers around the world to procure delicacies for his own palate — fresh fish from Tokyo for his sushi, cheese from France, caviar from Uzbekistan and Iran, mangoes and papaya from Thailand.

From a fascinating New Yorker article about life in the Hermit Kingdom.

About Those GDP Numbers

2009-10-30T01:43:00.005-04:00

See Munger and McMegan.

Look, we've spent something like 4-5% of GDP in stimulus, from the American Recovery and Reinvestment Act (a.k.a ARRA a.k.a. stimulus bill) to the bailouts. (You can track ARRA spending here and bailout spending here). We've spent about $120bn in ARRA and $575bn in other bailouts. That represents ~ 5% of GDP spent in deficit by the government: $700bn/$14.25tn ~ 5%. Those expenditures affect GDP evaluations, since GDP = Consumption + Investment + Government + Net Imports. If GDP's "natural" state rate now if government spending had stayed constant is negative 1-2%, then that translates into roughly 4% growth: -1 + 5 = 4. We actually got 3.5%, which is right in the back-of-the-envelope range.

But it's unclear if that means anything good. If the fiscal multiplier is greater than one, as CEA head Christina Romer believes, then that spending should have led to higher reported GDP than we actually saw (something like 5-6%, using Romer's estimate of the multiplier as close to 1.5)*. If the multiplier is less than or equal to one, as these folks argue, then at best this quarter's GDP report is a statistical mirage based on an accounting identity rather than actual economic improvement. If the multiplier is close to zero or even negative, as Robert Barro thinks, then economy is in great shape indeed.

I tend to take the middle view: the multiplier is probably close to 1 most of the time (although context is important), and I think the present circumstance backs that view up. In the 2nd quarter, GDP fell by about 1%. The government spends about 5% of GDP in deficit, and the next quarter GDP grows by about 3.5% despite falling employment. Coincidence?

This is one reason why talk of a "jobless recovery" is at least partially missing the boat: there hasn't actually been a recovery yet. We've just pushed some numbers from one side of an accounting ledger to other by taking on more debt and called it progress. It's not.

*Yes, I know that the lags matter too. But these, too, are unclear and you could just apply the same argument to next quarter or several.

China Won't Accept Carbon Tariffs

2009-10-30T00:58:00.005-04:00

Via IELPB, the Chinese don't agree with Paul Krugman's assertion that carbon tariffs (or the threat of them) could help put teeth into a global climate change agreement:

"Up to now, whether it is the proposals in the U.S. climate bill or the comments by French President Sarkozy, the carbon tariffs are just a kind of deterrent used by developed countries to put pressure on developing countries, breaking the principle of 'common but differentiated responsibilities' and making them commit to their own emission cuts," Zhang told the conference.

He said retaliation would also be inevitable.

"The United States per capita emission rate is four times as big as China's. Does that mean we can impose 400 percent tax rates on all imported American goods? If so, the result is a global trade war that is good for no one and no use at all in the fight against climate change."

Also, "Frankly, if tariffs are being implemented unilaterally, they cannot be objective and cannot be non-discriminatory." Of course, if the U.S. goes down this road it won't only be China that places tariffs on U.S. goods. Considering that the U.S. is by far the world's largest per capita emitter, it would be really stupid for Obama to encourage a new norm of carbon tariffs.

This argument isn't entirely different from the standard response from developing countries when pressed to adopt strict carbon limits by developed countries: "You already got rich by polluting, and now it's our turn. Why should we have to pay to clean up your mess?" I've gotta say, it's a pretty strong argument, and it's not clear to me that developing countries will be willing to abandon it any time soon. And if developing countries aren't on board, it will difficult to get public support for self-immiserating policies in developed democracies.

The politics of climate change are just really, really bad.

Midweek Links

2009-10-28T20:41:00.003-04:00

1. For an Objectivist, Ayn Rand was full of contradictions.

2. Brazil tries the Tobin Tax (or something like it).

3. Another randomized trial paints a skeptical portrait of microfinance. Previous editions here. Will Grameen ever get positive research?

4. New research shows that increased trade leads to improved labor standards.

5. The Treasury/Frank legislation for dealing with "too big to fail" banks.

6. Republican Congressman Jeff Flake (AZ) is awesome:

Republican Congressman Jeff Flake, who represents Arizona’s Sixth District, today released the following statement regarding his vote against H.Res.784, a bill “honoring the 2560th anniversary of the birth of Confucius and recognizing his invaluable contributions to philosophy and social and political thought.”

"He who spends time passing trivial legislation may find himself out of time to read healthcare bill," said Flake.

And I'm sure resident Cuban Alex would approve of Flake's thoughts on ending the trade sanctions against Cuba:

Give Me Your Tired, Your Poor, Your Huddled Masses Yearning to Breathe Free

2009-10-28T16:09:00.004-04:00

Today is the birthday of France's greatest gift to the U.S. (other than fried potatoes, of course): the Liberty Enlightening the World statue in NYC. How ironic is it that America's immigration policies reflect liberty so much less now than in 1886, when the statue was dedicated? We don't even accept many skilled workers these days, much less the huddled masses.

Tim Armstrong is mostly complaining about other aspects of American foreign policy in the song above, but immigration is probably the greatest civil rights issue this country (and the world in general) currently faces. Meanwhile, the E.U. has been improving its immigration policies, at least with regards to other European countries. I hope the day never comes when it would be appropriate for the U.S. to give the statue back to France.

ASEAN: More Like NAFTA or EU?

2009-10-28T08:41:00.000-04:00

The Association of Southeast Asian Nations (ASEAN) met last week in Thailand to continue work on Asian economic integration. They continued lowering tariffs and expanding investment into each other's countries. Meanwhile, China and Japan jockeyed for position as the leading power in Asia.

There are several proposals for a future East Asian free-trade zone — the Japanese version is called the East Asian Community — but all are vague, and leaders say they are a long way from reality.

The proposals are often compared to a European Union-style single market, but analysts say a pan-Asian economic bloc would be unlikely to have open borders, free movement of labor and common security policies.

China did not publicly offer its vision of an East Asian community, but a statement issued after a meeting of what is known as Asean plus three — the leaders of Asean, China, Japan and South Korea — said those 13 countries would form the “main vehicle toward the long-term goal of building an East Asian Community.” That would seem to exclude a role for the United States.

Japan still wants the U.S. to be involved. (Unlike Emmanuel ASEAN isn't my area of expertise, but I have a feeling that China wins this battle for regional influence. That doesn't mean that the U.S./Japan go away completely -- we're too big to ignore -- but it does mean a greater role for Beijing in maintenance of the Asian economy. In my view, this isn't necessarily a bad thing for the U.S.)

I'm not surprised that ASEAN will stay away from labor and security arrangements. These policies have been controversial in Europe, which is much richer, less competitive, and more ideologically similar than SE Asia. Most of these countries still have tons of unemployment, so it would be politically impossible to have open labor markets. And could you imagine Japan and China agreeing on a security arrangement? China and S. Korea? Burma and Singapore? Me either.

So it's unlikely that we'll see E.U.-style integration in Asia any time soon. But that doesn't mean that NAFTA-style trade and investment arrangements wouldn't be beneficial.

My Job Market Search Will Not Include Russian Universities

2009-10-27T21:31:00.003-04:00

St. Petersburg (Russia) State University has decided to rescind academic freedom:

Word spread this month among the faculty members of St. Petersburg State University: According to a document signed on Oct. 1, they have to submit their work to administrators for permission before publishing it abroad or presenting it at overseas conferences.

The order, which was circulated internally and made its way onto a popular Internet forum, says professors must provide their academic department with copies of texts to be made public outside Russia, so that they can be reviewed for violation of intellectual property laws or potential danger to national security.

Many professors are (understandably) upset. But it's all an overreaction, says the university's vice rector:

He said he did not believe that the order would interfere with professors’ efforts to publish abroad. “One of the psychological problems we’re encountering is that some of our colleagues, instead of reading the documents carefully to understand what will be examined, and for what purpose, are speaking out against any kind of control,” Dr. Gorlinsky said.

Umm, yeah. They are speaking out against any kind of control. It's sort of a touchy subject for academics. Especially Russian professors, who seem to remember Russian history:

Some professors reacted with alarm, saying the model recalled the Soviet era’s notoriously bureaucratic “first division,” which reviewed documents before they were released to the outside world.

Vyacheslav Y. Morozov, an assistant professor in St. Petersburg State University’s international relations department, estimated that 70 percent of the scholars in his department published and spoke abroad regularly, and worried that the new demands could make that impossible.

“It might be a model for the defense establishment, but I don’t think anything like that exists in the universities,” Professor Morozov said. “Maybe in China. Maybe in Iran.” ...

Several St. Petersburg professors said they worried that the rule would be applied selectively to penalize specific faculty members, either because they were in conflict with administrators, or because their work was critical of the Russian government.

I wonder what the penalty will be for violating the rule? A cup of Polonium tea?

Royale with Cheese

2009-10-27T19:47:00.005-04:00

Warning: Above video has Tarantino language in it, so it's probably NSFW.

So the French love McDonald's so much that they're putting one in the Louvre. And somewhat surprisingly, everybody seems pretty nonplussed. Why? Because McDonald's (at least in France) may now be of better quality than local bistros:

Part of McDonald’s success in France can be explained by the company’s efforts to adapt to local taste buds. “The French eat McDonald’s in a French way,” said Caroline Deleuze, a spokeswoman for McDonald’s France. “They come less often but spend more because they want a proper meal.” That is defined as a sit-down experience with two courses.

Local menus offer sandwiches that aim to please local tastes. Le Royal Deluxe features a whole-grain mustard sauce on top of the standard beef patty, cheddar and vegetables, and it is now the second-largest selling burger in France, after the Big Mac. Le Big Tasty, a seasonal offering with a sauce that imitates the charred flavor of meat grilled on a barbecue, promises “le goût de l’Amérique,” or the taste of America.

McDonald’s France offers its version of the Caprese salad, called Little Mozza, and beer and espresso are also available. The company emphasizes the French origin of the beef and vegetables in its restaurants. ...

Mr. Drouard is untroubled by the McDonald’s in the Louvre. “We’re in a process of industrialization,” he said. “The French have become eaters of convenience food.”

McDonald’s popularity, he said, is the result of declining standards in what the French consider traditional fast food. “Bistros don’t know how to make a good sandwich anymore,” Mr. Drouard said. “McDo is a legitimate competitor.”

That's kind of funny to me, but not terribly surprising. Though nobody wants to admit it, even in the States the fast food chains are often of similar or better quality than local diners in the same price range. And McDonald's is very good at adapting its menu to suit local tastes. In Paris you can get the Caprese salad and "local" beef as mentioned above, but also jambon buerre (baguette with ham and butter). (Keep this in mind whenever you hear that globalization equals American cultural imperialism; it ain't true.)

In America, fast food is a countercyclical asset, so it always does well in recessions. The current one is no different. But in Iceland, the collapse of the krona made the inputs for McDonald's burgers too expensive to import without charging much higher prices. Instead, all three restaurants in the country will be closed in a few days.

Despite the setback in Iceland, the Big Mac is so ubiquitous that it is its own exchange rate.

Also: fast food restaurants maybe don't make you fat. How do you say "supersize me" en français?

Sunday Links

2009-10-25T06:23:00.000-04:00

1. Is Bosnia falling apart?

2. A Jeffry Frieden working paper: "Global Imbalances, National Rebalancing, and the Political Economy of Recovery".

3. China doesn't have much leverage over the U.S. w/r/t its dollar holdings.

4. Andrew Ross Sorkin narrates last Fall's panic on Wall Street.

5. 1989 was a very good year.

6. How Moody's sold its ratings. Jerks.

7. Thinking about how to deal with firms that are "Too Big to Fail".

8. Exchange rates are still the best way for macroeconomic adjustment.

9. Henry Farrell and Eric Posner on international law:

How to Improve Regulation

2009-10-24T18:44:00.004-04:00

Martin Wolf has a good column on the difficulties of crafting an appropriate regulatory structure. Basically, he says, in order to get a truly safe system we have to abolish banking. Despite recent difficulties, that isn't desirable. So he offers an outline for how improve the system without destroying it:

First, create a set of laws and institutions that make it possible to bankrupt any and all institutions, even in a crisis. Second, make financial institutions safer, with much higher capital requirements, against all activities. Third, prevent off-balance-sheet activities. Fourth, impose dynamic provisioning. Fifth, require huge cushions of contingent capital. Finally, cease to favour debt-finance, throughout the economy.

Kevin Drum is on board:

This is very sensible sounding: the first item is a backstop in case the others don't work, and four of the remaining five items are aimed at reducing leverage throughout the banking system. (Dynamic provisioning is the exception. It might be a good idea, but it's not directly related to reducing leverage.) Now extend this to the rest of the financial system and make sure to write the rules with no wiggle room, and you're done. Piece of cake, really. Any other problems you'd like solved?

But Matthew Yglesias sees trouble:

I’m not sure how much of this can stick in an industry where the product and the inputs (just money, really) can cross international borders so easily. Shut down some antics in London and they move to Zurich.

I'm on board with some of Wolf's ideas. The first is a clear priority; indeed, one of the reasons why the financial crisis was so bad that it threatened to kill the entire global economy is because Paulson and Geithner had no way to wind down troubled firms in an orderly fashion. Markets panicked as half the financial industry was in a state of flux, and an old-fashioned bank run was on. (For a good description of this, see this excerpt from Andrew Ross Sorkin's new book.) It wasn't that banks were too big too fail per se. It was that there was no legal way for them to fail in a timely, ordered fashion. So Paulson and Geithner had to try to find buyers for the troubled firms, transform investment banks into bank-holding corporations to get access to loans from the Fed, and try other ad hoc "fixes" to prevent total collapse.

I am similarly in agreement with Wolf that all bank activities should be "on balance sheet". A lack of transparency was a major problem in this crisis, and part of the reason was that nobody knew what obligations what banks actually had. And this includes the bankers themselves, not to mention traders, hedge funds, short sellers, etc. Any regulation that improves transparency in the financial system is a good one, if you ask me.

But contra Drum, I'm not sure what good the other provisions would have done in this crisis. All of the banks were more than well-capitalized, even Lehman. Merrill Lynch had $140bn in cash that dissipated in about a week because of withdrawals when they were fundamentally solvent. Most banks had Tier 1 ratios more than double their Basel requirements and overall capital ratios were similarly high. Bank runs caused illiquid firms to become insolvent, and chaos ensued because there was no way to wind them down.

There were two primary problems in this crisis: mispriced risk, and massive amounts of uncertainty that led to a panic. Wolf's proposals don't address the risk part, and once a panic sets in a bank is doomed no matter how much capital they hold in reserve. Moreover, one reason why banks were levered up so high was because of the risk-weighting scheme in Basel that, combined with the Recourse Rule, encouraged banks to invest in asset-backed securities. If we require higher capital requirements under a similar risk-weighting rule we'll be essentially encouraging even more leverage.

Yglesias' response is similarly misguided. The problem wasn't regulatory competition. Indeed, the U.S. has higher capital requirements than many other Western countries, yet that didn't matter to anyone. (Additionally, whatever the U.S. does generally becomes a widely-adopted international industry "best practice" standard.)

I would add one thing to Wolf's list: make it easier to declare "bank holidays" on part or all of the banking system. It now seems clear that excessive short-selling made the crisis much worse than it needed to be. Also, most of the work by Paulson, Bernanke, Geithner, and private firms had to be done over weekends while the markets were closed. If Bernanke and Paulson could have declared a week-long holiday + ban on short-selling the day that Lehman collapsed, and used that time to come up with permanent solutions, much agony might have been avoided. Same if they could have conducted "stress tests" or determined which banks could survive and which couldn't without markets reacting to every drop of sweat on Paulson's brow.

We Hit 100! Oh wait...that's not a good thing.

2009-10-24T00:01:00.008-04:00

This afternoon, just like every Friday afternoon, the FDIC announced which banks it was in the process of closing and who would be taking over the seized bank's assets. The announcement always comes on Friday afternoon after the institutions have closed so that the FDIC and the new owners have enough time over the weekend to transfer all information and accounts, keep business disruptions to a minimum and prevent panicked customers (who aren't aware of the FDIC's insurance policy) from running to the bank to try to withdraw their funds. So far this year, every Friday has been met with an FDIC announcement and 106 banks have been closed, the most since 181 were closed in 1992.

Earlier on Friday evening the dubious honor of the 100th failure went to Partners Bank, of Naples, Fla., which had $65.5 million in assets, according to the Federal Deposit Insurance Corp. The 101st failure was American United Bank, of Lawrenceville, Ga., which had $111 million in assets. The 102nd failure was another Naples, Fla., institution: Hillcrest Bank Florida, which had $83 million in assets. The 103rd closure was Bradenton, Fla.-based Flagship National Bank, with $190 million in assets. The 104th was Bank of Elmwood, based in Racine, Wis., which had $327.4 million in assets. The 105th failure was Riverview Community Bank of Otsego, Minn., with $108 million in assets. The 106th failure was First Dupage Bank in Westmont, Ill., which had $279 million in assets.

An average of 10 banks have failed per month this year, and the federal coffer is thinning under the massive strain. The fund now stands at $7.5 billion, down significantly from $45 billion a year ago.
When the FDIC factors in expected closures, the agency says the fund is in the red and will likely remain there through 2012. Bank failure costs are expected to total $100 billion over the next four years, leaving regulators strapped for cash.

The news cycle and the attention of politicians and citizens alike are always fixated on the troubles at major national and international banks during recessions. However, the most overlooked aspect of the recession has been the effect of the crisis on community banking. Most people rely on state-chartered community banks for most of their borrowing needs, whether it be small business loans to cover payroll or expansion, car loans, or construction loans for commercial and residential properties.

To say that the community banks in this country are struggling is a severe understatement.

While larger financial institutions received aid from the federal government, smaller banks have found themselves left adrift. Like their larger counterparts, many of these banks made risky loans to individuals and real estate developers during the boom years and are now facing large numbers of defaults as the recession drags on.
Rising unemployment has made it difficult for many individuals to keep up with expenses, and businesses are feeling the crunch of consumers' reduced spending power. As a result, regional banks are left holding loans their customers can't repay.

Florida's community banks have been some of the hardest hit as real estate prices have nosedived and the bubble in the local housing markets popped. Many of these community banks got involved in investments that haven't performed very well and were lending to customers that had no business getting approved for loans. Driving around Miami this week it's incredible how many construction projects were started last year and are now just sitting and waiting to be finished. Also shocking are the dozens of high-rise condos built in the downtown area from 2003-2008 that now sit mostly empty, many funded by community banks.

Many more community banks will go under over the next 6-12 months, especially considering that unemployment rates will continue to rise making it harder for people to keep up with their loan payments and the fact that the FDIC's list of "problem banks" now stands at over 400, the highest level in 15 years. Times are tough for local bankers and just as hard for those locals trying to secure a loan from their community banks.

Slashing Pay on Wall Street

2009-10-23T17:46:00.010-04:00

Yesterday's announcement by the Obama administration that they "will order the firms that received the most aid to slash compensation to their highest-paid employees" has drawn much criticism and discussion across the blogosphere, including right here on this blog.

The plan, for the 25 top earners at seven companies that received exceptional help, will on average cut total compensation this year by about 50 percent. The companies are Citigroup, Bank of America, American International Group, General Motors, Chrysler and the financing arms of the two automakers.

I've spent a decent chunk of time today watching CNBC (I love Fall Break) and following the arguments being put forward by the guests on the afternoon shows as well as CNBC's highly opinionated news anchors.

There are two main arguments being leveled at the proposed slashes in executive compensation at these seven TARP-funded firms: 1) The government should not get involved in decisions regarding executive compensation and 2) Capping compensation for these executives will incentivize them to leave these companies and make it easier for competitors to lure these executives away with higher compensation. The combination of those two factors, it is argued, will drastically hurt these troubled companies at a time when they need these executives to steer them back to profitability.

I'm going to spend very little time with the first argument and most of this post on the second. There were many banks/financial companies that took TARP funds last fall, some that needed the funding in order to survive and other that didn't need the funding but were asked/required to take it anyway. Those that took it and didn't need it have, for the most part, already returned the funds. The seven aforementioned companies that took TARP funds were struggling and would have collapsed had the government not invested boat loads of taxpayer money in them. The government is now a major shareholder (for some the largest, for others the sole owner) in these firms and with that investment comes the right to change management and production practices and that includes compensation levels. I see absolutely no valid legal or moral argument against the government intervening to change pay rules or business practices.

Now whether government mandated pay cuts for executives are a good thing for productivity or company performance is a different question altogether. Many claim that if the government slashes salaries (by as much as 90% in the immediate short run and 50% as a whole once deferred stock options are included) for those 25 executives at those seven firms, those executives will simply leave the firm and this flight will damage firm performance at the time that their leadership is needed most.

Most of the articles written and discussed, including the one that Will linked to earlier, have reported that

At Bank of America, for instance, only 14 of the 25 highly paid executives remained by the time Feinberg announced his decision. Under his plan, compensation for the most highly paid employees at the bank would be a maximum of $9.9 million. The bank had sought permission to pay as much as $21 million, according to Treasury Department documents. At American International Group, only 13 people of the top 25 were still on hand for Feinberg's decision.

These articles are presuming that these executives all left to take higher paying jobs at competitors, they left because they believed that the government would impose pay restrictions and that their departure will hurt the firm that they left.

I have a handful of questions because I really don't buy into the logic above. Where in the hell are these executives moving to? What financial companies, in the midst of the worst recession since the BIG ONE, are hiring executives at $30+ million a pop? Every company that I know of has been slashing jobs across the board. Where is this robust market for high ranking executives coming from? These claims are flying around with no hard evidence as to where these executives are going and who is luring them away with these large sums of money.

Also, I'm curious as to how many of these 27 (out of 50) executives from AIG and BoA that left over the past year were in their positions before the financial crisis? Are any of them responsible for some of the bad management and financial decisions that put these two companies in the horrible position that they currently face? If so, I don't see how them leaving would hurt their respective companies anymore than their decisions have already done. How many of these were retirements and how many were fired? You can't just look at 27 out of 50 executives leaving and assume that they all left because they were anticipating future government mandated pay cuts.

Next up is the claim that AIG, BoA and the other five firms aren't going to promote from within because their rising stars will be able to earn more remaining in their positions than being promoted to one of these few positions where pay has been capped. They claim that if they were to promote these people to high ranking positions, other companies will simply offer them more money and hire them away. In my very limited experience with Wall Street banks and other financial firms, I know that everyone at the top of these companies know each other and I'm really surprised that people are taking this claim at face value. These companies know exactly who the big whigs and top performers at each of the other firms are. You don't have to be promoted to CEO of AIG or BoA for people to know that you're big time. I go back to my previous point: where are all these $30+ million jobs? How are they going to hire all of these executives away? Look, these positions are going to be filled and these companies will put (hopefully) highly competent and smart people in charge. There are many qualified people who will agree to a $10 million dollar compensation package and the challenge of turning one of these companies around. There is no shortage of top level talent on Wall Street. Money means a lot to people, but it isn't everything. You don't simply pack up and leave because one company is going to pay you more.

To the last question: Will turnover in upper management positions at these seven firms really damage firm performance moving forward? Doubtful. As we all know, most of the day to day decisions are not made by the CEO, CFO or COO. These executives spend most of their time dealing with members of the board of directors, dealing with public relations and marketing issues, wooing potential investors and signing off on decisions made by their underlings. These executives aren't involved in daily trading decisions or most of what actually matters when earnings season comes around. Sure there will be some adjustment to new management but the claim that the departure of an executive will damage company performance is a bunch of bull.

Maybe the incentives for those traders who aspire to be members of upper management in the future will deter them from putting in all of their effort today because of slashes in compensation for high ranking executives. I don't know how much a cut in pay from $30 million to $10 million will undercut ambition but I'd venture to say that for someone making $100,000 to $1 million as a trader today, the ambition to make $10 million and be named CFO of a major company will still be there. I'm pretty confident in that.

To sum this long post up, I think all of this discussion of pay cuts for executives has been blown out of proportion. I don't think the feds coming in and mandating pay cuts for 25 executives hurts company performance, incentives for mid-level managers/traders or will promote some sort of intra-industry brain-drain.

UPDATE (11:26pm): The NYTimes has a "Room for Debate" blog where six experts provided commentary on the cuts on executive pay at the TARP firms. The experts are Tyler Cowen, Yves Smith, Nicole Gelinas, John Coffee, and Lynn Stout. I don't think Cowen actually addresses the issue. He claims that

These earners did not cause the crisis and they are working hard to bring their companies back from the brink. Cutting their pay is the last thing we should be doing because the best of them can simply move elsewhere, thereby undercutting the profitability of the firms we are trying to restore.

The odds of top traders sticking around at A.I.G. for $200,000 a year are small. There is a grain of a good idea in the recent proposal, namely that we should discourage firms from getting into a position where they need a taxpayer-financed bailout. But the new policy goes about this the wrong way.

No one is talking about capping a trader's pay at $200,000. The cap is on the top 25 high ranking executives making millions of dollars (I have no idea why he claims that $200,000 earners will be capped. Top traders make substantially more than that). The earners that the pay cap would affect may very well be those that were responsible for running these companies into the ground. My post above refutes his other points. I don't get to say this very often, but Tyler is wrong.

Soak the Rich?

2009-10-23T15:40:00.002-04:00

So some rich Germans want to pay more taxes:

The group say they have more money than they need, and the extra revenue could fund economic and social programmes to aid Germany's economic recovery.

Germany could raise 100bn euros (£91bn) if the richest people paid a 5% wealth tax for two years, they say.

The petition has 44 signatories so far, and will be presented to newly re-elected Chancellor Angela Merkel.

44 signatories isn't very many, true, but the group held a public gathering to show support and garner publicity:

The group held a demonstration in Berlin on Wednesday to draw attention to their plans, throwing fake banknotes into the air.

Mr Vollmer said it was "really strange that so few people came".

Maybe Western Europeans aren't so different from Americans after all.

(ht: IR Blog)