Recapitalize the non-Govt Sector, not the Financial Sector
When you have a credit bubble -- ie. banks make loans that do not get paid back -- then the subsequent credit bust de-capitalizes banks (as they must write down assets and equity) constraining their ability to lend anew.
As the non-government sector needs additional financial assets to grow, if banks cannot lend (capital constrained) then the economy as a whole starts to trouble.
This, in a nutshell, is where the "Too Big to Fail", "We Must Bail Out the Banks" argument comes from, and it is true, as far as it goes.
Nevertheless, there is more to the story. First, if banks were making loans that did not get paid back, then they were not doing their primary job which is to make good credit decisions. Bad credit decisions should be punished, and the owners and operators of such companies should be fired and/or wiped out. This is how markets work. Rewarding such behavior only encourages more bad practices in the future, and people (rightly) start to wonder why we have a financial system at all.
Second, if banks fail, that contraction in private financial asset growth can be balanced by "capitalizing" the rest of the non-Governmental sector directly (through some combination of tax cuts and spending increases -- whatever increases the deficit). Since economists at Harvard and Princeton do not understand that the Government is the sole creator of net financial assets (equity) for the private sector, they do not know that this policy lever is on the table. So we are where we are.
From Macroeconomic Resilience
As the non-government sector needs additional financial assets to grow, if banks cannot lend (capital constrained) then the economy as a whole starts to trouble.
This, in a nutshell, is where the "Too Big to Fail", "We Must Bail Out the Banks" argument comes from, and it is true, as far as it goes.
Nevertheless, there is more to the story. First, if banks were making loans that did not get paid back, then they were not doing their primary job which is to make good credit decisions. Bad credit decisions should be punished, and the owners and operators of such companies should be fired and/or wiped out. This is how markets work. Rewarding such behavior only encourages more bad practices in the future, and people (rightly) start to wonder why we have a financial system at all.
Second, if banks fail, that contraction in private financial asset growth can be balanced by "capitalizing" the rest of the non-Governmental sector directly (through some combination of tax cuts and spending increases -- whatever increases the deficit). Since economists at Harvard and Princeton do not understand that the Government is the sole creator of net financial assets (equity) for the private sector, they do not know that this policy lever is on the table. So we are where we are.
From Macroeconomic Resilience
My policy proposal has three legs all of which need to be implemented simultaneously:
* Allow Failure: Allow insolvent banks and financialised corporations to fail.
* The Helicopter Drop: Institute a system of direct transfers to individuals (a helicopter drop) to mitigate the deflationary fallout from bank failure.
* Entry of New Banks: Allow fast-track approvals of new banks to restore banking capacity in the economy.
The argument against allowing bank and corporate failure is that it will trigger off a catastrophic deflationary collapse in the economy while at the same time crippling the lending capacity available to businesses and households. The helicopter drop of direct transfers helps prevent a deflationary collapse and the entry of new banks helps maintain lending capacity thus negating both concerns.
Labels: banks, Bernanke has no clue, debt, monetary, policy
posted by winterspeak at
10:27 AM
27 Comments:
It must be done gently and with great care.
Question:
Do you propose insuring certain creditors in investment banks as the FDIC insures depositors in commercial banks? The $250,000 might protect families, but does little to protect businesses, who use repos for daily funding and are subject to self-fulfilling panics. Would a regulated clearing house and exchange be a better alternative?
I would extend unlimited FDIC insurance to checking accounts at commercial banks.
Businesses would be protected in the same way families are.
The problem with helicopter drops is that they land on just anyone, making the very money meaningless in the same manner as "people (rightly) start to wonder why we have a financial system at all". Therefore, it is infinitely better to zero in on shortages in the public domain such as schools, roads, bridges, and put public money there, boosting employment and demand for private goods in the economy via a justifiable route. The shortage in the American private economy today, in any case, is of demand and not of availability of investment Capital, Corporates are sitting on Trillions in cash, while there are already enough barber shops and acupuncture joints vis-a-vis current number of payment-capable consumers.
http://economiccircuit.blogspot.com/2011/09/move-cheese-when-do-businesses-really.html
But no doubt the truth of the below portions:
"Allow Failure: Allow insolvent banks and financialised corporations to fail."
"Entry of New Banks: Allow fast-track approvals of new banks to restore banking capacity in the economy."
Ohm, you inadvertantly both missed and made the key point: the shortage of payment-capable customers is the key macroeconomic problem. This is exactly why mailing $50,000 in newly printed $20 bills to every man, woman, and child in the United States would revive the economy.
Neroden, don't mail it to them. Use it to pay down their debt. Fix the problem directly.
Art & neroden, what about those that don't have debt on them? what wld be their fault:-?) for not receivng anything! also, the question arises, whether a currency is infinitely extensible, i.e. is it prudent to do this $50,000 mailing/payout without covering it with reworked taxes and/or Gov cuts somewhere, when the accumulated deficit is already close to annual GDP ?
further, Why not strengthen music, arts and drama in schools, and have smaller class sizes than bigger, while making good the rupturing bridges and roads, in the process of introducing money.
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[anyway, we are now talking consumer support, so the "allow bank failure" and "entry of new banks" is not impacted, is indeed strengthened in the realization that there is not a Capitalization or Investment Capital shortage issue in the present.]
Ohm: I view the fact that helicopter drops land on "just anybody" as a feature, not a bug.
It makes the money free from political influence, which you get in all public works projects, and also does not punish the prudent for not taking on debt they cannot pay.
Of course, some folks have particular causes they want to support and will not like a plan that helps "everybody" as they aren't getting to pick winners and losers.
Ohm said..."Art & neroden, what about those that don't have debt on them? what wld be their fault:-?) for not receivng anything!"
Winterspeak said..."I view the fact that helicopter drops land on "just anybody" as a feature, not a bug."
This is what happens when the problem has not been analyzed, when only the results of the problem have been analyzed. We cannot fix the results. We have to fix the problem.
I'm not sure Winter if a Lottery Economy is a great thing to have. Will a society where people look less inwards for ideas to earn their bread, and more for where the next helidrop might land, prosper in the end? Same problem with special interest tax breaks and loopholes, albeit these are deliberate not helidrop results. I am, however, not arguing against modest unemployment support.
But perhaps I misvisualize your helicopter drop metaphor.
I'd anyday prefer an equal distribution of fresh money. But there might be constraints upto what point the fiscal deficit can be safely taken before the currency risks collapse upon losing respect and value. Besides, folks can begin to expect a fresh distribution everytime the going gets tough - Again, weakens the achievement/hard work orientation, potentially making a weak, flaccid economy in the medium-long run.
The best bet to me is to apply the money in building conveniences and public assets like broadbased Education, that add value to public at large, in which case, both a higher deficit and/or coverage of the expenses with rationalized taxes become acceptable elements of the choice-mix. Does applying public money where there is a shortage of public interest goods is, tantamount to picking winners and losers? I'm doubtful that is useful perspective. Is there scope for political corruption? Yes, there is, but that exists in every facet of Gov, starting with defense contracts. Other than relying on general honesty levels in society and corruption laws, what else can one do!
I have no idea what Arthur means.
Ohm: Not talking about a lottery economy. Just an acknowledgment that the aggregate desire for nominal savings varies exogenous, and therefore to maintain real output, the monopoly issuer of said nominal savings must respond to that change by appropriately adding and draining to the outstanding stock.
Said monopoly issuer must also maintain the ability drain the stock through taxation. Respect jailtime, respect the currency ; )
I think your education example is an excellent one where reasonable opinions can differ widely as to whether one is serving the broad public good, or picking winners and losers. The "Occupy Wallstreet" folks are complaining about their high college debt loads. College fees have been increasing far faster than inflation. The Government subsidizes college debt by many channels. Is that why fees have gone up so much?
I'm not taking a position here, just acknowledging arguments on both sides.
Whereas the subsidies from Gov is perhaps a part of it, the crazy tuitions might largely be slick marketing, combined with the relative ease with which Graduates could obtain high paying jobs through the bubble years. Now that the adverse cost/benefit is dawning on people domestically, the Univs are marketing abroad to get kids of rich people in China and India! Education pricing is no less a bubble than the home prices were - in my perception. The World needs to switch to Self Study-Certify via exam model of post Grade School Education I would say, e.g. go with qualifications such as the CFA - very affordable, high quality testing from arm's length -- whereas in the University, the Prof that taught you also gets to test and grade you and the University is graded foremost on the Research done by the Prof. I'm very unsure if the students' caliber today matches that of the University brands.
However, the self study-Certify via Exam cannot work in every field.
My Strengthen/Protect Education example was more wrt Grade School Education. It is very sad that schools are considering cutting arts and music and drama, and thinking of increasing class sizes to 50 kids...all in the name of deficit cutting. Deficit needs to be cut by cutting down on Corporate and Wall Street doles, so the companies have the need to hire, pay well, and retain good people. When they receive direct Topline and Bottomline support from Gov of the day, why will they have a need for, and pay commensurately for, good workers! The OccupyWallStreet angst is all of these things, though not crystal articulated at this point. Universities are part and parcel of the Wall Street-Corporations-Medical 'Insurance' complex, nanying these middlemen has proven too costly and wasteful. Whatever is to be delivered by Gov, needs to be delivered directly - I fully agree to the germ in your post...that pricey middlemen are now unaffordable and unrequired.
Whereas subsidies are perhaps part of the story, much of University pricing might simply be slick marketing (I'm posting this again, what I posted before seems to have disappeared! Blogger, Typepad, they all malfunction quite often these days) on the strength of easily available high paying jobs thru the bubble years. Now that the adverse cost/benefit of University pricing is dawning on its domestic consumers, Universities are now marketing to rich kids in China and India!
My Education reference was really on Grade School Education.
As regards post Grade School Education, I favor Self Study-Take Rigorous Exam (delivered arm's length, not by the Prof whose class you attended) type of Education where possible, such as the CFA. These are very affordable and you can be sure of the quality of knowledge and application ability of the guy holding that certificate. Universities don't quite stand apart from the Wall Street-Corporate Executivedom-Insurance (middleman) complex. Any Gov delivery has a need of being delivered directly. The trickle down approach thru the middleman complex has proven too costly and wasteful and deficit exploding, your post highlights it in the context of Financial Institutions. Point is, if Gov doles you out Topline and Bottomline support with procurement, tax loopholes and subsidies, why would you need, and pay commensurately for, good workers. Therefore, the OWS angst against Corporate-Wall Street Welfare, something that trickles down no more.
Ohm:
I'm not sure that focusing on grade school education (I assume you mean K-12) strengthens your argument. The K-12 teacher's union is a staunch supporter of the Democratic platform, and there have been numerous issues around curriculum, party support, recycling of taxpayer money into the Democratic machine, etc.
I am also not opposed to middle-men. I'm sure that some kids would do very well with self study, but I think others will do quite poorly.
One easy place to start would be to let businesses have job candidates take g-loaded tests, and then discriminate based on the results.
Winter - I am not opposed to middlemen myself as far as they occur, for the most part, within the private economy.
Problem is when the Gov wants to deliver many things (e.g. cheap home loan rates, ample credit for business or college, health coverage, Jobs, what have you), and uses "private" organizations (banks, corporations, health insurers) as middlemen in these deliveries. Then these middlemen begin to appear "too important/inextricable to fail" and "We must bail them out, no matter how mediocre or costly to public exchequer their functioning" - As You have aptly pointed out in the specific context of Financial Institutions and credit creation for business - in your "nevertheless there is more to the story..." paragraph.
[WRT Universities: either Gov should be hands off from University Education and its financing OR Provide directly through its colleges at affordable price like it delivers K12. The reason why Teachers' Unions are Democrat supporting is that the base in the other party is simply opposed to public funded education....so their self preservation attempt is understandable. Yet the Democratic Party will not be able to save them if the modal public opinion were to ever want public schooling out of the economic mix]
Please read:
"- As You have aptly pointed out in the specific context of Financial Institutions and credit creation for business - and then spot-on argued against in your "nevertheless there is more to the story..." paragraph.
Ohm: I don't think it's fair to say that the other side is opposed to public funded education -- I believe that vouchers and charter schools are fairly popular amongst Republicans.
My point though is that it is essentially impossible to find a true "public purpose" good that no one can claim is picking winners and losers. Thus the inherent fairness of the helicopter drop (unless, of course, one actively wants to pick winners and losers).
1) Winter, wrt 'My point though is that it is essentially impossible to find a true "public purpose" good'.
Hmm, Maybe so, but I believe that's an essential purpose of the electoral-politial process...to crystallize the modal public opinion on such matters, and run with it as the Truth for the time being! Only an election free Gov can be Objective, yet we know they too, soon, begin to pick winners and losers, and without control by public they are supposed to represent!
2) Btw, how much risk do you see to the meaningfulness of currency in doing helidrops of it?
---
3) The most important thing I would like to observe on this post is that the #OccupyWallStreet movement started exactly where your post is - that the Financial Intermediaries need to be allowed to fall, as they did a mediocre job of what they are in business for, public money should not support bad behavior and poor performance [at least not after the confusion of 2008-9 has gotten sorted out, and there isn't today a shortage of Capital, rather of AD. Doles to poor performers do not even create jobs but let them stay put in their inefficiency and undeserved bonuses.] The OWS has morphed into a generic movement against all Corporate Welfare, which doesn't even trickle down anymore! the unfortunate part is that the OWS guys have hitherto labeled themselves as "anti capitalists", whereas their true beef is with Wall Street-Fat cat welfare with Gov giving the latter their topline and bottomline padding, rather than letting them sweat it out in the arena with growing, well compensated-motivated workforces, and letting fail if they can't.
Ohm:
1) Yes, the essential purpose of the electoral-political process is to politicize everything. It has done a good job of this. I do not see this serving the public it purports to represent.
I've seen more responsible governance come out of election free Gov.
2) The meaningfulness of currency comes from the ability to tax, and the monopoly violence that must ultimately stand behind that.
3) In all fairness, OWS probably *is* anti-capitalist. Last I heard they were liberal arts majors with student debt and no jobs. The Liberal Arts are pointedly Marxist, and have been for about 50 years now. Their tactics are right out of the Left's playbook, and the Left has been anti-capitalist since about 1920 (it was *pro-capitalist* prior to that period).
Well, Winter,
the government of USSR was election free, most of the govts recently fallen in the Arab World were practically election free (there were elections with a Constant result!), didn't quite deliver. Only China Gov seems to be doing well for the moment -- But it picks Winners and Losers:-) e.g. Chinese Subway is highly subsidized (for a pittance of 2 Yuan you can go from one end of Beijing to another, no matter how many connections), while Education is not (it is sooo expensive that even a dual income white collar job couple - not talking someone who is VP in his company - have to really assess if they can afford to have even one child!)
IMO the key to economic vibrancy is non entrenchment = "let fail" to a private sector entity, and "vote out" in the context of gov. Wall Street and Big Corp Managements have entrenched themselves (as pricey Middlemen for delivering what Gov desires everyone to have: employment, credit and healthcare) inspite of elected Gov (which goes to your point, if i may dilute it, that elections hold no guarantee for good governance). The OWS, even if Marxists, give credence to your point of letting Wall Street entities fail from the Left, in that propping the unworths is not even working as a social instrument. While you have 'right'ly observed, "Nevertheless, there is more to the story....". The eccentricity of policy that triggers your post and OWS is the same. If it is addressed by policy rejection of "Too Big to Fail" and of Publically Maintained "Private" Corps, the OWS movement will subside, just like the Tea Party has upon losing the passion of the independents that neither sympathize with a far Left agenda nor a far Right one.
I'm curious what you think of an idea like having the Fed pay off the mortgages to the banks, and turning the title over to the owner "free and clear". BESIDES the obvious psychological revulsion by the masses of on time or paid off mortgage holders (which the fed could buy off w/ a mortgage holiday tax break of sorts ) is this type of stimulus not a win win? Keeps the banks solvent and adds equity and purchase power to homeowners.
What would be the fiscal downside?
Of course there would be the "haggling" w/ the bank as to the face value of the loan ect.
Hi oreo:
well, the fed can write anyone a check they like, thus benefiting that individual or institution.
but good governance is not about benefiting particular individuals or institutions, it's about managing the country well as a whole.
the problem is a generalized lack of aggregate demand plus a financial sector that does not focus on it's primary purpose: credit assessment. Your suggestion addresses the first part obliquely, and the second part negatively.
Winter, oreo's suggestion addresses the first part *directly* by addressing the drain on income that undermines aggregate demand. Mortgages, student loans, credit card debt, personal loans, all of it. Excessive debt -- and the desire to reduce it -- is what has humbled aggregate demand. Cut debt in half, and vigor will return to our economy.
Arthur:
oreo would target the fiscal transfer to banks and deadbeat borrowers. Sure, this would increase AD, but it is a more oblique approach than a broader fiscal transfer. My preferred policy is for the transfer to be directed to me, personally, of course, but I'll settle for everyone too.
The drain on income comes from a generalized increase in savings desire as a generally over leveraged private sector tries to de-lever.
paying off people's mortgages means you make hash of the American Dream, of working through one's life to become owner of one's house one day. It IS a Dream, an ambition, you create for yourself of deserving-owning a home, and live your economic life around that ambition. Consider yourself as a young member of society, if older people left and right of you just get their mortgages paid off, buying a rightsized-rightpriced house and paying it off by making the wise economic decisions will lose ambition value. Economics isn't all numbers, there are people, with spirit of competition to do better and smarter than the other, involved in this game. Don't fall for a Krugmanesque World view where you can distribute money (or free houses!) to people, and expect the economy and desire to work stay put. Such an economy will lose competitiveness and productivity of its workforce, Unless you then coerce the people to work hard for fear of physical punishment. I'm hearing that Qaddafi actually distributed homes around, and ensured 15c/litre gasoline, but the people refused to be like vegetables receiving water showers from him and revolted.
The boomers and genX have already received enough, don't totally screw it up by paying off their mortgages now.
Better way to do what you are trying to achieve is that banks shave the debt obligation of the home'owner' below market price, while convert the shave into bank's equity proportion in the rise of the home value above the new debt. say, e.g. the homeowner owes the bank $250K but the home is worth 200 K in the market. So the bank lowers the debt to 180 K, works out a new monthly payment, and converts the reduction of $70K into a 70K/200K = 35% equity in the rise of the value of the home above $180K, to be paid when the owner sells the house. e.g. if 3 years down the line, the owner owes $140 K (he is now paying principal + interest every month per the new monthly payment), and the home is sold for $230K, he will owe the bank $140 K + 35% of (230K - 180K). THAT would be a deal fair to various parties, the old dreamers, the dreamers to be, and the banks.
Don't kill the American Dream with giving the debtors "their" homes for free.
Ohm, you said, "Don't fall for a Krugmanesque World view where you can distribute money (or free houses!) to people, and expect the economy and desire to work stay put. Such an economy will lose competitiveness and productivity of its workforce..."
"Will lose"??
The accumulation of debt (and financial cost) has already caused our economy to lose its competitiveness and productivity and vigor and job growth.
QE is an attempt to reduce the ratio of debt to money that has not worked. Deleveraging is an attempt to reduce that ratio, that is working slowly if at all. I call for direct reduction of private-sector debt. I don't pretend to know the best way to do it.
The cause of the "crisis" is what must fixed. The cause is the excessive accumulation of debt. Cut that in half, and the economy will grow again. The fix, the reduction of debt, like emergency repayment of mortgages, is a temporary policy offered to fix the cause of the crisis. Ohm, your critique seems to assume it is a permanent policy.
Art,
Imagine your team and mine are playing a basketball game. Mine is trailing so far behind that it is losing enthusiasm to play. And the organizers give my team those extra points, to make me "competitive". What does this do to YOUR team? And the other teams that were waiting in line to face your team after this game? I submit that they LOSE appreciable amount of drive to compete, for the self earned score has been rendered less meaningful with just that One Time dole to the losing team. Scoring has lost ambition and achievement value for it can also be obtained as a dole. The score no longer is a way to shore up your self concept and self satisfaction, unless you wanna go to each and every person in the World telling him that your score was a 100% self earned:-( Losing the drive to score with effort = losing competitiveness.
Sure, if the debt could get lowered by the own efforts of businesses, it would add competitiveness, yet if lowered as a dole, it thumbs the nose at those that managed their finances wisely, and reduces the meaningfulness of the American Dream for younger people just starting out in the economic game.
Krugman contends that "Economy is not a morality play", but it is. Morality, Justice and Humanity, apart from productivity and enterprisability of the people in whose name it is issued, are the ONLY things that back a fiat currency, else it's mere paper (or electronic credits, if you like). One time unwisdom can bring it down, permanent policy is not needed. But I want to make clear that I am still in favor of bankruptcy protections, modest unemployment benefits, employing people in building roads and bridges, deepening Grade School Education, and so on. "Too much debt" is not an apt characterization (or let's just say, is incomplete), truly it is: too much malinvestment and malpricing, that need to shrink. Further, many economic actors have huge surpluses with them (corporations with trillions in retained earnings) - they can always use these to pay off their debts if they are too high, yet all they've done is retired previous high cost debts with new low cost ones, nobody stops them from paying these remaining debts off - they don't seem to see much business case for adding investment anyways. For an underwater homeowner who malinvested in buying an overpriced house with debt, he can be given the option of converting part of his outstanding into the bank's Equity proportion in the house, so his Debt is brought below the current 'asset' price.....if he simply cannot digest that homes can lose value from the point he bought it at, like a car,....or google shares.
I'm no Boehner fan, but simply paying off people's debts or giving them free homes, in the hope that it'll make the economy vibrant, "No; Hell, No", It won't.
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