Author Archive for Peter G. Klein – Page 2

The Leveraging of Corporate America

11943189016_6a1208edca_bA new NBER paper documents a strong, secular increase in US corporate borrowing during the Keynesian era.

Unregulated U.S. corporations dramatically increased their debt usage over the past century. Aggregate leverage – low and stable before 1945 – more than tripled between 1945 and 1970 from 11% to 35%, eventually reaching 47% by the early 1990s. The median firm in 1946 had no debt, but by 1970 had a leverage ratio of 31%. This increase occurred in all unregulated industries and affected firms of all sizes.

Not surprisingly, this change reflects government policy:

Changing firm characteristics are unable to account for this increase. Rather, changes in government borrowing, macroeconomic uncertainty, and financial sector development play a more prominent role.

Further evidence for the long-term lengthening of the economy’s capital structure, not from technological improvement, but from the government’s policy of always keeping interest rates below their market levels.

More Trouble for Behavioral Economics

Behavioral economics and its close cousin, neuroeconomics, have been all the rage in the last few decades. Behavioral economists claim to go beyond the naive assumptions of neoclassical economics by taking psychology (and neurophysiology) seriously, using laboratory experiments, brain scans, and other techniques to study how economic actors “really” behave under various circumstances. While some Austrians have embraced behavioral approaches, most have tended to dismiss the field, viewing behavioral economics as psychology, not economics. I find behavioral economics an ad hoc mixture of occasionally interesting psychological insights and naive policy recommendations that fit the authors’ particular ideological views (e.g., “soft paternalism”). More important, it’s hard to identify any important substantive contributions coming out of the behavioral literature; hardly anything seems both new and true. (Some neoclassical economists feel this way too.)

A recent NBER paper (gated, unfortunately) points to an important problem in the empirical literature on behavioral responses to stimuli. Economists Rajshri Jayaraman, Debraj Ray, and Francis de Vericourt studied an Indian tea plantation that changed its employment contract, from an output-based system with wages tied to individual performance to a “softer,” more equitable system with higher guaranteed minimum payments to all and weaker performance incentives. Initially, the plantation’s output increased, seemingly supporting the behavioralist claim that strong incentive plans make workers unhappy and lower productivity. However, after the first few months, this effect completely disappears, and worker behavior is entirely explained by a conventional economic model in which workers respond to financial incentives. As the authors put it, using more technical academic language: “an entirely standard model with no behavioral or dynamic features that we estimate off the pre-change data, fits the observations four months after the contract change remarkably well. While not an unequivocal indictment of the recent emphasis on ‘behavioral economics,’ the findings suggest that non-standard responses may be ephemeral, especially in employment contexts in which the baseline relationship is delineated by financial considerations in the first place.”

In my reading, the authors have found what used to be called a “Hawthorne effect,” a temporary response by employees to any change in management practice, workplace conditions, the employment contract, etc. Trying something new, whatever it is, can have a positive effect, but only temporarily.

I think the authors have identified a more fundamental problem with the behavioral social-science literature, namely that the empirical studies typically cover a very short time horizon, so that it is difficult to distinguish transitory from more permanent effects. Many behavioral researchers begin with strong prior beliefs about what they expect to find and, once they think they find it, they stop looking.

Dishonesty and Selection into Government Service

Dick Langlois points us to an interesting NBER paper on self-selection into government service, the results of which will surprise few readers of this blog:

In this paper, we demonstrate that university students who cheat on a simple task in a laboratory setting are more likely to state a preference for entering public service. Importantly, we also show that cheating on this task is predictive of corrupt behavior by real government workers, implying that this measure captures a meaningful propensity towards corruption. Students who demonstrate lower levels of prosocial preferences in the laboratory games are also more likely to prefer to enter the government, while outcomes on explicit, two-player games to measure cheating and attitudinal measures of corruption do not systematically predict job preferences. We find that a screening process that chooses the highest ability applicants would not alter the average propensity for corruption among the applicant pool. Our findings imply that differential selection into government may contribute, in part, to corruption. They also emphasize that screening characteristics other than ability may be useful in reducing corruption, but caution that more explicit measures may offer little predictive power.

The (Austrian) Economist as Public Intellectual

RothbardTurgotNicholas Kristof writes in the Sunday New York Times about the decline of the public intellectual. “Some of the smartest thinkers on problems at home and around the world are university professors, but most of them just don’t matter in today’s great debates.” As Kristof rightly points out, in many academic disciplines, career success comes exclusively from publications in peer-reviewed journals. Writing and speaking for a popular  audience, trying to influence journalists or policymakers, and even using blogs and social media are seen as distractions at best, pandering at worst. I once had a colleague who, as a junior professor, got an opinion piece published in the Wall Street Journal. “There goes his shot at tenure!” was the snarky reply from the senior faculty.

Of course, the great scholars of the Austrian tradition never took this position. Carl Menger started his career as a financial journalist and, after achieving international fame with his Principles of Economics, took a position as tutor to the Austro-Hungarian Crown Prince. Böhm-Bawerk was not only an eminent scholar but a vigorous participant in public debates and three-time minister of finance in the Austro-Hungarian empire. Mises spent most of his career as chief economist for the Vienna Chamber of Commerce, where he spent his days advising businessmen and government officials, his nights and weekends producing his seminal academic articles and books. Murray Rothbard, besides contributing original  theoretical and empirical works in economic theory, the philosophy of science, political economy, and US economic history, was a prolific writer of popular articles and books, a frequent speaker, and a tireless organizer for popular as well as scholarly causes.

The Mises Institute has, since its founding in 1982, pursued a three-way mission emphasizing academic research, teaching, and public outreach. Our faculty include top established and emerging scholars in Austrian economics who are working to develop, integrate, and advance the great tradition established by Menger. They publish in our Quarterly Journal of Austrian Economics and other peer-reviewed journals, present and discuss their work at our Austrian Economics Research Conference and other professional meetings, and otherwise keep the Austrian tradition healthy and strong. But our scholars also contribute to our Mises Daily series, they speak at our outreach conferences, and otherwise work to make the lessons of the Austrian school accessible and relevant to the problems and issues of our day. You can also find their work on our blog, on the Mises View, and wherever else good ideas are discussed. Scholarship is central to our mission, but so is relevance. Perhaps Kristof’s lament will spur other academics to do likewise and embrace the role of public intellectual.

Hydraulic Keynesianism Lives

I believe it was Alan Coddington who coined the term “hydraulic Keynesianism” to describe the typical macroeconomics textbooks of the 1950s, “conceiving the economy at the aggregate level in terms of disembodied and homogeneous flows.” The term also has a great visual quality, bringing forth an image of the economy as a giant machine with pumps and tubes and dials and levers, carefully controlled by wise government planners. (Such a machine was actually built by Bill Phillips of Phillips Curve fame.)

Apparently the Atlanta Fed has produced an educational video, “Money as Communication,” solemnly explaining the vital role of the Federal Reserve System in maintaining price stability. Mike Shedlock provides an amusing point-by-point commentary on the video, which surely ranks among  the best of government propaganda films. I especially liked the image below, taken from the video, which neatly encapsulates the Fed’s view of its own role in the economic system.

price stability

The woman at the keyboard has the wrong hair color to be Janet Yellen, and the man in the middle has too much hair to be Ben Bernanke, but I’m sure the intended audience — schoolchildren and New York Times reporters — will get the idea.

Report from the ASSA Conference

I attended this year’s ASSA conference in Philadelphia. The big story for most attendees was the weather, with a big winter storm leading to delayed and cancelled flights and trains, missed connections, and a slight damper on enthusiasm. It is a huge conference with several thousand participants and hundreds of sessions, panels, receptions, and other events. As you can imagine, with that much activity, the activities included the good, the bad, and the ugly. For most attendees the highlights were probably the speeches by Bernanke and current AEA president Claudia Goldin and lively give-and-take between Larry Summers and John Taylor. (My sympathies lie with Taylor.) I presented a paper on university business incubators, showing that their contributions to innovation and entrepreneurship may be more modest than advertised. Many Austrian economists attend the conference but the Austrian school is not, unfortunately, well represented on the program.

Much of the conference activities take place behind the scenes, as hundreds of colleges and universities interview huge numbers of job-market candidates in hotel suites, lounges, and cattle pens. (Just kidding about the last.) It’s a well-organized market about which much has been written (the AEA even tries to incorporate some economic theory into its market design). The overall experience for students (and recruiters) is highly variable (though not, apparently, as bad as with the Modern Language Association).

I met several young Austrian economists who are looking for jobs, or have recently secured them and are moving their way along the tenure track. This is all to the good, of course. However, I’ve noticed a disturbing trend in recent years, in which young Austrians seem less interested in the substance of their work than in how it will be received; their emphasis is on “playing the game” rather than seeking the truth. You also hear this said of the movement as a whole; unless Austrians get better at playing the game, our movement is in trouble. I’m reminded of Joe Salerno’s distinction between “professional” and “vocational” economists. Of course, Austrians seeking careers in academia need jobs and should be encouraged to follow the appropriate professional steps to market and distribute their work, to improve their teaching, and to maximize their chances at professional success. But we do not measure the health of our movement solely by PhDs granted, positions secured, or articles published.

Hayek and the Mont Pèlerin Society

Friedrich_Hayek_portraitTwo items of note:

1. Ross Emmett’s EH.Net review of The Great Persuasion: Reinventing Free Markets since the Depression by Angus Burgin (Harvard, 2012), which focuses extensively on Hayek and the Mont Pèlerin Society. Ross calls it  ”a subtle and nuanced history,” much better than recent similar books by Stedman Jones (2012) and Mirowski and Plehwe (2009).

2. A piece in National Affairs on Irving Kristol and Gertrude Himmelfarb which discusses Himmelfarb’s interactions with Hayek in London in the 1930s (HT: Nicolai Foss). “Himmelfarb and Hayek discussed, among other intellectual topics, his forthcoming launch of ‘an international Acton Society to promote the ideals of liberty and morality,’ which became the Mont Pelerin Society. . . . Himmelfarb admired Hayek for having linked Acton to Adam Smith and the ‘Manchester school.’ . . . [S]he recapped Hayek’s 1945 lecture at University College Dublin, in which he differentiated between the ‘true individualists’ of the Anglo-Scottish Enlightenment and the ‘false individualists’ of the Continental Enlightenment. . . . This sharp distinction between the two Enlightenments would later prove fundamental to both Himmelfarb’s and Kristol’s own work.”

Mendacious NYT Reporter Smears Economists on Speculation

Thanks to Felix Salmon for quoting me in his take-down of this embarrassing NYT piece on Craig Pirrong and Scott Irwin, two well-known economists who study commodity-market speculation. Basically, the reporter dislikes speculation (which he clearly doesn’t understand), so he assumes any expert with a different view must be a hired gun for various commodity-market firms and groups. The result is a preposterous article riddled with “jaw-on-the-floor” errors, mendaciously edited so the unfounded accusations come first, and the self-contradictions revealed only at the end of the piece. (E.g., the professors are paid consultants for these groups — oh, but they say the opposite of what these groups want, and are actually paid to work on entirely different things.)

As one commentator on my blog described it: “NYT reporter dutifully caters to its dwindling readership’s biases in an attempt to sell newspapers.”

How To Teach Italian

italian_verbs_1_avere_essere_dare_edited-1Mike Konczal objects to the typical sequence of a first-year economics curriculum: a semester of microeconomics, studying individuals, firms, and markets, followed by a semester of macroeconomics, looking at the economy as a whole. Austrian economists generally reject the artificial distinction between micro and macro, as taught in the mainstream textbooks, but most would start with individual human action, the analysis of bilateral then interpersonal exchange, then capital and production before going on to more complex interactions among capitalists, entrepreneurs, workers, and consumers, money and banking, the business cycle, and so on — in a broad sense, micro before macro.

Konczal thinks economists should teach macro first, then micro:

What if macroeconomics came first, before the study of individual markets? If were to reverse the typical curriculum, the first thing undergraduates would encounter wouldn’t be abstract theories about people optimizing, but instead the idea of involuntary unemployment and the idea that the economy could operate below its potential. They’d study the economy in the short-run before going to issues of long-term growth, with professors having to explain the theories on how the two are linked, bringing in crucial concepts like hysteresis.

Then, in the second class, they would get to microeconomics. But that too would be taught backwards. They’d start with institutions, understanding what enables a market economy to exist. Then they’d move on to the issue of firms with market power and externalities. Then, only at the very end, they’d get to the purest abstraction of perfect markets, with a final emphasis on what it means to be the isolated, optimizing Robinson Crusoe at the very end.

Konczal confuses differences in the level of aggregation with differences in theory versus application and “perfect” versus “imperfect” settings, among other problems. (He also seems to know little about how economics is actually taught — some textbooks put macro before micro already, and many programs teach micro and macro as standalone courses that students can take in any order.) But consider his core claim that aggregate phenomena should be studied first, their constituent elements second. How would this work in other settings?

I propose a Konczalian experiment, a two-semester model for teaching Italian literature to American students. In the first semester they examine classic and modern works, in the original language, and discuss them in class. Students choose their favorites and argue the merits of each work, paying particular attention to the professor’s own idiosyncratic preferences. Next they review Italian-language newspapers and blogs and relate literary works to broader social, cultural, and political trends. In the second semester, they learn to read Italian.

Mandela and the Economics of Apartheid

Nelson Mandela, public face of the anti-Apartheid movement and South Africa’s first post-Apartheid president, has died. Much will be written about Mandela in the coming days, but little of it will deal directly with the Apartheid system, particularly its economic aspects. Apartheid is widely misunderstood as a system based purely on racial prejudice, while it was actually a more complex mix of economic controls (primarily, restrictions on capital ownership and movements of labor) and racial separatism — what Tom Hazlett calls “socialism with a racist face.” Apartheid’s political support came primarily from working-class (white) Afrikaners and their labor unions eager to suppress competition from unskilled black labor. As Hazlett notes: ”The conventional view is that apartheid was devised by affluent whites to suppress poor blacks. In fact, the system sprang from class warfare and was largely the creation of white workers struggling against both the black majority and white capitalists.”

The classic treatment of Apartheid as an economic system is W. H. Hutt’s Economics of the Color Bar, first published in 1964. Hutt advocated free markets for capital and labor and strict limits on government intervention in economic affairs. (Hutt, a student of Edwin Cannan at the LSE, was a distinguished labor and monetary economist and a well-known opponent of Keynes; see Peter Lewin’s essay on Hutt for more information.) Leon Louw and Frances Kendall’s 1986 book South Africa: The Solution (republished in 1987 as After Apartheid) offers a thoughtful analysis of South Africa’s economic system, proposing a highly decentralized alternative modeled after the Swiss cantons (see Bettina Bien Greaves’s review here).

Unfortunately, the leaders of the anti-Apartheid movement, Mandela included, viewed Apartheid as a “capitalist” system, turning to Marxism-Leninism as the only viable economic (and political) alternative. When the African National Congress came to power in 1994, it dismantled Apartheid’s system of racial separation, opening up land ownership and labor-market opportunities for all South Africans, but continued to embrace the socialist economic principles that underlie the Apartheid model. As Murray Rothbard pointed out, economic freedom is a better path to racial reconciliation: “Free-market capitalism is a marvelous antidote for racism. In a free market, employers who refuse to hire productive black workers are hurting their own profits and the competitive position of their own company. It is only when the state steps in that the government can socialize the costs of racism and establish an apartheid system.”

photo 1The good news is that there are several libertarian groups in South Africa working to bring about secure property rights, freedom, and peace, including the Mises Institute South Africa, Solidarity, Afrisake, and the Free Market Foundation. I had the pleasure of visiting these groups and their supporters last month during a visit to Johannesburg and Pretoria. To the right is a picture of me with the leadership team of the Mises Institute South Africa. And below is a picture I took of the Mandela house in Soweto, now a museum dedicated to Mandela’s life and the anti-Apartheid movement.


The Place of Austrian Economics in Contemporary Entrepreneurship Research

That’s the title of a new working paper by Per Bylund and me. It’s forthcoming in a special issue of the Review of Austrian Economics devoted to the contributions of Israel Kirzner.

The Place of Austrian Economics in Contemporary Entrepreneurship Research

Peter G. Klein and Per L. Bylund
December 5, 2013

Abstract: We review the place of Austrian economics in contemporary entrepreneurship and management research, focusing on the contributions of Israel Kirzner. We show that Kirzner’s central concept of entrepreneurial discovery has been vastly influential in theoretical and applied work on entrepreneurship, even though Kirzner’s larger research program has not been well understood. We also describe and assess a number of methodological, ontological, and cognitive critiques of the opportunity-discovery approach and review the most important alternatives, including the judgment-based view associated with Knight (1921) and more recent contributors. We conclude that the entrepreneurship and management literatures provide a useful example of how Austrian economics — Kirznerian economics in particular — can play an important role in shaping mainstream discussions, debates, and research programs in the social sciences.

Keynes, Keynes, and More Keynes

The British students demanding more Keynes and Marx have been joined, predictably, by British academics — specifically, the self-described “post Keynesians” who think that mainstream economics isn’t Keynesian enough. Listen to this radical agenda: “The post-Keynesian approach emphasizes the central importance of aggregate demand in the macro-economy, the challenges posed by financial instability in a world of globalized capital flows, the impact of inequality on economic growth, and the effect of uncertainty on expectations.” Gosh, they’re right: mainstream macroeconomists — not to mention journalists and policymakers — hardly ever mention aggregate demand, do they? Nor do the standard textbooks ever talk about financial panics, inequality, or uncertainty. Indeed, as we all know, mainstream economics teaches that free markets are best, and there is no need for any government intervention, especially in the monetary system.

As I noted in the post linked above, I think the Post Keynesians are upset that the economics profession is only, say, 75% Keynesian. For them, anything less than 100% shows disrespect to the Greatest Economist.

Solution to the Economic Crisis? More Keynes and Marx

I’ve previously discussed attempts to blame the accounting scandals of the early 2000s on the teaching of transaction cost economics and agency theory. By describing the hazards of opportunistic behavior and shirking, professors were allegedly encouraging students to be opportunistic and to shirk. Then we were told that business schools teach “a particular brand of free-market ideology” — the view that “the market always ‘gets prices right’ and “[a]n individual’s worth can be reduced to one’s worth in the market” — and that this ideology was partly responsible for the financial crisis. (My initial reaction: Where to I sign up for these courses?!)

The Guardian reports now on a movement in the UK to address “the crisis in economics teaching, which critics say has remained largely unchanged since the 2008 financial crash despite the failure of many in the profession to spot the looming credit crunch and worst recession for 100 years.” If you think this refers to a movement to discredit orthodox Keynesianism, which dominates monetary theory and practice in all countries, and its view that discretionary fiscal and (especially) monetary policy are needed to steer the economy on a smooth course, with particular attention to asset markets where prices must be rising at all times, you’d be wrong. No, the reformers are calling for “economics courses to embrace the teachings of Marx and Keynes to undermine the dominance of neoclassical free-market theories.” To their credit, the reformers appear also to want more attention to economic history and the history of economic thought, which is all to the good. But the reformers’ basic premise seems to be that mainstream economics is too friendly toward the free market, and that this has left students unprepared to understand the “post-2008″ world.

To a non-Keyensian and non-Marixian like me, these arguments seem to come from a bizarro world where the sky is green, water runs uphill, and Janet Yellen is seven feet tall. It’s true that most economists reject economy-wide central planning, but the vast majority endorse some version of Keynesian economic policy complete with activist fiscal and monetary interventions, substantial regulation of markets (especially financial markets), fiat money under the control of a central bank, social policy to encourage home ownership, and all the rest. I’ve pointed many times to research on the social and political views of economists, who lean “left” by a ratio of about 2.5 to 1 — yes, nothing like the sociologists’ zillion to 1, but hardly evidence for a rigid, free-market orthodoxy. I note that the reformers described in the Guardian piece never, ever offer any kind of empirical evidence on the views of economists, the content of economics courses, or the influence of economics courses on economic policy. They simply assert that they don’t like this or that economic theory or pedagogy, which somehow contributed to this or that economic problem. They seem blissfully unaware of the possibility that their own policy preferences might actually be favored in the textbooks and classrooms, and might have just a teeny bit to do with bad economic policies.

I’m reminded of Sheldon Richman’s pithy summary: “No matter how much the government controls the economic system, any problem will be blamed on whatever small zone of freedom that remains.”

[Posted originally at Organizations and Markets]

Unintentionally Hilarious Monetary Quote of the Day

From a Chicago Fed paper on crypto-currencies:

Although some of the enthusiasm for bitcoin is driven by a distrust of state-issued currency, it is hard to imagine a world where the main currency is based on an extremely complex code understood by only a few and controlled by even fewer, without accountability, arbitration, or recourse.

HT: ZeroHedge, via Tom DiLorenzo.

Easy Money and Asset Bubbles

Central to the Austrian understanding of business cycles is the idea that monetary expansion — in Wicksellian terms, money printing that pushes interest rates below their “natural” levels — leads to overinvestment in long-term, capital-intensive projects and long-lived, durable assets (and underinvestment in other types of projects, hence the more general term “malinvestment”). As one example, Austrians interpret asset price bubbles — such as the US housing price bubble of the 1990s and 2000s, the tech bubble of the 1990s, the farmland bubble that may now be going on — as the result, at least partly, of loose monetary policy coming from the central bank. In contrast, some financial economists, such as Laureate Fama, deny that bubbles exist (or can even be defined), while others, such as Laureate Shiller, see bubbles as endemic but unrelated to government policy, resulting simply from irrationality on the part of market participants.

Michael Bordo and John Landon-Lane have released two new working papers on monetary policy and asset price bubbles, “Does Expansionary Monetary Policy Cause Asset Price Booms; Some Historical and Empirical Evidence,” and “What Explains House Price Booms?: History and Empirical Evidence.” (Both are gated by NBER, unfortunately, but there may be ungated copies floating around.) These are technical, time-series econometrics papers, but in both cases, the conclusions are straightforward: easy money is a main cause of asset price bubbles. Other factors are also important, particularly regarding the recent US housing bubble (I suspect that housing regulation shows up in their residual terms), but the link between monetary policy and bubbles is very clear. To be sure, Bordo and Landon-Lane don’t define easy money in exactly the Austrian-Wicksellian way, which references natural rates (the rates that reflect the time preferences of borrowers and savers), but as interest rates below (or money growth rates above) the targets set by policymakers. Still, the general recognition that bubbles are not random, or endogenous to financial markets, but connected to specific government policies designed to stimulate the economy, is a very important result that will hopefully influence current economic policy debates.

[Posted originally at Organizations and Markets]

Anti-Semitism and the Early Austrian School

An important new working paper by Hansjoerg Klausinger, “Academic Anti-Semitism and the Austrian School: Vienna, 1918–1945.” Here’s the abstract:

The theme of academic anti-Semitism has been much discussed recently in histories of the interwar period of the University of Vienna, in particular its Faculty of Law and Policy Sciences. This paper complements these studies by focusing in this regard on the economics chairs at this faculty and, more generally, on the fate of the younger generation of the Austrian school of economics. After some introductory remarks the paper concentrates on three case studies: the neglect of Mises in all three appointments of economics chairs in the 1920s; the anti-Semitic overtones in the conflict between Hans Mayer and Othmar Spann, both professors for economics at the faculty; and on anti-Semitism as a determinant of success or failure in academia, and consequently of the emigration of Austrian economists. Finally, we have a short look at the development of economics at the University of Vienna during and after the Nazi regime.

My Question for Simon Johnson

As Bob Higgs has tirelessly reminded us, regime uncertainty — doubt about the security of person and property — retards investment and delays recovery from economic downturns. FDR’s constantly changing economic policies help explain why it took the US so long to recover from the Great Depression, and the inconsistent bailout, subsidy, and regulatory regimes of the Bush and Obama Administrations continue to harm the economy today.

Bob points out that that regime uncertainty is distinct from “policy uncertainty,” as that term is typically used today to describe changes in fiscal or monetary policy within a particular legal regime. This kind of policy uncertainty is getting increasing attention in the mainstream press — not in reference to things like Obamacare, but to proposed reductions in government borrowing and spending. For example, Simon Johnson, the IMF’s former chief economist, writes in today’s New York Times that Congressional debates about the non-shutdown and raising the debt ceiling have created uncertainty that is damaging the economy. “If people really believe that the government could default on its debts or otherwise not make payments to which it is committed, that introduces a huge element of uncertainty into many economic calculations. When you are less certain about what is going to happen tomorrow, you tend to postpone big irreversible decisions – like buying a new car or building a factory.”

Here’s my question for Johnson: Imagine a set of government policies deeply harmful to the economy — in this case, the continued monetary and fiscal stimulus from the Fed and Treasury that is perpetuating the malinvestment responsible for the recession. Which is worse, a belief that these bad policies will continue ad infinitum, giving people incentives to make bad economic decisions, or uncertainty about whether the bad policies will remain in place, possibly discouraging people from making the bad decisions?


Murray and Me in the NYT

Bruce Bartlett is shocked to discover that a few economists, Murray Rothbard and myself included, are not default alarmists. His latest New York Times column is a strangely disjointed, hackneyed piece that simply lists people who have doubted the conventional wisdom that America Must Not Default at All Costs. Bartlett lumps together serious critics such as Rothbard, Ron Paul, James Buchanan, and Niall Ferguson with less serious people like Pat Robertson, Newt Gingrich, and Pat Buchanan, hoping to establish guilt by association. Naturally, he doesn’t offer any analysis or commentary. But he does quote Rothbard and, thankfully, his editors made him put in links to the originals so readers can check for themselves.

In 1992, the libertarian economist Murray Rothbard wrote an essay supporting debt repudiation, saying, “Why should we, struggling American citizens of today, be bound by debts created by a past ruling elite who contracted these debts at our expense?”

Just last year, the Rothbard essay was reprinted on the Web site of the Ludwig von Mises Institute, where Tea Party ideas often originate. A companion Web site run by Llewellyn H. Rockwell Jr., the president of the Mises Institute, often publishes articles advocating debt default by the economist Gary North and others. Just last week, it reprinted a 2011 essay by the University of Missouri economist Peter G. Klein saying that a Treasury default is no big deal.

That’s not exactly what I wrote but hey, at least he spelled my name correctly.

More on Default

Several commentators have taken me to task, on and on social media, for suggesting that a T-bill is “a bond just like any other bond.” Don’t I know that Treasuries are the world’s reserve, “risk-fee” financial asset? Don’t I know the US dollar is the world’s reserve currency? Well, yes — having taught university-level money and banking and corporate finance, the capital asset pricing model, etc., I have a fair idea of what role T-bills and cash play in the world economy. I meant the above statement in the sense that you’d say, for example, “Ben Bernanke may be the second-most powerful man in the world, but he’s just a man like any other man, and puts his pants on one leg at a time.” Of course, Treasury bonds are special, because they’ve historically been backed up by the “full faith and credit” — i.e., the vast taxing and unlimited money-printing power — of the US government. Market participants rightly assume their default risk is very low (not zero, actually). Investors expect the US dollar to hold its value better than, say, the Zimbabwe dollar. But that doesn’t make either a magical thing, like a unicorn or an honest Congressman.

Ultimately, at the end of the day, when all is said and done — pick your favorite euphemism — a T-bill is a bond like any bond: a promise to pay principal and interest according to a specified schedule. The investor gets a return in exchange for bearing the risk that the borrower may not pay. If the borrower defaults — i.e., misses an interest payment, or tries to declare bankruptcy or otherwise restructure the debt — the lender will be worse off than before, the lender’s business may fail, and a number of harmful consequences may ensue. This happens all the time in private credit markets. The difference between corporate and municipal bonds and Treasury bonds is one of degree, not one of kind.

Moreover, the defaulting borrower will be harmed, having its credit rating lowered and finding its future borrowing costs higher than before. Again, the difference between the US Treasury and any other borrower is marginal. Missing a single interest payment, or even multiple payments, wouldn’t immediately make all US government debt worthless, it would just be worth less than before. Chinese and Japanese investors would be less likely to buy further bonds, but wouldn’t necessarily discontinue all lending to the US government. There’s no reason to expect bond or currency markets to “collapse,” let alone for the global economy to spin out of control in a giant meltdown. Indeed, there are markets for credit default swaps on sovereign debt — essentially, insurance contracts against default — including US Treasuries (currently, these markets think default highly unlikely, but not impossible). If financial markets can price out the risk of a sovereign default, how can default be a “black swan” event that market participants cannot possibly handle?

Here’s the most important point. Of course, I fully concede, a default of any kind would be harmful to individuals and institutions holding Treasury bonds in their portfolios. It would cause investors and analysts to rethink the role that T-bills play in the financial system and could cause some painful adjustments. But why should these be the only costs under consideration? What about the cost to the US taxpayer from raising the revenues needed to pay the interest on T-bills? What about the costs to everyone holding  assets denominated in depreciating dollars — depreciation that will continue as long as the Fed maintains its policy of monetizing the debt? Why should all these people be penalized to benefit those who might be harmed from a loss on the value of Treasury bonds?

To paraphrase William Jennings Bryan: Why must humanity be crucified on a cross of the risk-free rate?

Without Government, Who Will Live in Antarctica?

NPR has been running a series of sad stories about various taxpayer-funded activities delayed by the non-shutdown. The other day I heard one about a dinosaur skeleton that was supposed to be shipped to the Smithsonian, but will now languish in a warehouse in Montana. I could barely contain my grief. Today was a feature on Antarctica, and how some scientific missions — all government funded, of course — may have to wait until Spring, because the ice is getting too thick, or something. One thing you will never, ever hear on NPR is a feature about a poor, beleaguered taxpayer who cannot maintain or improve his lot in life because his hard-earned funds are going to paleontologists or ice geologists. Nor will you hear about any potential harm to middle-class Americans from continued government borrowing and spending. NPR itself, of course, would not exist without taxpayer subsidy, but I’m sure that has nothing to do with it. In any case, I keep tuning in too late to hear the conflict-of-interest disclaimer that runs with such stories. Right?