Tuesday, December 16, 2008

Pol. Ideology 10: Joe Stiglitz and the Market

Joseph Stiglitz, the Nobel prize winner, at one time one of my favorite economists, recently wrote an article, "Capitalist Fools"

http://www.commondr eams.org/ view/2008/ 12/10-1
Published on Wednesday, December 10, 2008 by Vanity Fair

In his concluding paragraph, he wrote,

The truth is most of the individual mistakes boil down to just one: a belief that markets are self-adjusting and that the role of government should be minimal. Looking back at that belief during hearings this fall on Capitol Hill, Alan Greenspan said out loud, "I have found a flaw." Congressman Henry Waxman pushed him, responding, "In other words, you found that your view of the world, your ideology, was not right; it was not working." "Absolutely, precisely," Greenspan said. The embrace by America-and much of the rest of the world-of this flawed economic philosophy made it inevitable that we would eventually arrive at the place we are today.

Joe Stiglitz has been among the chief spokesmen of "more government regulations, abandon market self-correction" philosophy these days. It was very clear in his first sentence above.

The US government played big intervention in the build-up to the current housing bubble that burst recently:

a) Community Reinvestment Act (CRA), aka "anti-redlining law" where people with low or unstable incomes, cannot be turned down by banks when they borrow for housing mortgages. Enacted October 1977 by Pres. Jimmy Carter, a Democrat, and never repealed or amended by succeeding Republican leaders who recently turned big government advocates themselves.

b) Freddie and Fannie: if private banks will have some trouble lending to financially-suspect people, the "sub-prime" borrowers, even the NINJA (no income, no job or asset), they will guarantee those loans.

c) 12,100+ government financial regulators in Washington DC alone, working full time, that's not enough regulation?

d) Bail-out statism (AIG, Bear Sterns, Freddie and Fannie, etc.) by several hundred billion $.

And Joe Stiglitz would still consider that "minimal government role"?
He's dreaming, if not lying.

I wrote these two short papers recently:

(1) From Recession to Depression

December 12, 2008

People have now accepted the fact that the US, Japan, Germany, other rich countries are now in recession. The new discussion, even on a limited scale, is if the recession (short-term economic contraction, at least 2 consecutive quarters) will morph and expand into a Depression, similar to the Great Depression of 1929 to 30s, even early 40s to some countries.

A NY Univ Econ professor, Dr. Noriel Roubini, wrote a rather scary scenario, below.


We are in the middle of a very severe recession that's going to continue through all of 2009 - the worst U.S. recession in the past 50 years. It's the bursting of a huge leveraged-up credit bubble. There's no going back, and there is no bottom to it. It was excessive in everything from subprime to prime, from credit cards to student loans, from corporate bonds to muni bonds. You name it. And it's all reversing right now in a very, very massive way. At this point it's not just a U.S. recession. All of the advanced economies are at the beginning of a hard landing. And emerging markets, beginning with China, are in a severe slowdown. So we're having a global recession and it's becoming worse.

Things are going to be awful for everyday people. U.S. GDP growth is going to be negative through the end of 2009. And the recovery in 2010 and 2011, if there is one, is going to be so weak - with a growth rate of 1% to 1.5% - that it's going to feel like a recession. I see the unemployment rate peaking at around 9% by 2010. The value of homes has already fallen 25%. In my view, home prices are going to fall by another 15% before bottoming out in 2010.

...You should preserve capital. It'll be hard and challenging enough. I wish I could be more cheerful, but I was right a year ago, and I think I'll be right this year too.

(2) Cut Taxes to Limit Recession

December 02, 2008

The proposal by UN economists, as well as economists by various governments and multilateral institutions, that governments must spend more and bloat their budgets to counter economic slow-down if not recessionary trends, is wrong. When the economy is bad, people tend to limit their spending, to save more, and this further reduces the sales of other people and enterprises selling various goods and services. When government will spend more, then it will tax and/or borrow more. When it hikes the taxes, this further reduces the spending power of the people; when it borrows more to bloat its budget, it will compete with private borrowers from banks and other financial institutions, which can push domestic interest rates to go up, and will help push inflation to go higher.

The alternative policy to counter economic slowdown or recessionary trend, is for governments to cut taxes, fees and borrowings. This will put more money into the pockets and savings account of the people. More disposable income would translate to more private spending, while more savings will translate to lower interest rates, which will encourage investments and job creation.

It is a big myth propagated by many governments and multilateral institutions that more taxation and intervention by them will arrest recessionary trend, when they themselves and their tax-and-spend policies are a big part of the problem.

(3) Capitalism and Bail-outs Don't Mix

November 20, 2008

Another friend from Delhi, Mohit Satyanand, who is also a director at Liberty Institute in that city, posted a short but very frank and provocative paper about capitalism and bail-outs, in Outlook Money website yesterday.

Mohit wrote,

"The begging bowls are out.
All across the world.
And these are not your ordinary tin bowls, with dents in the bottom and black stains on the side. These are huge, yacht-sized begging bowls, being held out by people who haven't ridden a public plane in years, and work out of office suites the size of large family apartments. They're asking for bail-outs of billions of dollars, or thousands of crores of rupees - in loans, sovereign guarantees, tax deferrals, or lower interest rates....

"Failure is the primary reason why capitalism is the most successful way of running business - it is the process of natural selection. Companies that are poorly run or produce products ill-suited to the environment fall, and are taken over by smarter managers who understand the consumers better. Toyota makes cars that people want, at prices they are willing to pay. GM doesn't. It needs to go out of business. If the US Congress decides to bail GM out, ironically, the same people who don't want to buy GM.cars will be forced to bail-out GM through the strange device called tax-payers' money.

These devices - whether in housing or banking, airlines or automobiles, prolong the agony of a financial crisis, which is a period of adjustment. Those who have failed need to exit; those who will succeed are already in the wings, but getting crowded out by governmental action."

It seems that competitive capitalism, that oldie but goldie economic system where expansion and failure is as certain as the sun rising up and setting everyday, is possible only in a small or limited government political set-up. Government should be BIG only in facing killers, kidnappers, rapists, land-grabbers, extortionists, embezzlers, and other types of criminals. But that same government should be near-zero in business taxation and regulation, so that it will have zero capability to bail-out large but mis-managed and sinking corporations.

It's also a lesson or warning for independent think tanks that rely on donations from private individuals, corporations and foundations. They should not solicit contribution from big corporations that owe their bigness due to political favors and rent-seeking. Sooner or later, those corporations will run into financial trouble in a competitive environment. And when they do, the first thing they will do is ask for government bail-out. And as a think tank that previously got money from them, it will have some "obligations" or "debt of gratitude" to somehow defend them. And it's going to be messy.

(4) Keeping Faith in the Market

October 16, 2008

A fellow free marketer friend expressed some reservation and doubt "if the bailout will make the average joe suffer less or more. What about the liquidity trap theory?"

I advised him to keep our faith in the market. Tthe market is composed of the big and small businessmen; gamblers and risk-averse investors; big and small producers and consumers, rich and poor. It's you and me, our neighbors, friends and enemies.

Even Karl Marx recognized the business cycle in capitalism, under his "declining rate of profit" theory. Smith, Hayek, Friedman, other classical and modern thinkers recognize business cycle and hence, would not recommend government coming in in times of market downturns, the same way that they would not recommend State intervention in times of market expansion and huge wealth creation.

I have argued it earlier, I will repeat it. In times of recession or recession-like conditions where consumers are cutting back on their spending -- meaning producers, shops, malls, restaurants and resorts are not making enough money -- government should cut income tax, drastic cut, to allow people to have bigger take-home pay out of their salaries. And government should better cut its bureaucracy too, encourage bureaucrats to become entrepreneurs or staff of entrepreneurs. Society needs more people producing and trading all sorts of goods and services. Big supply of everything would mean price of everything will later fall, then consumers will buy more, and the economy should be able to rise quickly.

One of the greatest maladies of our time is that the supposedly independent intellectuals -- those in the academe, in civil society, in media, in corporations, etc. -- are generally parroting what the unproductive but powerful people in the State bureaucracy are saying and advocating. For them, drastic tax cut in times like these is a crime; that we should surrender more of our income and savings, both current and future, to the State and the state will take care of us. This is the "mother of all rackets" ever invented and retained in the whole planet.

* See also:
Pol. Ideology 5: Have Movements for Liberty Progressed? June 26, 2006
Pol. Ideology 6: Quotes from Adam Smith, February 04, 2007
Pol. Ideology 7: Individualism, Entitlement and Freedom, April 30, 2007
Pol. Ideology 8: Ideas on Liberty, September 15, 2007
Pol. Ideology 9: Liberty and Choice, Atlanta and HK Conferences, June 09, 2008

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