Wednesday, February 4, 2009

Re: David Leonhardt

That was a helluva long article and, at least to my tastes, pretty incoherent. Lots of scattershot analysis, some of it pretty good, but lots of it was utter garbage. I was just going to post a comment, but the more I tried to respond succinctly, the more things I saw in the article that required rebuttal. Sorry KP readers, but you're in for more Gammaboy ranting analysis.

The first section, "Whither Growth?" was the worst part of the article. I am actually going to reprint alot of the article in this section, because virtually every sentence was flawed. The rest of the article is not nearly as awful, so I'l spare Blogger's capacity and your patience by not reprinting the rest of the article.

The economy will recover. It won’t recover anytime soon. It is likely to get significantly worse over the course of 2009, no matter what President Obama and Congress do. And resolving the financial crisis will require both aggressiveness and creativity. In fact, the main lesson from other crises of the past century is that governments tend to err on the side of too much caution — of taking the punch bowl away before the party has truly started up again. “The mistake the United States made during the Depression and the Japanese made during the ’90s was too much start-stop in their policies,” said Timothy Geithner, Obama’s choice for Treasury secretary, when I went to visit him in his transition office a few weeks ago. Japan announced stimulus measures even as it was cutting other government spending. Franklin Roosevelt flirted with fiscal discipline midway through the New Deal, and the country slipped back into decline.

Let me begin by saying that Timothy Geithner was an awful choice for Treasury (Obama's biggest mistake so far). He and Summers were both complicit in many of the bad decisions that led to this fiasco. To think he is going to ride in on a white horse is ridiculous. The main lesson of the past century is that government meddling usually makes a bad situation worse. Yves has a must-read analysis of the latest "bad bank" proposal. Seriously, if you have only five minutes, skip the rest of my response and read his analysis. As for Leonhardt's article, his lines about Japan and the New Deal are typical of his shoddy analysis. He implies Roosevelt's attempt at fiscal discipline directly led the country back into decline. That is simply not true.

Geithner arguably made a similar miscalculation himself last year as a top Federal Reserve official who was part of a team that allowed Lehman Brothers to fail. But he insisted that the Obama administration had learned history’s lesson. “We’re just not going to make that mistake,” Geithner said. “We’re not going to do that. We’ll keep at it until it’s done, whatever it takes.”

After reading Yves post, Geithner's point should be clear. The Treasury will do "whatever it takes" to protect the big banks, even at the expense of the larger economy. Admittedly the Treasury has a good selfish reason for doing this, as at least half of its primary dealers are technically insolvent, but let's be clear that the Fed and Treasury are doing this to protect their own operations, not the economy at large. If protecting the economy at large was a concern, most of the biggest banks - Citi, Merrill, JPMorganChase - would need to be nationalized, as they are all basically insolvent at this point.

Once governments finally decide to use the enormous resources at their disposal, they have typically been able to shock an economy back to life. They can put to work the people, money and equipment sitting idle, until the private sector is willing to begin using them again. The prescription developed almost a century ago by John Maynard Keynes does appear to work.

Arrrghhh! The revisionist history of late on Keynes is almost incomprehensible to me. His work was as discredited as Malthus only a few decades ago. I am afraid I am going to have to digress here for a moment, because the assumptions in this paragraph are so completely wrong.

The only way you can have economic growth is when you "put to work the people, money and equipment sitting idle" in some kind of productive enterprise. If I wanted, I could create 4 million jobs tomorrow. Two million people would dig a ditch from L.A. to New York and another two million would be tasked with filling it back up. This would create jobs, but it would be completely unproductive. In fact, paying for that work would require either taking or borrowing money from people who are doing productive jobs, thereby reducing the capital those people would otherwise use to expand their productive enterprises. You create jobs, but you actually damage the long-term health of the economy. This is the genius of Keynes. The broken windows fallacy is a much more elegant description of this situation, and if you really want to understand the issue in full, you should go ahead and read this short but classic book.

That's not to say that there aren't productive roles for the government (rebuilding roads, for example), but the end result of efforts should raise the productivity of everyone in the economy. The problem with stimulus is that instead of having good productive projects in search of funds, you have funds in search of good, productive projects, and inevitably in the race to spend the funds, lots of unproductive projects are funded.

Skipping ahead...

Richard Freeman, a Harvard economist, argues that our bubble economy had something in common with the old Soviet economy. The Soviet Union’s growth was artificially raised by massive industrial output that ended up having little use. Ours was artificially raised by mortgage-backed securities, collateralized debt obligations and even the occasional Ponzi scheme.

Where will new, real sources of growth come from? Wall Street is not likely to cure the nation’s economic problems. Neither, obviously, is Detroit. Nor is Silicon Valley, at least not by itself. Well before the housing bubble burst, the big productivity gains brought about by the 1990s technology boom seemed to be petering out, which suggests that the Internet may not be able to fuel decades of economic growth in the way that the industrial inventions of the early 20th century did. Annual economic growth in the current decade, even excluding the dismal contributions that 2008 and 2009 will make to the average, has been the slowest of any decade since the 1930s.

So for the first time in more than 70 years, the epicenter of the American economy can be placed outside of California or New York or the industrial Midwest. It can be placed in Washington. Washington won’t merely be given the task of pulling the economy out of the immediate crisis. It will also have to figure out how to put the American economy on a more sustainable path — to help it achieve fast, broadly shared growth and do so without the benefit of a bubble. Obama said as much in his inauguration speech when he pledged to overhaul Washington’s approach to education, health care, science and infrastructure, all in an effort to “lay a new foundation for growth.”

Did Leonhardt not miss the irony of decrying our similarity to the Soviet Union and then claiming that Washington needs to save the economy? The downfall of the Soviet Union was central planning, but Leonhardt now wants Washington to decide how to invigorate the economy. This sounds like something out of The Onion. Perhaps Leonhardt is correct that the epicenter of economic growth right now is Washington, but that is precisely the problem.

Who knows where the next source of growth will come from. That is the magic of a capitalist economy. Nobody knows where the next growth source is, but a million different people are independently experimenting to find the next source. Someone will develop the next great productivity-enhancing device, and like the personal computer, mobile phone, GPS, etc. before it, it will boost the economy by making people more productive. [Incidentally, I completely disagree with Leonhardt on the waning of the information technology boom. We are still at the infancy of the information technology era. The biggest productivity gains are still ahead of us. Despite my well-documented bearishness, my main hope for our economy is derived from this fact. If Washington would stop picking winners and losers and let creative destruction do its thing, there is no reason we couldn't ride this productivity wave to shockingly new levels of prosperity. You should read the article he linked. It's odd that he chose that article as it in no way supports his contention that the information technology boom is over, and in fact, pretty much argues that Washington should get out of the way.]

And that takes care of the first section. I need to hit the sack, so I'll spare us all any more detailed analysis. Anyway, the rest of the article is much more sound, although it ranges all over the place and is pockmarked with small but serious errors. I particularly had to snicker at Leonhardt's love for the so-called "Rahm's doctrine":

You never want a serious crisis to go to waste,” Emanuel said. “What I mean by that is that it’s an opportunity to do things you could not do before.”

Rahm's doctrine. Like it's some breakthrough in political thinking. Gimme a break. Sun Tzu and Machiavelli said the same thing. Caesar used a crisis to become emperor; Hitler used one to become fuhrer; Bush used one to attack Iraq. Pretty much every American war had a hyped-up crisis that was used as pretext to galvanize the country.

Anyway, there is some good stuff in the article, but between those bricks, the mortar is filled with nonsense. Not a Leonhardt fan.

1 comment:

Yo Gabba Gabba said...

Wow, what a comprehensive post. Good job. (I picture you typing/researching that at 3 a.m. b/c the newborn kept you up.)