Dec

7

G REconomic news is the mainstay of media reporting, especially between natural disasters. Unfortunately, economic news seems only worth reporting when it is bad news. The media has had economic news generally backward over the last few years. The housing boom was reported as great news. Middle-income and low-income people were getting loans to buy their first homes, thanks to Congressional pressure on the Fed and banks. Everyday Americans were seeing their home equity increase significantly, so they could borrow money to travel and buy. This was all great news for the retail industry and new retail chains blossomed.

Home building was creating millions of jobs nationwide, and generating fast rising sales for Home Depot, Lowe's, as well as lumber, window, and appliance companies. And times were especially great in the home town of New York Times reporters, as Wall Street was generating vast fees from new mortgage-backed securities (after Congress had over-regulated business IPOs).

We now know that much of this news was misunderstood and misreported. We now know that new federal regulations and Congressional pressure on Fannie and Freddy, combined with weak oversight of mortgage brokers and NGO threats against banks to expand loans to minorities, led to way too many home loans handed out to unqualified and under-qualified home buyers and speculators.

Just as governments has unique powers to create financial crises, markets have unique powers to quickly clean up the mess. The press is again misunderstanding and misreporting the clean-up process. Government interventions throughout the US economy led to complex distortions in health care, energy, education, as well as housing and many other sectors.

In housing, the clean up process starts with redeploying millions of workers from the housing industry to other industries. If financial interventions encouraged companies to build a million too many homes, it is important for home builders to slow down and let real market demand for homes catch up. The government has also been cracking down on immigrants, shipping or scaring hundreds of thousands back to their home countries. That lowers demand for housing and for all the other goods and services they were purchasing while in the U.S.

So PBS is reporting the millions who have lost their jobs as bad news. Would it be better news if all these workers were to continue building homes, pouring concrete, taping drywall, and all the other tasks that surround the homebuilding industry?

The New York Times reports similar news of expanding factory closures and growing unemployment in China. Thousand of the factories that were producing goods for export have apparently closed as export orders from the US have stalled. Is this really bad news? Is there some reason why workers and factories in China can't be reoriented to produce goods and services for 1.3 billion Chinese people, nearly all of whom lack adequate housing and dream of the home appliances we take for granted? Markets work, and when companies lose overseas orders, they look to for other opportunities. If company owners and managers can't find profitable opportunities, they lose their claim on capital and labor. The sell their assets to other managers or return them to creditors. New managers take over, as they should. If the U.S. auto industry cannot figure out how to build cars that people what to purchase, they similarly lose their claim on auto industry capital and labor.

The great advantage the U.S. has compared to over-regulated Europe is that U.S. firms can quickly release assets and workers to new opportunities. John Stossel, in a segment from a ten years ago on outsourcing, reported that the US had lost 391 million jobs since the 1980s but had also created 411 million jobs. While European welfare states were mandating lengthy unemployment payments to laid off workers–creating strong incentives to stay unemployed–across the U.S., shrinking firms let workers go by the millions so they could retrain and staff millions of new firms in growing sectors of the economy. Stossel reported on a Levis factory in Tennessee that shut down, laying off hundreds of workers. But it was remodeled into a college, and most workers found better jobs in other industries (we have a link to this online Stossel segment here.

So job losses, reported as terrible news, and as open invitations for the next administration to massively intervene in the U.S. economy, are in fact good news. Job losses are good news in the sense that a hangover is good news. The discomfort of a hangover is our body adjusting to the abuse visited upon it the night before. It is both a warning against future abuse, and a call by the body to replenish lost liquids, salts, and generally readjust operations. Some heavy drinkers fight hangovers with Bloody Marys and other alcoholic drinks in the morning. They generally die young.


Comments

Name

Email

Website

Speak your mind

4 Comments so far

  1. Curmudgeon 6721 on December 7, 2008 11:00 am

    You wrote "Just as governments has unique powers to create financial crises, markets have unique powers to quickly clean up the mess". This is the most surprising sentence I have read in the last week; I am not sure how you got this idea.

    I agree with you that mistaken government policies played an important role leading up to the crisis. The Cl. and Bu. administrations pushed too hard on the "every citizen a home owner" idea until it broke. Fannie and Freddie were the darlings of Congress, which failed to supervise them properly (but F&F were not "pressured" by Congress, rather the reverse; thanks to lobbying and contributions to Congress F&F were allowed to do what they wanted and to avoid the normal supervision that every financial institution is subject to). Also, which you don't mention, monetary policy was too loose for too long (though that is clearer in retrospect that it was at the time). All this is important and constitutes the background for the crisis. These government errors set the stage.

    Nevertheless, when the crisis occurred it was a private sector crisis. The rating agencies are private sector entities and they lowered their standards in the pursuit of revenue and market share. The investment banks had too high a gearing ratio and their risk management departments failed to warn them of the consequences of a real estate bust or did not believe such a bust could occur. Citibank was not following government diktat when they decided to park tens of billions of assets off balance sheet in SIV's so they could lever themselves even more. The private sector could have set up a clearing house for Credit Default Swaps a long time ago but for some reason failed to do so. Many banks were buying subprime paper because they saw other banks doing it, without independent analysis. The list of private sector errors could be lengthened ad nauseam.

    There is plenty of blame to go around.  But in any case, once a financial crisis begins to affect credit and the money supply, there is nothing that the private sector can do to "quickly clean up the mess". As Friedman and Schwartz pointed out in their analysis of the Great Contraction, it becomes the responsibility of govt and the Fed to keep the money supply from shrinking. And this they are trying to do.

  2. douglas roberts dimick on December 7, 2008 11:05 am

    To Greg Rehmke: Exactly… Well put… dr

  3. John Busch on December 7, 2008 11:55 am

    To Greg Rehmke: Amen

  4. Gregory Rehmke on December 7, 2008 3:33 pm

    I agreed that private firms and private investors were responsible for much of housing and financial boom and bust.

    By cleaning up the mess, I am referring to large-scale redeployment of assets. Industries that make goods for housing shrink and lay off workers. Financial firms layoff workers. Maybe New York Investment firms don't have much to offer the housing market and would have been better off managing initial public offerings and takeovers. When the federal government and New York Attorney General made this too risky and blocked retirement funds from investing in stocks, investment firms shifted to mortgage-backed securities, and industry they thought they new, but didn't.

    The economy had to re-coordinate and re-focus on growing industries, and the financial markets will sort themselves out, if they are allowed to. The Federal Government had delayed and distorted this process by giving giant bailouts and offering more. GM and Ford are offered bailouts as long as they promise to pour billions into electric cars and other green projects they are not particularly qualified to take on.

Archives

Resources & Links

Search