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The best column I've read today

Dani Rodrik:

If economic logic were clear-cut, governments wouldn’t have to justify what they do on the basis of market confidence. It would be evident which policies work and which do not, and pursuing the “right” policies would be the surest way to restore confidence. The pursuit of market confidence would be superfluous.

So, if market confidence has a meaning, it must be something that is not pinned down simply by economic fundamentals. But what is it? [...]

Today, markets seem to think that large fiscal deficits are the greatest threat to government solvency. Tomorrow they may think the real problem is low growth, and rue the tight fiscal policies that helped produce it.

Today, they worry about spineless governments unable to take the tough actions needed to deal with the crisis. Perhaps tomorrow they will lose sleep over the mass demonstrations and social conflicts that tough economic policies have spawned.

Few can predict which way market sentiment will move, least of all market participants themselves. Even with hindsight, it is sometimes not clear why markets go one way and not the other. Similar policies will produce different market reactions depending on the prevailing story, or fad of the moment. That is why steering the economy by the dictates of market confidence is a fool’s errand.

I'd just note, as Paul Krugman does, that in the United States, we're not steering the economy by the dictates of the market. We're steering the economy by the dictates of what some people think the market might want at some point in the future. Listening to the market is one thing. Trying to predict its future demands is another.

By Ezra Klein  |  July 13, 2010; 11:18 AM ET
 
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Perhaps federal economic policy should be steered by something other than the ephemeral whims of "the market": perhaps the guiding principles should be liberty and freedom, including the freedom to fail.

Yesterday, when I heard Senator Kyl consider the necessary evil of unemployment insurance payouts and eloquently remind us that "The money belongs to the taxpayer, to the people. The money does not belong to the government," I thought back to some other wise words:

"Our true choice is not between tax reduction, on the one hand, and the avoidance of large Federal deficits on the other. It is increasingly clear that no matter what party is in power, so long as our national security needs keep rising, an economy hampered by restrictive tax rates will never produce enough revenues to balance our budget just as it will never produce enough jobs or enough profits… In short, it is a paradoxical truth that tax rates are too high today and tax revenues are too low and the soundest way to raise the revenues in the long run is to cut the rates now."

Those words -- arguing that "the soundest way to raise the revenues in the long run is to cut the [tax] rates now" -- are those of John F. Kennedy, spoken before the Economic Club of New York, December 14, 1962.

Posted by: rmgregory | July 13, 2010 12:21 PM | Report abuse

No, its even worse than that. We're deciding policy on the basis of what the bankers and the other very wealthy seem to want and what politicians feel will bring in the most contributions from therm and the most adulation from conservative DC pundits.

Posted by: Mimikatz | July 13, 2010 12:39 PM | Report abuse

"I'd just note, as Paul Krugman does, that in the United States, we're not steering the economy by the dictates of the market. We're steering the economy by the dictates of what some people think the market might want at some point in the future. Listening to the market is one thing. Trying to predict its future demands is another."

The entire point of the exercise is that you want to avoid steering the economy by the dictates of the market. The market is far harsher than any self imposed austerity program.

It is sort of like the housing crisis. Suppose that in 2002 a group of eminent economists petitioned for a 20% minimum downpayment on all homes, and that it should be illegal to provide mortgage credit to anyone with a credit score below 700. Such a policy would have almost certainly prevented the housing boom and bust. The Krugman-esque response could be "Aggregate demand is low and getting unemployed factory workers into housing construction is creating jobs. We can always take steps to reduce housing demand once we're back at full employment, like in 2006 or 2007."

So we ignore the economists, and while the housing boom was fun we got ourselves into the mess the economists were concerned about. While painful, it would have been far better to have just avoided the housing boom in the first place.

The debt boom is similar. You can make promises to stop it before its too late, wanting to have it both ways - spending a lot now and promising to cut hundreds of billions worth out of the deficit some years off into the future. But if the market ever decides it no longer is comfortable with U.S. debt, we're either doomed to severe budget cuts and austerity, or a round of hyperinflation which leads to the same thing. Real austerity. The type of austerity which can kill even beloved social programs, because lets face it the money won't be there . There might well be rioting, as in Greece, but reality is reality and the riots will not - cannot - prevent the austerity once the bond market has turned its nose at you. And as bad as 9.5% unemployment is in 2010, I'd really prefer not to experience 19.5% unemployment in 2020.

Like global warming, it is difficult to tell exactly how our current actions will hurt us in the future. An economy, like the climate, is a complex thing. We can't be sure how much warming will occur by 2100 given a certain level of carbon emissions, just as we can't be sure at what level of indebtedness the bond market loses faith in the credit of the United States. But the evidence suggests we need to change our course, or we're in for a rough future.

If Congress could really pass a binding bill that got deficits down to, say, 3% of GDP by 2013, in exchange for an unemployment benefit extension today, I would be okay with that - I just don't currently trust that any such trade off is likely to be binding in 2013.

Posted by: justin84 | July 13, 2010 1:11 PM | Report abuse

--"The best column I've read today"--

Equals the biggest nonsense on tap.

Klein, Rodrik, and Krugman are all confused over the same thing, trying to square market pessimism with one or another particular set of actions taken by the government. The real problem for private industry is not so much one particular inane thrust of government endeavor or another, but that the government is so actively trying across the board to control that which is none of its flaking business! It's activist government itself, intruding like a bull in a china shop, that has proprietors running to save their precious wares.

The nonsense is that the government "should be steering the economy" at all. Markets CAN'T work when being *controlled*. A *controlled* market isn't a market at all. It's a game with arbitrary rules that benefit only one player: the government. In the modern incarnation, more and more people are deciding to sit out the game, and there's no one to blame but people like the morons I named just above.

Posted by: msoja | July 13, 2010 1:29 PM | Report abuse

Ezra - can you hear your own elitism?

Posted by: FastEddieO007 | July 13, 2010 1:39 PM | Report abuse

"The nonsense is that the government "should be steering the economy" at all. Markets CAN'T work when being *controlled*. A *controlled* market isn't a market at all."

Uncontrolled markets don't work at all. We've tried it your way and it was a failure. And if a controlled market "isn't a market at all", who gives a ****?

"In the modern incarnation, more and more people are deciding to sit out the game, and there's no one to blame but people like the morons I named just above."

Oh noes, they might "Go Galt"? In order to Go Galt you actually have to be a John Galt. None of the slack-jawed yokels in the Tea Party or the self-important blue bloods on Wall Street are anything near being an irreplaceable captain of industry that without their creative genius the world would cease to function.

You are easily replaced cogs in a machine and the world will not cease to exist if you decide to "sit out the game" and deprive the world of your ability to gamble on the stock market or write angry posts on Free Republic while drawing welfare for disability.

John Galt is a fictional character and it's about time you realized he's NOT REAL.

Posted by: lol-lol | July 13, 2010 3:02 PM | Report abuse

"Uncontrolled markets don't work at all. We've tried it your way and it was a failure. And if a controlled market "isn't a market at all", who gives a ****?"

In defense of msoja, we had a controlled market in the 2000s. As examples:

- Fiat money and a central bank
- Tax code favors homeownership via exemption from capital gains and mortgage interest deduction
- Fannie and Freddie (not so much in lax lending standards, but by buying up mortgages made to low income borrowers they fueled house price appreciation in low income areas and helped fuel the subprime bubble, and loosening of credit restrictions in general in the late 90s onwards)
- Land use restrictions in local housing markets (preventing supply from moderating house price inflation)
- Regulatory capital requirements that were less onerous for Aaa and Aa debt (e.g. super senior mortgage backed securities)
- The SEC limited the number of recognized ratings agencies via certfication, and this certification also increased the status of rating agencies such that the assigned rating matters more than an independent assessment of collateral.
- Government history of bailing out banks and corporations, creating moral hazard for both banks and their creditors

You can argue that maybe if we had better regulators we wouldn't have had a housing bust, but I'm sure msoja will tell you that your problem is depending on the perfection of human regulators instead of profit and loss.

In any case, suppose that in 1998 the U.S. abolished Fannie and Freddie, went on the gold standard, set a 10% flat income tax, stopped regulating the banks and ratings agencies and prohibited bank bailouts via constitutional amendment. How likely would it have been for the U.S. to still have a housing bust? Personally I don't think it would have been very likely, especially the subprime portion.

Posted by: justin84 | July 13, 2010 3:58 PM | Report abuse

not so much in lax lending standards*

I can see this might be confusing, since I go on to say loosening credit standards in general.

What I mean by lax lending standards is no money down stated income subprime loans. I don't think FNMA and FHLMC were the drivers of the worst excesses of subprime, only that they got the ball rolling but loosening lending standards and kicking off the subprime bubble - but getting the ball rolling is a very important part of the story.

Posted by: justin84 | July 13, 2010 4:01 PM | Report abuse

--"John Galt is a fictional character and it's about time you realized he's NOT REAL."--

The metaphor that "Galt" is, though, has its real representations, and people can "go Galt" in a thousand different ways. The stubborness of the economy in refusing to comply with the expectations of the incompetent stimulists owes at least something to the concept.

Posted by: msoja | July 13, 2010 4:12 PM | Report abuse

No unemployment? Thank the republicans! For the rest of you -When the economy stalls again - you can thank the republicans too. The republican’s weren’t worried about the deficit when that big insurance company and their friends the Wall Street execs were giving themselves bonuses with taxpayer money!!! Next election – let Congress feel the sting of the unemployment lines!!! No more raping and pillaging the middle class!!! – How many years have you paid taxes? 30? 40? Your government bails out bankers and Wall Street execs using your tax dollars – but unemployment is allowed to expire? What happened to "by the people" or "for the people"? Or are the big campaign contributors the only "people" who count to congress? They are playing games AGAIN FOR THE THIRD TIME while you are wondering how to feed your kids? Figure it out! Malfeasance – Failure of a public official to perform their duties!!! Next Election MAKE YOURSELF MATTER BY VOTING!!! 10% unemployment carries 10% of the vote! Use it!! Fire them all next election or recall every Congress member NOW for Malfeasance – Failure of a public official to perform their duties!!! Next Election - Lets get people elected who actually represent all the People- this current congress represents only special interest groups!

Posted by: agh1 | July 13, 2010 4:41 PM | Report abuse

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