Friday, November 30, 2007

A Day in the Life of a Federal Reserve Chairman

Help Wanted: Chairman of the Federal Reserve Bank


  • Must be able to predict the future
  • Demonstrate the ability to perform a balancing act between the financial system, consumers, and the global economy
  • Strong communication skills – ability to speak in public a must

The job entitled Chairman of the Federal Reserve is a tough job. Here are some of the qualifications required out of a successful Chairman of the Federal Reserve Bank.

Must be able to predict the future

This skill is essential, but the most improbable; predicting the future is impossible. We can make our best efforts to estimate the probability of events, but that is about it. The Federal Reserve Bank uses large econometric models in order to predict the future, but even these models may be wrong. The Federal Reserve Chairman must be able to react to economic shocks that were not foreseen in order to maintain economic stability.

Demonstrate the ability to perform a balancing act between the financial system, consumers, and the global economy

Generally, policy is conducted with the notion that falling interest rates stimulate domestic economic growth. First, based on economic theory, lower interest rates stimulate consumption demand (because saving is worth less in the future) and investment in housing and business capital (cost to take out a loan falls). This is good for the economy, and growth results. Second, the financial markets like lower interest rates. How often do you read, “Fed announces a lower interest rate target, markets rally”? Lower interest rates mean a higher current value of lifetime profits for firms (see an Accounting text on this, but I certainly am not going to subject you to the equation). Demand for stocks rise, pushing up stock prices (portfolio value). Faced with nervous consumers and a weary financial system in the U.S., what should Ben Bernanke do? Well, financial markets expect falling interest rates to stimulate economic growth.

This is not the whole question.

The Fed Chairman must consider global economic variables as well. For example, the value of the U.S. dollar is fundamentally dependent on forces of supply and demand. I use two simple examples for illustration. As American demand for imports rises, the demand for foreign currency to pay for those imports rises, and the U.S. dollar falls in value. Also, if interest rates in the U.S. fall (the return on U.S. treasury bonds and notes), then the international demand for U.S. bonds falls, the demand for U.S. currency falls, which again reduces the value of the U.S. dollar. Now, faced with this information, what should Ben Bernanke do? Well, in order to stabilize the value of the U.S. dollar, perhaps an increase in interest rates is the proper course of action.

In the simple examples that I have just described, a strong and imminent policy quandary has evolved. As argued in the Economist, and myself of course, the Fed should consider the international repercussions of reducing interest rates since a global economic disaster would result. Thus, policy should look to stabilizing the dollar, rather than appeasing financial markets.

Strong Communication Skills – ability to speak in public a must

A Fed Chairman’s policies are only as good as the public (consumers, firms, and the globe) believes the Fed Chairman to be. When Ben Bernanke spoke about “headwinds for the consumer in months ahead,” in a speech last Thursday, he was strategically signaling to the public that a reduction in interest rates, or an expansionary policy, may occur. He is saying that the Fed understands the economy’s current distress, and that the Fed is considering helping it along. This announcement alone (without any such policy action) can stimulate financial markets, consumer spending, and bank loans if the announcement is credible.

So, how will the current Chair, Ben Bernanke, fare in this so-called troubled economy (see related post, U.S. Economic Outlook)? Only time will tell. He is the 14th Chair and assumed office just two years ago (February 1, 2006). The economic outcome of monetary policy is so lagged (you don’t see the effects for a long time) that we may not know of his successes/failures for years. Some economists now blame Alan Greenspan, 13th Chairman of the Federal Reserve, for the current housing slump since he allowed too much liquidity to remain in the U.S. economy for too long.

Do you have any thoughts? I welcome your comments. Best, Nonthruths

Thursday, November 29, 2007

U.S. Economic Outlook

U.S. Economy Bulldozes Market Jitters

Economic muscle

Based on recent economic data for the U.S., growth remains strong. Real GDP in the last quarter grew at a healthy rate of 3.8%. Advanced estimates for this quarter indicate another period of robust growth at 3.9%. The unemployment rate remains constant at 4.7%, indicating a tight labor market. A falling dollar, coupled with inflation woes in foreign economies, resulted in export growth last quarter. The trade balance rose in September from $-57.6 billion to $-56.5 billion. Fiscal accountability is improving; deficits as a percentage of GDP fell from -1.9% in 2006 to -1.2% in November 2007.
Annual inflation rose to 3.5% in October, up from 2.8% in September. The U.S. dollar is down against major currencies; the Trade Weighted Exchange index is 73.93 in November, down from 75.91 in October.
Monetary Policy has been expansionary, with a 0.75 basis-point reduction in the federal funds target of 4.5% in October. The M2 stock expanded 0.34% in October, down slightly from 0.43% in September.

Markets are weary

With the housing market on the fritz and consumer confidence down, apprehensive investors seek safety. The 5-year treasury note rate is down to 3.496% at the end of month from 4.014% at the beginning of the month. The 3-month treasury bill rate is down to 3.042% at the end of month from 3.797% at the beginning of the month. Consumers are also concerned. Growth in household nonfinancial debt fell to 7.1% last quarter from 7.9% the quarter before. The consumer sentiment index is down 3.0% as retail sales slump and gas prices rise 38%.

Resolving the debate

Current economic activity seems to contradict market expectations. Leading economic indicators and a new Federal Reserve action indicate a bright economic future. Businesses inventories rose to 0.12% of GDP in the last quarter, up from 0.04% the quarter before:
Average labor productivity growth is up 4.9% compared to 2.2% the quarter before; it grew at its highest level since 2003: Weekly unemployment insurance claims were down 3.2% during the week November 10 through November 17.
In an effort to become more transparent, the Federal Reserve Bank increased the frequency of published economic forecasts to four times a year. In response to this signal, the Fed gains credibility, offering hope to the weary financial markets. According to the latest publication, the Fed projects solid economic activity through 2010, with 2.5% expected growth in 2008. The labor market is expected to remain tight, with unemployment rising just 0.1% to 4.8% in 2008. The housing market slump and reduction in consumer spending reduce the expected inflation forecast from 3.0% in 2007 to 2.1% in 2008. Given that the Fed's forecast agrees with the leading economic indicators, we expect the federal funds target to fall another 0.25 basis-points, but not further.
Possible recession-causing culprits are the decline of the U.S. dollar, the sub-prime mortgage crisis, or the high cost of crude oil. Different from previous recessions, 1973-1975, 1981-1982, 1990-1991, 2001, these culprits were expected. Rational expectations and the transparency of economic shocks eased the ability of firms and consumers to react to the shocks, and the economy prepares for a soft landing.

Do you have any thoughts? I welcome your comments. Best, Nonthruths

Sources: Board of Governors, Federal Reserve Bank of St. Louis, Bureau of Economic Analysis, Bureau of Labor Statistics, the Economist, and National Bureau of Economic Research.

Tuesday, November 27, 2007

Oh, Greenpeace - What's Next?

The article, “Greenpeace Criticizes Microsoft, Nintendo,” was published in the Associated Press and can be viewed online at the New York Times on November 27, 2007.

Statement from the article:Microsoft and Nintendo are taking too long to phase out toxic chemicals from their game consoles, and TV producers Philips and Sharp have poor policies on taking back and recycling outdated products, Greenpeace said Tuesday in its latest environmental ranking of leading electronics companies.”

My opinion: Bill Gates must be shivering in his shoes now that Greenpeace has deemed his production process too toxic.

Bill Gates, the All-American entrepreneur, has failed Greenpeace’s company report card. Microsoft has made it to the bottom of the list of the most irresponsible electronics companies, those companies that must clean up their act! Greenpeace now demands that Microsoft eliminate hazardous substances and recycle their products once they become obsolete.

As I look at those firms that are “failing,” I see almost every major electronics company listed. As of September 2007, the failures were: Nokia, Sony Ericsson, Dell, Leveno, LGE, Sony, Fujitsu Siemens, Samsung, Motorola, Toshiba, Acer, Apple, Hewlett Packard, and Panasonic. Am I missing anyone – no, but Greenpeace is not, either.

According to the Microsoft website, Bill and his wife, Melinda, supported philanthropic activities in the amount of $28.8 billion in Jan. 2005. These monies support improvements in global health, technical opportunities, and education. Warren Buffet is also a large contributor to the cause.

Why does this make national news? Given the current available technologies and the low concentration of firms in the electronics market, what more can the guy do? I think that Greenpeace would be happy if the production of electronics from any of the failing firms (such as Microsoft) was forbidden. Problem – without these irresponsible firms, how would Greenpeace get the word out? I am just happy that I no longer see a Greenpeace sponsor every time that I answer the door. I say keep the electronics firms in business just to keep Greenpeace off my back!

The Hypocrisy in Europe: Genetically Modified Foods

Article, “European Official Faults Ban on Genetically Altered Feed,” was published in the New York Times on November 27, 2007.

Statements from the article: “The European agriculture commissioner, Mariann Fischer Boel, warned farm ministers on Monday that Europe’s resistance to importing genetically modified products like livestock feed was contributing to the rising cost of raising pigs and chickens and could pose a threat to the meat industry.

My opinion: The hypocrisy is overwhelming. Now that the prices in world agricultural markets are rising, the Europeans are reassessing their ethical views and standards.

For years, Europeans (Western, or course) have been contemptuous in their dealings with the producers of agricultural goods derived from genetically modified organisms (GMO). They were staunch in their principles and regard of GMO food products' negative effects on health, safety, and of course, environmental quality. In 2002, the Committee on the Environmental, Public Health and Food Safety, elected to attach a series of tariffs to products derived from GMOs. This affected the exports of U.S. corn and soybean directly.

Tariffs create an increase in the prices of the goods to the importing country. The tariff is a tax that exporters must pay upon the shipment’s arrival to the importing country (corn, for example). The exporter (U.S. corn farmer) passes the cost of the tariff on to the consumer in the importing country (France, for example) by increasing the sale price of the good in the importing market. Now, the rising cost of feed for livestock can be lowered in Europe by…………repealing the tariffs?

Even Mariann Fischer Boel admits, via her spokesman, “that the European Union’s zero-tolerance policy toward genetically modified foods comes at a ‘potential major cost.’” Go figure - perhaps Ms. Fischer Boel can even talk the Committee on the Environmental, Public Health and Food Safety to repeal the tariffs on GMO-related agricultural commodities.

Isn’t it ironic how the Europeans are willing to sacrifice their precious standards regarding food, and perhaps import GMO agricultural goods even though the goods may be related to problems with health, safety, and environment? I hope that the population survives when genetically modified food is introduced into the economy.

I am surprised that this is breaking news.

Monday, November 26, 2007

Developed World Sets Standards Too High

The article, "New York Manhole Covers, Forged Barefoot in India," was published in the New York Times on November 26, 2007.

A quote from the article: “The scene was as spectacular as it was anachronistic: flames, sweat and liquid iron mixing in the smoke like something from the Middle Ages. That’s what attracted the interest of a photographer who often works for The New York Times — images that practically radiate heat and illustrate where New York’s manhole covers are born.”

My opinion: It is not the place of the developed world to set the standards of labor for the developing nations.

Here is the picture from the article:

Here is a picture (from Bettman/Corbis) from the 1890’s of 5 chimney sweepers:

The picture from the article is not anachronistic for India (especially back to the middle ages) – perhaps for a developed economy, such as the U.S., but certainly not for a developing economy such as India. The prevalent production sectors in India are mining, textiles, transportation equipment, machinery, and agriculture (cotton). Does this sound familiar? Sure, the developed-world’s industrial revolution! The industrial revolution (late 18th century to early 19th century) marked a time of increasing labor productivity in production sectors including agriculture, transportation, and manufacturing. Labor was the primary resource, and even child labor laws were not yet developed. According to Galbi (1997), during the period of 1818-1819, 49.9% of spinners in English cotton factories were under 10 years of age when they started. In today’s standards, that is inhumane.

Long-term economic growth models explain this disparity in working conditions and production specialization between the developing (e.g., China, India, Vietnam) and developed economies (e.g., U.S., U.K., Germany). Over the last century, the United States has transitioned from an economy focused on manufacturing, textiles, and mining (products based) to one focused on investment services and banking, information, health care services, and arts and entertainment (service based). According to the Census Bureau, the service sector accounts for 55% of current economic activity in the United States. If the U.S. does not produce it, it imports the product-based production, such as textiles and agricultural and metal commodities, from economies such as India and China. These economies are behind the U.S. in terms of economic growth and technical advancement. Since production in the developing nations is roughly a century behind production in the developed nations, the labor laws are understandably behind as well.

When the United States of America was production based (mining, textiles, and manufacturing), the labor laws were not well-developed. It was not until 1938 that Franklin D. Roosevelt passed the Fair Labor Standards Act, which established a minimum wage, guaranteed overtime pay, and prohibited child labor. In 1802, the first labor law was passed in the U.K., the Fair Factory Act. Countries such as India and China will catch up – they are on a path of growth toward claiming status as developed economies, but this will take decades to occur (perhaps even another 40-50 years).

The workers in India make the choice to go to the mines and factories. According to the Penn World Tables, in 2003, average production per worker in India was: $6,724.55, and $67,865.44 in the United States. That means the average worker in the U.S. was roughly 10 times better off than his/her counterpart in India. The Indian workforce is choosing between growing opportunities to work in conditions that are deemed unacceptable to the developed world and not feeding their families. They choose to feed their families by working. It is their choice. As average production per worker rises to meet that in the U.S., higher standards for labor will be valued. At that time, the laws and conditions will change, but not before.

Admittadly, the quality of exports from the developing economies to the developed world (e.g., toys) have been under scrutiny, and affect the developed world. The developed world has much strategic power in the international markets. If world demand falls, then international toy makers will increase their standards in order to make the sale.

In conclusion, history dictates that labor laws are likely to come, but the nations such as India and China must dictate these rules, not the developed nations. The developed world learned about labor laws all on its own, and the developing world must, too. It is not the place of the developed world to regulate and judge the practices of the developing world. Give them time, and they will catch up!

Galbi, Douglas A. (1997). Child labor and the division of labor in early English cotton mills.
Journal of Population Economics 10, 1432-1475.
Photo downloaded at:

Penn World Tables at:

Saturday, November 24, 2007

How Does Congress Know Which Standards to Set?

The article, “Energy Bill’s Chances Growing,” was published in the Wall Street Journal on November 23, 2007. A related free article, “Voter Anger May Free Up Energy Bill,” was published in the New York Times on November 13, 2007.

My opinion: This energy bill is unnecessary.

The House and the Senate (Democrats of course) are pushing an amendment to the Energy Policy Act of 2005. Congress believes that it is in the public’s best interest to force energy-efficiency upon us. Congress (at least the democrats in Congress) is telling the public that we should be less dependent on crude oil. I have a problem with that.

The House of Representatives wants to mandate that utility companies produce 15% of all electricity from wind and other renewable inputs. This mandate directly affects the cost of energy production. The cost of electricity production from wind or other renewable resources is much higher than the cost of electricity production from coal or natural gas; the technology nor infrastructure is just not there yet! If a bill passes that mandates that 15% of electricity is manufactured using renewable resources, then the burden of the higher cost will be passed directly on to the consumer. That means even higher heating bills in the winter.

The Senate bill includes a mandate to increase the fuel-efficiency of cars, trucks, and of course, SUV’s (sport utility vehicle). At least the House of Representatives version of the bill is infeasible – the Senate version is ludicrous. It is not the place of the government to tell the public that driving that old gas-guzzling 1987 Jeep Grand Wagoneer is illegal (I understand that the bill is specific to new production, but the example makes my point). All on my own, I will notice (as if you cannot) that gas prices are rising, and that it is not in my best interest to drive the 9 mile/gallon Jeep. If the public values clean air, then a price tag of crude oil hovering around $100/barrel should be serendipitous news! People will naturally tend toward driving fuel-efficient cars without having to wait around for Congress to pass a silly bill.

I value clean air – in fact, every rational person likely values clean air. Even highly-polluting country's, such as Vietnam or China, value clean air. It is simply a good that is too costly for them at this time. The country will progress toward higher standards for environmental quality all on its own. If Congress wants to set standards, fine. Just make them minimum standards – surely the market will go from there.

Thursday, November 22, 2007

The Irony of the Threat to Boycott the CBS Debate

The article, “Strike Could Cancel CBS Debate,” was published in the New York Times on November 21, 2007.

Statement from the article: “Most of the Democratic candidates for president said today that they would skip the Dec. 10 presidential debate sponsored by CBS News if news writers decide to strike.”

My point of view: The democratic candidates are supporting the Writers Guild of America (WGA), but by doing this, they are implicitly supporting the creation of unemployment. Why don’t they get this?

The picket lines started in early November, and the Presidential candidates surely got on board quickly; John Edwards has already joined the picket line. The Democratic candidates have decided that their time is best spent honoring a writers’ strike, rather than debating larger issues such as economic trends, immigration, health care, or even, defense spending.

The WGA is a union of writers in film, television, and radio. My understanding of the strike is that the members of WGA demand an increase in Writer’s residuals. Writer’s residuals are a percentage of the sales of subsequent airing or viewing of shows on DVD or through internet-based sources (such as iTunes). The WGA claims that the percentage is too low (or nonexistent), but the Alliance of Motion Picture and Television Producers (AMPTP) will not meet fully the demands of the WGA. AMPTP argues that DVD and internet-based residual sales are used to offset rising production costs.

There is an economic irony here; when the candidates support the WGA by joining the picket line and boycotting the debate, they are endorsing the resulting unemployment. Unions create unemployment….especially in a case like this. If what AMPTP says is true, that production costs are rising, then after successfully negotiating their contract, some members of the WGA will lose their jobs. Why? Assume that the WGA succeeds in negotiating a larger share of all DVD and internet-based sales, which is the equivalent to increasing the pay of writers who are members of the WGA. Two things happen. First, costs to AMPTP rise even further. This reduces the studios’ profit margins, and they will hire fewer (or even fire) writers. Second, writers that would not have entered this market before the negotiation will choose to do so at the higher pay. There will be more writers in the market fighting for jobs.

So my question is this: Why would a party that focuses so heavily on the welfare of the average worker want to create unemployment in the industry of writing in film, television, and radio?

Wednesday, November 21, 2007

Quote in Question from: Clinton Challenges Obama on Foreign Experience

The Article, “Clinton Challenges Obama on Foreign Experience,” was published in the New York Times on November 21, 2007.

Statement from the article: Mrs. Clinton, who this week in Iowa has been making an issue of Mr. Obama’s experience, said the next president would face two wars and fraying alliances. She said she had traveled broadly and had “met with countless world leaders” and knew many of them personally.

“Now voters will judge whether living in a foreign country at the age of 10 prepares one to face the big, complex international challenges that the next president will face,” Mrs. Clinton said. “I think we need a president with more experience than that.”

My opinion: Meeting with countless world leaders and knowing them personally does not constitute experience when facing two wars and fraying alliances.

Historical references do not state that one’s social contacts makes them a master in war and foreign policy. George Washington, the first American President, was the leader of the Continental Army in the Revolutionary War. Working directly under Washington was Major General Nathaniel Greene. Greene was a talented soldier and natural-born leader. He was born the son of a Quaker and ostracized from his family due to his interest in the militia. He was a self taught military man – learning war tactics on his own. I am pretty sure that Nathaniel Greene cannot claim that his social contacts within the Continental Army made him the Major General of the Continental Army in charge of the troops on Long Island in 1776. He did that on his own through hard work, perseverance, and intelligence.

George Washington was known to quote the following passage from his favorite play, Cato: “It is not in the power of man to command success; but you have done more-you have deserved it.” Hillary Clinton must have read this differently. Perhaps she read the quote as: It is not in the power of man to command success; but you have met military leaders and knew them personally-you deserved it.”

I suspect that Barack Obama is not teaching himself military tactics at night. I also presume that he will not be a stellar Commander in Chief, although, Hillary’s claim that he does not have the experience that she has is ludicrous!

Source of information: McCullough, David, 1776. Simon & Schuster (2005).

Monday, November 19, 2007

The Article in Question: China Tells Banks to Curb Lending Sources

The story, “China Tells Banks to Curb Lending Sources,” was published by the Boston Globe on November 19, 2007. The related headline story, “China Freezes Lending to Curb Investing Frenzy,” is published on the Wall Street Journal on November 19, 2007.

Statement from the Article (Boston Globe): “The Wall Street Journal on Monday cited banking and regulatory sources as saying that banks were being required to ensure that their outstanding loans at the end of the year did not exceed the level as of October 31.

An official at the China Banking Regulatory Commission (CBRC) denied that the agency had laid out such a specific target.

"No, no. We only require the banks to control lending reasonably," Lai Xiaomin, a spokesman for the CBRC, said of the newspaper's report. "We have not set fixed quotas for them."

My Opinion: “Isn’t it great to be an American!”

I cannot imagine a world where the fiscal sector regulates not only the reserves that banks hold on deposits, but also the amount in which the bank can loan out. Let’s think about this. In the last week, we have heard about the following:

1. Chinese price controls fail

2. Chinese inflation results

3. China regulating the amount of loans that banks can make to the public

I think that sometimes we take it for granted that we live in a Democratic State! Just think about living in China. First, the government sets widespread price controls in order to regulate inflation. From a retailers perspective, this is quite invasive –how does the government know better what price you should be charging? This inhibits the ability of businesses to make well-informed decisions (like how much to sell). Second, the government’s inability to curb inflation. As a consumer, imagine facing rising prices when you were under the impression that prices were regulated. This creates an uncertainty in the future that will impact consumption and demand for goods and services. Third, the government regulates the loans that the banks can give and implicitly the loans that consumers may acquire. This is a direct interference in the banking industry. The reduction in investment funds may curb inflation, but by limiting investment, future economic growth is also affected. If limiting economic growth is the Chinese government’s goal, then why not consider more direct policies? For example, let the nominal exchange rate appreciate, and at the same time, allow for market forces to drive the prices of goods and services. The real exchange rate falls (appreciates), and net-exports fall, resulting in lower inflation and curbed economic growth.

I am happy that my government does not interfere with my daily life like the Chinese government does with its people's lives. It is an unwise decision to inhibit investment. It directly lowers saving for, and production in, the future. Isn’t it great to be an American.

Sunday, November 18, 2007

Article in Question: Chinese Prices Surged Again Despite Price Controls

The article, "Chinese Prices Surged Again Despite Price Controls" is published in the New York Times on November 14, 2007.

Statement from the article: Consumer prices unexpectedly surged again last month in China despite price controls on a wide range of industries, and this month holds the prospect of even higher inflation. For years, flat or falling prices for Chinese goods helped restrain inflation in the United States.

American companies buying from China face a double blow: not only are prices rising in terms of China’s currency but China has also quietly begun allowing the yuan to rise at a faster pace against the dollar. The annualized pace of appreciation of the yuan has climbed to 6 percent in the last week.

My Point of View: Why is this an economic problem?

Price controls keep the average price of goods and services at a level that is lower-than-optimal (optimal being the intersection of supply and demand). Currency controls keep the value of the Chinese currency lower-than-optimal. Both of these factors, along with the relative prices here in the U.S., affect the import demand of Chinese goods by U.S. consumers. As mentioned in a previous post, these elements make up the real exchange rate.

For a long time now, politicians, firms, and policy-makers have been accusing the Chinese central bank of setting the $/Yuan too low (the dollar is appreciated), which discourages consumption of domestic goods, and encourages consumption of foreign (Chinese) goods. Well, as I said in an earlier article, it is not the nominal exchange rate, but the real exchange rate that matters. Holding U.S. prices stable, as price controls in China fail, which allows prices to fluctuate upward, and the exchange rate appreciates, or the Yuan/USD price falls, the real exchange rate will rise. An increase in the real exchange rate, which is a depreciation of the U.S. real exchange rate with China, means that import demand by U.S. consumers will fall. Isn’t that the whole goal of policy makers? As import demand for Chinese goods falls, we will look to purchase these goods elsewhere (perhaps at home).

Inflation and rising prices in China is not bad – it is simply an economic correction caused by relative prices in China being too low, and the $/Yuan rate being pegged (fixed) at an appreciated level.

Saturday, November 17, 2007

Article in question: Played for a Sucker

The article, “Played for a Sucker,” was published on November 16, 2007 in the op-ed section of the New York Times.

Statement from article: “As Peter Orszag, the director of the Congressional Budget Office, put it in a recent article co-authored with senior analyst Philip Ellis: “The long-term fiscal condition of the United States has been largely misdiagnosed. Despite all the attention paid to demographic challenges, such as the coming retirement of the baby-boom generation, our country’s financial health will in fact be determined primarily by the growth rate of per capita health care costs.”

How has conventional wisdom gotten this so wrong? Well, in large part it’s the result of decades of scare-mongering about Social Security’s future from conservative ideologues, whose ultimate goal is to undermine the program…….

But Social Security isn’t a big problem that demands a solution; it’s a small problem, way down the list of major issues facing America, that has nonetheless become an obsession of Beltway insiders. And on Social Security, as on many other issues, what Washington means by bipartisanship is mainly that everyone should come together to give conservatives what they want.”

My point of view: This article is too partisan, and Paul Krugman (a venerable Economist at Princeton) does not make the case that social security is a “small” problem.

Let’s be honest – the New York Times is a liberal paper. Now they have gone too far. The purely opinionated piece (hence, an op-ed article) reveals no statistics to back up the opinion that ‘social security isn’t a big problem that demands a solution.’ Paul Krugmen refers to a non-cited work by Peter Orszag that the ‘country’s financial health will in fact be determined primarily by the growth rate of per capita health care costs.’ When taken in the context of the article’s purpose, social security, I presume that Orszag is speaking of per-capita medicare payments to retiring individuals. Medicare, however, is under the blanket of social security! If you qualify for social security, then you qualify for medicare. Then I ask this, why is social security not a problem?

To further understand why the article is too partisan, let’s consider the following statement: ‘But Social Security isn’t a big problem that demands a solution; it’s a small problem, way down the list of major issues facing America, that has nonetheless become an obsession of Beltway insiders.’ I ask you this, what is the biggest problem? Right now, it may not be social security, but what about in the year 2020? Then, social security (medicare) payments will be made on an ad-hoc basis through taxes and spending cuts. We will see how “big” the problem is then.

Friday, November 16, 2007

Article in Question: Thompson: Reduce Future Retiree Benefits

The article, “Thompson: Reduce Future Retiree Benefits,” was published by the Associated Press on November 10, 2007.

Statement from the article: “He said that without a change the program is due to run out of money in 2041, and an automatic 23 percent cut in benefits would follow. "The status quo is not having a Social Security system as we know it" after that date, he said.”

My point of view: The social security fund does not have any money!

The problem is much worse than politicians let on. First, the social security system is a pay-as-you-go system. This means that the current labor force pays in to the fund through payroll taxes and the current retiring individuals receive benefits from those taxes. As long as tax payments from the current working population is greater than the benefits paid out to the retirement population, then there is a surplus of taxes over payments in social security benefits. The federal government spends the surplus on current programs. It issues bonds (essentially IOU’s) into the fund in exchange for the surplus taxes. So you see, there is no money in the social security fund – it is simply a portfolio of U.S. Treasury securities!

Thursday, November 15, 2007

Article in Question: Fed to Share More of Its Thinking in Its Reports

The article, “Fed to Share More of Its Thinking in Its Reports,” is published in the New York Times of November 15, 2007.

Statement from the article: “Mr. Greenspan staunchly opposed all proposals for “inflation targeting,” contending that explicit public commitments would limit the Fed’s ability to respond nimbly to unexpected developments.”…..

Alan S. Blinder, an economics professor at Princeton and a former vice chairman of the Federal Reserve, said the Fed should have moved more decisively. “If you are a big believer in transparency, which I am, it’s incremental,” Mr. Blinder said. “If I had my druthers, the Fed would be giving out a forecast eight times a year.”

My opinion: Yes, the Fed should be more open about policy decisions; this builds credibility. I disagree with the author’s remarks regarding Alan Greenspan and notice his obvious confusion regarding an inflation target.

An inflation target may be a good policy choice; it is a tight band where inflation must remain. If a central bank (the Federal Reserve Bank) announces a specific policy, and the public believes the announcement, then the policy is much more effective. Thus, an inflation target creates a larger degree of "believability."

Let’s say that the economy is in growing too quickly, with inflation creeping up. Further, assume that the central bank announces a policy to reduce inflation. If the public believes the Fed’s announcement (more credible), then they will assume that the central bank will “fix” the economic problem, and output will be quite stable. Inflation will fall, and the economy will not incur too much heartache, such as rising unemployment, along the way. An inflation target adds (perhaps) credibility to the central bank because the policy is transparent, but it is only one way to gain credibility. Another way to gain credibility is by a Chair having a history of good policy decisions. This is why Alan Greenspan is such a venerable Chair. Over a decade of low and stable inflation is attributed to Alan Greenspan.

Edmund L. Andrews, author of the article, took Prof. Blinder’s comments out of context. Prof. Blinder comments that he advocates a higher frequency of information releases by the Fed – specifically, that the Fed present its forecasts eight times a year. Why would he advocate this? If the Fed reveals more information, then it develops a stronger relationship with the public that stimulates its credibility. The public may interpret the Fed’s actions as a signal of openness and good will – again, a more credible authority. Prof. Blinder does not advocate an inflation target per se. He simply advocates more transparency.

The way that I read this article can be summarized as follows. Edmund L. Andrews does not understand why a monetary authority would choose an inflation target; there are alternate policy options that offer a higher degree of credibility to the Fed.

Wednesday, November 14, 2007

Article in Question: Stocks Soar on Hopes FED by Wal-Mart and 2 Banks

Stocks Soar on Hopes FED by Wal-Mart and 2 Banks

Statement: The broader Standard & Poor’s 500-stock index gained 2.91 percent, its best day since mid-September, picking up 41.87 points to close at 1,481.05.

I cannot refute that the Standard and Poor’s index (S & P) gained 2.91 percentage points – that can be measured! What I have a problem with is the needless association between the stock market (the S & P), the Federal Reserve (FED), and Wal-Mart. First, there is an economic reasoning behind claiming that investors react to announcements regarding FED policy. If the FED targets a lower federal funds rate, with the hopes that longer-term interest rates will follow (like mortgage or car loan rates), then discounted profits of firms in the S & P basket may rise (may being the operative word). This could cause investor demand to drive up the S & P index based on firm value. This is unlikely, since the FED made no such announcement yesterday.

Scond, trying to quantify the exact reason why an index comprised of 500 companies moved at all is difficult. I would be impressed if Michael Grynbaum, the author of the article, actually surveyed each portfolio manager and asked him/her the volume and value of S & P stocks that were traded. Then we could get an idea of why the index fluctuated. I can think of two reasons that Wal-Mart may drive up an index. First, the value of Wal-Mart shares rose by such an amount as to nominally drive the index up. Shares of Wal-Mart Stores (WMT) did rise, but by 6.12% in value. Likely, this is not the reason. Second, Wal-Mart may signal economic prosperity, and consumer expectations rise with the Wal-Mart reports; this causes the public to accumulate wealth, and the S & P rises. Again, likely not.

We have an article that really says nothing to the reader. Why doesn’t the New York Times simply quote the numbers and we can make our own inferences?

Tuesday, November 13, 2007

Article in Question: Economic Growth Returns in Japan

From the New York Times on November 13, 2007: “Economic Growth Returns in Japan

A follow up from yesterday’s article: The Japanese stock market is still down, but by end of trade yesterday, was only down 0.46%. Further, the NY Times article yesterday cited several other indeces that were suffering including the Hang Sang index and the South Korean Kospi, which were both up yesterday. It is unlikely that the US housing market (the Shiller index has been decreasing steadily over time) is the sole “random” culprit that caused all Asian markets to slump yesterday.

Today, the New York Times states that the Japanese economy is improving – growth is forecasted at an 2.6% annualized rate and there is no mention of the Asian markets.

So easily we forget.

Article in Question: China's Trade Surplus Sets a Record

An excerpt from China’s trade surplus sets a record” published in the Boston Globe on November 13, 2007

The statement: “The surge in import revenue has strained the government's ability to restrain pressure for prices to rise. The central bank drains billions of dollars a month from the economy through bond sales, and has piled up the world's biggest foreign reserves at $1.3 trillion.

China's trade surplus with the United States rose 12 percent to $15.7 billion on total two-way trade of $26.7 billion, according to the customs agency. US lawmakers are working on several proposals to impose punitive tariffs on Chinese imports if Beijing fails to take action on its currency controls.

The United States and other trading partners complain that China's currency, the yuan, is kept undervalued, giving its exporters an unfair price advantage and adding to the country's surpluses.”

This is partially true. The nominal exchange rate is only half of the story. Correctly, the article associates price controls with import demand. Incorrectly, the article jumps to the conclusion that it is the nominal exchange rate driving export demand (as do many politicians and reporters). Actually, it is the real exchange rate that drives export demand. Let’s see why. The real exchange rate takes into account the following: the nominal exchange rate, the domestic price level, and the foreign price level. The article clearly states that price controls keep the price of Chinese goods from rising with import demand –low relative foreign prices are a factor in export growth as well. This keeps the real exchange rate at a depreciated level, and Chinese exports high. The fact that the Chinese government targets the Yuan according to a basket of currencies at a weakened level only depreciates the real exchange rate further.

Monday, November 12, 2007

Article in Question: Sharp Sell-Off Sweeps Asian Markets

Here is a classic fallacy in the media - "Sharp Sell-Off Sweeps Asian Markets," published on the New York Times on November 12, 2007.

The statement: “Rising fears of a slowdown in the
United States economy sparked a sharp sell-off in Asian stock markets today, driving a leading Japanese index to a two-year low.”

It is impossible to identify, in this one instance, what the exact cause is. The behavior of savers is driven by many factors: current labor market conditions, nominal interest rates, expected inflation rates, consumption patterns, relative price indices, prices of related assets, random economic shocks, productivity levels, and current monetary policy (among others). Is the sell-off driven by the
U.S.? I don't know. I guess that Martin Falcker, the author of the article, interviewed all managers investing in the Japanese markets. He must know something that I don’t know.

The statement: "The dollar’s decline reflected broader pessimism about the outlook for the American economy, and particularly whether slowing growth will force the United States Federal Reserve to cut interest rates again."

If the Asian market sell-off was really driven by American investors, then the dollar should have appreciated. The sell-off would reduce demand for the Yen by American investors, and increase the demand for alternate currencies. One of these currencies may be the dollar (although they don't say). The sell-off by Americans of the Yen would cause the Yen to depreciate against the USD, and the USD to appreciate against the Yen (provided the Yen is converted back to USD).

You can see my confusion - and this on a New York Times article featured in the print version of the business section.