Monday, November 19, 2018

Regulatory cost disease

A post on Marginal Revolution is so good, I have to quote in its entirety before commenting.
From my time in both the military and healthcare I can say that the biggest problem are the compliance costs.

For example, I have a phone app that allows me to send texts. We pay very good money to have said app. It does nothing that my phone cannot innately do – except be HIPAA compliant. EMR software is clunky, an active time suck, and adds little or no value … but we are required by law to use it. In each case there are scads of less specific programs out there which are insanely cheaper and more functional, but those programs cannot justify the costs of becoming compliant for a small niche of their business.

In the military we had similar difficulties. If you want systems to be secure, you need to pay extra as the marketplace does not do real security for consumer goods. Likewise, if you worry about logistical tails, building in assured access drastically increases costs.

And I fully suspect that prices will continue to diverge. As ever more of the internet ends up in a giant interconnected mess there will be fewer people able to code in a secure fashion. There will be fewer parts of the ecosystem that can be used by security conscious actors.

Then we get to actual procurement itself. People worry that arcane institutions will somehow make off with lots of money and spend it either poorly or nefariously. Absent easily observed price and cost data in both sectors we began developing rules. These rules drive firms out of the market (e.g. we needed some light interior remodeling to comply with a regulation that specified inches between things, the contractor who has been most affordable and highest quality refused to bid because the hassle on his side was too great). Eventually the rules become too complicated and you start needing specialists to interpret them. Costs skyrocket and firms abuse rules to pad profits. Then the lawyers get involved and things get more expensive. Again, medical and military consumers become a captive market facing greater monopoly as fewer firms can navigate the thicket of rules to even try to make money.

Then we have the problem that people look at these sectors and say that it is public money. All public money should help with goal X (e.g. going “green”, affirmative action, boycotting South Africa/Israel, patriotism, “America first”) and then we become even more overly constrained. Find vendors who meet one hurdle is hard, finding ones that meet 30 is nigh unto impossible unless the vendor is engineering the firm to market solely to this niche – and charging monopoly rates as his reward.

Any single thing would not be too bad for prices, but the marketplace in general is diverging from military and healthcare. Even education is diverging with mandates in FERPA and political business constraints. We have pretty effectively restricted supply, why exactly would we not expect an increase in cost?
This story seems much broader than just healthcare and military procurement. The story also clarifies a bit why it's going to be hard to fix. The thicket of regulations often have a purpose -- security, to protect patent privacy, or more importantly, for military applications. But we do not often ask properly what the cost of extra regulations is. Even well done cost benefit analyses tend to take the supplier network as given, and ask what it will cost them to add just one more step. That the network will shrink and the number of potential entrants shrink more -- the best protection against monopoly power -- is really not part of any cost benefit analysis. The note also points slightly to the public choice problem. The few companies who become specialists at meeting regulations become advocates for the regulations, which puts them in fine position with the army of bureaucrats who promulgate and enforce regulations.  Yes, military text messages probably need high security. Does every doctor's text message to a patient need the same?

It doesn't take long to see in this post a reading of many contemporary economic ills. The perception of increasing monopoly power fits well. The decrease of small business formation and increasing size of businesses fits. And we can think of a number of industries that have the same problem. Banking is obvious.

General aviation is a tiny, but clear example.  Go to your local airport, and contrast the ramp (where planes park) to the parking lot. The ramp is typically an excellent example of a Cuban used car lot. Lovingly maintained aircraft either from the 1950s or designed in the 1950s predominate.  Beautiful, yes, to nostalgic eyes, but not exactly practical. Small aircraft engines are much less reliable than automobile engines. Why? Well, they all must be FAA certified, and it's not worth the cost to certify, say, a new model of spark plug. The parking lot is full of Teslas. Well, in Palo Alto. BMWs elsewhere. But stuffed with the latest technology. Planes are not inherently more durable than cars. They're just regulated differently.

The HIPAA regulations, making electronic medical records every doctor's nightmare, and adding billions to costs, are actually an improvement. We can all remember the not too distant past, and sometimes still present, that doctors needed us to fax things around, because of the same regulations.

The central point of the story is the interplay of new technology and regulation. Our technology has huge fixed costs.  Commercial off the shelf technology, usually "pretty darn good" is amazingly cheap and effective. Specialized technology written to constantly evolving regulation is nightmarishly expensive, and usually not very good. And leads to cronyism and monopoly. The cost of regulation is higher than you think. Make sure the benefits are appropriate.

Friday, November 9, 2018

Carbon Tax

Source: Seattle Times
"The carbon tax is dead; long live the carbon tax" is the headline of Tyler Cowen's Bloomberg column on the failed (again) Washington State carbon tax.  And rather decisively, per the picture on the left.

"Maybe its failure on the ballot in Washington state will inspire economists to come up with better arguments" challenges the subhead. I can't resist.

The key question for a carbon tax is, what do you get in return? What do you do with the money? Washington's carbon tax would have, according to the Seattle Times,
It would have taken effect in 2020, rising year after year to finance a multibillion-dollar spending surge intended to cut Washington greenhouse-gas emissions. The initiative reflected proponents’ faith that an activist government can play a key role in speeding up a transition to cleaner fuels.
The fee would have raised more than $1 billion annually by 2023, with spending decisions to be made by a governor-appointed board as well as the state’s utilities
Well, perhaps the voters of Washington State were not so much against a carbon tax per se, but had less than full faith that a large increase in green boondoggle spending by Washington State government was a good idea. They need only to look south at California's high speed train to see cost-benefit analysis at work in dollars per ton of carbon saved.

And in fact it violates the whole idea of a carbon tax. The point of a carbon tax is to give people and businesses an incentive to figure out their own ways to cut carbon emissions. The whole point is not to fund big government projects. If you want to fund big government projects, you do it out of the broadest based and fairest tax you can find.

As Tyler suggested,
But maybe it’s time for a change in tactics. These new approaches might start with the notion that we can address climate change without transferring more money from voters to politicians.
Here are three ideas:

Idea 1: One answer is obvious: a revenue-neutral carbon tax. Use the carbon tax to offset other taxes. Tyler anticipates this with
The economist can respond, correctly, that a carbon tax will ease the path to greener outcomes, and that other taxes can be cut as recompense if necessary. But it seems right now there is not enough trust for such a grand bargain to be struck. 
Perhaps. But if the carbon tax were coupled with an explicit reduction in other taxes, it might help to convince people. If carbon taxes were coupled with elimination of other taxes, it would help more. Taxes are like zombies. If you just lower the rates they tend to come back. If you eliminate them entirely, perhaps requiring referendum for their reinstatement, there can be more trust. Couple the carbon tax with elimination of, say, state property taxes, income taxes, or sales taxes.

And in the end we all know taxes must equal spending. You can convince voters there won't be more taxes if there isn't more spending. Advertising the carbon tax as a substitute for carbon spending; simultaneously eliminating green boondoggles, would help to seal the deal.

Idea 2: The Baker-Shultz plan, or Americans for Carbon Dividends, (previous blog post here) has another bright idea: Send the proceeds back to the voters. Write everyone a nice check. This ensures that the money doesn't go to boondoggles, and gives every voter a stake in keeping the scheme going. It is highly progressive, which Democrats should like.

I had a similar idea a while ago: Rather than a tax, give each American a right to, say x tons of carbon emissions that they can sell on a carbon market. That also gives everyone an incentive to vote for the system. And it states the issue squarely. You, a voter, are having your air polluted. You have a right to collect on that damage. It makes it clear that carbon is a fee, a penalty, not a "tax." The point is to disincentivize the use of carbon, not to raise revenue for the government to spend. "Tax" is a loaded word in American culture and politics. Carbon rights takes the whole discussion away from "tax."

Idea 3: Lastly, one could pair the carbon tax and fee with a trade: A hefty fee, in return for elimination of all the other carbon subsidies and regulations. To those who don't believe in climate change: ok, but our government is going to do all sorts of crazy stuff. Let's cut out the rot and just pay a simple fee instead. No more electric car subsidies -- $15 k from taxpayers to each Tesla owner in Palo Alto -- HOV lanes, windmill subsidies, rooftop solar mandates, washing machines that don't wash clothes anymore (hint: do NOT buy any washing machine built since Jan 1 2018), and so on and so forth.

I think on the left the strategy has been to ramp up climate hysteria: if we just yell louder and demonize opponents more, the voters will buy it. No matter how much of a problem you think climate is, let's admit that's not working. In part the claims are now so over the top that everyone can tell it's gone too far. No, the way to put out fires in California is not to build a high speed train.

When, in the name of science the IPCC writes things like this -- right up front in the executive summary --
D3.2. ...For example, if poorly designed or implemented, adaptation projects in a range of sectors can increase... increase gender and social inequality... adaptations that include attention to poverty and sustainable development (high confidence).  
D6. Sustainable development supports, and often enables, the fundamental societal and systems transitions and transformations that help limit global warming to 1.5°C. ... in conjunction with poverty eradication and efforts to reduce inequalities (high confidence).... 
D6.1. Social justice and equity are core aspects of climate-resilient development pathways that aim to limit global warming to 1.5°C... 
D7.2. Cooperation on strengthened accountable multilevel governance that includes non-state actors such as industry, civil society and scientific institutions, coordinated sectoral and cross-sectoral policies at various governance levels, gender-sensitive policies.... (high confidence). 
D7.4. Collective efforts at all levels, ... taking into account equity as well as effectiveness, can facilitate strengthening the global response to climate change, achieving sustainable development and eradicating poverty (high confidence)
You can't blame the suspicious Washington State voter from wondering if perhaps a larger agenda isn't being financed here.

There is a sensible middle. Voters who want to do something about carbon, but not finance massive boondoggles or a collectivist progressive agenda. Environmentalists who want to do something about carbon that actually will work. Skeptics who understand, as long as we're going to so something, let's do it efficiently via a carbon fee rather than at massive cost as we are doing now.

Thursday, November 8, 2018

Europe's Banks

My visit to Europe resulted in many interesting conversations. There was a stark contrast between the complex regulatory vision of formal presentations and papers, and the lunch and coffee discussion reflecting experience of people involved in actually regulating banks. They seemed to be quite frustrated by the state of things. Disclaimer: this is all completely unverified gossip, and remembered through a fog of jet lag. If commenters have better facts, I'm hungry to hear them.

Risk weights are ungodly complex, and not many people actually understand them, or the layers of buffers and how they are applied.

Risk weights are suspiciously low. Big banks are allowed to use their own models, calibrated on 10 years of data. That means the data have, now, 10 years of stable growth and very low default. Look, say the banks, our investments are nearly risk free.

"Micro" regulators who look at the specifics of an individual bank are prone to offset the "systemic" and "macro-prudential" efforts. Look, say the banks, we have to fulfill all these macro-prudential rules, give us a break. Regulators do.

The financial regulatory community has been preoccupied with writing reports about one thing after another. Meanwhile, the elephant remains in the room:  Italy may default or leave the euro.

Italian banks remain stuffed with Italian government bonds. I learned some new words for this: a "doom loop." If the government defaults, the banks go with it.  Some smaller foreign banks still have large investments in Italian bonds. Another new word: "Moral suasion," governments encouraging banks to buy a lot of their bonds.  I imagine the Godfather had more colorful words for it. On the other hand, Italian banks are reportedly happy for the moment, since as long as Italy doesn't actually default, they make a bundle from high interest rates. Government debt is still treated with low or no risk weights.

Tuesday, November 6, 2018

State of thought on financial regulation

I'm at a conference on "Financial cycles and regulation" at the Deutsche Bundesbank. Beyond the individual papers, I find the conversation interesting.

Groups of researchers develop a common language and a common set of assumptions. This is productive -- to push a research frontier we have to agree on a few basic ideas, rather than argue about basics all the time. I, as an outsider, parachute in, and learn as much what the shared assumptions are, as I do about particular points in elaboration of the program.

Here,  it is pretty much taken for granted that there is such a thing as a "financial cycle." It's in the conference title, after all! That means a "cycle" of credit expansion, usually "unwarranted," "excessive," or an "imbalanced," followed by a bust. It is also agreed that it is the job of financial regulators to manage this "cycle."

Monday, November 5, 2018

Kotlikoff on the Big Con

In preparing some talks on the financial crisis, 10 years later, I ran across a very nice article, The Big Con -- Reassessing the "Great" Recession and its "Fix" by Larry Kotlikoff. (Here, if the first link doesn't work.) 

Larry is also the author of Jimmy Stewart is Dead – Ending the World's Ongoing Financial Plague with Limited Purpose Banking, from 2010, which along with Anat Admati and Martin Hellwig's The Bankers' New Clothes is one of the central works outlining the possibility of equity-financed banking and narrow deposit-taking, and how it could end financial crises forever at essentially no cost.

Larry points out that the crisis was, centrally a run. He calls it a "multiple equilibrium."  Financial institutions have promised people they can have their money back in full, at any time, but they have invested that money in illiquid and risky assets. When people all do that at the same time, the system fails. Such a run is inherently unpredictable. If you know it's happening tomorrow, you run to get your money out and it happens today.

This is a common view echoed by many others, including Ben Bernanke. What's distinctive about Larry's essay is that he pursues the logical conclusion of this view. If the crisis was, centrally, a run, all the other things that are alluded to as causes of the crisis are not really central.  Short-term debt, run-prone liabilities are gas in the basement. Just what causes the spark, how big the firehouse is, are not central, as without gas in the basement the spark would not cause a fire.

Larry puts it all together nicely by starting with the 2011 Financial Crisis Inquiry Commission report:
"There was an explosion in risky subprime lending and securitization, an unsustainable rise in housing prices, widespread reports of egregious and predatory lending practices, dramatic increases in household mortgage debt, and exponential growth in financial firms’ trading activities, unregulated derivatives, and short-term “repo” lending markets, among many other red flags. Yet there was pervasive permissiveness; little meaningful action was taken to quell the threats in a timely manner. "
Larry then takes apart each of these non-culprits, as below.

Thursday, November 1, 2018

Cross subsidies and monopolization, explained

I found a beautiful, clear, detailed, fact-based, and devastating explanation of how forced cross-subsidies, monopolized markets, and lack of competition conspire to strangle the American health care system.

No, this was not on some goofy libertarian website. It was in the official Voter Information Guide, for the ultra-progressive state of California, authored by "the legislative analyst." Whether the analyst is a secret libertarian struggling to get the word out, or simply that this is so much the way of doing things in California that nobody notices the scandal of it all, I do not know.

Starting on p. 62, with my emphasis

Ambulances Provide Emergency Medical Care and Transportation. When a 911 call is made for medical help, an ambulance crew is sent to the location. ... (Ambulances also provide nonemergency rides to hospitals or doctors’ offices when a patient needs treatment or testing.)

Private Companies Operate Most Ambulances. ...  State law requires ambulances to transport all patients, even patients who have no health insurance and cannot pay. ... 
Commercial Insurance Pays More for Ambulance Trips Than Government Insurance Pays. The average cost of an ambulance trip in California is about $750. Medicare and Medi-Cal pay ambulance companies a fixed amount for each trip. Medicare pays about $450 per trip and Medi-Cal pays about $100 per trip. As a result, ambulance companies lose money transporting Medicare and Medi-Cal patients. Ambulance companies also lose money when they transport patients with no insurance. This is because these patients typically cannot pay for these trips. To make up for these losses, ambulance companies bill patients with commercial insurance more than the average cost of an ambulance trip. On average, commercial insurers pay $1,800 per trip, more than double the cost of a typical ambulance ride.
Not stated, just why do commercial insurers put up with this? The answer is, that you need government approval to run an insurance company in California, and an insurer who said "we're not paying for that" won't be allowed to do business in California.

Also not stated, just what happens to you if you don't have health insurance but actually are the type who pays your bills? Good luck.

Counties Select Main Ambulance Providers. County agencies divide the county into several zones. The ambulance company that is chosen to serve each zone has the exclusive right to respond to all emergency calls in that area.
If you want to know why there is no competition in the 911 ambulance industry, now you know. I don't know about private, non-911 ambulances. Is this all just exploiting the convenience of 911? Can you get a competitively priced ambulance ride if you know who to call?
The company generates revenue by collecting payments from patients’ insurers. In exchange, the ambulance company pays the county for the right to provide ambulance trips in that area. The county typically chooses the ambulance company through a competitive bidding process....
So cash strapped counties are in on the business of fleecing insurance companies, and through them, people and businesses who pay premiums.

Wednesday, September 19, 2018

Supply-side health care

The discussion over health policy rages over who will pay -- private insurance, companies, "single payer," Obamacare, VA, Medicare, Medicaid, and so on -- as if once that's decided everything is all right -- as if once we figure out who is paying the check, the provision of health care is as straightforward a service as the provision of restaurant food, tax advice, contracting services, airline travel, car repair, or any other reasonably functional market for complex services.

As anyone who has ever visited a hospital knows, this is nowhere near the case. The health care market in the US is profoundly screwed up. The ridiculous bills you get after the fact are only one sign of evident dysfunction. The dysfunction comes down to a simple core: lack of competition. Airlines would love to charge you the way hospitals do. But if they try, competitors will come in and offer clearer, simpler and better service at a lower price.

Fixing the supply of health care strikes me as the policy win-win. Instead of the standard left-right screaming match, "we're spending too much," "you heartless monster, people will die," a more competitive health care market giving us better service at lower cost, making a cash market possible, makes everyone's goals come closer.

But even health insurance and payment policy is simple compared to the dark web of restrictions that keep health care so uncompetitive. That is deliberate. Complexity serves a purpose -- it protects anti competitive behavior from reform. It's hard for observers like me to understand what's really going on, what the roots of evident pathology are, and what policy steps (or backward steps) might fix them.

Into this breach steps a very nice article in today's WSJ, "Behind Your Rising Health-Care Bills: Secret Hospital Deals That Squelch Competition"  by Anna Wilde Mathews. Excerpts:
Dominant hospital systems use an array of secret contract terms to protect their turf and block efforts to curb health-care costs. As part of these deals, hospitals can demand insurers include them in every plan and discourage use of less-expensive rivals. Other terms allow hospitals to mask prices from consumers, limit audits of claims, add extra fees and block efforts to exclude health-care providers based on quality or cost.
The effect of contracts between hospital systems and insurers can be difficult to see directly because negotiations are secret. The contract details, including pricing, typically aren’t disclosed even to insurers’ clients—the employers and consumers who ultimately bear the cost.
Among the secret restrictions are so-called anti-steering clauses that prevent insurers from steering patients to less-expensive or higher-quality health-care providers. In some cases, they block the insurer from creating plans that cut out the system, or ones that include only some of the system’s hospitals or doctors. They also hinder plans that offer incentives such as lower copays for patients to use less-expensive or higher-quality health-care providers. The restrictive contracts sometimes require that every facility and doctor in the contracting hospital system be placed in the most favorable category, with the lowest out-of-pocket charges for patients—regardless of whether they meet the qualifications.

Monday, September 10, 2018

Dollarize Argentina

Argentina should dollarize, says Mary Anastasia O'Grady in the Wall Street Journal -- not a peg, not a currency board, not an IMF plan, just give up and use dollars.
Another currency crisis is roiling Argentina... The peso has lost half its value against the U.S. dollar since January. Inflation expectations are soaring. 
The central bank has boosted its overnight lending rate to an annual 60% to try to stop capital flight. But Argentines are bracing for spiraling prices and recession. 
...the troubles have been brewing for some time. On a trip to Buenos Aires in February, I got an earful from worried economists who said Mr. Macri was moving too slowly to reconcile fiscal accounts. 
In 2016 and 2017 the government continued spending beyond its means and borrowing dollars in the international capital markets to finance the shortfall. That put pressure on the central bank to print money so as not to starve the economy of low-priced credit ahead of midterm elections in 2017.... 
A sharp selloff of the peso in May was followed by a new $50 billion standby loan from the International Monetary Fund in June. With a monetary base that is up over 30% since last year, in a nation that knows something about IMF intervention, that was like waving a red cape in front of a bull. 
The peso was thus vulnerable when currency speculators launched an attack on the Turkish lira last month and the flight to the dollar spilled over into other emerging markets, including Argentina. After decades of repeated currency crises, Argentines can smell monetary mischief. A peso rout ensued.
Conventional Wisdom these days -- the standard view around the Fed, IMF, OECD, BIS, ECB, and at NBER conferences -- says that countries need their own currencies, so they can quickly devalue to address negative "shocks." For example, conventional wisdom says that Greece would have been far better off with its own currency to devalue rather than as part of the euro. I have long been skeptical.

It's not working out so great for Argentina. As Mary points out, short term financing means there can be "speculative attacks" on the currencies of highly indebted countries that run their own currencies, just as there can be runs on banks. And Conventional Wisdom, silent on this issue advocating a Greek return to Drachma, was full in that the Asian crises of the late 1990s were due to "sudden stops," and such speculative machinations of international "hot money."

Well, says CW, including the IMF's "institutional view," that means countries need "capital flow management," i.e. governments need to control who can buy and sell their currency and and who can buy or sell assets internationally.  Yet Venezuela and Iran are crashing too, and not for lack of capital flow "management." My understanding is Argentina does not allow free capital either. Moreover, if there is a chance you can't take your money out, you don't put it in in the first place. There is a reason the post Bretton Woods international consensus drove out capital restrictions.

So I agree with Mary -- dollarize. Just get it over with. What possible benefit is Argentina getting from clever central bank currency manipulation, if you want a dark word, or management, if you want a good one? Use the meter and the kilogram too.

There is a catch, however, not fully explicit in Mary's article. The underlying problem is fiscal, not monetary. To repeat,
"Mr. Macri was moving too slowly to reconcile fiscal accounts. ...In 2016 and 2017 the government continued spending beyond its means and borrowing dollars in the international capital markets to finance the shortfall." 
So, I think it's a bit unfair for Mary to complain that Argentina's problem is that it "has a central bank." I don't know what any central banker could do, given the fiscal problems, to stop the currency from crashing.

If the government dollarizes, it can no longer inflate or devalue to get out of fiscal trouble. Argentina has pretty much already lost that option anyway. If the government borrows Pesos, inflating or devaluing eliminates that debt. But if the government borrows in dollars, a devaluation or inflation taxes a much smaller base of peso holders to try to pay back the dollar debt.

Still, a dollarized government must either pay back its bills or default. That's how the Euro was supposed to work too, until Europe's leaders, seeing how much Greek debt was stuffed into French and German banks, burned the rule book.

So the underlying problem is fiscal. With abundant fiscal resources, the government could have borrowed abroad to stop a run on the Peso. And without those resources, dollarization will not solve its debt and deficit problem. Dollarization will force the government to shape up fast, which may be Mary's point.

Dollarization will insulate the private economy from government fiscal troubles. This is a great, perhaps the greatest, point in its favor. Even if the government defaults, companies in a fully dollarized, free capital flow economy, can shrug it off and go about their business. Forced to use pesos, subject to sharp inflation, devaluation, capital and trade restrictions, the government's problems infect the rest of the economy.

Last, CW likes devaluation and inflation because it supposedly "stimulates" the economy through its troubles surrounding a crisis. That strikes me as giving a cancer patient an espresso. Argentina is getting both inflation and recession, not a stimulative boom out of its inflation.

Dollarization is not a currency board, which Argentina also tried and failed. A currency board is a promise to keep the peso equal to the dollar, and to keep enough dollars around to back the pesos. Alas, it does not keep dollars around to back all the governments' debts, so the government soon enough will see the kitty of dollars and grab them, abrogating the currency board. Dollarization means the economy uses dollars, period, and there is no pool of assets sitting there to be grabbed.

Wednesday, September 5, 2018

Fed Nixes Narrow Bank

A narrow bank would be a great thing. A narrow bank takes deposits, and invests 100% of the money in interest-paying reserves at the Fed. (The Fed, in turn, mostly invests in US treasuries and agency securities.)

A narrow bank cannot fail*. It cannot lose money on its assets. A narrow bank cannot suffer a run. If people want their money back, they can all have it, instantly. A narrow bank needs essentially no asset risk regulation, stress tests, or anything else.

A narrow bank fills an important niche. Individuals can have federally insured bank accounts which are (mostly) safe. But large businesses need to handle cash way above the limits of deposit insurance. For that reason, they invest in repurchase agreements, short-term commercial paper, and all the other forms of short term debt that blew up in the 2008 financial crisis. These are safer than bank accounts, but, as we saw, not completely safe. A narrow bank is completely safe. And with the option of a narrow bank, the only reason for companies to invest in these other arrangements is to try to harvest a little more interest. Regulators can feel a lot more confident shutting down run-prone alternatives if a narrow bank is widely available.

The most common objection to equity-financed banking is that people and businesses need deposits. Well, narrow banks provide those deposits, and can do so in nearly unlimited amount. Narrow banking, providing completely safe deposits, opens the door to equity-financed banking, which can invest in risky assets and also be immune from financial crises.

Why not just start a a money market fund that invests in treasuries? Since deposit -> narrow bank -> Fed -> Treasuries, why not just deposit -> money market fund -> treasuries, and cut out the middle person? Well, a narrow bank is really a bank. A money market fund cannot access the full range of financial services that a bank can offer. If you're a business and you want to wire money to Germany this afternoon, you need a bank.

Suppose someone started a narrow bank. How would the Fed react? You would think they would welcome it with open arms. Not so.

TNB, for "The Narrow Bank" just tried, and the Fed is resisting in every possible way. TNB just filed a complaint against the New York Fed in District Court, which makes great reading. (The complaint is publicly available here, but behind a paywall, so I posted it on my webpage here.) Excerpts:
2. “TNB” stands for “the narrow bank”, and its business model is indeed narrow. TNB’s sole business will be to accept deposits only from the most financially secure institutions, and to place those deposits into TNB’s Master Account at the FRBNY, thus permitting depositors to earn higher rates of interest than are currently available to nonfinancial companies and consumers for such a safe, liquid form of deposit. 
3. TNB’s board of directors and management have devoted more than two years and substantial resources to preparing to open their business, including undergoing a rigorous review by the State of Connecticut Department of Banking (“CTDOB”). The CTDOB has now granted TNB a temporary Certificate of Authority (“CoA”) and is fully prepared to permit TNB to operate on a permanent basis. 
4. However, to carry out its business—indeed, to function at all—TNB needs access to the Federal Reserve payments system. 
5. In August 2017, therefore, TNB began the routine administrative process to open a Master Account with the FRBNY. Typically, the application procedure involves completing a one-page form agreement, followed by a brief wait of no more than one week. Indeed, the form agreement itself states that “[p]rocessing may take 5-7 business days” and that the applicant should “contact the Federal Reserve Bank to confirm the date that the master account will be established.” 
6. This treatment is consistent with the governing statutory framework. Concerned by preferential access to Federal Reserve services by large financial institutions, Congress passed the Depository Institutions Deregulation and Monetary Control Act of 1980 (the “Act”). Under the applicable provision of the Act, 12 U.S.C. § 248a(c)(2), all FRBNY services “shall be available” on an equal, non-discriminatory basis to any qualified depository institution that, like TNB, is in the business of receiving deposits other than trust funds. 
7. TNB did not receive the standard treatment mandated by the governing law. Despite Connecticut’s approval of TNB—as TNB’s lawful chartering authority—and the language of the governing statute, the FRBNY undertook its own protracted internal review of TNB. TNB fully cooperated with that review, which ultimately concluded in TNB’s favor. At the same time, the FRBNY also apparently referred the matter to the Board of Governors of the Federal Reserve System (the “Board”) in Washington, D.C.  
8. In December 2017, TNB was informed orally by an FRBNY official that approval would be forthcoming—only to be called back later by the same official and told that the Board had countermanded that direction, based on alleged “policy concerns.” 
9. TNB’s principals thereafter met with staff representatives of the Board, as well as the President of the FRBNY, to explain that there was no lawful basis to reject TNB’s application for a Master Account. On information and belief, the FRBNY and its leadership agreed with TNB and were prepared to open a Master Account. 
10. Though TNB had satisfactorily completed the FRBNY’s diligence review, the Board continued to thwart any action by the FRBNY to open TNB’s Master Account, reportedly at the specific direction of the Board’s Chairman. 
11. Having delayed the process for nearly one year—effectively preventing TNB from doing business—the FRBNY has repeatedly refused either to permit TNB to open a Master Account or to state that the FRBNY will ultimately do so. 
12. The FRBNY’s conduct is in open defiance of the statutory framework, its own prior positions, and judicial authority. See Fourth Corner Credit Union v. Fed. Reserve Bank of Kan. City, 861 F.3d 1052, 1071 (10th Cir. 2017) (“The plain text of § 248a(c)(2) indicates that nonmember depository institutions are entitled to purchase services from Federal Reserve Banks. To purchase these services, a master account is required. Thus, nonmember depository institutions . . . are entitled to master accounts.”) (Bacharach, J.) (emphasis added). 
13. Further, the FRBNY’s actions, especially in the context of other recent conduct by the Board,1 have the effect of discriminating against small, innovative companies like TNB and privileging established, too-big-to-fail institutions—the very dynamic that led Congress to pass the Act in the first place. 
14. TNB therefore brings this action for a prompt declaratory judgment that it is entitled to a Master Account.
Why does the Fed object?

The Fed may worry about controlling the size of its balance sheet -- how many reserves banks have at the Fed, and how many treasuries the Fed correspondingly buys. If narrow banks get really popular, the Fed might have to buy more treasuries to meet the need. Alternatively, the Fed might have to discriminate, paying narrow banks less interest than it pays "real" banks, in order to keep down the size of the narrow banking industry. It would then face hard questions about why it is discriminating and paying traditional banks more than it pays everyone else. (It's already a bit of a puzzle that it often pays interest on reserves larger than what banks can get anywhere else, even treasuries.)

But why does the size of the balance sheet matter? Why does it matter whether people hold treasuries directly, hold them via a money market fund, or hold them via a narrow bank, which holds reserves at the Fed, which holds treasuries?

"Money" is no longer money. When the Fed pays interest on huge amounts of excess reserves, the size of the balance sheet no longer matters, especially in this regard. If people want to hold more treasuries indirectly through a narrow bank and the Fed, and correspondingly less directly, why should that have any stimulative or depressing effect at all? Even if you do think QE purchases -- supply-driven changes in the balance sheet -- matter, it is not at all clear why demand-driven changes should matter.

The Fed already allows a "reverse repo program,"  in which 160 institutions such as money market funds to hold reserves. It currently pays those 20 basis points (0.2%) less than it pays banks, to discourage participation.

The second argument, made during the discussion about reverse repos, is that narrow banks are a threat to financial stability, not a guarantor of it as I have described, because people will run to narrow banks away from repo and other short term financing in times of stress.

This is, in my view, completely misguided. Again, narrow banks are just an indirect way of holding treasuries. There is nothing now stopping people from "running" to treasuries directly, which is exactly what they did in the financial crisis.

Furthermore, the Fed does not, in a crisis, seek to force people to hold illiquid assets having a run. The Fed pours liquid assets into the system like Niagara falls, and buys illiquid assets from them, all in massive quantities.

Moreover, the whole point of the narrow bank is that large businesses don't hold fragile run-prone short term assets in the first place. By paying interest on reserves, and allowing more and more people to enjoy run-proof government money, there is less gasoline in the financial system to begin with. If the Fed is worried about financial crises, it ought to encourage narrow banks and give others a gold star for using them rather than shadier short-term assets in the first place.

The emptiness of both arguments is easy to see from this: Chase and Citi are narrow banks -- married to investment banks. Both take deposits, and invest them as interest paying reserves at the Fed. Right now there are more reserves than checking accounts in the banking system as a whole. If there were some threat to monetary policy or financial stability from banks being able to take deposits and funnel them in to reserves, we'd be there now. The only difference is that if Chase and City lose money on their risky investments, they drag down depositors too and the government bails out the depositors. The narrow banks are not separated from the investment banks in bankruptcy. A true narrow bank just separates these functions.

Shadier speculations are natural as well.

Banks are making a tidy profit on their current activities. JP Morgan Chase pays me 1 basis point on my deposits, as it has forever, and now earns 1.95% on excess reserves. The "pass through" from interest earned to interest paid to depositors is very slow. This is a clear sign of lack of competition in the banking system. The Fed's reverse RP program was put in place, in part, to pressure banks to act a bit more competitively, by allowing an almost-narrow bank to take investor money and put it in reserves. The Fed is now scaling that program back.

That the Fed, which is a banker's bank, protects the profits of the big banks system against competition, would be the natural public-choice speculation.

Perhaps also my vision of a run-proof essentially unregulated banking system isn't as attractive to the Fed as it should be. If deposits are handled by narrow banks, which don't need asset risk regulation, and risky investment is handled by equity-financed banks, which don't need asset risk regulation, a lot of regulators and "macro-prudential" policy makers, who want to use regulatory tools to control the economy, are going to be out of work.

To be clear, I have no evidence for either motivation. But the facts fit, and large institutions are not always self-aware of their motivations.

Whatever the reason, it is sad to see the Fed handed such an obvious boon to financial stability and efficiency, and to slow walk it to regulatory death, despite, apparently, clear legal rights of the Narrow Bank to serve its customers.

*Well, almost. For the Fed to fail, there would have to be a large-scale US default on treasury debt. Even so, Congress could exempt the Fed by recapitalizing it, making good its losses. So Congress would have to decide that it won't even recapitalize the Fed, so that reserves also default. If there is one bank that really is too big to fail, it's the Fed, as its failure would bring down the entire monetary system. Literally, all of the ATMs and credit card machines go dark. This is a pretty improbable event.

Update: Endi below asks "Why do you say that with the existence of narrow banks, equity-financed banks would be immune from a financial crisis?" See "A Blueprint for Effective Financial Reform", "Equity-financed banking and a run-free financial system," "Toward a run-free financial system",  All here.

Update 2: Matt Levine at Bloomberg has excellent coverage.   Michael Derby at WSJ too. As Matt and a commenter below explain,  I got ahead of myself on TNB. This particular company is not planning to offer banking services or retail deposits. They won't even wire money for you. The reason: if they were to do so, they would face lots of anti-money-laundering regulations. This particular business is focused on giving money market funds and other large institutions access to the 1.95% that the Fed pays on reserves, which is more than the 1.75% that money market funds can get via reverse repo at the same Fed, or (paradoxically) the rate that short term treasuries have been offering lately.

Update 3: an excellent WSJ editorial. The Fed remains silent. My forecast: The Fed will remain silent, fight the lawsuit with obfuscation and delay.  It can surely let this rot in the courts for a decade or more. By that time the TNB folks will be out of money and have to give up, and any potential copycats will get the message.

Tuesday, September 4, 2018

Cause, effect, and carbon

“As fires rage up and down the state of California, costing our taxpayers billions of dollars and threatening our families’ health—- the need for California to move to 100% clean, renewable energy could not be more urgent,” said Mr. de León in a statement.
Sen. Kevin de León, a Democrat who is waging a long-shot run for a U.S. Senate seat against incumbent Dianne Feinstein.
Reported in the Wall Street Journal

The context is
California passed legislation Tuesday that would make it the first large state to mandate completely carbon-free electricity generation, with a target of 2045.
My understanding is that nuclear does not count as "carbon free."

Just to belabor the obvious, the central part of our state has been living under a blanket of smoke most of the summer. Smoke causes an immediate and local pollution problem, which is a direct threat to human health -- fine particulate matter.  Yet the state has cut its firefighting air fleet and budget over the past few years, and also let fuel accumulate in forests over the winter.

California contributes maybe 1% of global carbon emissions. Guesstimate for yourself how much California carbon-free energy by 2045 will do to reduce wildfires in your grandchildren's lifetime.  "Urgent?"

If you think global warming is real, and that it will increase wildfires, it seems you would be rushing to spend money on putting out fires.

Instead, our state government seems to regard wildfires as punishments for our carbon sins, that only praying to the Temple of Carbon with largely symbolic billions of dollars can salve. Actually doing something about problems the West has always had -- wildfires -- that may be moving north a bit due to global warming seems to be regarded as an immoral act.

I am also interested by the fantastical cause-and-effect thinking going on here, and the flight from any vaguely quantifiable dollars per unit of effect. And this from the self-described "party of science."

Wednesday, August 29, 2018

The Tax-and-Spend Health-Care Solution

A Wall Street Journal Oped, From July 29 2018. Now that 30 days have passed, I can post the whole thing.

The Tax-and-Spend Health-Care Solution

Honest subsidies beat cross-subsidies. They’d encourage competition and innovation.

By John H. Cochrane

Why is paying for health care such a mess in America? Why is it so hard to fix? Cross-subsidies are the original sin. The government wants to subsidize health care for poor people, chronically sick people, and people who have money but choose to spend less of it on health care than officials find sufficient. These are worthy goals, easily achieved in a completely free-market system by raising taxes and then subsidizing health care or insurance, at market prices, for people the government wishes to help.

But lawmakers do not want to be seen taxing and spending, so they hide transfers in cross-subsidies. They require emergency rooms to treat everyone who comes along, and then hospitals must overcharge everybody else. Medicare and Medicaid do not pay the full amount their services cost. Hospitals then overcharge private insurance and the few remaining cash customers.

Overcharging paying customers and providing free care in an emergency room is economically equivalent to a tax on emergency-room services that funds subsidies for others. But the effective tax and expenditure of a forced cross-subsidy do not show up on the federal budget.

Over the long term, cross-subsidies are far more inefficient than forthright taxing and spending. If the hospital is going to overcharge private insurance and paying customers to cross-subsidize the poor, the uninsured, Medicare, Medicaid and, increasingly, victims of limited exchange policies, then the hospital must be protected from competition. If competitors can come in and offer services to the paying customers, the scheme unravels.

No competition means no pressure to innovate for better service and lower costs. Soon everybody pays more than they would in a competitive free market. The damage takes time, though. Cross-subsidies are a tempting way to hide tax and spend in the short run, but they are harmful over years and decades.

We have seen this pattern over and over. Until telephone deregulation in the 1970s, the government wanted to provide telephone landlines below cost. It forced a cross-subsidy from overpriced long distance and a telephone monopoly to keep entrants out and prices up. The government wanted to subsidize small-town air service. It forced airlines to cross-subsidize from overpriced big-city services and enforced an oligopoly to keep entrants from undercutting the profitable segments. But protection bred inefficiency. After deregulation, everyone’s phone bills and airfares were lower and service was better and more innovative.

Lack of competition, especially from new entrants, is the screaming problem in health-care delivery today. In no competitive business will they not tell you the cost before providing service. In a competitive business you are bombarded with ads from new companies offering a better deal.

The situation is becoming ridiculous. Emergency rooms are staffed with out-of-network anesthesiologists. Air ambulances take everyone without question, and Medicare, Medicaid and exchange policies underpay. You wake up with immense bills, which you negotiate afterward based on ability to pay. The cash market is dead. Even if you have plenty of money, you will be massively overcharged unless you have health insurance to negotiate a lower rate.

Taxing and spending is not good for the economy. But it’s better than cross-subsidization. Taxing and spending can allow an unfettered competitive free market. Cross-subsidies must stop competition and entry at the cost of efficiency and innovation. Taxing and spending, on budget and appropriated, is also visible and transparent. Voters can see what’s going on. Finally, broad-based taxes, as damaging as they are, are better than massive implied taxes on very few people.

This is why continued tinkering with the U.S. health-care system will not work. The system will be cured only by the competition that brought far better and cheaper telephone and airline services. But there is a reason for the protections that make the system so inefficient: Allowing competition would immediately undermine cross-subsidies. Unless legislators swallow hard and put the subsidies on the budget where they belong, we can never have a competitive, innovative and efficient health-care market.

But take heart—when that market arrives, it will make the subsidies much cheaper. Yes, the government should help those in need. But there is no fundamental reason that your and my health care and insurance must be so screwed up to achieve that goal.

Mr. Cochrane is a senior fellow of the Hoover Institution at Stanford University and an adjunct scholar of the Cato Institute

Monday, August 27, 2018

Post-Apocalyptic Health Care

Post-apocalyptic life in American health care is a fantastic blog post on the state of American health care and insurance. (HT Marginal Revolution)

Bottom line:
American health care organizations can no longer operate systematically, so participants are forced to act in the communal mode, as if in the pre-modern world.
The formal systems of health care are  broken under [my interpretation, to follow] the weight of regulation. By "formal systems" I mean the normal bureaucratic procedures by which large organizations run and interact: a set of rules, forms, records, and so forth. "Bureaucratic" here is not a pejorative. Bureaucracy is what allows large organizations to work.

This isn't about technology -- for centuries large organizations worked well using the technology of paper, writing, forms, and files. Electronic records just make those structures work more efficiently.

But when the rules and formal systems grow immense, vague, contradictory, and unworkable, human networks form in their place. Then things happen only by networks of personal connections, informal structures working around the dead elephant in the room to get anything accomplished. The latter, at great inefficiency, of course. Large bureaucratic organizations, allowing people to cooperate anonymously, are vital to an advanced society.

Later in the post,
It’s like one those post-apocalyptic science fiction novels whose characters hunt wild boars with spears in the ruins of a modern city. Surrounded by machines no one understands any longer, they have reverted to primitive technology.
Except it’s in reverse. Hospitals can still operate modern material technologies (like an MRI) just fine. It’s social technologies that have broken down and reverted to a medieval level.
Systematic social relationships involve formally-defined roles and responsibilities. That is, “professionalism.” But across medical organizations, there are none. Who do you call at Anthem to find out if they’ll cover an out-of-state SNF stay? No one knows.
To be specific, follow the author through a detailed personal story. The story takes a while, and it's one story, but the granularity of a story makes the case vivid.

Thursday, August 23, 2018

Modigliani-Miller theorem repealed, reports PBS

Link here. 

In case you don't get it, see previous posts on buybacks here and here, that explain how buybacks do not affect share prices, and certainly cannot cause the rise since 2008.

Thanks to a correspondent for the pointer.

Thursday, August 16, 2018

Options on health insurance

Alex M. Azar, U.S. secretary of health and human services, published an interesting OpEd in the Washington Post, describing a clever health insurance innovation. HHS will allow "temporary" health insurance, including a guaranteed renewability provision. The HHS announcement is here and the official rule on the Federal Register here.
Americans will once again be able to buy what is known as short-term, limited-duration insurance for up to a year, assuming their state allows it. These plans are free from most Obamacare regulations, allowing them to cost between 50 and 80 percent less.
Insurers will also be able to sell renewable plans, allowing consumers to stay on their affordable coverage for up to 36 months. Consumers can also buy separate renewability protection, which will allow them to lock in low rates in their renewable plans even if they get sick.
The big news to me is guaranteed renewability. You sign up now, and you are guaranteed rates don't go up if you get sick.

The last sentence is the most intriguing. Long ago, before the ACA made all of this sort of innovation illegal, United Health started offering the option to buy health insurance. Pay money now, and any time you get sick you can still get health insurance, at the pre-stated rate. (Under the ACA that option is now called a cell phone, but the insurance is a lot more expensive and many doctors and hospitals don't take it.)

It sounds like HHS is allowing this again. But I couldn't figure out from a quick read whether the guarantee only lasts 36 months, or if they can sell that option for a longer date. It sounds like the plain guaranteed renewability is only 36 months, the length of the contract.

For newcomers to this blog, guaranteed renewability and the option to buy health insurance is the key to escaping the preexisting conditions problem in a free market for health insurance. I'm delighted to see the idea take hold, if at the edges. Great trees grow from saplings.

The trouble is, that most of the things you worry about happen in a time frame more than 36 months. I want guaranteed renewability for life! If I get cancer in 22 months, knowing I can keep health insurance for another 14 is not that helpful. (Much more here, especially "health status insurance.")

You may ask, then, why only 36 months? As I piece it together, the ACA, which is still law, has a little carve out for temporary insurance, defined as a contract that last 12 months. Anything longer must meet the list of mandates. It sounds like HHS was pretty clever within the constraints of the law, allowing them to be renewed, so 12 months can turn in to 36. I presume you can sign up with another company after 36 months? But you lose the guaranteed renewability so the new company may charge you a lot.

Unless, perhaps, they really are letting insurance companies offer the right to buy health insurance as a separate product, and that can have as long a horizon as you want? If they haven't done that, I suggest they do so! I don't think the ACA forbids the selling of options on health insurance of arbitrary duration.

Monday, August 13, 2018

Trade uncertainty and investment

My colleague Steve Davis has a nice post quantifying economic uncertainty due to the trade war, and its emerging impact on investment.

Steve (and Nick Bloom) have done a great job quantifying policy uncertainty over time. To be clear, policies can have two effects -- there is the certainty of damaging policy, but there is also the damaging uncertainty of what policy will be. If a trade war seems to be looming, and you don't know if you will get tariff protection (raw steel) or be hurt by the tariff (steel users, competing with tariff-free steel products from abroad), that's uncertainty. Businesses hold off investing when they know things will be bad. But they also hold off when they're not sure what will happen. That's uncertainty.

Our little (so far) trade war is full of uncertainty
Trade policy under the Trump administration also has a capricious, back-and-forth character... Less than three months after withdrawing from the TPP, the President said he would consider rejoining for a substantially better deal, only to throw cold water on the idea a few days later. Initially, the administration justified steel tariffs on the laughable grounds that Canada, for example, presents a national security threat. Later, President Trump tweeted that tariffs on Canadian steel were a response to its tariffs on dairy products. Some countries get tariff exemptions, some don’t. Exemptions vary in duration, and they come and go in a head-spinning manner. Two days ago (August 10), the President tweeted that he “just authorized a doubling of Tariffs on Steel and Aluminum with respect to Turkey” for reasons unclear. For a fuller account of tariff to-ing and fro-ing under the Trump administration, see the Peterson Institute’s “Trump Trade War Timeline.”
The arbitrariness, including the waivers, means
Crony capitalism, political favoritism, and extra sand in the gears of commerce – here we come!
But to the point, what's the Davis-Bloom quantitative measure of uncertainty doing? Answer: it is higher than even around the election -- whose outcome, and the nature of the Trump presidency certainly led to a vast amount of uncertainty.

As of July, this uncertainty is only having a small effect on investment, and the economy is still booming -- in my view from the corporate tax rate cuts and deregulation efforts. It is true that the US is so big that most of the economy does not live on exports or directly compete with imports.
Let’s sum up the U.S. survey evidence: About one-fifth of firms in the July 2018 SBU say they are reassessing capital expenditure plans in light of tariff worries. Among this one-fifth, firms have reassessed an average 60 percent of capital expenditures previously planned for 2018–19. ..Only 6 percent of the firms in our full sample report cutting or deferring previously planned capital expenditures in reaction to tariff worries. These findings suggest that tariff worries have had only a small negative effect on U.S. business investment to date.
But it could get worse. Steve closes with a nice list of recent trade outbursts from our part of the economics blog world:
In closing, I should note that the harmful consequences of tariff hikes and trade policy uncertainty extend well beyond short-term investment effects. For other critiques of the Trumpian approach to trade policy, see the worthy commentaries by Robert BarroAlan BlinderJohn CochraneDoug IrwinMary Lovely and Yang LiangGreg Mankiw and Adam Posen, among others.

Intellectual property and China

Let's transfer more technology to China, writes Scott Sumner, with approving comments from Don Boudreaux. They're exactly right, skewering one of the common backstop defenses of protectionists on both left and right.

The question is whether China can buy US technology, or require technology transfer to Chinese partners as a condition of the US firm entering China. Scott and Don have sophisticated versions of my reaction: If Chinese access isn't worth it to you, don't do the deal.

It stands to reason that stealing technology and IP is bad, and should be stopped. Whether imposing tariffs is the smart way to do that, we will discuss another day. But on an economic basis, even that is questionable!

A key point: Selling technology is not like selling a car. If you sell a car, you can't use it. If someone steals your car, you can't use it. But everyone can use knowledge. Scott:
The beauty of information is that use by one person does not preclude use by others
If I know how to wax my car in half the time it takes you, and you sneak in to my house to learn my secret, you wax your car in half the time too. But so do I.

Sunday, August 12, 2018

Lira Crash

No, a currency board won't save the Lira, contra Steve Hanke's oped in the Wall Street Journal. Steve:
Turkey should adopt a currency board. A currency board issues notes and coins convertible on demand into a foreign anchor currency at a fixed rate of exchange. It is required to hold anchor-currency reserves equal to 100% of its monetary liabilities,...
Well, that sounds reasonable no? If 100% of the country's currency and bank reserves are backed by US dollars, and the currency is pegged to the dollar, what could go wrong? Don't want Lira? The central bank promises to exchange 1 Lira for 1 dollar and always has enough dollars to make good on the promise. It sounds like an ironclad peg.

Government debt is the problem. Turkey may still have the resources to back its currency 100% with dollar assets. But what about the looming debt? Turkey does not have the resources to back all its government debt with dollar assets! If it did, it would not have borrowed in the first place.

So what happens when the debt comes due? If the government cannot raise enough in taxes to pay it off, or convince investors it can raise future taxes enough to borrow new money to roll it over, it must either default on the debt or print unbacked Lira.

I.e. a currency board run by an insolvent government will fail. The government will eventually grab the foreign reserves.

The Argentinian currency board did fail, and this is basically why.

Saturday, August 11, 2018

Links: trade, housing, taxes

Three interesting links caught my attention today:

1) Prefab housing in Berkeley and Alex Tabarrok Commentary on Marginal Revolution.
Imagine a four-story apartment building going up in four days, and from steel. It happened in Berkeley, a city known for its glacial progress in building housing. 
Four days? Well, not really
The modules were stacked on a conventional foundation. Electricity, plumbing, the roof, landscaping and other infrastructure were added.
That didn't take 4 days. And
The project, initially approved by the city in 2010 as a hotel, then re-approved in 2015 as studio apartments, 
So, really, 10+ years! (In my personal one data point, getting permits can take as long as building.)

Housing should be manufactured. As Tabarrok points out, it is one place where productivity has not improved much. I gather Ikea is now moving in to manufacture housing (I lost the link). Economies of scale should make a big difference. Once Ikea does to housing what they did to the Poang chair, steadily refining it, they can bringing the price down a lot.

But, manufactured houses have to obey local building codes too, and planning review and design review, and inspections, and all the other little local obstacles. Getting a uniform code will be a big fight, but strikes me as necessary to reap those economies of scale.

The prefab houses are made in China, using steel. A bunch of obvious meditations follow.

As I understand it, we now have import taxes (tariffs) on raw steel from China, but not taxes on products made out of steel. Why does the Trump administration so obviously provide an incentive for manufacturing to move to China? I've read a lot of stories about keg manufacturers, steel locker manufacturers, and so on going out of business over this difference. Is there some part of trade law that I don't know about that forces this outcome, and forbids them to also tax steel content of imports?

It nicely illustrates the point, that if you don't let people come to the US, the capital can go there. Even homebuilding.

2) Greg Mankiw makes an excellent point about marginal tax rates.

Phil Gramm and Robert B. Eklund wrote a great WSJ oped pointing out that inequality in the US really is not as large as it seems, because most measures left out government transfers, even cash transfers. (They cite the CATO study by John F. Early.) Once you add transfers back in again, the US has a much flatter income distribution. We have a more progressive tax system than Europe, with no VAT and lower payroll tax rates, and we do a lot of income transfers.

Greg points out a clever implication of this fact. From the pre- and post-tax and transfer income distribution, we can measure the average marginal tax rate, including the loss of benefits due to program phase out with income:
The bottom quintile earned 2.2% of all earned income in 2013, but after adjusting for taxes and transfer payments, its share of spendable income rose to 12.9%... The second quintile’s share more than doubled, rising from 7% of earned income to 13.9% of spendable income. For the third quintile, middle-income Americans, the increase was much smaller, from 12.6% to 15.4%.
.. the effective marginal tax rate when a person moves from the bottom to the middle quintile is 1 - (15.4-12.9)/(12.6-2.2), or 76 percent.
76 percent! The average person in the lowest quintile of the income distribution who earns an extra dollar, gets to keep only 24 cents. Can you spot the disincentive to work, or get an education?

Greg says something about heterogeneity that I did not understand, but it strikes me that heterogeneity makes matters worse. Hetereogeneity means people are different. Some people are at a cliff: make one more dollar, lose medicaid or another service. Some people are not.

But if 76 percent on average means half the people face a 100% marginal tax rate and half face a 50% marginal tax rate, I think this means the overall disincentive effects are worse than if everyone faces 75% tax rate. In that circumstance half the people will not work at all. Sometimes in economics heterogeneity makes things worse, sometimes better. I think this is a case of worse, but I would be curious to know if there is a standard answer.

While we're on income transfers and disincentives, back to Berkeley
In lieu of providing affordable units on site, Kennedy will pay a fee to the city of Berkeley’s Affordable Housing Trust Fund, as required under the city’s affordable housing laws. The amount is around $500,000, he said. 
Someone needs to write an expose of "affordable housing" programs. Who gets them and how? And once in, disincentives to earn more money, or take a better job in another city must be immense.  It's also another hidden cross-subsidy driving up prices.

3) Back to trade, Tim Taylor the conversable economist has an excellent post on the Jones act. The Jones act is the law that requires all shipping between US ports to be on US made ships staffed by US merchant marines. (Tim builds on another Cato report by Colin Grabow, Inu Manak, and Daniel Ikenson.)

If you want evidence on whether protection makes an industry thrive, this is it
If susttained protection from foreign competition was a useful path to the highest levels of efficiency and cost-effectiveness, then US ship-building and shipping should be elite industries. But in fact, US ship-building and shipping--safely protected from competition-- have fallen far behind foreign competition, with negative costs and consequences that echo through the rest of the US economy--and probably diminish US national security, too. 
...After nearly a century of protection from foreign competition, costs of ship-building in the US are far above the international competition. 
"American-built coastal and feeder ships cost between $190 and $250 million, whereas the cost to build a similar vessel in a foreign shipyard is about $30 million. 
High shipping costs induce substitution
This shift away from water-based transportation to overland road and rail has a variety of costs, like greater congestion and wear-and-tear on the roads. It also has environmental costs like higher carbon emissions: 
Unsurprisingly, the high cost of shipping by water means that in the US, freight is instead shipped overland. Consider, for example, all the trucks and trains that run up and down the east coast or the west coast.  
A long time ago when I was a CEA junior staffer, I got to see a bright idea die. The idea: Let's allow the US to export oil from Alaska to Japan. (There was an oil export ban, part of the legacy of 1970s energy policies.) Then use the money to buy oil from Saudi Arabia to send to the east coast. It's the same thing as sending Alaskan oil to the east coast but much cheaper.  Everyone said great idea until the congressional liason said those ships from Alaska to the east coast are Jones act ships, and here is their list of threats if you do it. End of idea.

I hear even from formerly sensible correspondents now mad for tariffs that we need steel tariffs for national security, so we can fight WWII again, I guess. Well, the Jones act is a nice test case since much of its rationale is to keep a merchant marine going to staff all those liberty ships. Tim (and, really, Colin, Inu and Daniel) demolishes even the national security argument.
if that [national defense] is the goal, the Jones Act is sorely failing to accomplish it. Instead, the Navy can't afford the extra ships it wants, the number of available US civilian ships and the knowledgeable workers to run them is shrinking, and military operations have had to find ways to make use of foreign ships. Some anecdotes drive home the point: 
"When U.S. forces were deployed to Saudi Arabia during Operations Desert Shield and Desert Storm, a much larger share of their equipment and supplies was carried by foreign-flagged vessels (26.6 percent) than U.S.-flagged commercial vessels (12.7 percent). Only one U.S.-flagged ship was Jones Act compliant. In fact, the shipping situation was so desperate that on two occasions the United States requested transport ships from the Soviet Union and was rejected both times. ... At the time, Vice Admiral Paul Butcher, who was then deputy commander of the U.S. Transportation Command, remarked that without the availability of foreign-flag sealift, `It would have taken us three more months to complete the sealift ourselves.' ... 
As with steel, if the goal is national defense, let the defense department ask for appropriations to staff a mothball merchant marine, don't force a hidden cross subsidy into the price of everything else.

Wednesday, August 8, 2018

Free Trade or Managed Mercantilism

Mary Anastasia O'Grady's WSJ coverage of Nafta talks included the following tidbit
auto-sector “rules of origin,” which dictate how much of a vehicle must be made in North America to qualify as duty-free when it crosses continental borders. 
In May, Team Trump proposed a new North American content requirement of 75%, up from the current 62.5%. It also wanted a new requirement that 70% of the steel and aluminum in Nafta vehicles be North American and new wage regulations that would require 40% of the value of North American cars and sport-utility vehicles—and 45% of Nafta trucks—be produced by workers making between $16 and $19 an hour. 
Mexico countered with 70% North American content, a 30% regional steel requirement and 20% regional aluminum. Market-based labor rates are important for Mexican competitiveness, but Mexico showed flexibility by proposing $16 an hour for 20% of the value of vehicles it makes. The U.S. rejected that offer. Now the two sides are trying to find middle ground.
Nafta and the like are often called "free trade agreements." Economists like me wonder, why does that take tens of thousands of pages? "We do not charge border taxes (tariffs), nor restrict quantities, nor will government purchases favor American companies." "We do the same." Done. That's free trade. This little snippet reminds us what trade pacts really are.

Of course, they are far better than the alternative, in which everything is tariffed, protected, managed, and individually negotiated.

Monday, August 6, 2018

Who will pay unfunded state pensions?

Homeowners. So says a nice WSJ op-ed by Rob Arnott and Lisa Meulbroek, and a proposal by Chicago Fed Economists Thomas Haasl, Rick Matton, and Thomas Walstrum.

The latter was a modest proposal, in the Jonathan Swift tradition. Despite Crain's Chicago Business instantly labeling it "foolish," "inhumane," and "the dumbest solution yet, the first article points out its inevitability. If indeed courts will insist that benefits may not be cut, then state governments must raise taxes, and this is the only one that can do the trick.

States can try to raise income taxes. And people will move. States can try to raise business taxes. And  businesses will move. What can states tax that can't move? Only real estate. If the state drastically raises the property tax, there is no choice but to pay it. You can sell, but the new buyer will be willing to pay much less. Pay the tax slowly over time, or lose the value of the property right away in a lower price.  Either way, the owner of the property on the day the tax is announced bears the burden of paying off the pensions.

There is a an economic principle here, the "capital levy." A government in trouble has an incentive to grab existing capital, once, and promise never to do it again. The promise is important, because if people know that a capital levy is coming they won't invest (build houses). If the government can pull it off, it is a tax that does not distort decisions going forward. Of course, getting people to believe the promise and invest again after the capital levy is... well, let's say a tricky business. Governments that do it once have a tendency to do it again.

In sum, a property tax is essentially the same thing as the government grabbing half the houses and selling them off to make pension obligations. And unless a miracle happens, it is the only way out.

Update: We're there already, say Orphe Divounguy, Bryce Hill, and Joe Tabor at Illinois Policy. The bulk of recent increases in property taxes have gone to pay for pensions, not more teachers, police, etc.

Update 2: I should clarify, that I found this an interesting piece of economics more than anything else. I do not think this is the right solution, nor is it the only one. Most other countries around the world, having made unsustainable pension promises, find some way around them and reduce pensions. It happens. Some sort of federal bailout is not unthinkable either. Moreover, the suddenly announced surprise once and for all property tax increase is unlikely, see update 1. So the states are likely to reap many disincentive effects of expected increases in property and other taxes.

Finally, most importantly property tax payers vote! They are unlikely to sit still for such a mass expropriation of their wealth.