We Were Warned

I normally try to keep my posts to economics topics.  But sometimes the political overlaps the economic.  In recent weeks there’s been a large fuss about full-body scanners and intrusive “pat-downs” by TSA agents at major airports.  I won’t comment too much about this, but I will note two things. First, the former Secretary of Homeland Security, Michael Chertoff benefits directly from the sale, installation, and use of these scanners.  From Wikipedia:

Body Scanners and Conflict of Interest

Chertoff has been an advocate of full body scanners at airports. In 2010 it emerged that Rapiscan Systems, a manufacturer of this technology, was a client of his security consulting firm, the Chertoff Group. He has come under a lot of pressure from fellow republicans for alleged corruption in that he was profiting from the sale of security equipment, which he advocated for, while Secretary of Homeland Security during the Bush presidency. [21]

This is precisely the type of conflict of interest and intermingling of industrial interests with government military/security interests that we were warned against 50 years ago by President Eisenhower.  His speech at that time is worth reviewing: (note for my younger readers who may not have studied World War II close enough – Eisenhower was not only President from 1953-1961, but he was also the commanding general for Allied forces on D-Day in World War II)



Congressional – FAIL economics

In a previous post I noted that members of Congress usually don’t understand economics at a level to even pass a Principles Econ 201 or 202 course.  More proof from Pat Garafalo of Think Progress.  Apparently Rep. Shadegg of Arizona, a Republican representative for at least 5 years doesn’t understand that consumer spending is essential to the creation of jobs.  He believes that maintaining spending by unemployed people doesn’t have any positive effect on the economy.  Instead he believes in some kind of mythic “job creators” in our economy who apparently create jobs without any consideration of being able to sell what is produced by the workers!  Of course maybe the Congressman is simply a little behind in his reading.  I mean we only figured out this concept of a circular flow and the need for consumer spending to exist for there to be jobs recently, as in, oh, 1829 at the latest.

Rep. Shadegg Scoffs At The Fact That Jobless Benefits Are A Benefit To The Economy: ‘No, They’re Not!’

Unless Congress acts today, unemployment benefits will expire for 2.5 million Americans, with unemployment above nine percent and five unemployed workers competing for every available job opening. If Congress, as expected, does nothing, this will be first time in the last forty years that benefits have expired with unemployment so high.

According to calculations by the Congressional Budget OfficeMoody’s Economy, and myriad other economists, unemployment benefits are the single best way to pump money into the economy and generate economic activity, as the unemployed are very likely to spend all of the benefits they receive (thus moving money into local businesses). But during an interview with MSNBC’s Mike Barnicle today, Rep. John Shadegg (R-AZ) scoffed at the notion that unemployment benefits help the economy. “Unemployed people hire people? Really? I didn’t know that,” Shadegg jeered:

BARNICLE: What about the fact that unemployment benefits pumped into the economy are an immediate benefit to the economy? Immediate…

SHADEGG: No, they’re not! Unemployed people hire people? Really? I didn’t know that.

BARNICLE: Unemployed people spend money Congressman, ’cause they have no money.

SHADEGG: Aha! So your answer is it’s the spending of money that drives the economy and I don’t think that’s right. It’s the creation of jobs that drives the economy…Actually, the truth is the unemployed will spend as little of that money as they possibly can. Job creators create jobs.

BARNICLE: Have you ever been unemployed? Have you ever been unemployed?

SHADEGG: Yes, I have.

BARNICLE: What did you do with the money? Save it?

Watch it:

At the same time that he was dumping on the unemployed, Shadegg called for extending all of the Bush tax cuts without paying for them, joining a slew of Republican lawmakerswho care more about tax cuts for the very wealthy than unemployed Americans about to lose the last strand of safety net that they have available.

Shadegg never managed to explain why all of the job creators he cites would create any jobs if households aren’t spending money. In that vein, MarketPlace noted today that “when unemployment checks stop, it’s felt right away by businesses like gas stations, apartment operators, and grocery stores.” And as the Center for American Progress’ Heather Boushey and Jordan Eizenga found, “the workers losing benefits have an average weekly benefit of a little over $290 per week, which translates into a total loss of about $2.5 billion dollars in benefits over December. This is equal to about one in seven dollars of the gain in retail sales seen between December 2008 and December 2009.”

Are Banks Necessary?

At first pass the question “Are banks necessary?” strikes a macroeconomist as absurd.  Of course, we say.  But what does the empirical record say?  It actually happened in Ireland some 35-45 years ago. From Wikipedia:

Irish bank strikes 1966-1976

From Wikipedia, the free encyclopedia

The Irish bank strikes between 1966 and 1976 were three strikes of about a years total duration which closed down all the clearing banks in the Republic of Ireland. The strikes provided economists a unique opportunity to study the functioning of a modern economy without access to bank deposits.[1]

The strikes affected all the associated banks which comprise of the Bank of Ireland, the Allied Irish Banks, the Northern Bank and the Ulster Bank. The strikes lasted from:

  • May 7 – July 30 1966
  • May 1 – November 17, 1970
  • June 28 – September 6, 1976

The longest strike was of six months in 1970. The Central Bank made limited facilities available to non-associated banks to issue cash. Not just financial transactions were affected, many property deals were also affected because the documents were kept in the banks.[2] The country came through reasonably well in business terms despite the bank strike, a large firm Palgrave Murphy failed when the strike ended and settlements were made but its failure was probably inevitable anyway. The strike had little effect on the main economic concerns which were unemployment and industrial unrest caused by inflation.[3]

Turns out that while the banks were on strike, people developed their own paper notes and circulated them as currency.  Pubs were main clearinghouses for clearing personal notes (equivalent of checks).  The economy kept moving largely despite the absence of functioning banks.  So how did they do it?  Umair Haque of the Harvard Business Review tells us:

This is no fairy tale, so we don’t have to imagine what happened next. And what did come next was something really, really interesting — and just a little bit awesome. Instead of Ragnarok ripping prosperity to shreds, the economy continued to grow. Though the money supply did contract sharply, neither trade, commerce, nor industry came to a grinding halt.

How? People created their own currencies, to substitute for the collapsing money supply. They kept using checks to pay one another, but then, people’s checks began trading within communities. Here’s how Antoin Murphy, one of the few scholars to have studied these strikes, which took place in the 1970s, describes it: “a highly personalized credit system without any definite time horizon for the eventual clearance of debits and credits substituted for the existing institutionalized banking system.”

The country in question was Ireland — today, in deep crisisbecause of profligate banks.

So why were the Irish of yesteryear able to trade notes with one another, in lieu of credit issued by banks? Well, Ireland was curiously well situated for this kind of resilience. It was an economy full of a very special kind of institution: what I’ve termed in my book, The New Capitalist Manifesto, Value Conversations. Antoin Murphy notes in no uncertain terms that the Irish economy was characterized by intense, frequent, conversational personal contact: tight, dense, solid local knowledge circulating at high velocity within and across communities. Result? Borrowers and lenders could build solid microfoundations of trust. In other words, when you’ve been chatting with Bill every night at the local pub for twenty years, you probably know whether his note is a good bet or not (and further, just how much to discount it to earn a sustainable and fair return, that neither fleeces Bill, nor robs you). Furthermore, if you’re the publican, and you’ve been chatting with me and with Bill, then you’re even better positioned to become a de facto arbitrator of notes — a bank. And that’s exactly the role that pubs began to play

So maybe we need the functions that  banks sometimes provide, but we need personal-level banking relationships built on knowledge and trust.  Hmm.  Institutions do matter and large corporations do not necessarily represent “the market process”.  Fascinating reading and I suggest people read the complete link to Umair’s blog.



Napoleon on Bank Bailouts

From Alistair Horne, The Age of Napoleon:

Yet when Recamier pleaded for a modest government loan to bail out the bank, Napoleon was unapproachable and unforgiving, writing from Austerlitz within days of his triumph (December 7, 1805), “Is it at a time like this that I must be obliged to make advances to men who have got themselves involved in bad businesses?” and, more brutally, “I am not the lover of Madame Recamier, not I, and I am not going to come to the help of negociants who keep up a house costing 600,000 francs a year.”

Washington Post – FAIL on Fiscal vs. Monetary Policy

I have long observed that any students who pass Econ 201 and Econ 202 with good grades and then remember what they learned are far and away more knowledgeable about economics than the majority of Congress.  Now I must add “far more knowledgeable than the nation’s leading(?) newspaper editors.”  Observe the Washington Post in an editorial, November 21:

Yet buying hundreds of billions of dollars worth of federal debt in a deliberate effort to lower long-term interest rates and boost employment looks to many economists, market participants and politicians like fiscal policy by another name. And fiscal policy is an inherently political business.

Buying bonds as The Federal Reserve is doing with it’s QE2 program is monetary policy.  It is most assuredly NOT FISCAL POLICY.  That is by definition.  Fiscal policy is the changing of government spending and taxation (the budget) for purposes of achieving macroeconomic goals.  The Federal Reserve Bank is not the government.  The Federal Reserve bank when it buys bonds and pays for them by increasing bank reserves is engaging monetary policy.  The two are different.  Even a casual investigation of any Principles of Econ text will note the difference.  Heck, skip the text book and look it up in Wikipedia at fiscal policy and monetary policy!  Such ignorance on the part of a major newspaper is appalling. No wonder they’re losing market share.

A Little Oil History

While most history books focus on 1860 as the year Lincoln was elected and the South decided to secede making the Civil War inevitable, there was another momentous event happening.  In Pennsylvania they found oil (petroleum) and found uses for it. It sealed the fate of the New England whale oil industry and set the stage for the rise of Rockefeller and many others, including, Andrew Carnegie (see the comments). James Hamilton at Econbrowser notes a little history of oil, Pennsylvania edition:

Peak oil in Pennsylvania

Here I pass along a few items on the early history of the oil industry that I found interesting.

The first commercial oil well was completed in Pennsylvania in 1859 under the supervision of Colonel Edwin Drake. Williamson and Daum’s The American Petroleum Industry: The age of illumination, 1859-1899, p. 75 have this colorful description of how Drake earned his colonel’s eagle:

Following [Pennsylvania Rock Oil Company President James] Townsend’s instructions literally, Drake’s first act on arriving in Titusville [PA] brought him what was probably the cheapest, if not the most spurious, colonelcy ever acquired outside the state of Kentucky. Alert to the promotional value of a little showmanship to impress the local citizenry, Townsend had mailed the legal documents ahead to “Colonel” E.L. Drake in care of Brewer, Watson & Company… When Drake called for his mail, he found the townsfolk already interested in and receptive to the great man affairs in their midst, and himself adorned with a new title that would remain with him for life.

Aided by more than a little luck, the colonel did strike oil, and the boom was on. For two decades the state of Pennsylvania was to be the world’s main producer of crude oil. Although production rates from the initial wells on Oil Creek dropped off quickly as the oil was taken out, these were more than replaced by other sources within the state. For example, in 1865, Pithole City, PA became a phenomenal boom town, accounting for a third of the 2.5 million barrels produced in the world that year, only to turn into a ghost town as production rates fell substantially by 1868.

Source: The Oil Well Driller, Charles Whiteshot (1905).

Pennsylvanian production continued to increase as ever-more-productive new fields within the state were developed, reaching almost 32 million barrels in 1891. But I was interested to learn that, despite amazing improvements in technology since the nineteenth century, that was the highest annual production rate that Pennsylvania would ever achieve.

Pennsylvania crude oil production, 1859-1990, in millions of barrels per year. Source: Michael Caplinger (1997).

Here’s an update to the above graph with more recent data. The price increases of the 1970s and 2000s were sufficient to stimulate some increases in Pennsylvanian production. But note that the two graphs here are drawn on the same scale– we’re still under 4 million barrels per year, less than 1/8 of what the sturdy Pennsylvanians of 1891 were able to accomplish. And in 1891, by the way, oil sold for 67 cents a barrel, which corresponds to about $16 in 2009 dollars.

Pennsylvania crude oil production, 1981-2009, in millions of barrels per year. Data source: EIA.

Posted by James Hamilton at November 27, 2010 12:44 PM