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February 03, 2010

Quote of the Day

The larger lesson of the recent crisis is sobering. Modern, advanced democracies strive to deliver as much prosperity as possible to as many people as possible for as long as possible. They are in the business of creating perpetual booms. The cruel contradiction is that this promise itself may become a source of instability, because the more it is attained, the more people begin acting in ways that ultimately invite its destruction.

... The quest for ever-more and ever-better prosperity subverts itself. It might be better to tolerate more frequent, milder recessions and financial setbacks than to strive for a sustained prosperity that, though superficially more appealing, is unattainable and ends in a devastating bust. That's a central implication of the crisis, but it poses hard political and economic questions that haven't yet been asked, let alone answered.

- Robert Samuelson

Posted by Cassandra at February 3, 2010 08:28 AM

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Is it that time of year already? My yearly favorite quote. Kinda' reiterates Samuelson.

Alexander Tyler speaking on the Athenian republic. From over a hundred years ago:

"A democracy cannot exist as a permanent form of government. It can only exist until the voters discover that they can vote themselves money from the public treasure. From that moment on the majority always votes for the candidates promising the most money from the public treasury, with the result that a democracy always collapses over loose fiscal policy followed by a dictatorship. The average age of the world's great civilizations has been two hundred years. These nations have progressed through the following sequence: from bondage to spiritual faith, from spiritual faith to great courage, from courage to liberty, from liberty to abundance, from abundance to selfishness, from selfishness to complacency from complacency to apathy, from apathy to dependency, from dependency back to bondage." - Alexander Tyler

Do we have what it takes to break the cycle of dependency?

Posted by: JHD at February 3, 2010 09:21 AM

To the degree to which we are more self-aware and have more historical perspective, stronger analytical tools and better communication, we should be able to break the cycle.

But human beings, flawed and fallen creatures that we are, I would have to say, "probably not".

It's one helluva bad legacy to pass to our kids.

The fatal flaw of self-aware popular governments is, indeed, the notion that we can vote ourselves prosperity. But I think the deeper flaw is the pernicious idea that man or society can be perfected on earth. Failing that (as societies always do) results in a degree of intellectual inspired self-loathing (think of the so-called Hate America crowd which we sometimes discuss) which itself creates bad social pathologies.

There is no easy way out, and the road to the corrective is a hard one, which I do not think our political class is willing to walk.

Time marches on.

Posted by: Don Brouhaha at February 3, 2010 09:52 AM

He's on to the problem, but what's the solution? They want to regulate banks and financial institutions tightly to prevent 'predatory' or 'profiteering' practices; but also we have to then regulate who gets money from banks, to ensure they can pay it back. We need to regulate transactions, but also investments. We need to regulate....

...and when you're done with all that, where is the room for the economic freedom that gives rise to profit and growth? It may be an impossible paradox; you may have to accept the boom/bust cycle, because trying to lock it down just makes the booms go away. It doesn't prevent the problems of a depression, but only steals the joy of the expansion.

Posted by: Grim at February 3, 2010 10:45 AM

Every ten to twelve years our economy goes through a ritual cleansing. It is called creative destruction likened to a Darwinian Economic survival of the fittest. Knowing this, most of us prepare for it. We save our money, stay in a home we can afford, live within our means, stay married to the same spouse and make ourselves the least likely to be let go when the hammer drops. N

Now is the time to hit the savings and make the purchases needed for repairs, transportation, remodels, etc. Families pull together for their relatives who struggle financially and donate needed foodstuffs to the Church or organization of their choice. It is the right thing to do even if Obama considers self-help an impediment and competitor to his Nanny state goals.

The silent majority may not talk about it but they relay the painful history to their children and the perpetual whining class of those addicted to entitlement. It is also economic slavery that ensures continued power to those who make the poor dependent and not self-sufficient.

Posted by: vet66 at February 3, 2010 10:52 AM

Knowing this, most of us prepare for it. We save our money, stay in a home we can afford, live within our means, stay married to the same spouse and make ourselves the least likely to be let go when the hammer drops.

That's almost precisely the formula that Taleb's "Fourth Quadrant" model calls for. Hedge your bets, don't leverage yourself, and then you don't have to get hurt when the hammer drops. It's not a big deal. In a few years, it sorts itself out and then you start building up savings again.

So what's the problem with that? Retirement. This model essentially never lets you retire, because the boom and bust cycle doesn't stop. That's why we have all these social programs that are about to destroy the Federal government: Social Security, Medicare, federal pensions. They're all about supporting people at a sustained level, boom or bust.

One thing that I think my generation and the ones following it will have to accept is that we can not retire. Retirement may be a rarity, for a few fortunate persons; it may not be the normal condition. It may be one of those 'wealth spreading' concepts that simply can't really work.

Posted by: Grim at February 3, 2010 11:02 AM

He's on to the problem, but what's the solution?

Personally I think the solution is to accept that "too big to fail" = "too big to exist". We broke up Standard Oil and MaBell for roughly those reasons.

We're all familiar with the problem of Monopoly. But those problems don't magically go away when you change from 1 to 2 sellers.

Instead of having the gov't stick it's nose all up in the few (Can you say Fannie & Freddy, boys and girls? I knew you could.) they wouldn't have to if instead of two there had been 50.

Corporations are not natural market entities. Businesses are, even really large businesses are. But not corporations. A Corporation is a legal document granting certain protections above and beyond which citizens are entitled to the owners (and to some extent the employees). In exchange, the owners must agree to the gov'ts terms (This is why Corporations are not market entities, they exist solely by the approval of the gov't).

As such the gov't may include as terms that should the corporation start weilding monopolistic power, that their corporate status may be revoked and either the corporation must subdivide itself to rectify the problem or have the gov't do it for them.

Posted by: Yu-Ain Gonnano at February 3, 2010 11:20 AM

So what's the problem with that? Retirement.

Only if the amount you put into your reserves is only sufficient to weather the next cycle.

If you put in more than that, your reserve level does move up and down, but only in relationship to a positive slope.

Think the difference between y=sin(x)+1 (which oscillates around 1 but never goes negative but also never goes above 2) and y=sin(x)+1+0.5X (which still oscillates but does so around an increasing value).

Posted by: Yu-Ain Gonnano at February 3, 2010 11:35 AM

Well, what we want is sufficient wealth not just to weather the next cycle, but all future cycles (until I die; and ideally I'd like to leave some to my kids).

Since "how many cycles, and of what depth, will occur before I die?" is an unknown, we can't ever be sure of just how much wealth that will actually entail. Since our employability and earning potential drops dramatically with years of inactivity, too, we find it hard to take a risk on retiring for a few yars, thinking we'll come back into the market if we have to.

The solution we've set up is to have the government absorb our risk. They will agree to pay us, regardless of what the cost proves to be, if we pay into the system up until age 65/70/whatever.

That model is a Ponzi scheme, though, because it only works as long as income exceeds outlays. As we're about to discover with the Boomer retirement, you can't make this model work when the flow runs the other way. I understand that last year, already, Social Security exceeded its income; and the big retirement hasn't gotten underway.

Posted by: Grim at February 3, 2010 12:48 PM

Hey! Who said there was going to be math on the blog today?

Posted by: Don Brouhaha, 1+1 =2 at February 3, 2010 01:07 PM

Since "how many cycles, and of what depth, will occur before I die?" is an unknown, we can't ever be sure of just how much wealth that will actually entail.

Sorta. We can never know the depth and magnitude of any given cycle. But that doesn't mean we don't have good ideas of what likely worst case scenarios might be.

For instance, a household making $40k/year who puts 15% of their income into investments which average 7%/year over 40 years (notice I adjusted the rate of return for inflation, but not for salary nor included pay raises thus penalizing them on both ends) would retire with $1.2mm in the bank. They could lose over half of that value and the interest alone would still replace their income. And they could make it for about 14 years living off the principle if they just stuffed it in a mattress.

I think that would weather just about any cycle we are ever likely to hit. And if we hit a cycle so bad it *could* wipe that out, you're probably going to be kissing Social Security, Medicare, etc goodbye anyway.

Posted by: Yu-Ain Gonnano at February 3, 2010 01:16 PM

That's a reasonable point, assuming that government meddling doesn't actually crash the value of the dollar through inflation. However, kissing Medicare, etc., goodbye was kind of my point -- we're going to be doing that anyway, even if the cycle booms for the next few decades straight. The money just isn't there: the President's current budget estimates around double the historic rate of growth in GDP, and still runs record deficiets for as far as the eye can see.

Posted by: Grim at February 3, 2010 01:43 PM

Again, sorta.

But this is because I don't see any bust big enough to do that without it also being big enough to cause the complete collapse of the gov't itself.

I can easily see busts which could collapse SS, Medicare without busting private retirement or the gov't, just not the other way around.

And if that happens both retirement and jobs become a moot question as you better be holding a portfolio of metals: steel and copper (semi)coated lead, preferably.

Posted by: Yu-Ain Gonnano at February 3, 2010 02:53 PM

It's been decades since I gave even the tiniest consideration to my mythical Social Security benefits in planning for our retirement. It's always been a question of saving a lot of what I made, which meant living way below my means in comparison to what my working peers seemed to think was reasonable.

You can't eliminate the risk that your retirement fund will completely vanish in a collapse that's extreme enough. But you can save a lot more than most of us assume is necessary. Buy yourself the biggest safety margin you possibly can. And any collapse that will completely destroy my savings probably also will eliminate the country and my personal existence in violent death.

The best financial-planning advice I ever got was to consider, with each purchase, how many minutes or weeks or years of probable future retirement security I was willing to trade for having that shiny new thing right now. Of course, if I die young, all that renunciation won't have been a good idea, except for my nieces and nephews. But I'm a lot less likely to run out of money if I live to be 90 than I would have been if I'd lived like my business partners. And Uncle Sam can't disappointment me by yanking my SS benefits, because I never believed in them in the first place.

Posted by: Texan99 at February 3, 2010 03:13 PM

Always better to fall down 2 feet a hundred times, than 200 feet once.

Hopefully Samuelson's Nobel Prize in Economics was for something with a little more depth than that.

Posted by: ruralcounsel at February 3, 2010 04:05 PM

And Uncle Sam can't disappointment me by yanking my SS benefits, because I never believed in them in the first place.

I find my SS statement very depressing. When I think of how much additional security I would have if I had never given up all that money, for what I -- like you -- have known for many years was "nothing at all..."

But never fear: I doubt that Uncle Sam will want you to be treated differently from everyone else. If he can't take your SS benefits, perhaps he can find a way to tax your savings instead.

Posted by: Grim at February 3, 2010 07:54 PM

I'll have to agree with my learned colleague ruralcounsel on this one: Samuelson is eloquently stating the obvious. It’s a given that "advanced, modern democracies" will exhibit at the macro level the dominant characteristics of their constituencies. The whole point of a democracy to create a system of order and governance that reflects the values and principles of its constituent members. And if the values and principles of the constituents are enlightened and restrained, or flawed and inconsistent, or, most likely, all of these at once, the government cannot be otherwise. Indeed, the absence of such conflicting elements must be tyranny (or its more comely twin, Utopia).

The "cruel contradiction" that Samuelson laments in democracies is not a functional weakness of the social order, but a reflection of the unquenchable desire residing in every human heart. Humans strive for the unobtainable because we believe it to be otherwise. And we’ve good reason to think so. It wasn’t so long ago that we climbed out of the trees to confront the tiger and learned to plant seeds for our bread. Disappointments became opportunities for change and advancement, and each advancement raised our expectations for the next one. Democracy itself arose from the disappointment wrought by tyranny, and so too democracies advance upon the rising expectations of their citizens.

Samuelson acknowledges (backhandedly) that modern democracies, like their human components, strive for the unobtainable, and in so doing raise the expectations of their citizenry. I can appreciate his concern that uncheck realization of those ever rising expectations may result in some engaging in risky behavior that ultimately causes serious, if not “devastating” results across the social spectrum. His remedy, however, should be to limit the ability of such behavior, not enact measures to lower the expectations of the entire populace. Boom and bust, achievement and failure, pleasure and disappointment, are human conditions from which we learn, and no "democracy" can long survive if it insulates its people from their instinctive need to press forward.

Posted by: spd rdr at February 3, 2010 09:33 PM

...no "democracy" can long survive if it insulates its people from their instinctive need to press forward.

I would argue that no democracy can long survive if it habitually insulates people from the consequences of their own decisions.

Pressing forward is fine. But pressing forward in the normal course of things (i.e., when government isn't standing between us and the real world with a fistful of other people's income) is tempered by a healthy respect for the possibility that we might lose it all. I don't mind my neighbor "pressing forward" if no one asks me to cover his losses.

When government seeks to eliminate risk itself by transferring losses from the risk takers to those who were responsible, what do we learn from that? The connection between risky or even criminally negligent behavior and bad outcomes is obscured.

I think if this were really that obvious, we wouldn't have been listening to 5 months of "Why didn't they protect/warn us?" and "Don't let the bank take "my" house" :p

Posted by: Cassandra at February 3, 2010 10:18 PM

Amen to that, Cass.

Posted by: Grim at February 3, 2010 10:45 PM

Right you are, but we arguing separate issues. i agree that insulating the people from the boom and bust cycle by covering individual losses (at either end of the economic spectrum) reduces indivual restraint and, consequently retards overall advancement. But Samuelson is asking if it wouldn't be better for democracies (i.e. governments) to ameliorate the effects of the boom and bust cycle, not by covering individual losses, by lowering expectations across the board. It's the difference between saying "If you fall out of that tree, I won't be there to pick you up" and sawing the limbs off.

Posted by: spd rdr at February 4, 2010 07:31 AM

But Samuelson is asking if it wouldn't be better for democracies (i.e. governments) to ameliorate the effects of the boom and bust cycle, not by covering individual losses, by lowering expectations across the board.

I guess I didn't see that in what he wrote, spd.

The Federal government has been doing two things;

1. Covering individual losses, and
2. Taking what I would consider heroic measures to artificially prolong the "bust" phase of the boom and bust cycle (with the underlying goal of easing the fluctuations in the business cycle).

I don't see deciding not to do #2 as "sawing the limbs off" the tree. To me, an expectation that is unrealistic isn't necessarily something the government ought to be in the business of perpetuating.

The fundamental question here is, "Should the government be tinkering with the business cycle to this extent?"

Shouldn't individuals and businesses take the business cycle into account when making their long range plans? The analogy here is, just how realistic is it for Joe Sixpack to live as though he can never lose his job and his present income is assured? Shouldn't he be saving for a rainy day instead of assuming it will never rain?

The federal government can't keep it from raining, and in an interconnected and tightly coupled economy, encouraging large numbers of people to ignore natural risks won't just harm them (assuming the government refuses to cover their losses).

It will also harm me. I took it that Samuelson was saying that it would be better for the federal government to step back and interfere less so that we have more frequent, less drastic reminders that the boom we're experiencing today could just as easily go bust tomorrow.

Posted by: Cassandra at February 4, 2010 09:24 AM

Sheesh! What do I look like, lady, Professor Alex Einstein or something? All you give me to work with is two paragraphs with dots in the middle!

Seriously, (ha!) without having read Samuelson's argument in the contex intended, I may have fallen down the rabbit hole. But it's a nice rabbit hole, where "advanced, modern democracies" are adjunct to "the people." Where democracies reflect the majority values of "the people" and, therefore, respond in a manner consistant with those values. Down here, it is the people, not their servants, that "strive to deliver... prosperity." No government in Rabbit Land can "create" economic prosperity. It can only administer policies to sustain prosperity created by the people, and do so only as directed by the people. Most of the time, the pies keep getting bigger and the people keep getting fatter. Alas, even in Rabbit Land occasionally the pie oven breaks, or there are too many sheep grazing the commons, and then the people have to create a new plan for prosperity. Sometimes the new plan includes the old government, and other times it soesn't. But the people always manage to figure it out, and the pies grow bigger again, and the people grow fatter, and there's a cold beer waiting at home for everyone. Ahhhhhhh......

And then you had to go ruin everything by waking me up with the words "Federal government." Why?

Don't answer that. Let's just say that when I read the plural "democracies," I assumed that Samuelson's critique was directed at DEMOCRACY writ large. I thought that he was arguing that entire universe of "advanced,* modern democracies," was striving and creating and sustaining and promising the moon, not just the one doing the people's business at either end of Pennsylvania Avenue. Perhaps I assumed wrong (for the first time in recorded history). Then again, perhaps Mr. Samuelson needs to drop in on Rabbit Land for a visit.

So, if you really want to save me the people from perpetual embarrassment, how about you send Mr. Einstein the link to Samuelson's piece. I promise that I'll read the whole thang. :-+

*(Extra credit: Define "advanced.")

Posted by: spd rdr at February 4, 2010 08:01 PM

I thought that he was arguing that entire universe of "advanced,* modern democracies," was striving and creating and sustaining and promising the moon, not just the one doing the people's business at either end of Pennsylvania Avenue.

No, I think he was arguing (for one thing) that the Fed interfered in the market and made credit artificially cheap. That's not "the people" creating prosperity. It's not even the people's elected representatives creating prosperity.

That's government tinkering with market forces to artificially fix the price of credit at a rate lower than the market would have set.

Posted by: Cassandra at February 4, 2010 09:47 PM

Link fixed now! Sorry, I didn't realize it wasn't working.

Posted by: Cassandra at February 4, 2010 09:49 PM

Grim -- Uncle Sam can take my SS benefits, all right. He just can't disappoint me by doing it! I always figured that after the money was stolen from me every month for decades, the promised return would be stolen, too. It would have been better if they'd said from the start that I was contributing money every month to old people, but when I got old I wouldn't get the same thing. I might well have been willing. The lie was annoying, but luckily fairly obvious.

And yes, I fully expect that "progressives" will be trying to figure out a way not only to confiscate the SS benefits I never believed it, but a good chunk of the personal savings that I did believe in. The easiest way to do that apparently is to tax and spend like crazy, so that my investments crash and the currency is degraded. People who saved are just selfish and greedy, right? Let's eat them!

Posted by: Texan99 at February 5, 2010 03:16 PM