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Wednesday, January 21, 2009

WHY CAN'T THIS BE PART OF "STIMULUS"   Harvard's Alberto Alesina and Chicago's Luigi Zingales in this morning's Wall Street Journal:
...this particular recession is unique not in its dimensions, but in its sources. First, it is the result of a financial crisis that severely affected stock-market valuations. The bad equilibrium did not originate in the labor market, but in the credit market, where investors are reluctant to lend to risky firms. This reluctance is making it difficult for these firms to refinance their debt, forcing them to default on their credit, further validating investors' fear. Thus, the problem is how to increase investors' willingness to take risk. It's unclear how the proposed stimulus package would help inspire investors to do so.

The second reason this recession is unusual is that it was caused in large part by a significant current-account imbalance due to the low savings rate of Americans (families and government). Even assuming that more public spending would increase private consumption -- a big if -- such a measure would cause even more imbalance.

So how do we stimulate the economy without increasing the already large current-account deficit? It's not easy, but here is an idea: Create the incentive for people to take more risk and move their savings from government bonds to risky assets. There is no better way to encourage this than a temporary elimination of the capital-gains tax for all the investments begun during 2009 and held for at least two years.

If we fear this is not enough, we can temporarily increase the size of the capital loss that is deductible against ordinary income. This will reduce the downside of new investments and increase the upside.

Update... Reader Mark Sansoterra comments,
With all due respect to Messrs. Alesina and Zingales, who have much better credentials (and are probably much smarter) than I, temporary tax cuts have temporary effects. As such, temporarily removing capital gains taxes will likely encourage risk-taking in the short run, but at the expense of risk-taking in future periods. To use an analogy I've used before, it's the same concept as auto companies "borrowing" the sale of cars from future quarters via zero percent financing, employee pricing, etc. "Get our investments in now at the cheaper rate, even though we'll have less capital available to invest in the future.", would be the thinking. A similar impact would likely occur if President Obama decided today to raise the capital gains tax at some future date. We would see an influx of capital flows into risky assets today at the expense of later flows. Net-net, you haven't "created" anything, you've just made it more volatile.

What we need is a stable risk-taking environment so that investors can evaluate the merits of taking risk and determine what the payoffs are in the short-term and the long-term. I am certain that candidate Obama's rhetoric on capital gains (as well as corporate tax rates, depreciation allowances, etc.) and his team's comments in the days up to his inauguration are playing some role in what investors view as an appropriate risk-return tradeoff. Obama could encourage risk-taking by simply explaining what he wants to do.

Posted by Donald L. Luskin at 9:03 AM | link  

Tuesday, January 20, 2009

IDEA   From reader Neal Phenes:
The Dems keep on partying every day for the next 4 years. Let them spend $1M per day. I’ll gladly pay taxes for their $365M per year on parties so long as they pass no legislation, leave security to the current professionals and let the market fix itself. They could even spend $2M per day. That only adds up to $3B.

They may just go for it.

Posted by Donald L. Luskin at 10:54 PM | link  


Posted by Donald L. Luskin at 3:49 PM | link  

"THE CALL" REPLAY   Here's the YouTube video of my CNBC appearance just before Obama's inauguration. Did you know that stocks have been "more or less" rallying since The Great One was elected? Watch and learn!

Update [1/21/2009]... A little less rallying, please! Reader RW Cooknotes,

I am tracking the Obama moments as they pertain to the SP 500 (by way of Vanguards Index 500 fund). The day of Obama’s acceptance speech for the nomination was the last day VFINX was over $120 after treading water for several months. Now it’s at $74.17. The day after the election VFINX was off $4.83 or 5.2%. Inauguration day VFINX was off $4.13, or 5.27%. Just as Kerry’s poll numbers went down every time he made a public appearance during his presidential campaign, Obama costs us 5% each time he does something!

Posted by Donald L. Luskin at 3:04 PM | link  

Monday, January 19, 2009

AN INAUGURAL DAY THOUGHT   From our friends at Americans for Tax Reform:
“In the days ahead I will propose removing the roadblocks that have slowed our economy and reduced productivity. Steps will be taken aimed at restoring the balance between the various levels of government. Progress may be slow, measured in inches and feet, not miles, but we will progress. It is time to reawaken this industrial giant, to get government back within its means, and to lighten our punitive tax burden. And these will be our first priorities, and on these principles there will be no compromise.”

-- Ronald Reagan, January 20, 1981 Inaugural Address”

“At this particular moment, only government can provide the short-term boost necessary to lift us from a recession this deep and severe.””

--Barack Obama, January 8, 2009 Address at George Mason University

Posted by Donald L. Luskin at 7:27 PM | link  

WHAT THE HELL DOES THIS HAVE TO DO WITH SCIENCE?   A web site called "Live Science" ventures here into political commentary, though it states it "chronicles the daily advances and innovations made in science and technology. We take on the misconceptions that often pop up around scientific discoveries and deliver short, provocative explanations with a certain wit and style..." First on the list of its "Worst Inaugural Addresses Ever" is that of Warren Harding in 1921. The quote adduced to prove it:
I speak for administrative efficiency, for lightened tax burdens, for sound commercial practices, for adequate credit facilities, for sympathetic concern for all agricultural problems, for the omission of unnecessary interference of Government with business, for an end to Government's experiment in business, and for more efficient business in Government administration.
Without a certain wit or style, or even explanatory clarity, LiveScience's commentator Heather Whipps -- no, not an online bondage queen, but rather LiveScience's "history columnist" -- faults this for being "More boring than brilliant". Seems hard to fault the content, and I really don't see anything all that boring about the way it's expressed. Yet for Ms. Whipps, it makes the very top of her "worst ever" list. I'd be curious to run a blind taste test and see if she were to judge the same words so bad if she were told they came from Barack Obama and what she calls his "talented speechwriters." Thanks to Perry Eidelbus for the link.

Posted by Donald L. Luskin at 1:36 PM | link  

Sunday, January 18, 2009

MORE ON DELONG'S STIMULUS ARGUMENTS (PUN INTENDED)   It's amazing the silly lengths to which -- and the nastiness with which -- leftist economists will go to adduce theory to support, retroactively, their going-in position that government should control a larger and larger fraction of economic activity. Reader Adam Freund notes,
Occasionally I delve into the other blogs and topics you reference. So I checked out Mr. Delong's blog and although he is probably smarter than me I think I can find a few flaws in his argument. For instance when talking about how government spending stimulates and how Eugene Fama is wrong about all this he states:
Suppose that it is Friday, January 2, 2009, and all of a sudden the federal government borrows some money--reducing savings--and buys some extra stuff. Savings is still equal to investment on January 2: savings went down because the government ran a bigger deficit but investment also went down because firms sold extra and so their inventories dropped.

What happens on Monday, January 5? Over the weekend the firms mark the value of the goods in their remaining inventory up: inventories are now scarce. They revisit their production plans. Sunday night they call some extra workers and tell them to show up on Monday--that they are expanding production because they are now short of inventories. So when Monday rolls around more people are at work. Thus incomes are higher on Monday than they were on Friday.

If only companies marked up unwanted inventory then we would all be rich and prosperous! I think what he fails to realize (or ignore) is the gain he is referencing is an imbalance in the normal supply/demand relationship. What has happened is that the government has shifted private spending from something valued higher to something valued lower. This must be the case because if the new spending were valued higher in the first place the "unwanted" inventory would not have accumulated in the first place. It would have been bought.
Exactly. I would go further. DeLong's argument seems to make and all-else-equal assumption that it doesn't matter who does the investing or consuming -- government, or the private sector. I think it does make a difference. I think government is far less likely to spend or invest wisely than the private sector (government's incentives to wisdom are so much weaker, and "public choice" problems so prevalent). So when you transfer resources from private to public, there is a deadweight loss in the process. It is a negative sum game. That, in my view, puts the burden of proof on anyone who advocates stimulus through government spending. You'd have to prove that the private sector is "broken," or going through some form of pathological risk aversion, that can only be addressed by the hopefully temporary intervention of public activity. That actually may be the case now. But that's not the kind of argument DeLong is making.

Posted by Donald L. Luskin at 1:33 PM | link  

GLASS HOUSE DWELLER RITHOLZ THROWS A FEW STONES   Who among us market forecasters hasn't gotten it wrong from time to time? I have. No secret about that. Goes with the territory -- none of us has a perfect crystal ball. What's unforgivable is when one forecaster, as flawed as any other, lectures the others on how important it is to have the integrity to admit imperfection, while at the same time completely glossing over his own many mistakes. Here's Barry Ritholtz, pontificating about "accountability in the Financial Press [sic]", and dissing me and James Cramer for "money losing advice," without one word about his own failings (which are legion). Here's an ojective third-party scoring of my track record -- I'm ranked tenth of fifty US stock market forecasters. Where's Barry's record? Here's one clue.

Posted by Donald L. Luskin at 12:53 PM | link