A Missed Prediction and A Couple of Articles

First, just to make it official, my bold coronavirus prediction in the previous post went up in flames.  I had hoped that widespread lockdowns would lead to a sharper decline in new cases, but the decline has been less pronounced.

Earlier in the month, I mapped out two trajectories.  Nothing particularly scientific about them, but at the time, either trend fit the earlier data.  It appears in the last two weeks that new case growth is following the less optimistic trend.

Second, I have seen a couple of recent articles that I figured I would comment on here.  First, here is an interesting article from Salim Furth at Market Urbanism where he comes to a counterintuitive conclusion - that coronavirus infections within the NYC metro area are negatively correlated with subway usage and density.  An interesting and thought-provoking finding that I'm not entirely sure I know what to do with.

Second, here is an article at Bloomberg: "Another U.S.-Wide Housing Slump Is Coming: The coronavirus pandemic will cause many cash-strapped Americans to sell their homes, flooding the market with excess supply." It makes many predictions about a coming housing bust due to the coronavirus.  It's hard to know exactly what will happen, so I will let you decide how much you should fear their predictions.

Obviously, in general, I will take a more optimistic view than the author.  One reason comes from this snippet at the end of the article:

It’s also impossible to quantify how Americans will perceive homeownership given the hardship so many will endure. If frugality is embraced as it was after the Great Depression, homes will once again be viewed as a utility. The McMansion mentality is at risk of extinction.

The reason why the collapse in the subprime mortgage market hit the housing market so hard was because the lead up was predicated on the fact that there had never been a nationwide decline in home prices. But now for the second time in a little more than a decade, Americans are poised to witness the impossible.    

The idea that the housing bust was fueled by the idea "that there had never been a nationwide decline in home prices" is ludicrous no matter how many times it is repeated.  It's the sort of unfalsifiable assertion that has filled in the many gaps in the bubble narrative that couldn't be filled in with data.  Even Case and Shiller didn't predict a nationwide decline in home prices. And the reason they didn't is because there was no reason for one. The reason there was a nationwide decline in home prices is because we made it effectively illegal to sell mortgages to millions of households who would have been homeowners for decades before.  We wiped out demand for housing in their neighborhoods, and prices cratered.  The bad news is that was tragic.  The good news is that you can only perform amputation once.  So, there is a lot of analysis that treats a housing collapse as a natural part of an economic downturn, based on data from the financial crisis, and it just doesn't reflect a natural response of a housing market.  Practically everyone will make that mistake, which is why I think there are potential bargains among the homebuilders.  Asset markets are usually efficient, but occasionally the humans that make them are universally wrong enough to make them inefficient.

Another myth about housing is the "McMansion mentality" as contrasted with the frugal post-depression generation.  This myth can be falsified, however.  Here is a graph that is an estimate of net residential investment.  It is residential investment (excluding brokers commissions) minus the BEA's estimate of the aging of the existing stock of housing.

The period that has been deemed the "housing bubble" period was the culmination of one or two decades of the slowest pace of residential investment since the Great Depression.  Those frugal post-Depression families were building homes like crazy - at a rate not seen since.

One reason they were building like crazy is because they built so little during the Depression.  The last decade - the decade this author associates with "the McMansion mentality" matches the Great Depression in the lack of residential investment.  Homes aren't viewed as a utility.  They are a banned substance.  Would that we were about to engage in a corrective decade like those frugal post-Depression families did.  But we won't. We can't. We're tied up in knots with ungenerous and untrue myths about our fellow countrymen.  So, we will struggle to do much better than a Depression. But it will be a Depression in real growth and consumer surplus, not a Depression in rents, prices, or landlord profits.  Coronavirus might create a brief contraction in prices, but unless we escape the real Depression, it won't be permanent.

Coronavirus

I haven't been writing about coronavirus here.  There are plenty of places to get coronavirus news. But, I have been posting daily updates on Facebook, just doing some basic data analysis, and people there seem to appreciate it, so I figured I'd add a post here.

My pathway on this subject has been thus: I basically wasn't paying too much attention, and was roughly in the "it's just a bad flu" camp in January and February.  But, I was increasingly nervous because people like Tyler Cowen and Robin Hanson were especially worried about it, in a conspicuous way that seemed unlike them.  Eventually, I looked closely enough to realize it was a potentially big problem.  By early March, I was wondering what we would need to do.  By mid-March most of the country had come to that realization, so I don't know that my path was much different than most people. By mid-March, I was watching exponential growth of the contagion, and worrying about the considerable damage that each new day's growth would bring.

By late March, though, I saw the first faint signs of a bending curve, and so I started tracking the numbers daily more carefully.  On March 30, I took to Twitter to predict that the high point in the national number of new daily cases would happen that week and that daily new cases would be below 5,000 by April 15.  I just barely made my first prediction.  It appears that Saturday, April 4 might be the high point for new cases.  My second prediction might be a little more difficult, though.

The first graph here is the US daily growth rates in the cumulative number of cases, hospitalizations, and deaths.  A lot is made of problems with the data.  Certainly they aren't perfect, but in terms of trends, I think it's more informative to work with it than it is to act like the data is extremely biased.  There are a lot of reasons to think that, which I'm not going to get into here.  But, one reason is that trends in all three of these measures are running parallel to each other in basically the fashion one would expect.  Also, the variation in outcomes limits the potential for the data to be too far off.  New York shows us what it looks like to have more cases.  Very few places look anything like that.  Also, we know that the death rate for older people is north of 10%.  If cases were much higher than what we think they are, there would be a lot more dying old people.  It is easy to come up with plausible reasons to doubt the data, but I just don't see the doubts standing up to the same level of scrutiny that the doubters are applying to the data.

Anyway, this is a lot like valuing equities.  You just have to be comfortable with quite a bit of unfalsifiable noise.  And, even with that, there are stories to discover.

The interesting thing about these growth rates is that they are declining in a pretty linear way.  The same is true generally of the individual states, too.  But with data this noisy and a time frame this short, it is difficult to see the difference between a linear trend and a convex trend.

Here is the national daily growth rate of cases since March 21, and I have fitted two trends to it, beginning on March 28. One is a linear decrease in the growth rate of 0.93% each day.  The other is a proportional change in the growth rate. Each days growth rate is the previous day x .93.  They both could describe the recent trend, and I would say they might serve as a decent estimate of the range of expectations going forward.

The last graph shows the results of each, in terms of daily new cases.  It makes a big difference. The linear change in the daily growth rate would have to be more or less right in order for my April 15 prediction to come true.  In the next few days, it should become clear what the actual trend is.

Exponential growth can come at you fast.  All in all, I think we did a pretty good job in most places of getting out in front of it.  But, the change in trend in the other direction can be just as surprising.  It could make a big difference for a lot of lives, a lot of jobs, and a lot of investments, if many states around the country can be mostly rid of new cases over the next couple of weeks. Then, the conversation can turn to how quickly we can get back to normal.  We'll see.

PS. The April 9 report shows more new cases than on April 4, so my first prediction failed also.

Housing: Part 362 - The Odd Case of the Elites vs. the Masses

It is strange that a rant from Rick Santelli delivered from the floor of the Chicago Mercantile Exchange, where he was being cheered on by a bunch of securities traders, is referenced as the founding moment of the Tea Party.  Wall Street style trading floors aren't usually associated with populist anti-Elite moments.



But, the strangeness doesn't end there.  He's complaining about a new Obama proposal to modify mortgages for struggling homeowners.  Now, I'm not necessarily a huge fan of the modification idea.  What really would have been better would have been to stop the horrendous combination of tight monetary policy and newly very tight lending which would have helped to stabilize housing markets.  It's a very distant second-best plan to keep pounding down on housing markets and then to construct some sort of program contrived to help and/or hurt various actors affected by the process.  It's like tying concrete blocks to a guy's ankles, pushing him off a boat, and then throwing him a lifesaver.

But, it's just so odd that there was so much anger toward speculators and banks that it was considered populist to wish that people would lose their homes.  The elites didn't dare to suggest that home prices should stabilize or that part of the solution should be stabilizing the lending market so that people who could have been borrowers for much of the past few decades could still get loans.  But, they did dare to suggest finding ways to keep families in their homes, which caused Santelli's ire.

Here's the kicker.  Most of the damage done to working class home equity was done after the Santelli rant.  Since punishing homeowners and tying the hands of lenders was the rallying cry of the day, low tier home prices crashed in the years after the Santelli rant.  From February 2009, when he made his appearance, to early 2012, home prices in low tier Atlanta neighborhoods, for example, lost about 30% of their values - about twice the decline they had experienced before February 2009.  None of that drop, especially after February 2009, was inevitable, natural, helpful, or an unwinding of anything unsustainable that had happened before.

What percentage of the homeowners in those neighborhoods had bought their homes in 2006 and 2007 with inappropriate mortgages?  A couple percent?

Santelli and his trader friends were very concerned about moral hazard.  "Don't throw the lifesaver to the guy with the blocks around his ankles! If you do, he'll never bother to learn how to swim!"

What's the opposite of moral hazard? Sadism?

Jim Cramer also had a famous rant on CNBC. It was more timely, prescient, and would have been helpful to those Atlanta homeowners.  About the same time that Santelli was ranting, Cramer was being hounded by Jon Stewart and others for being one of the elites that caused this mess.

If only we were better at choosing our populist champions.  Instead, American populists are complaining about what big paddles the elites have, after spending a decade bending over and yelling, "Thank you sir, may I have another."  It seems to me that a reason that a crisis happens every now and then is because every now and then a crisis becomes inexplicably popular.

The Divergence in Incomes and in Resource Usage

Recently, I was listening to Russ Roberts at EconTalk interview Andrew McAfee.  The topic was the surprising change in trends in resource use.  It appears that as economies grow, at first resource use increases, but eventually economic growth comes from more efficient use of resources instead of through the brute force of added resources.  Surprisingly, the use of many resources has been declining for some time in the developed world.  Not just in per capita terms, but in total.  Now, getting richer seems to mean using less.

They mentioned that the divergence seemed to happen around 1970.  Here is a graph of real GDP growth, iron and steel, and cement use, all indexed to 1970, using data from McAfee's website.

Although I don't think they mentioned the parallel in the program, I immediately thought of this graph that is frequently cited in the income inequality debate.  The source of this graph has made it quite clear what they think caused the divergence.

It seems likely to me that these issues are linked.  As economic growth became decoupled from the Malthusian quest for more resources, it became associated with rising services and status competition.  There could be a number of things going on here.  First, if it is easier to meet basic physical needs, there may be less motivation to increase income above a certain threshold.  Also, the real economic value of services and status items may be more difficult to track because it isn't based on the blunt measure of a physical quantity of inputs.  Variable inflation rates may be more difficult to track.  Think of the difference in rent between San Francisco and Little Rock, or groceries at Whole Foods vs. Wal-Mart.  Or, the price of a last-minute business class airplane ticket vs. an economy ticket.  Or, the vast number of services created by the internet that are commonly provided for free.  Think of the cost of Bloomberg financial services vs. the huge amount of data sites like Zillow make available for free.  The value of things versus the price of things has become highly variable.

In any event, these developments seem certainly to be related, and the transition away from a resource based economy seems like a much more relevant trigger than President Reagan.  I suspect there is a combination of mismeasured well-being and variance in well-being that is largely played out in status seeking services.  Thus, measured inequality seems high even though most households can purchase basic goods at real costs that are far below what they were in 1970.

I wonder if those who give Reagan such an important role in relative measured income growth after 1980 would feel such a strong intuition about the first graph, and hail Reagan as the president who curtailed resource usage.

Housing: Part 358 - Sometimes the answer is simple

Elizabeth Warren:

"From our trade agreements to our tax code, we have encouraged companies to invest abroad, ship jobs overseas, and keep wages low."

Bernie Sanders:

"Since Trump was elected, multinational corporations have shipped 185,000 American jobs overseas. That is unacceptable."  

City of San Jose:

San Jose has taken the rare step of publicly opposing the project, saying it would add far too many jobs, exacerbating the region’s housing shortage.  

New York City:

It’s only natural that Amazon saw its promise to create 25,000 jobs as a blessing, for creating jobs is most of what we have ever asked of American companies. But given the realities of our economy — an economy that Amazon is relentlessly and ruthlessly transforming according to its narrow self-interest — it’s also only natural that many New Yorkers wanted nothing to do with it.  

These days, things don't make sense.  Things are said in one context that sharply contradict things said in other contexts.  There is confusion and stress.

It is natural to view this confusion and to conclude that things are complicated.  But, sometimes, things are simple.  Sometimes, things seem complicated because we are blinded to the simple nature of the problem.

To Ptolemy, the solar system was very complicated.

If you walked into an elevator with a simpleton and told them, "You know, the reason the sun moves across the sky is because we are spinning on a sphere.", the simpleton would have said, "Huh. Cool.  I did not know that." and happily exited at his floor.

If you walked into an elevator with Ptolemy, you would have a lot of work to do and many things to explain.  When the door opened, he would have exited unconvinced.  Ptolemy simply knew too much.

Here is a good rule of thumb: When things are complicated, inputs are messy, running at cross purposes, and many factors cancel out other factors.  Complicated contexts don't tend to move to extremes.  What tends to move to extremes is a context dominated by a single factor.  (This also works in equity investments.  Finding small cap stocks with large upside potential usually involves finding firms that have some very large single variable at work.  That is why you can outmaneuver professional analysts.  Professional analysts are paid to know everything.  Their job is to understand complexity.  To paint a picture of all the pieces.  Since overwhelming single factors are rarely certain, and speculators must expect to lose frequently, it is reputationally difficult for analysts to predict extreme valuation moves based on single factors.  If the stock they follow is likely to soon quadruple in value, their intuition will be to say, "It's complicated.")

So, the fact that markets and the economy seem to have some really extreme problems and incoherencies is a signal that the problem is not complicated.  The problem is overwhelmingly due to one factor.

In a sentence, that factor is:  The economy and the housing market of 2005 were what a highly successful economy looks like if our leading economic centers refuse to build more houses, and that economy is almost universally feared and actively avoided.

California wants more monopsony in the labor market.

The case of AB5 in California is an interesting clarifying case regarding the motivations and goals of labor regulation.  AB5 redefines the distinction between contractors and employees and is mostly an attempt to force Uber and Lyft to treat their drivers as employees rather than contractors.  This will entitle them to benefits, workplace protections, and the minimum wage.  My experience with these firms is that the contractor status is a key component of the benefits of their model, and that in most markets, changing to an employee-based model will make it difficult for them to continue.

Normally, one argument in favor of higher minimum wages is that firms have monopsony power over unskilled laborers, so they hire fewer workers and pay them less than if the market were more purely competitive.  Thus, raising the minimum wage does not lead to much unemployment.  Firms can afford to pay more.  The minimum wage just transfers some of the monopsonist gains back to the workers.

But, the interesting thing about this particular market is that you would be hard-pressed to find a market that was a closer approximation of pure competition.  On the customer side, Uber & Lyft are basically commodities.  Riders can check on both services, and will generally go with the one that has the shortest wait at the lowest price.  Many drivers drive for both, so there is little the firms can do to differentiate their service.

On the driver side, the firms must pay enough to entice drivers to be available.  In fact, Uber and Lyft pay more than the market clearing price for drivers that have riders in their cars because in order to win more passengers, they need to pay enough to induce drivers to be available, which in this industry, inevitably means idle time.

In fact, Uber & Lyft have very little control over what their drivers earn.  Since this is a competitive industry with free entry and exit, and since the firms must accept as many drivers as they can, within reason, so that they can offer customers a shorter wait time than the other firm does, drivers determine their earnings by entering or exiting the market.  If Uber & Lyft pay more than is necessary, more drivers will enter the market, and they will spend more idle time without riders in their cars.  This will happen even within the existing pool of drivers. If Uber decides to raise the payment they make to drivers in a market, that will induce more drivers to Uber and away from Lyft.  If you ask drivers what happens in markets where one of the firms changes their pay rates, you will find that the total weekly earnings don't change much.  If Uber raised their pay rates, then a driver who drives for both will find that they get more rides from Lyft because drivers will have substituted between the two firms until the net total pay (idle time plus paid time) roughly evens out.

This is a classic case of queuing.  And you can see the queue adjusting in real time to changes on the ground.  In fact, that is the beauty of the contractor model.  There are hundreds or thousands of drivers in a city, and drivers are constantly adjusting between Lyft and Uber, between times of day or location.  Each driver is in a constant chess match to find the most lucrative way of driving that matches their needs and constraints, and the key variable at the center of those tactics is minimizing idle time.  Each driver is increasing or decreasing their willingness to queue depending on the opportunities available to them as drivers or outside the rideshare industry.

Compare this to the minimum wage debate.  Effectively what minimum wage opponents argue is that those markets are generally competitive, so that a high minimum wage will increase unemployment.  Unemployment is a queue.  The minimum wage is set above the market clearing rate, so workers queue to supply the limited demand for employment.

In the minimum wage debate, monopsony is treated as a preexisting condition which the minimum wage is meant to cure.  Here, there clearly is no monopsony.  In fact, these firms are so lacking in market power that even the proponents of AB5 sometimes express doubt that their business model is sustainable. In reality, AB5 is meant to create monopsony.  But, queuing is already a natural part of this model.  So, what AB5 would do is make Uber & Lyft gatekeepers reducing the quantity of labor supplied in the market.  Since drivers would be employees, and the firms would be responsible for their total earnings from both idle and active time, the firms would have an incentive to minimize idle time.  They would have an incentive to limit the number of drivers.

This would not necessarily change the total amount of queuing time.  It would simply segregate it so that the riders who are now chosen by the gatekeepers to be employed would have less idle time, and the riders who are not chosen would be in the queue known as unemployment.

I think this would be tragic.  The beauty of the contractor model is that workers who have been turned away by the gatekeepers in other industries that have employee models can enter this business without dealing with gatekeepers.

One aspect of this industry that would be interesting to study is that there is a great amount of variation in driver earnings.  Even this MIT study which found low earnings levels on average (which I think have been revised up) shows a tremendous range in driver earnings.

What's interesting is that this is a completely open marketplace.  There is little that drivers can do to keep other drivers from horning in on their driving strategy.  There are few barriers to entry.  (Even the car isn't much of a barrier.  There are companies that partner with Uber and Lyft that will rent you a car for less than $5/day.)

What you find if you ask drivers about their work is that there is a tremendous amount of variety among drivers regarding what they need from their work and what strategies they use to get what they need.  In the minimum wage debate, opponents often point out that employers will make non-wage adjustments to counter regulated wage gains - less flexibility, fewer benefits, etc.  What we can see here is that the drivers themselves, in the unregulated rideshare market are actively engaged in some massive rebalancing between pecuniary and non-pecuniary benefits.  The variance in earnings might be partly explained by skill, or location.  I'm sure in Phoenix it's easier for a driver that lives in old-town Scottsdale to roll out of bed and turn the apps on and get rides immediately than it is for one on the far west side who might need to drive downtown to get to a busy area.  But, surely those factors can't explain that much variation.  Drivers are making choices about when they want to work, what types of riders they want to pick up, etc.  The 2am bar scene is a sure-fire earnings winner, but many drivers happily sit it out.

So, from a public policy point of view, those who would regulate this market aren't trying to fix a market failure.  There is no market failure.  AB5 creates monopsony power by imposing a wage floor and a regulatory framework in this market, with the hope that the economic rents will be claimed by the drivers.

This is telling.  I think it's a bit of a misunderstanding to think that Progressive, egalitarian political policies are intended to make up for economic rents claimed in imperfect markets.  Egalitarian policies require economic rents.  You can't divvy up the spoils in your preferred way if you don't have spoils.

In this particular case, engineering corporate power and then trying to transfer the gains to the workers will be a huge loss.  First, I just don't think the business model can work that way.  There are countless ways that drivers now manage their queuing in a way that is productive which simply couldn't be managed centrally, including being simultaneously available for both Uber & Lyft. But, furthermore, this is basically a classic labor market.  This is not much different than, say commission sales work.  In the same way, sales jobs frequently have highly variable earnings distribution that comes from hard-to-quantify skills.  Many workers try out sales, fail miserably, and then quit.  So, there are some real winners, but also high turnover, and many workers that just don't do sales well and don't make much money doing it.  This market isn't much different than that.  If there are some drivers who are only making $5/hour, then they shouldn't drive.  Or, maybe they are retired and they just like to have an excuse to get out of the house and meet people.  Creating a market that drives this vast sea of diversity out and turns it into a cookie cutter job where you go where you're told, everyone makes a similar, lowish wage, with much less flexibility for the drivers will mean that a lot of drivers will lose things they value.  And, many of the drivers that are making $20/hour or more will either make a lot less or will be driven out of the market altogether because being contractors is a key element to their driving strategy.

And, this will likely fail at its own goals.  The loss of productivity and the loss of a potential chance to earn income without gatekeepers making the hire/no hire decision will leave a lot of drivers out.  In the current competitive rideshare market, it is other opportunities that determine what drivers earn.  If similar work can get you $12/hour in other jobs, and a driver in that city can earn $13, then that worker, on the margin, will drive, adding to the queue time for all drivers as more drivers must divvy up the same number of rides, until similar drivers are only making $12 after factoring in idle time.  Regulatory impositions like this do nothing to improve those other opportunities.

The rhetoric on this issue tends to be anti-corporate, as if this regulation will force the firms to treat their workers better.  But, the firms are powerless to significantly increase the pay to their drivers.  The regulation requires a playing field that engineers more corporate power.  The idea is to use that corporate power to lessen wage inequality.  It will only lessen wage inequality within the rideshare industry, and it will do so at the expense of some of the better paid drivers and at the expense of potential drivers who will now not get hired.  And it will lower the value added from the rideshare industry.

AB5 is crony capitalism.  It has to be.  It can't do what it purports to do without creating a framework that gives the firms power to limit access to the market.  As I mentioned in the previous post, this might be a generalized point.  Maybe more powerful firms are correlated with less variance in wages.  The egalitarian project requires powerful firms so they can be directed by the state to distribute the gains from that power.  But, trying to engineer that outcome with policies like AB5 is fraught with potential downsides.  I haven't seen evidence that AB5 proponents have attempted to fully understand those downsides.  It would probably be impossible to fully understand the potential downsides.  In the end, driver incomes are determined by the available alternatives.  This applies generally to all workers, really.  It is unlikely that the fates of workers in general will improve by imposing regulations meant to take available alternatives away.

The fact that the rideshare industry is such a decent approximation of textbook competitive markets makes it a great example for understanding which complaints about our present economy are complaints about information being conveyed by functional markets about the state of the world and which complaints are about market failures.  To my eye, there is a lot of confusion on this distinction.

Maybe corporations don't have enough power.

I think I have expressed skepticism previously that corporate or monopsonist power can explain the apparent growth in income inequality.  First, a careful look at changing income proportions shows that a decent portion of the drag on real incomes is due to housing expenses. Relatively little is due to rising corporate or interest income. Most of the relative difference between high and low incomes is more variance between different laborers or between wage earners and professionals who are frequently proprietors.  In fact, if corporate income or power was rising, monopsony power in labor markets should lead to less variance in wages.  High wages come from skill development and specialization. Frequently these are tied to specific institutional contexts. Specialization would make high earners more vulnerable to being captured by a few or one corporate buyer of their labor.

In a context of monopsony power, wages at the top of the spectrum would be held lower. Corporations wouldn't then voluntarily distribute them to workers with lower wages. But if firms lacked monopoly power, they wouldn't be able to retain the gains from that. The gains would be captured as consumer surplus by the firms' customers. In order to be competitive in the market for their goods and services, firms would have to assert their monopsonist power just to remain competitive by transferring those gains to the consumer.

Here, I am reminded of the conventional wisdom that asserts that mid 20th century corporations were more loyal to their workers and that a corporate job was more of a lifetime gig because corporations took care of their workers.  That doesn't really match very well with income data which doesn't show much variation in corporate operating income as a portion of total domestic income over long periods of time. But it does match with a context where more skilled workers were captured by powerful firms and less skilled workers benefit indirectly as consumers.  Maybe labor incomes had less variance because firms back then were more powerful.

Sometimes an IPO comes up for a company that markets itself as a tech startup, and people joke that it's just a dog food distributor with an app attached to it, or something.  But, maybe we have that backwards.  Maybe every company today is a tech start up.  Maybe, what pushed your wages up in the past was, say, being a machinist in a specific sector, where a few firms were interested in your skills.  But, today, a key path to higher wages is a job with a title like "systems administrator" or "data manager", and your skills are applicable in some way to 80% of the economy.

I suspect that generally there is too much focus on corporate power. Rather than debate whether they have too much or too little, I think attention is better focused on other structural issues. Rising costs of housing, education, health care, and public infrastructure, together with barriers to migration, are more important factors holding down real incomes below their potential. A problem with the corporate power issue may be that the argument about its effect have the sign of the factor wrong.  In the financial crisis, I think the focus on enforcing losses rather than maintaining broader stability presents a similar example where determined policy programs that have the sign wrong (more housing was needed in 2005, not less, for instance) are much, much worse than benevolent indifference.

There is an intersection between these issues. Because of the housing shortage, there is a lack of market access and mobility. Y combinator must be located in Silicon Valley. Being in Silicon Valley is essentially a 40% tax on business development.  The lack of access to that location simultaneously makes certain actors wealthier while reducing overall creative destruction.

The way to progress is to have more y combinators. Adding to the already high costs and barriers with new taxes and mandates hardly seems like a helpful response.

What if the problem is that corporate power is too low? Then lowering their power will worsen inequality even more. Things like codetermination might create even more obstacles to mobility and migration. Maybe the internal politics would serve to further increase the bargaining power of specialized high wage workers.

But, most importantly, over long stretches of time, labor and capital income grow at nearly a 1:1 correlation.  In so many ways our relationships are symbiotic more than they are in conflict. Maybe the focus on relative power is itself a problem. When the economy is growing, the rate of quits increases, and as the Atlanta Fed shows, wages for job switchers increase faster in a growing economy than the wages of other workers. It isn't the relative status of workers compared to employers that is the engine of that shift, it is the relative status of new, more productive firms over old, less productive firms. Surely the way to shared prosperity lies there.  An economy where a restaurant owner is bringing in customers like crazy, but she can't serve them because the potential waiters have found more productive things to do.  That seems like a problem to the restaurant owner.  The response shouldn't be to force them to pay waiters more.  The response should be indifference, which means the restaurant still feels pinched while some other firm somewhere produces high wage opportunities for workers because a growing economy is imbuing those firms with power.

Uber and wages in a free economy.

Here was a recent article about Uber and Lyft drivers in Washington, DC, colluding to game surge pricing at the airport.

Every night, several times a night, Uber and Lyft drivers at Reagan National Airport simultaneously turn off their ride share apps for a minute or two to trick the app into thinking there are no drivers available---creating a price surge. When the fare goes high enough, the drivers turn their apps back on and lock into the higher fare.
It's happening in the Uber and Lyft parking lot outside Reagan National airport. The lot fills with 120 to 150 drivers sometimes for hours, waiting for the busy evening rush. And nearly all the drivers have one complaint:
“Uber doesn’t pay us enough, what the company is doing is defrauding all these people by taking 35-40 percent,” one driver told ABC 7.

There is a lot going on here.  Really, these drivers aren't colluding against Uber and Lyft.  They are colluding against the customers, who must pay surge pricing.  Uber and Lyft must compete against each other for riders, which drives their fares down to the competitive level.  The drivers are actually colluding so that they and the firms can claim monopoly profits from airport customers.

Their complaints are against the firms, but really, the culprit is competition, which prevents both them and the firms from boosting their incomes at the expense of riders.

In fact, their complaint against the firms is even more misguided than that.  The firms are charging riders a competitive rate and they are overpaying the drivers.  This is a classic economic problem.  There is a queue at the airport.  Those drivers are choosing to go sit in line at the airport instead of driving around the rest of the city picking up riders on the go.  And the reason is that, at standard rates, airport rides are more lucrative for them.  The reason for a queue, conceptually and in this particular case, is that the price is too high.

If the price was too low, you would have a queue of customers, like during the oil shocks of the 1970s when price controls were put in place.  Here, the price Lyft and Uber pay to the drivers at the airport is too high, so the producers (the drivers) are queuing.

Paying drivers more would only make this problem worse.  If they are waiting for an hour to get a fare now, then if the typical fare doubled, drivers would wait for two hours.  Uber and Lyft aren't determining the hourly wage for these drivers.  They are determining it by deciding to wait in line.

The only other way for Uber and Lyft to solve this problem would be to ration the supply of drivers in some other way.  In a way, this is one reason drivers might want to be classified as employees instead of contractors.  If Uber and Lyft treated drivers like employees, they would manage how many drivers there were and where they drove.  They could eliminate the queuing, which would raise wages and reduce the waste of queuing, but it could only happen by being a gatekeeper.  The only way to get rid of the queue would be to tell some of the potential, qualified drivers that they aren't invited any more.  They aren't "hired".

This is similar to the issue of minimum wages.  The way this raises the wages of some is by eliminating the wages of others.

That isn't all bad.  Here, it would lead to less waste by eliminating over-long queues.  But, small scale gains due to monopoly power or economic rents don't add up to social gains.  Everyone can't earn more than the competitive income by using market power to impose exclusion.

The queue is wasteful, but I'm not sure there is a solution.  The economics of driving basically will always come down to queuing.  Whatever rate Lyft and Uber pay, whether drivers are sitting at the airport, or driving around town, the economic breakeven for the drivers will be a function of queuing in some way.  It will determine when and where they drive.  In any given part of town, how long do they need to wait to get a rider, how long do they need to drive to pick up the rider, and how long will the average ride be?  That equation comes down to how much time is a rider in the car versus how much time is the car empty.  There are several supply and demand variables that lead to an equilibrium level for any particular location, but in the end, that equilibrium will be driven by the willingness of drivers to queue in order to get a fare and it seems that some queue, such that it is, will remain wherever Uber and Lyft set their fares and their driver reimbursement levels.  Limiting the number of drivers at the airport queue, where the extra 50 or 100 cars in line has little effect on the quality of service, may seem like a no-brainer.  But, trying to reduce queuing out in the marginal markets around a city will change the supply and demand dynamic in a way that will lead to deadweight loss on the margin.  Reducing the number of drivers will necessarily increase wait times for riders, changing demand for drivers.

I am sure there are teams of economists working on this problem at Uber and Lyft.  I suspect they don't so much mind being tricked into surge pricing at the airport.  They certainly aren't going to raise driver payments in an attempt to address the issue.

Brigham Burton and Carly Burton have been arrested.

I used to have a little signage subcontracting business which I sold in 2010.  I sold it to a fellow named Brigham Burton (formerly Kent Burton.  He also has used many LLCs, such as Burton Partners, Rockline Equity, Greenwood Equity, Funding Now, Drive Executives, Eleava Services, and others).

I had to sue him in civil court in order to get fully paid for the business.  The judgments I was granted against him included fraud and conversion.  He appealed the rulings, and the appeals court upheld them, including the punitive damages that were assessed.  The appeals court confirmed that "based on the record in this case, the jury could have found by clear and convincing evidence that Burton’s conduct was aggravated and outrageous, evincing an evil mind. Therefore, we decline to set aside the punitive damages awards."

The criminal justice system has taken notice of the Burtons now.  They were just arrested.  I'm not entirely sure of the details, but I think some of these charges relate to what they did to me.  Really, all I know is that the state has me registered as a victim who is notified when something happens in the case, like the Burtons being arrested.

Here are their mugshots.

Update: 

Progress means giving up what is sacred today for sacred unknowns of the future

Arnold Kling has a link to a study on education with this abstract:

Can schools that boost student outcomes reproduce their success at new campuses? We study a policy reform that allowed effective charter schools in Boston, Massachusetts to replicate their school models at new locations. Estimates based on randomized admission lotteries show that replication charter schools generate large achievement gains on par with those produced by their parent campuses. The average effectiveness of Boston’s charter middle school sector increased after the reform despite a doubling of charter market share. An exploration of mechanisms shows that Boston charter schools reduce the returns to teacher experience and compress the distribution of teacher effectiveness, suggesting the highly standardized practices in place at charter schools may facilitate replicability.

 A key point here: "An exploration of mechanisms shows that Boston charter schools reduce the returns to teacher experience and compress the distribution of teacher effectiveness..."

That sounds terrible, doesn't it?  I think this is key to fundamentally different approaches to progress. It seems like supporting the current providers is key to improving current institutions.  But transforming institutions sometimes means making current providers less important.

There was a time where having a creative, problem-solving blacksmith was key to having effective transportation.  Replacing that blacksmith with impersonal, monotonous factory work seems wrong.  It involves losing something sacred.  Yet, making blacksmiths unimportant was key to the transportation revolution.  You would not set foot on an airplane to take a vacation or a business trip halfway around the world if the airplane depended on a team of blacksmiths using experience and tactile expertise to create the engine parts.  The sacred act of visiting the Egyptian pyramids in person, or coordinating with an Asian businessperson could only be possible by eliminating the sacred role of learned and expert craftsmen.

The extreme version of this transformation is in telecommunications. Barely a human hand touched the phones we carry in our pockets with millions of circuits and parts.  Yet, those phones are only possible because new forms of creative work have been created.

To an extent, the need to unleash the creativity of teachers in the classroom is required because that creativity has to overcome the shortcomings of the institution it is embedded in.  It seems like it would be losing something sacred to create a more effective institution that would make that creativity unimportant.  Yet, what if a better institution leads to better education, even without creative teachers constantly bustling and working to overcome an ineffective institution?

A Silicon Valley designer can use creative work to improve the effectiveness of a million circuits in a phone that will be used by a million people.  That is a lot of leverage that the blacksmith couldn't have.  An institution that requires an immense amount of effort to effectively educate kids a roomful at a time is using an awful lot of sacred effort.  Wouldn't it be great to educate those kids with teachers that didn't need to be so creative?  And, wouldn't it be great to move to a world where the effort going into that creativity was leveraged beyond a room full of 20 kids?

So often, the difficulty in supporting progress comes in losing the known sacred in exchange for the unknown sacred.  In the end, progress depends on faith in emergent change.

International Comparisons of Equity Markets and Economic Growth

I don't really have anything interesting to say about these things, but I was comparing equity markets from some of the "housing bubble" countries, and I realized that while the US market has basically doubled from its pre-crisis high, Canada, Australia, and the UK all remain below it (in dollar terms, using US-based national ETFs).



idiosyncraticwhisk.com   2019

Maybe it's not that interesting.  Maybe, the US, Canada, and Australia are all basically moving in the same direction, and Canada and Australia had equity booms in 2007 because they are highly weighted in commodities.  And, maybe the UK has suffered from the double whammy of being the financial center for a stagnant continent.

But, at first glance, this throws me a bit for a loop.  My story is that first our economy was being held back by urban housing constraints, and now it is being held back by credit market constraints.  Both constraints, as far as I can tell, have been more severe than the constraints in the other countries.  Certainly the constrained mortgage market has been.  Yet, during the decade where our banks have been unable to fund housing and rising rents are reducing real economic growth, we are the outlier with fantastic equity growth.

Now, I can tell a just-so story here - that the housing problem costs households but it actually protects urban firms from competition to the extent that their host cities maintain a geographic monopoly on their core networks of skilled labor.  And much of those firms' profits are from overseas revenues.  The rising stock market is somewhat divorced from the broader economy, and housing is part of it.  But, I'm not sure I have a way to confirm that that isn't an ad hoc story.

Source

Here are graphs of GDP growth and unemployment rates.  Here, clearly Australia is the winner and the UK is the loser.  It's a pretty stark contrast between Australia's straight-as-a-post GDP growth and the collapse of its equity market during the crisis.  But, again, this is probably mostly due to the economics of commodities.

Source

On the unemployment rate, the US was the clear loser during the crisis, which I would attribute to the collapse of the construction sector after the mortgage industry was fettered and to less stabilizing monetary policy.  Although, real GDP didn't drop particularly sharply compared to the others.

But, unemployment has improved with the rising stock market, even though GDP (relative to the others) has not.  The same can be said for the UK.  Unemployment has been surprisingly positive there even though both GDP growth and the stock market have been poor.

Broadly speaking, I have spent most of the past few years double checking the conventional narratives about what has been happening economically, and I have become accustomed to finding data that decisively bends convention over and paddles it across the rear.  This is an unusual case where the data doesn't easily form a story that jumps out with a clear explanation.

Maybe part of what is going on here is that stock markets map to where the securities are traded, and that isn't very correlated any more to where the value is added.  Maybe stock markets just aren't good proxies any more for domestic production.  Not because of old shibboleths like "the stock market isn't the economy", but because the stock market is basically representative of parts of the economies of various locations around the world.  They are more representative of sectors than of geographical areas.

Upside Down CAPM: Part 7 - Debt is Ownership

I was reading this piece on debt jubilee (HT: JW) and it occurred to me that this is an issue that gains clarity from the Upside Down CAPM idea. (In short, capital is inherently at risk.  It has a natural long term real rate of return of about 7%, which is basically the return on equity ownership.  Fixed income is a trade between capital owners in which the lenders are the true consumers.  They want to transform risky capital into riskless deferred consumption.  They pay a premium <earning less than 7%> in order to avoid risk.)

I have written skeptically about jubilee before.  The idea is popular because the first order effect is forgiveness of debts.  It is imagined to be a transfer from the powerful to the powerless.  But, that just isn't a very useful way to think of debts, in the aggregate.  We tend to think of debts through the prism of consumer debt, but consumer debt is more of a transactional device.  Most household debt is mortgage debt, which is a clear case of Upside Down CAPM.  The ownership of the house is split between an equity holder who takes responsibility for upkeep and maintenance and takes on the risks of market volatility, and the debt holder who exchanges those risks for a fixed return.  The only reason mortgage financing works is that home equity is, itself, very nearly a fixed income type of ownership, in which most of the return comes from rental value.  (That is one of the core problems with Closed Access housing supply.  It makes home equity less like fixed income and causes a breakdown that makes housing financing less functional.)

Thinking about jubilee from an Upside Down CAPM perspective helps to clarify this.  Modern economies have already incorporated jubilee financing deep into our economic systems.  Capital markets are already dominated by a financial security that automatically forgives the debtor all of their principal when they are unable to pay it.  That security is called shareholder equity.

Sometimes, borrowers (for lack of a better word) opt out of jubilee by selling fixed income securities instead of equity.

Incidentally, I wonder how much overlap there would be on a Venn diagram of people who think debt jubilee would be a great idea and people who think limited liability corporations have been a good idea.

The problem comes from contexts where selling equity is difficult or impossible.  The problem with selling equity as an individual is that this is essentially indentured servitude.  Where that can be managed safely (see, currently, Lambda School, which seems to be a great example of this) it can work, but it is difficult.  So, where jubilee is discussed today, it typically has a focus on things like student debt.

But, student debt is an anomaly.  It probably shouldn't exist in the way that it does, and it only does because it is subsidized by Federal guarantees.  Debt is a service provided by the borrower to the lender - providing risk free deferred consumption.  Students aren't remotely in a position to provide that service.  So, the government steps in to provide that service in their name.  But, since policymakers have not come to terms with the incoherency of this program, the program has been designed to leave many indebted former students in dire straits with unpayable debts that they should never have been in a position to take on.

I hope that developments like Lambda School can help lead us to a new financial technology that better matches funding with students, and creates an equity-like funding mechanism (a jubilee-eligible mechanism, as it were) for school funding.  That probably means being more honest about the demand for education, and the difference between the development of marketable human capital, which is a powerful source of economic equity and betterment, and education that is less vocational and is better viewed as consumption than investment.

What guides intuition about efficient markets?

Scott Sumner has recently been making the case for the efficient market hypothesis.  I'm basically with him on this, especially when it comes to public policy.  If a committee decides that they know the correct price level of something is different than the market price, they will be wrong much more often than they will be right.  And, if that committee has the power to move prices to where they think they should be, the results will be disastrous.  Furthermore, if the committee decides that prices, or God forbid, quantities of something are too high, then they will be imposing scarcity on their constituents.

That's what happened in the housing bubble and the financial crisis.  The model was wrong, but we have given the federal government enough power to impose its model on the economy, and it took a crisis to move prices to the place that they were aiming for.  Though, it's not really an issue of a state-imposed crisis, because the crisis was popular.  It was demanded.  To the extent that people like Ben Bernanke and Timothy Geithner used discretionary power, they used it to moderate the crisis in ways that were widely unpopular.  They partially saved us from ourselves.  Their memoirs can be seen, to a certain extent, as extended apologies for protecting us from our worst impulses.

The public treatment of market efficiency is strange to me.  It seems random.  Some markets are clearly prevented from clearing in a functional way, but people seem to have an intuition for making excuses for them.  Take 100 random people who haven't thought about the issue and present to them the idea that there is a politically imposed shortage of housing in Los Angeles, and they will respond with: Well, there just isn't any land left to build on.  Well, there are just too many people.  Well, the Chinese keep buying up the properties and leaving them sit idle.  Well, with all this income inequality, the rich just keep bidding up the home prices.  Well, all that QE cash keeps pumping up the market.  Well, California is a nice place, so of course it is more expensive.

These are all plausible, yet not significant, reasons from high home prices in Los Angeles.  With a little digging, it becomes clear that these factors aren't definitive, and that the problem is supply.  Even without going into detail about each factor, simply look at the process of development in Los Angeles.  If all these other factors were the reasons for high prices, housing authorities in LA would be running new projects through the system as ferociously as they could to make up for it.  The opposite is the case.

Similarly, mortgage markets are tied up in knots because of extremely tight lending standards.  But, seeing the dislocations, people respond: Well, incomes have declined and people can't afford homes any more.  Well, young families have student loans.  Well, homebuilders only want to build high-dollar properties because they are more profitable.  Well, families don't want to own any more.

All of these are, again, plausible sounding enough if you don't check to see if they are true.

So much of the development of our opinions comes from what we give the benefit of the doubt.  In these cases, for some reason, intuition tends to be that there must be a good reason for what is happening, and our minds search for plausible reasons.  When we find one, we are satisfied.

Sometimes, this intuition leads to conclusions that are extremely supportive of very strong efficiency.  The idea that public schools become segregated because higher quality schools cause home prices to be bid out of the reach of poor families supposes a sophisticated and extreme amount of efficiency in housing markets.  This supposes that quality of a school district gets capitalized into the prices of homes with a high correlation coefficient.

The idea that the various forms of income tax benefits create much higher home prices also supposes a sophisticated level of efficiency, where many far future benefits - some of them imputed - are capitalized into present prices.

But, then, there are times when, for some reason, the intuition flips.  So, if one points to fundamental causes for high home prices in the 2000s, the response is usually to push back and to find plausible reasons why markets weren't efficient.  Well, bankers make bad loans in a shortsighted attempt at padding their numbers.  Well, naïve speculators hop in the market at the top and keep pushing prices higher.  Well, mortgage originators could just dump garbage on investors who were too dumb to know.  Well, the Fed just keeps pumping money in so that this fake bubble economy just gets more and more bloated.

Again, all plausible if you don't look hard enough.  It's amazing to me, in hindsight, how many facts that contradict these stories are just sitting in plain sight.

What causes that flip?  What causes the intuition to support efficiency in some ways while it contradicts it in others?  What convinces the average person at the end of the bar that there must be a natural reason for the median home price in San Francisco to approach a million dollars but that we had to suffer through a financial crisis because home prices in Topeka were up to $120,000, and when they fell back to $90,000, that was when we were back to normal.

There is definitely an important role for attribution error here.  We do things because of the context we are presented with.  Other people do things because they are greedy, ill-informed, and short-sighted.  That explains the nuts and bolts of what happens when consensus forms against something.  This is clear in the current anti-immigrant political machinations.  But, we have been dealing with this problem for years, across the political spectrum in the mental models that people have about what caused the housing bubble and the financial crisis.  There are a lot of villains and dupes in the various stories about what happened.

But, this isn't a compelling answer to the question of where this intuition falls.  The housing regulators and NIMBYs in Closed Access cities could easily serve as the villain in stories about expensive urban housing.  In the just-so stories about the current shortage of entry-level housing, attribution error leads to stories of homebuilders who aren't willing to supply low tier markets.

I'm not sure that I have an answer.

And, I'd like to say that I wish that the public tended to support EMH, but even that doesn't help much.  The excuses that seem to plausibly explain million dollar urban homes, in defense of an efficient market, aren't much better than the excuses that seem to explain inefficiency.  I mean, I guess complacency is better than aggressive, passionate sabotage.  But, still what is the mechanism that steers public intuition?

I think the intuition is to search for defenses of the status quo and to see things that change quickly as aberrations.  This is probably not a bad heuristic if it's the best we can do. But this is where the efficiency of modern markets gets them in trouble.  Changes in prices can move quickly when valuations change for any reason. The natural proclivity to distrust financiers leaves us all too eager to blame them and their perceived excesses when change happens.

Even this intuition is biased, though. Our intuition is to explain why there are reasons for financial markets to retract but to push back against financial markets that expand.

Housing: Part 299 - Construction, health, and education employment. Which is unsustainable?

One of the most popular themes you hear about the bubble/bust is that there was massive over-investment into real estate.  This meant that lost manufacturing jobs were temporarily masked by overemployment in construction.  It also meant that Americans thought we were wealthier than we were because we had built a bunch of homes that weren't worth what they were selling for.  When the inevitable bust came, there was a double whammy.  First, all those unsustainable construction jobs disappeared.  And, second American household net worth dropped back down to reasonable "real" levels.

This is one of countless cases where the premise determines the conclusion.  At the center of all conventional explanations of the bubble and bust, there is the presumption that home prices can be pushed wildly above fair value by generous lending and/or speculation.  The problem is that in an asset class like real estate, prices that rise for any reason will be accompanied by rising debt and riskier borrowing.  And, if prices collapse for any reason, the most leveraged owners will fail first and most often.  The fact that these things correlate with price fluctuations tells us deceptively little about the power of credit to move markets.

But, since housing (the service) is related to housing (the asset) that is frequently funded with debt, those correlations are treated as evidence of causation, and the public discussion about housing markets takes off running with presumptions that are rarely questioned, and can't practically be falsified.

Housing is one of three sectors, together with education and health care, that has tended to suffer from lower than average productivity growth, so that consumers tend to spend more on it over time, with much of that spending simply covering inflated prices.

Here, I compare housing (in green) to education and health care (in orange) in terms of percentage of total labor and percentage of GDP.  (Construction employment isn't a great metric here for labor used for housing, but creating a better metric would be time consuming.)



Source

My point here is to address the "keeping up with the Joneses" meme.  That Americans overspent on housing because they wanted a house as nice as their neighbors', even though they couldn't afford it.  The irony is that housing is the outlier here.  Americans have been doing the opposite of that.  Americans' reaction to low productivity in housing has been to maintain nominal spending on housing as a percentage of total consumption, which means that real consumption of housing has not kept pace with rising real incomes.  This has been the case for more than 30 years.  During the boom, the real expansion of housing was just barely starting to expand at the same rate as spending on other categories.

This is in contrast to education and health care, which, both in terms of labor and spending keep growing to larger and larger portions of the American budget.  Now, that's what a sector looks like when we are engaged in an arms race to "keep up with the Joneses".  Ironically, it is the stability of spending on residential housing that leads to this claim only being applied to housing.  Since residential investment has ranged between 4% and 6% of GDP for decades, then that is taken as normal, and an increase to the top of that range is seen as abnormal.

Why?  Why can't Americans decide that marginal new incomes will be spent on housing?  We spend it on education and health care.  Is that spending on education and healthcare unsustainable?  Are we less rich than we think we are because the country is full of overvalued hospitals and universities?  One might reasonably argue that they are overvalued, for similar reasons why housing is overvalued - limited competition.  But, we rightfully see that as a cost, and nobody suggests that the problem is too many schools and hospitals.

To further the irony, to the extent that status is involved in any of these forms of consumption, the status that is associated with housing is generally associated with not overinvesting in real new stock.  The pricey high status units are the units located where residential investment is very limited.

And, in the end, this whole error comes from the problem of associating the service with an asset that has a closely monitored market value which we over-attribute to credit access.  Because, if we didn't overlay all that baggage onto this form of consumption, we wouldn't have this intuition against it.  If Americans decided that their homes should be twice the size they were, who's to argue?  What does that have to do with unsustainability?  If our cars are twice as good as cars were 30 years ago, or our healthcare is twice as good, or our tech gadgets, etc. does that make them unsustainable?  It's an incoherent question.  We consume what we consume.  The way we approach housing consumption is the anomaly.

Let's say we had built millions of unneeded homes, or that we added improvements to our homes in 2005 that were more extensive than they had been before?  (By the way, we didn't.)  It's not like we had to wake up one morning in 2006 and say, "Oh, man.  We can't afford all this housing." and then all move back into smaller units and leave 10% of the housing stock empty until we could actually afford it.  It doesn't work that way.  We built it.  It was here to use.

At that point, any questions about whether we could afford it or not were purely nominal questions - how many dollars would we need to arbitrarily print in order for borrower collateral and ability to pay to remain functional.  Eventually, the public mania about housing became dysfunctional enough that there were widespread calls for making sure we didn't support the functional value of collateral and the ability to repay.  The strong intuition of people to take that position is mindboggling when you step away from it and question the presumptions behind it.  The routine and explicit calls for ruin, even today in hindsight, are a dark lens into the human psyche.

But, before the mania reached that level, the Federal Reserve was explicitly pulling back on nominal growth in order to reduce real residential investment.  And, this goes back to my earlier point.  Can you imagine treating any other form of consumption this way?  Would we slow the economy down to reduce real consumption of education or healthcare?

Housing is pure capital, so we are actually very limited in how much we can do that, because we have to sort of pre-pay for future consumption.  We have to build a unit that will provide housing for years into the future.  It would be like when the tech revolution happened in the late 1990s, if we would have had to pre-pay for all of our future smartphones when we bought our first one.  This makes it difficult to increase our housing consumption.  Yet, because that future consumption is capitalized and because we worry about how that affects our perception of wealth, this is the consumption category we get all tied up in knots about.

An unleveraged banking experiment.

I have written previously about my own confusion regarding the issue of bank capital.  The issue seems largely rhetorical to me.  It comes down to whether you call deposits capital, in which case you're an unleveraged money market fund, or you call deposits liabilities, in which case you're a bank.  The difference seems to be that insuring deposits turns them into liabilities.

There are so many debates in finance that seem to me like they could be solved simply.  Too big to fail could be solved by using private deposit insurance instead of public insurance, which would lead to prices that reflect risk.  Even with public insurance, I'm not sure what's stopping us from simply pro-rating insurance fees to reflect changing capital levels or size.  Money market funds seem to do just fine.  To the extent that there is some risk in NAVs falling below $1, it seems to me that a standard contract for investors could have a clause that if NAV ever falls below $1, then withdrawals must pay an additional 1% fee.  This would be a fairly insignificant amount, it would reduce panic withdrawals, and to the extent that there were still withdrawals, they would naturally push NAV back above $1.  In the rare event that this happens, it seems like this would be a stabilizing policy with little cost to investors.

I am sure that I am naïve on these matters and there are good reasons why some of these ideas aren't used.

But, regarding bank deposits, I would like to imagine a system with 100% capital requirements.  Instead of making deposits, depositors would just buy shares in the bank.  The returns depositors earn would not change much, because today depositors make up a very large portion of the capital available to banks, so the returns that currently go to equity holders would be spread pretty thin when shared among the new depositor/shareholders.

But, depositors want certainty.  In this regime, they could get certainty by selling at-the-money puts on their shares.  Depositors would make deposits or withdrawals by buying or selling shares.  The bank would mediate their asset base by buying and selling shares on the open market.  So, sometimes, withdrawers would be selling shares to depositors and sometimes they would be selling to the bank.

This would be a 100% capitalized banking system.  The put sellers would basically be taking the role that today's equity holders take, but with much less volatility because even failed banks usually only have capital shortfalls of a few percentage points of their assets.  In today's system, equity in a failed bank would fall to $0 if the value of assets fell below the value of liabilities.  This system would be more like a money market fund.  A failing bank whose shares had sold at $100 might now sell for $98.  Depositor/shareholders would exercise their puts, and the put sellers would now be shareholders.  The depositor/shareholders wouldn't lose a penny, and they would be free to reinvest their $100 back into the same bank at $98 per share or into another bank.  The main factor determining that decision would be how high the put premium was.  If a lack of confidence led to a run on shares, the bank could recapitalize by buying shares at the market price if that price fell below NAV.  The only losers would be the put sellers.

There could even be a public agency through the Fed that was a major put seller.  This would create a natural method for recapitalizing banks during nominal financial crises, because depositors would buy shares in other banks, and when the Fed funded exercised puts, it would be a natural monetary injection into the system that was automatic and didn't require discretionary decisions about which institutions to support.  Of course, this whole system would work better with some moderate inflation so that share prices tended to have an upward trajectory and exercised puts weren't triggered frequently.

In a way, this wouldn't be much different than today, where the Fed owns a bunch of treasuries and also holds reserves that they pay interest on, and monetary policy comes from managing both of those quantities.  In this system, they would earn income on treasuries they own and on puts they sell, and they would manage the quantities of treasuries and bank shares that they own from exercised puts.  It would sort of be a nationalization of the commercial banking system, because as a put seller, the Fed would basically be taking the risks that current bank shareholders take.

Today, banks are induced to take risks because the upside flows to shareholders.  In this system, that upside would still exist, but it would have to be earned through put premiums as income.  Riskier banks could offer shareholders higher dividends, but it would come with higher put premiums.  Maybe seeing that bank share prices rarely declined by more than a couple percentage points, few depositor/shareholders would even bother buying puts.

Since upside profits would be retained by the depositor/shareholders, put sellers would have less potential upside than today's bank shareholders do, but that would also translate into less downside risk.  They would mainly be trading a regular income stream for the occasional shock.  The main regulatory issue there would be how much leverage put sellers would be allowed to utilize when they sold puts.

Anyway, this is all academic.  But, I like to think about these sorts of things using a different rhetorical framework to try to think more clearly about these issues in a way that separates rhetorical factors from real factors.  Limiting ourselves to the rhetorical frameworks we generally accept seems like it leads to limited solution sets and to solutions that solve rhetorical problems when really, what we need are solutions to real problems.

I hope you haven't found this brief post to be a waste of time.  I welcome comments that point out how ill informed this post is.

Welcome the robots.

There is a never ending debate about whether automation will eventually create problematic unemployment.

The same fears have been around since the dawn of the industrial revolution.  If you wanted to suggest to a farmer in 1840 that he and almost everyone he knew would become obsolete, and it would be overwhelmingly for the better, he would have been unpersuaded, if not downright angry.

Likely, he would have hastily demanded an answer to the question, "What in the world would you have us all do to earn a living?"

You could, quite reasonably, have answered, "Well, maybe instead of farming, people could do air ballet for strangers, and, I don't know, sell tickets or something."  Or, just as reasonably, you could have described most of the jobs at Google, or Salesforce.com, or many other firms in today's economy.



The farmer would, understandably be non-plussed.  It's not just that you would have a hard time explaining what you meant to him.  It's that there would be no way to get him from point A to point B.  The explanation would have simply been beyond his imagination.

This is what growth means.  It means that things we take for granted are replaced with things we can't imagine.  Luckily, we can imagine air dancing today.  Automation and healthy economic growth will bring new things we can't imagine.  I would like to eventually take for granted the things that today I can't imagine.

It is true that there are jobs because there are needs to be met.  It is also true that there are jobs because there are people looking for needs to meet.  Unemployment is a function of frictions over limited time periods, not of a lack of demands.  This is so clear, it is strange that we have to remind ourselves of it.  Certainly the places where the most broad supply of services are available are not the places where there are more people lacking in available productive activity.  The opposite is clearly more true.  There was a time when this person, looking for needs to meet, would have mostly been looking at a potential set of needs that required leading oxen through a field or some such activity.  Today, that set is large enough to include air dancing.

Should we want change and growth?  To answer yes requires that we cease to rely on our imaginations.  It is an explanation destined to lose, and so we will likely be relitigating it, still, a century from now, when air dancers ask, indignantly, "Well, then, if you invent better holographic robot dancers, what in the world are we supposed to do?"

If we talked about labor like we talk about capital

We have all seen many articles, such as this one, with the title, "Can't Find Good Workers? Pay Up!"  There is a pervasive notion that morally and practically, wages are always too low and asset prices are always too high.  In the big, bad complicated world, those prices mostly are simply a reflection of fundamental economic reality, so that forcing them in the direction we are predisposed to favoring can create unintended consequences.  Even trying to change those fundamental realities to nudge those prices into a friendly direction might lead to outcomes that are difficult to fully understand.

There are issues where it is the case - that prices are too high and wages are too low - and changing the fundamental economic reality can be beneficial to everyone.  I have gone on and on here about the housing problem, and how allowing new capital into urban housing markets would lower asset prices and increase real wages in a way that would almost certainly be beneficial to everyone (except urban rentiers).  In 2006-2008, we did manage to bring down asset prices, and this was generally cheered or accepted.  But, the fundamental reality we changed in order to do that (credit and monetary deprivation) didn't really have much to do with why asset prices were high to begin with, so we have been drowning in unintended consequences ever since.

But, since this notion that wages are always too low and prices are always too high dominates public thought, in a sort of vulgar way, the Treasury and the Fed have never really been taken to task for the mistakes they made.  Instead, they have been largely criticized for the few things they did right, which were helping to keep asset prices from collapsing for the wrong reasons.

....aaaanyway, when all is said and done, it is a bit disconcerting to me how much of our conception of what has happened is predetermined.  If you get sick, the reaction from someone who believes in evil spirits vs. someone who believes in germ theory will be strikingly different.  It really seems to me that in many cases, our perception hinges on a set of choices that really has that broad of a scale.  This is especially true in complex areas, and that certainly includes finance.  Sometimes books or documentaries regarding the financial crisis even reference demon terminology, as if to make the point.

This caused me to imagine how it would look if we spoke about labor markets the same way we talk about capital markets.........

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As the recovery heads toward a decade, it is getting harder and harder for workers to keep counting on the "greater fool" to keep this going.  Employers who are addicted to the gravy train need more workers to feed the beast, but all the good workers are taken.  So, those marginal resumes start looking more and more enticing.  And, wages keep getting pushed up as employers "reach for capacity".

Is there any way these substandard workers will ever pay off for those greedy employers?  Unlikely.  But, "You gotta keep dancing until the music stops." as they say.

As the frenzy builds, the gap between work histories and education on resumes and the actual qualifications of the remaining job seekers widens.  But, who cares?  Those workers get placed through the booming temp sector.  It's not their problem if the worker isn't qualified.  It would be one thing if you were hiring someone to work in your own office, but now we just combine all these substandard workers into one big pool that gets divvied up among employers.  In this frothy market, they naively take those resumes at face value, and the employment agencies pocket their fees.  And the machine just keeps cranking along.

Obviously, we need some regulation to stop this from getting out of hand.  If we had put a stop to the frothy labor markets of the 1990s, maybe we would have had more stable compensation since then instead of the declining labor force participation and stagnant wages that we ended up with.  Federal agencies need to put safeguards in place to prevent labor contracts with inflated wages and to prosecute false applications and resumes.    We all know this stuff is going on, yet have there been any high profile prosecutions?

And, of course, loose money is the grease in the gears that keeps goosing this thing on so that the inevitable collapse will be just that much deeper. (Oh, I guess this part of the rhetoric does stay the same.)