J0000005UTC 24, 2008 by chero

Sunbeams from Cucumbers

WASHINGTON — Gulliver’s travels took him to the Academy of Lagado, where “professors contrive new rules and methods” for everything: “One man shall do the work of ten; a palace may be built in a week, of materials so durable as to last forever without repairing. All the fruits of the earth shall come to maturity at whatever season we think fit to choose, and increase a hundredfold more than they do at present.” There was, however, the “inconvenience” that “none of these projects” had yet come to fruition and “the whole country lies miserably waste.” But “instead of being discouraged,” people were “fifty times more violently bent upon prosecuting their schemes,” which included “extracting sunbeams out of cucumbers.”

At the Academy of Obama, professors and others devise plans for extracting a new and improved automobile industry from a semi-sort-of-bankruptcy arrangement that — if it survives judicial scrutiny; that is not certain — will give the United Auto Workers 39 percent of General Motors, with the government owning 50 percent. During future contract negotiations, will the union’s adversary be an administration that the union helped to put in power?

The UAW will own 55 percent of Chrysler, so perhaps the union will sit on both sides of the table in negotiations. They should go smoothly, although the UAW may think it has made sufficient concessions, such as the one that says henceforth overtime pay will not begin until the worker has toiled 40 hours in a week.

Many months and many billions of dollars are being wasted by the administration’s determination to spare the car companies, and especially the UAW, the rigors of a straightforward bankruptcy. The president’s “surgical” bankruptcy plan for Chrysler requires some of the company’s lenders, mostly non-banks, to receive less than they would as secured creditors under bankruptcy law.

The law may still make itself heard over the political thunder. Meanwhile, the president faults these “speculators” for not being as cooperative as are most of the banks that have lent to Chrysler. But the banks are compliant because they are mendicants: Having taken the government’s money, they are the government’s minions.

When the president was recently asked what had “humbled” him in office, he mentioned that “there are a lot of different power centers” in America, so, for example, “I can’t just press a button and suddenly have the bankers do exactly what I want.” Perhaps not a button, and not exactly what he wants, but in dealing with Detroit he pressed and they were accommodating.

It is Demagoguery 101 to identify an unpopular minority to blame for problems. The president has chosen to blame “speculators” — aka investors; anyone who buys a share of a company’s stock is speculating about the company’s future — for Chrysler’s bankruptcy and the dubious legality of his proposal. Yet he simultaneously says he hopes that private investors will begin supplanting government as a source of capital for the companies. Breathes there an investor/speculator with such a stunted sense of risk that he or she would go into business with this capricious government?

Its chief executive says: “If the Japanese can design (an) affordable, well-designed hybrid, then, doggone it, the American people should be able to do the same.” Yes they can — if the American manufacturer can do what Toyota does with the Prius: Sell its hybrid without significant, if any, profit and sustain this practice, as Toyota does, by selling about twice as many of the gas-thirsty pickup trucks that the president thinks are destroying the planet.

Obama overflows with advice for Americans who he thinks need admonitions such as “wash your hands when you shake hands” and “cover your mouth when you cough.” He also advises that this is a good time for Americans to put their hygienic hands on the steering wheel of a new car. He hopes buyers will choose American cars. A sensible person might add: Buyers should choose cars made by the Ford Motor Company.

This is so because Ford has, so far, avoided becoming an appendage of the government. And because the national interest will not be served by GM and Chrysler flourishing. It might cost taxpayers more in the short run, but in the long run it will be less costly for the country if the government finds its confident plunge into industrial policy so unpleasant that, sadder but wiser, the incumbent professors and others will flee from such adventures in extracting sunbeams from cucumbers.

Posted by Ricardo Valenzuela at 11:16 AM 0 comments Labels: Cucumbers, Sunbeams

Bank expands ‘money printing’ scheme by £50bn

Gary Duncan, Times Economics Editor div#related-article-links p a, div#related-article-links p a:visited { color:#06c; }

The Bank of England stepped up its aggressive campaign to end Britain’s economic slump today by ordering a surprise £50 billion expansion of its radical scheme to jump-start growth by “printing money”.

Much of the City was wrong-footed as the Bank announced that it will immediately increase the scale of its drive to pump extra cash through the economy by buying government and corporate bonds – IOUs from the Treasury and businesses.

The unexpected move will add to the Bank’s purchases so far of £46 billion worth of government bonds, or gilts, and corporate debt using newly created money under the £75 billion first phase of its radical “quantitative easing” (QE) scheme. Today it said that it will now increase the total to be spent under the ground-breaking plan by £50 billion to £125 billion.

The Bank added that the measures will now run for a further three months, beyond the first phase that is due to finish at the end of this month, extending the unprecedented action until the end of August.

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The noon verdict from the Bank’s Monetary Policy Committee (MPC) came as it also confirmed that official interest rates will remain at their existing 315-year record low of 0.5 per cent. The widely expected “no change” decision over Bank rate will leave borrowing costs pegged for a second month in a row, after six months of drastic cuts that began last October as the economic crisis escalated.

The MPC’s decision to increase the scale of its operation to print money and buy assets brought forward a move that had already been widely tipped by experts to come next month.

The expansion of “QE” will be widely welcomed by the financial markets and the City.

But the move sparked immediate anxieties that the Bank now expects the already savage slump in the economy to be even deeper and longer than it has already predicted. Mervyn King, the Bank’s Governor, is due to unveil the MPC’s latest forecasts of Britain’s prospects next week.

The Bank’s decision that further drastic action is needed will also reinforce doubts over Alistair Darling’s relatively optimistic Budget forecast that the economy will start to revive by the end of the year and then rebound strongly into renewed growth.

Hopes that an eventual recovery is starting to emerge and that the worst phase of the recession has passed have risen in recent weeks after a flurry of more positive news suggesting that the pace of decline is beginning to ease.

But persistent fears over the outlook mounted last month after grim official figures revealed that GDP plummeted in the first quarter, shrinking at a headlong 1.9 per cent rate that outstripped even the 1.6 per cent drop in the final quarter of last year and was the worst quarterly slump for three decades.

The MPC’s decision to take further measures to breathe life into the economy emphasises the continued great uncertainty, which was highlighted by the committee in its statement unveiling the extra £50 billion in asset purchases.

In a measured assessment, the Bank acknowledged what it said were “promising signs that the pace of decline has begun to moderate”, both at home and abroad. However, it also emphasised that the world economy “remains in deep recession”, with world output falling, and global trade dropping “precipitously”. At the same time, it added that “the global banking system remains fragile despite significant further intervention by the authorities”.

The Bank said that the economy was caught between two conflicting forces. On the one hand, the slump was being aggravated and debt-laden households, businesses and banks strived to bolster their finances, cutting spending and saving more.

But pulling in the other direction were far-reaching steps by central banks, including the Bank of England, and governments across the world to kick-start growth through lower interest rates, QE, and tax and spending measures. A further boost to activity was also coming from a “substantial” fall in the pound and past, steeps falls in the cost of commodities including food and oil.

The MPC said that the stimulus put in place by the Bank, the Government and other countries should “in due course lead to a recovery in economic growth … but the timing and strength of recovery is highly uncertain”.

Confidence that recovery will emerge will be buoyed by the Bank’s own recognition of “promising signs” that the economy is recuperating.

The latest glimmers of hope emerged yesterday, with the sharpest monthly improvement in conditions for at least a decade among services businesses, from restaurants, cinemas and leisure centres to accountants and lawyers.

Consumer confidence has also revived from record lows over several months, according to the main surveys of sentiment, mortgage lending has risen from rock-bottom levels earlier this year and there have been hopeful signs that the housing market slump in also easing, helped by a revival in interest among bargain-hunting prospective buyers.

But despite these apparent “green shoots” economists warn that the economy is for now still continuing to contract sharply, and that any return to even the most anaemic growth will not be until the autumn at the earliest.

Analysts point to the severe drag on recovery prospects from soaring unemployment, which has now climbed above two million and is tipped to exceed three million by next year, as well as from a sharp squeeze on take-home pay, and the toll from the past plunge in house prices.

The Bank’s decision to increase the scale of its QE programme will also stoke pressure on it to amend other key aspects of the scheme following a series of criticisms from MPs, business leaders and the independent Times MPC panel of experts.

Critics have complained that the effectiveness of the MPC’s campaign to pump extra cash and credit into the economy through its purchases of financial assets is being hampered since the bulk of the cash it is spending has so far gone on buying government bonds, or “gilts”.

Only a tiny proportion has gone on purchases of corporate debt in the form of company bonds and commercial paper, despite the Chancellor having authorised purchases of these up to an eventual £50 billion total.

Influential economists claim that, with businesses still suffering from a savage squeeze on their access to finance to keep their operations running and to fund investment, the Bank needs to do more to eases strains in corporate credit by shifting the emphasis of its QE scheme.

Posted by Ricardo Valenzuela at 11:12 AM 0 comments Labels: ‘money printing’, Bank expands, scheme, £50bn

America will still rule the post-crisis world

As green shoots sprout on Wall Street, other nations are emerging from the recession in worse shape than the US

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Anatole Kaletsky

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I am just back from Washington where the green shoots of recovery have sprouted into a jungle on Wall Street, if not yet on main street or in other countries. I was addressing a meeting of US and European diplomats to survey the geopolitical horizons.

As the world economy gradually returns to something approaching normality after the catastrophe triggered by the Lehmans bankruptcy on September 15 last year, thoughts naturally turn to the longer-term effects of the crisis.

Economic models are never good at predicting turning points in cycles, but in these conditions they are completely useless. To assess the long-term political and ideological impact, it makes more sense to consider two scenarios.

In the first, which has dominated thinking throughout the crisis, the deflationary forces of the credit crunch prevail and the world sinks into a recession lasting many years, with unemployment soaring to levels last seen in the 1930s. In that case, this crisis really will mark the end of US dominance, not only as a global power, but also as an economic model and source of political inspiration. But rather than neatly shifting the mantle of global leadership to China or maybe Europe – if we take seriously the triumphalist rhetoric of President Sarkozy after the London G20 summit about the death of the Anglo-Saxon model – a prolonged recession would usher in chaos.

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China is far too poor, too technologically backward and too inward-looking to be a credible economic leader and its social arrangements are hardly a model for the democratic world. As for Europe, it would suffer even more institutional damage than the US from a prolonged depression, as it did in the 1930s. In short, the widely predicted depression would lead to what some investors describe as the Mad Max world: a state of global anarchy in which the only assets worth owning would be farmland and oil wells – and the guns and ammunition to protect them.

The alternative possibility is that monetary and fiscal stimulus succeed and the world returns to normal growth and moderate unemployment within a year or so. To judge by much commentary, this benign outcome is unlikely. But on Wall Street and in much of Asia it is becoming the mainstream assumption.

In my view, the benign scenario should be the focus of all policy discussions for two reasons. First, because economic theory tells us that fiscal and monetary reflation will succeed and hints of success are starting to show. The second reason is an economic equivalent of Pascal’s Wager: if the world is about to collapse into anarchy and nothing can be done, there is no benefit in predicting it. If, on the other hand, the end of the world can be averted, acting on this assumption, will make recovery more likely. But even on this benign assumption, some big upheavals may lie ahead.

The financial crisis has profoundly changed US politics. It has convinced voters of the need for government, and of leaders who believe in government. With the election of an Administration dedicated to competent government, things have improved, as voters have noticed. Thus US and European ideology have moved closer together. Many Bush Administration foreign, social and environmental policies have been reversed, sending the signal that Americans no longer live on a different planet from the rest of us. As a result, America has become more attractive as a political model throughout the democratic world.

Less obviously, the US economic model, far from being discredited, may be strengthened by this crisis. If the US returns to growth much faster than Europe and Japan, the crisis will reaffirm the resilience of Anglo-Saxon capitalism, provided that it is not confused with totally deregulated market fundamentalism.

Moreover, the crisis may strengthen the US economy structurally by promoting President Obama’s agenda of clean energy and healthcare reform. Developing new energy sources will play to America’s advantage in technology, while correctly-managed healthcare reform could reduce the cost burden that has crushed many US industries.

For Europe, the crisis has exacerbated three distinct problems. First, global deleveraging is having a bigger impact on Germany than on the US or Britain. Second, Eastern Europe faces a catastrophic financial crisis, like the one in Thailand and Indonesia 12 years ago. Third, the euro has been transformed into a source of vulnerability rather than strength because Europe’s sovereign borrowers can no longer print their own money, making them prone to default in the same way as state and local governments in the US.

The result of this perfect storm is that Europe will probably become more inward-looking. The question of more or less Europe will have to be debated anew, as maintaining the status quo may not be compatible with the survival of the euro or the new financial regulations now widely demanded. In Central Europe the painful consequences of the harsh economic reforms imposed by Germany, the European Commission or the IMF in exchange for financial support will probably strengthen the influence of Russia, which handled its own financial crisis surprisingly well.

Turning to Asia and China, does this crisis mark the moment of transition from US to Chinese dominance? Probably not. For Japan even more than Germany, the crisis has been a total disaster and the concept of export-led growth has been discredited.

China’s leaders understand the dangers of excessive dependence on exports and are trying to shift emphasis to domestic growth. But this will slow productivity growth and economic development and it is not clear if China’s authoritarian politics can adapt to a society emphasising consumption rather than production.

Finally, what of the dollar’s status as a reserve currency? Those who argue that US budget deficits and monetary expansion will destroy its international status must point to another currency underpinned by stronger fiscal and monetary foundations. At present, there is no such currency, except possibly the Chinese yuan, which cannot be legally owned by foreign investors.

Those who argued that the dollar would collapse because of the global crisis forgot that to sell one currency it is necessary to buy another. The currency game is not a beauty contest but an ugly contest, in which investors must choose the currency that is least ugly.

In some ways this is true of global geopolitics. The crisis may have revealed grave flaws in the US economic and political models. But the weaknesses in other countries have become even more obvious. The logical conclusion is that President Obama’s post-crisis America will be more powerful and influential than it was under President Bush.

Posted by Ricardo Valenzuela at 11:04 AM 0 comments Labels: America, post-crisis, will rule, world

The Man Who Talked Back

AMITY SHLAES

div#comLink {display:none;} div#storyBody { background-image: url(http://images.forbes.com/media/2009/03/11/shales_header_565w.jpg); background-repeat:no-repeat; background-position: 0px 0px; padding-toEveryone tries to identify that moment in a downturn when recovery starts. It may be that our recovery started in mid-April, when Jamie Dimon of JPMorgan Chase renounced further government aid for his company. Dimon called the $25 billion in aid his firm had accepted early on “a scarlet letter.” Or recovery may have started even earlier, when Rick Santelli of CNBC accused the government of picking “losers” and forcing the rest to fund those choices.

What makes such moments significant is that Dimon and Santelli didn’t merely think their protests; they spoke them aloud. Once a few people start speaking the truth publicly, the rest who agree soon begin acknowledging it. The government realizes it has pushed too far. The market notices the government’s shift.

Back in the 1930s another character on the national stage spoke out–not just once but for years. His alarms did indeed help turn the economy around. That man was Wendell Willkie.

Willkie didn’t set out in life to make it as Franklin Delano Roose-velt’s gadfly. He set out to make it, period. In the 1920s, when Willkie was a young lawyer in Indiana and Ohio, the up-and-coming industry was utilities. In New York innovators such as Alfred Lee Loomis and Landon Thorne were trying to update and clean up the industry and supply power to rural America. Dow Jones was creating a utilities index. Willkie joined a new company, Commonwealth & Southern, and became its president. C&S’ ambitious goal: to light up the South.

When the stock market crashed in 1929, President Herbert Hoover was quick to blame Wall Street. His successor, FDR, ratcheted up the hostility further, referring to Wall Streeters as “economic royalists” and denigrating the utilities industry specifically. Hoover had raised taxes, but FDR raised them yet again, targeting business directly with creepy levies such as the undistributed profits tax. Shortly after his inauguration in 1933, Roosevelt established a direct competitor to C&S: the Tennessee Valley Authority ( TVC – news – people ). The TVA’s premise was radical–reorganize the U.S. economy around river basins, generating hydropower through the public sector. C&S’ assigned interlocutor at the TVA was David Lilienthal, a lawyer, like Willkie, from Indiana.

Willkie and Lilienthal met over a dark wood table at Washington’s Cosmos Club. Willkie wanted a deal and thought he could get one out of the younger Hoosier. If Lilienthal and he agreed to trade power, Willkie would buy his company time. The TVA wouldn’t last forever, Willkie’s thinking went; it was too ambitious and expensive. Lilienthal had to be reasonable–after all, the next Congress could refuse to fund him. In public Willkie would be as conciliatory as possible. Most executives in the U.S. adopted a similarly friendly posture toward the New Deal, the attitude being to give the new Administration time.

But as years passed Willkie realized his cooperative stance was costing C&S’ shareholders. Lilienthal used tax advantages and subsidies ruthlessly to achieve his boss’ grand goal: to expand public-sector utilities. C&S lost in court against the TVA, then won, then lost again. Meanwhile, the TVA expanded in the Tennessee Valley. FDR signed legislation so restrictive to the private sector that a clause within it was referred to as the “death sentence.” The utilities industry, which should have been a growth leader, paid a terrible price for Washington’s attacks. Between early 1932 and early 1936 the DJIA rose 88%–the Roosevelt Rally. Utility stocks barely budged during the same time frame.

Obama-Intensity Adoration

In a radio debate in January 1938, five years into the New Deal, Willkie found his Dimon moment. Roosevelt’s casual epithets of “economic royalists” and “banker control” had actually chilled investment, Willkie said. The New Dealers’ high capital gains and undistributed profits taxes were retarding American firms’ recovery. The government was making the Depression worse by getting in the way. “For several years now,” Willkie warned, “we have been listening to a bedtime story, telling us that the men who hold office in Washington are, by their very positions, endowed with a special virtue.”

Hearing Willkie, the country snapped awake. Perhaps the New Deal had all been “a bedtime story.” Maybe citizens should have spoken out in 1933, not 1938? The Saturday Evening Post dubbed Willkie “The Man Who Talked Back.” Other businessmen from other companies and industries soon publicized their own concerns.

Citizens began to see the rumpled utilities executive as a potential GOP candidate. In 1936 Roosevelt had won his record landslide, but in the 1938 midterm election the GOP reclaimed some House and Senate seats–not enough to form a majority, but enough to place a thoughtful question mark over Democratic certitude. The market rallied. Journalists developed an Obama-intensity crush on Willkie that lasted for years. The most egregious of their tributes was an epic poem by Muriel Rukeyser, embarrassing both in its length (330 pp.) and bathos: “Wounded he lay. And for good reason. His wounds our wounds.”

When Willkie finally ran for President in 1940, he did not win, but he did aggregate enough support to deal a blow to Democratic radicalism. Roosevelt was not over, but the New Deal was. The point is not that those who talk back are perfect. The canny Dimon probably isn’t. Willkie sure wasn’t. The takeaway is that daring to talk back is worthwhile–especially when you do it early.

Amity Shlaes, senior fellow in economic history at the Council on Foreign Relations; Paul Johnson, eminent British historian and author; Lee Kuan Yew, minister mentor of Singapore; and David Malpass, global economist, president of Encima Global LLC, rotate in writing this column. To see past Current Events columns, visit our Web site at www.forbes.com/currentevents.

Posted by Ricardo Valenzuela at 10:58 AM 0 comments Labels: Talked Back, The Man, Who

Our Have-It-Both-Ways Generation

By Victor Davis Hanson

Today’s Americans inherited the wealthiest nation in history – but only because earlier generations learned how to feed, fuel, finance and defend themselves in ways unrivaled elsewhere.

Lately we have forgotten that and instead seem to expect others to do for us what we used to do ourselves.

Take our plentiful, cheap and safe food supply. Long ago, Americans struggled to create farmland out of swamp, forests and deserts, and built dams and canals for irrigation to make possible the world’s most diverse and inexpensive agriculture.

Now in California – the nation’s richest farm state – the population is skyrocketing toward 40 million. Yet hundreds of thousands of acres of farmland this year are going out of production, and with them thousands of jobs.

Why? In times of chronic water shortages, environmentalists have sued to stop irrigation deliveries in order to save threatened two-inch-long delta fish that need infusions of fresh water diverted from agricultural use. And for both environmental and financial reasons, we long ago stopped building canals and dams in the Sierra Nevada Mountains to find sources of replacement irrigation water.

So farmers are asked to produce more food for more people in a desert climate with less water – while environmentalists dream of returning to a pristine 19th-century sparsely populated California of smelt and salmon in their inland rivers. But the end result will be more imported food from less environmentally sound farms abroad.

Consider energy consumption and supply as well. The United States still has plenty of untapped natural gas and oil – both offshore and in Alaska. We have nearly unlimited coal supplies and oil shale, in addition to the ability to build dozens of new nuclear plants.

Developing such traditional sources of energy responsibly would save us trillions of dollars in imported fuels, keep jobs here at home and allow the nation a precious window of energy autonomy as we steadily transfer to more wind, solar and renewable energy.

If we exploit our own energy carefully offshore and in Alaska, it will mean less sloppy foreign drilling off places like Nigeria or in the fragile Russian tundra to feed American cars and trucks.

But this generation of Americans does not want messy drilling at home – only to keep driving. That means more borrowing to buy imported fuel, while telling others to do the dirty work of drilling crude oil in their own backyard.

Both Democrats and Republicans have also taken for granted having enough military power to intervene overseas to remove tyrants like Saddam Hussein, Slobodan Milosevic, Manuel Noriega and the Taliban — and to stop atrocities whenever we can. But such power takes hundreds of billions of dollars in expensive hardware and military personnel.

Barack Obama is no exception to this bipartisan muscular idealism. He sent more troops into Afghanistan, keeps attacking terrorists in Pakistan and, during the campaign, even talked about deploying additional troops to save those in Darfur. But he also wants to keep the defense budget static, or even cut it in some places.

In our have-it-both-ways generation, we want to keep our involvements abroad while not worrying as much about the practical means to meet them.

Then there is the question of national debt. We are now projected to run a record $1.7 trillion deficit – and may add $9 trillion to our existing $11 trillion in existing aggregate debt over the next eight years.

The president, though, has outlined vast new entitlement programs in health care, education, environmental programs and infrastructure. The problem, of course, is that we have not earned enough money to pay for any of these additional expenditures. Again, the glamorous ends get the attention, never the mundane means of how to obtain them.

Americans became wealthy and strong through unique self-reliance, common sense and delayed gratification. And we – or our children – will soon become poor precisely because we hold on to the romance that producing food and fuel, and saving money are icky tasks to be ignored or left to others.

Until we change that attitude, we’ll keep borrowing and spending on ourselves what we have not yet earned – all the way to bankruptcy.

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// –>Victor Davis Hanson is a classicist and historian at the Hoover Institution, Stanford University, and author, most recently, of “A War Like No Other: How the Athenians and Spartans Fought the Peloponnesian War.” You can reach him by e-mailing author@victorhanson.com. Posted by Ricardo Valenzuela at 10:53 AM 0 comments Labels: Generation, Have-It-Both-Ways, Our

Dems Shun Specter, Undercut Obama and Reid

By David Paul Kuhn

The White House’s “full support.” The backing of Senate leadership. The promise to retain his rank. Pennsylvania Sen. Arlen Specter appeared to gain a new political world for leaving the party that brought him to national politics. One week later, that world is gone.

Specter now stands alone. Stripped of his rank by Democrats. Scorned by Republicans. Specter’s flash of strength has turned to weakness.

That weakness was thrown into stark relief Wednesday night, as Rep. Joe Sestak said in an interview that he was “very seriously” considering challenging Specter in the Democratic primary. There was a renewed energy to Sestak, repeating the phrase “very seriously” as he drove from Washington DC to Pittsburgh.

It was only last week that Sestak appeared blindsided. “You know,” Sestak told MSNBC’s Chris Matthews Friday with a pang of resignation, “I was thinking of getting in. And I haven’t made my final decision.”

How quickly the winds have changed.

Barack Obama was handed a political gift on his 100th day in office. A moderate Republican came to the White House to offer his Democratic allegiance and potentially an invincible legislative majority. Obama and Vice President Joe Biden received Specter publicly, courting live coverage on the cable networks. It was a celebration.

President Obama told Specter he would campaign for him. Obama offered his “full support,” a pledge reiterated by top White House officials.

Specter was to be no “rubber stamp.” But the exchange was implicit. On some big bills, perhaps health care, Specter could offer the scale-tipping 60th vote. Obama would avoid contentious procedural maneuvers. In return, Specter was to keep his veteran status and win the mighty Democratic leadership’s favor.

Senate Majority Leader Harry Reid put it plainly to National Journal reporters on Friday. Specter, Reid said, “will maintain his overall seniority in the Senate and it’s pretty clear that he’s going to do that.”

Specter repaid that assurance by testing Democrats’ patience. In his first week as a Democrat, Specter voted against the Democratic budget. He also opposed a bill, which was defeated, that would have granted homeowners in financial distress more flexibility to renegotiate their mortgage.

By Sunday, on NBC’s “Meet the Press,” Specter was asked about Reid’s assurance. “That’s an entitlement. I’ve earned the seniority,” Specter said. “I will be treated by the Democrats as if I’d been elected as a Democrat.”

The “entitlement” notion did not sit well within the Democratic caucus. Specter was a fair-weather partisan, in some Democrats’ view. He left Democrats at the dusk of their last majority in the 1960s. Here he was returning at dawn.

Soon even that allegiance came into question. This week Specter told the New York Times that Republican Norm Coleman should be seated over his Democratic opponent Al Franken, in Minnesota’s still disputed Senate race.

“Arlen,” Reid asked Specter on the Senate floor. “What’s going on here?”

“I forgot what team I was on,” Specter replied.

Specter tried to retract the statement. But the damage was done. No Democrats were excited to step aside and offer Specter a key place in the Senate committee pecking order. Specter gave opponents reason to reject him.

Tuesday night, the Senate voted to strip Specter of his seniority. Specter has served in the Senate for twenty-nine years. The vote left him with the power of a freshman.

Specter responded Wednesday morning with a written statement, again noting Reid’s promise that “I would have the same seniority as if I had been elected as a Democrat in 1980.”

Reid remains optimistic. He told CNN that, “we can try to work something out with individual chairmen.”

Specter may get a subcommittee chairmanship in the Judiciary arena. Someone may step aside. Some consolation prize is likely. But hard feelings will linger. For Democrats and Specter, this is not how the story was supposed to go.

Specter is now a man without a country. His old side views him as a traitor. His new side is skeptical of the longtime adversary turned ally. The episode has left him politically weakened and embarrassed.

The president and the majority leader are chastised as well. Barack Obama talked like Lyndon Johnson as he backed Specter, only for Democratic senators to revolt and leave this president painted as no master of the Senate. Reid appears weaker for failing to deliver the political spoils he promised his recruit.

Even liberal bête noire Joe Lieberman escaped the Specter treatment. Lieberman sided with Republicans on the most controversial issue of the Bush era, the war in Iraq. He vocally backed Republican John McCain in the 2008 campaign. Yet Lieberman kept his seniority.

Today, Specter has gone from ranking Republican to the lowest Democrat on the Judiciary Committee. Poignantly, Specter will be the last senator to interview Obama’s first Supreme Court nominee.

And what of that 60th vote? Specter, as the moderate Republican, faced pressure to vote with the GOP at times to prove his red loyalty. That pressure may have been reversed, as Specter felt pressure to show his blue colors.

But Democrats have humiliated Specter. Specter could respond by withholding the 60th vote on the key legislation. Obama never would have agreed to Specter’s switch if the president had not viewed some bills as urgent. After all, a new Democrat could have come in 2010.

That’s the irony of Specter. Specter’s defection was, he admitted, rooted in political survival. Republicans had turned against him. He could not win a GOP primary. Now, in moving to Democrats to survive, Democrats have turned against Specter.

Enter Sestak, the second-term Pennsylvania House member and retired Navy vice-admiral. To Sestak, Democrats decision to strip Specter of his seniority “solidifies how I felt when I heard what the Washington establishment had done.

“The Washington Democratic leadership does not speak for all Democrats,” Sestak continued. “This is not a place of king or king makers and it looks like the Democratic senators felt the same way.”

Indeed, in Specter’s case, Obama and Reid proved no party kings.

By Wednesday night, Specter’s likely challenger was attending a Jefferson-Jackson dinner to court Democrats. And the candidate Obama and Reid backed appeared blindsided. Specter decided to cancel his scheduled appearance Wednesday evening on CNN’s “Larry King Live.”

Posted by Ricardo Valenzuela at 10:51 AM 0 comments Labels: dems, Reid, Shun Specter, Undercut Obama

DAILY ECONOMIC DATA

Non-farm productivity (output per hour) increased at a 0.8% annual rate in the first quarter

Non-farm productivity (output per hour) increased at a 0.8% annual rate in the first quarter, very close to the consensus expected 0.6%. Non-farm productivity is up 1.8% versus last year.

Real (inflation-adjusted) compensation per hour in the non-farm sector increased at a 6.6% annual rate in Q1 and is up 4.4% versus last year. Unit labor costs were up at a 3.3% rate in Q1 and are up 2.4% versus a year ago.

In the manufacturing sector, the Q1 growth rate for productivity (-3.4%) was weaker than in the non-farm sector as a whole. The growth rate of real compensation (15.5%) was much stronger than in the overall non-farm sector.

Implications: As much pain as the economy went through in late 2008 and early 2009, the absence of a major decline in productivity (output per hour) bodes well for our long-term prospects. Although output declined at an 8.2% annual rate in Q1, all the drop was due to fewer hours worked. On a per hour basis, workers were producing more than ever before. Due to all the liquidity the Federal Reserve has poured into the economy as well as the natural ability of markets to heal themselves, the US is in the nascent stages of an economic recovery. Eventually, higher productivity will make it appealing for companies to re-hire workers. Meanwhile, gains in real compensation – up 4.4% in the past year – are generating consumer purchasing power for future quarters. In other news this morning, initial claims for unemployment insurance fell 34,000 last week to 601,000, the lowest level since late January. The 4-week moving average of claims is 624,000 versus 659,000 only a month ago. Meanwhile, continuing claims increased 56,000 to 6.351 million. As usual, shifts in continuing claims will lag initial claims by several weeks.

Posted by Ricardo Valenzuela at 10:46 AM 0 comments Labels: An economic, data

Savings Is Not Just a Good Thing

Mises Daily by Christopher Westley

The recent news that Regions Bank scored the worst of the nation’s 19 largest banks on the federal government’s stress tests reflected its bad loan decisions made during the economic boom. Regions’ subsequent acceptance of TARP money, whether done willingly or not, meant that taxpayers would be involuntarily assuming that troubled bank’s risk when a free society would have required it to internalize these self-inflicted costs.

All told, it makes for a shameful episode for Birmingham’s last remaining Fortune 500 company. Nonetheless, while wondering how things got this way, I came across an article by Regions’ chief economist, Bob Allsbrook, that might explain the nadir of this benighted bank. In a Birmingham News op-ed on April 26, Allsbrook wrote,

Saving — in a general sense — can be a good thing. It’s something consumers should have been doing anyway. The problem today is money that is added to savings is money which is not spent. This scenario is what we economists call the “paradox of thrift.” Or what is good for the individual may not be good for the entire economy.

This money that is saved is not being spent on new clothes, furniture or other noncritical goods. Or, if the money is spent, it is spent on cheaper, often lower-quality goods or services.

The decline in credit and the increase in savings are squeezing what small amount of after-tax income is available to consumers. To stretch this amount, while consumers can’t always stop spending, they can become thriftier about how they spend. People still buy coffee, but they get it at McDonald’s instead of Starbucks, or they make it at home. They are driving revenues at Wal-Mart, but not at department stores.

Such old-school Keynesian sentiment from a major bank’s chief economist is surprising, and it makes one wonder about the quality of economic advice Regions received in the earlier part of this decade, when much of the damage was being done.

If Allsbrook believes that savings is just something that “can be a good thing,” then I wonder where he thinks investment comes from. It comes from saving, and saving is essential if the economy is ever going to recover and embark on a period of sustainable economic growth.

“The ‘paradox of thrift’ is actually an essential liquidation process that characterizes economic corrections.”

One wonders how Allsbrook would explain the last real recession experienced in the United States. That was in the early 1980s. Like today, this was a recession that many were likening to a depression. Like today, it followed several years of unrestrained Fed-injected credit. The unemployment rate was in the double digits, as today’s would be if the government measured it according to the same standards. The stock market was tanking. Again, there were news stories emphasizing the end of capitalism and the need to reinvent America.

The Paul Volcker–led Fed responded by sucking liquidity out of the banking system, and forcing an increase in interest rates — a policy that is exactly opposite to that of today, resulting in what Allsbrook would call a paradox of thrift. People certainly responded in ways expected by economists who know something about incentives. They saved, and as it turned out, this was a very good thing, resulting in a pool of real savings that lead to long-term economic growth over the following two decades.

Much of this was sustainable growth because it funded investment that produced output that people saved to purchase. This is in marked contrast with the unsustainable growth that results when the Fed simply injects money created out of thin air into the banking system. This also promotes business investment, but since such investment is not savings-induced, the resulting output is not purchased. The result is a boom followed by a bust that causes many economists — including many in the banking industry — to call for another round of new money, again created out of thin air, to start the process over again.

“Would the world have been a better place if a TARP-like entity allowed Enron to live to see another day?”

Such is the process of boom and bust. It explains why the dollar is constantly losing value — over a third during Alan Greenspan’s reign as Fed chairman alone.

What Allsbrook calls a paradox of thrift is actually an essential liquidation process that characterizes economic corrections. This is a painful time as firms deleverage, abandon unprofitable product lines, reduce prices to sell off goods that were oversupplied during the boom, and reallocate capital from those uses not desired by consumers to those that are. This also happened in the early 1980s and had it not, that decade would be remembered today as a replay of the economically sorry one it followed.

It does not bode well for our economic future that government today has been thwarting this process, motivated by equally outmoded Keynesian sentiments. By bailing out industries, including key players in the financial industry, it needlessly prolongs the correction process, which is why I agree with Allsbrook’s sense, expressed later in his op-ed, that any economic recovery we might see will be anemic at best, and not likely until the end of 2009, if then. The economy is not sounder when extramarket force causes firms to survive when market forces would have otherwise shut them down. Would the world have been a better place if a TARP-like entity allowed Enron to live to see another day?

There is no paradox of saving!

We know better, which explains much of the public anger rightly directed at the corporate state today. But this is mercantilism, not capitalism. It is another example of the unintended consequences that follow economic planning, which in this episode centered on Congress and the Fed’s manipulation of the housing and credit markets.

While Regions will survive, its directors need to understand why credit-induced growth brings more long-term damage both to the economy and to its balance sheets than savings-induced growth. The banks that understood this during this decade’s unsustainable boom are in better shape today, with more secure customers, happier investors, and no socialized risk.

It is a paradox, and a better one worth pondering.

Posted by Ricardo Valenzuela at 10:05 AM 0 comments Labels: Good Thing, Not Just, Savings

Creating Disequilibrium, and Benefiting Society

Mises Daily by Isaac M. Morehouse

M.C. Escher (1898–1972) “Print Gallery” (1956)

There is no denying that our economy is undergoing dramatic changes. That brings not just difficulty, but also opportunity for entrepreneurs. In fact, the “creative destruction” of the market is part of what drives economic growth.

Putting aside the causes of our current economic troubles (except to say free markets are not the culprit), we can’t forget that, though massive bubbles are not necessary, markets are by nature dynamic even in the most stable of times. This dynamism is not an evil to be avoided at all costs but the very thing that makes free economies so productive.

Classical economists often treated economic growth as a mechanistic operation that happened at a stable rate as a result of unchanging levels of investment and production — as if economies simply grew on their own as long as production was steady and inputs were not disrupted. The problem with this view is that, quite simply, the real world doesn’t work that way. In 1911, economist Joseph Schumpeter’s Theory of Economic Development radically changed this view, and his insights are still relevant today.

Schumpeter stressed the role of the entrepreneur in economic growth and argued that, far from a static maintenance of equilibrium in production, it was the entrepreneurial ability to cause disequilibrium that created wealth. The constant innovation of these economic actors shakes the economy up, breaking down old methods and building up newer and better ones.

It’s not just increases in production that create wealth but a radical reforming of the way production itself is done. Think Henry Ford’s assembly line. Such entrepreneurial innovations disrupt the unrealistic ideal of a stationary economy. They do destroy the old order — like the classic example of buggy makers losing their jobs when the automobile took hold — but they cause growth because what they create is more valuable than what they replace. Can you imagine halting the progress of the automobile in order to preserve buggy makers?

Schumpeter argued that the role of the entrepreneur was different from that of the inventor, manager, laborer, or capitalist. Entrepreneurs need not be wealthy or even especially intelligent. They may be all or some of these things, but that’s not what makes them entrepreneurs. Schumpeter said the entrepreneur was the person who creates new combinations in production.

The creation of a new good or service — a new way to produce the same good or service, a new market for the good or service, a new source of supply, a new organization of the industry — these are the entrepreneurial functions. Such innovation does not necessarily require new invention, just a different utilization of available knowledge and technology.

As Schumpeter said in a 1928 edition of the Economic Journal,

“[I]t is not the knowledge that matters, but the successful solution of the task … of putting an untried method into practice.”

The entrepreneur, by seeing and acting on different combinations of existing knowledge, products, and services, disrupts the economic order and creates growth. There is evidence of this “creative destruction” all around us: every year millions of jobs are created and destroyed, yet the overall long-term trend is continued economic growth.

Finally a shirt to fight back!

The growth could not happen without both creation and destruction; it is the driver of growth, not a problem to be solved. If the economy were static — if jobs were never lost, prices never shifted up or down, investments never enjoyed large profits or major losses — we would not live in a stable utopia but a stagnant subsistence economy.

Don’t be afraid to disrupt the economy. Look for ways that things can be done differently — goods, services, and production methods that can be rearranged, new technologies that can be better used. Right now, as the economy reshuffles, there are more opportunities to generate change than ever — the kind of dynamic change that we need to grow out of this slump.

Don’t just sit there, create some disequilibrium!

Posted by Ricardo Valenzuela at 10:02 AM 0 comments Labels: Benefiting, Creating, Disequilibrium, Society

Do We Really Want Another Black President After The Events Of Deep Impact?

By Kevin Henry

I am not prejudiced. Far from it. What I am—or, I should say, who I am—is a man who loves his country so deeply that he is unwilling to stand idly by while our nation allows itself to be completely annihilated by another incoming comet.

Have we learned nothing from the tragic events of 1998, when, under the watch of President Morgan Freeman, this nation was plunged into chaos, and hundreds of millions of people died at the hands of the deadly Wolf-Beiderman space rock? The mere fact that this country is even considering putting another black man, Barack Obama, in the Oval Office proves that we have not.

We can’t deny the facts, people. All we will get by electing an African-American is Texas-size space particles crashing into the Earth’s surface, mega-tsunamis that barrel into the Appalachian Mountains, and 6.6 billion dead people.

I’m not suggesting that President Freeman was directly responsible for the creation of the Wolf-Beiderman comet or its Earth-bound path. That would be ridiculous. What I am saying is that under the watch of a black man that comet destroyed the entire Eastern seaboard. So, if history is any indicator, a vote for Barack Obama in 2008 is essentially a vote for the complete and total obliteration of the human race.

Don’t we owe it to our children, and our children’s children, to use this upcoming election to guarantee the Earth’s existence rather than dooming it for eternity?

To even risk putting Mr. Obama in a position where he would insist, as past black presidents have, that our nuclear arsenal is powerful enough to divert the incoming comet would be foolish, to say the least. Any decision like that would only break the fast-approaching space rock into two very powerful asteroids, both of which would end up heading straight for Earth, leaving all of us who aren’t on the small list of people picked to live in the government-sponsored protective caves to burn, drown, or die while in the arms of our estranged fathers. The only difference is, this time around, the late astronaut Robert Duvall will not be alive to save millions of lives by conducting a suicide space mission to destroy the larger of the two asteroids before it enters the Earth’s atmosphere.

In my book, any possible repeat of this extinction-level event is reason enough not to elect another African-American president. Consider that later that same summer, just two months after the first deep impact, this very country once again faced Armageddon in the form of another comet hurtling toward Earth. In this instance, under the watch of a white president who sort of looked like an older Dennis Quaid, that catastrophe was avoided entirely.

As if that is not enough, history shows us that, besides carrying the baggage of a guaranteed asteroid strike, black heads of state also give terrorists extra motivation to destroy the United States. During the presidency of 24’s David Palmer, there were no fewer than four nuclear bombs smuggled into this country. That’s four more than under any white president. Though we should have known better than to elect President Palmer in the first place (he was elected three years after President Freeman left office), the U.S. populace made him the commander in chief because it was swayed by then-Senator Palmer’s commitment to change, his no-nonsense approach, and his ability to inspire. Sound familiar?†

Asteroids and nuclear bombs—that’s what this nation can expect from an Obama White House.

Need I even mention that former President Chris Rock and his administration’s slogan was “The only thing white is the house”? Though this attitude broke down the stuffiness typically associated with proper White House decorum, President Rock’s laissez-faire approach not only made a mockery of the office at home, but made the United States look like a joke abroad.

I concede that the United States has had a competent African-American president in the huge black guy from the The Fifth Element, who did great things for this country by keeping the evil Mr. Zorg at bay. But that is years from now. There is no denying that by 2236, when we have flying taxicabs, this country will be ready for a black president. But until then, if we want life in this great land to continue as we know it, we owe it to ourselves to make the right choice and reelect Kevin Kline.

Posted by Ricardo Valenzuela at 9:37 AM 0 comments

A new pecking order

Europe’s economies

A new pecking order

From The Economist print edition

There has been a change in Europe’s balance of economic power; but don’t expect it to last for long

FOR years leaders in continental Europe have been told by the Americans, the British and even this newspaper that their economies are sclerotic, overregulated and too state-dominated, and that to prosper in true Anglo-Saxon style they need a dose of free-market reform. But the global economic meltdown has given them the satisfying triple whammy of exposing the risks in deregulation, giving the state a more important role and (best of all) laying low les Anglo-Saxons.

At the April G20 summit in London, France’s Nicolas Sarkozy and Germany’s Angela Merkel stood shoulder-to-shoulder to insist pointedly that this recession was not of their making. Ms Merkel has never been a particular fan of Wall Street. But the rhetorical lead has been grabbed by Mr Sarkozy. The man who once wanted to make Paris more like London now declares laissez-faire a broken system. Jean-Baptiste Colbert once again reigns in Paris. Rather than challenge dirigisme, the British and Americans are busy following it: Gordon Brown is ushering in new financial rules and higher taxes, and Barack Obama is suggesting that America could copy some things from France, to the consternation of his more conservative countrymen. Indeed, a new European pecking order has emerged, with statist France on top, corporatist Germany in the middle and poor old liberal Britain floored.

A cockpit of competing capitalisms

It is easy to dismiss this as political opportunism. But behind it sits a big debate not only about the direction of the European Union, the world’s biggest economic unit, but also about what sort of economy works best in the modern world. Thirty years after Thatcherism began to work its cruel magic in Britain (see article), continental Europe still tends to favour a larger state, higher taxes, heavier regulation of product and labour markets and a more generous social safety-net than freer-market sorts like the Iron Lady would tolerate. So what is the evidence for the continental model being better?

The continental countries certainly have not escaped the recession: France may be doing a bit better than the world’s other big rich economies this year, but Germany, dragged down by its exporting industries, is doing significantly worse. Yet Mr Obama is right to admit that in some ways continental Europe has coped well. Tough job-protection laws have slowed the rise in unemployment. Generous welfare states have protected those who are always the first to suffer in a downturn from an immediate sharp drop in their incomes and acted as part of the “automatic stabilisers” that expand budget deficits when consumer spending shrinks. In Britain, and to an even greater extent in America, people have felt more exposed.

The downturn has also confirmed that the continental model has some strengths. France has a comparatively efficient public sector, thanks in part to years of investment in better roads, more high-speed trains, nuclear energy and even the restoration of old cathedrals (see article). Nor is it just a matter of pumping in ever more taxpayers’ cash. By any measure France’s health system delivers better value for money than America’s costlier one. Germany has not just looked after its public finances more prudently than others; its export-driven model has forced its companies to hold down costs, making them competitive not only in Europe but also globally. By design as well as luck, much of continental Europe avoided the debt-fuelled housing bubbles that popped spectacularly in Britain and America (though Spain did not, see article).

But will it last? The strengths that have made parts of continental Europe relatively resilient in recession could quickly emerge as weaknesses in a recovery. For there is a price to pay for more security and greater job protection: a slowness to adjust and innovate that means, in the long run, less growth. The rules against firing that stave off sharp rises in unemployment may mean that fewer jobs are created in new industries. Those generous welfare states that preserve people’s incomes tend to blunt incentives to take new work. That large state, which helps to sustain demand in hard times, becomes a drag on dynamic new firms when growth resumes. The latest forecasts are that the United States and Britain could rebound from recession faster than most of continental Europe.

Individual countries have specific failings of their own. Even if it did everything else right, Germany’s overreliance on exports at the expense of consumer spending has proved a grave weakness in a downturn (see article); its banks also look weak. The rate of youth unemployment in France is over 20% and it can be twice as high in the notorious banlieues where Muslim populations are concentrated. Italy and Spain have seen sharp rises in unit labour costs and their labour-productivity growth has stalled or gone into reverse. It may not be long before the fickle Mr Sarkozy is re-reading his Adam Smith.

Not what you aim for, but how you do it

If there is to be an argument about which model is best, then this newspaper stands firmly on the side of the liberal Anglo-Saxon model—not least because it leaves more power in the hands of individuals rather than the state. But the truth is that the governments on both sides of the intellectual divide could go a long way to making their models work better, without changing their underlying beliefs.

On the continental side, there is nothing especially socially cohesive about labour laws that favour insiders over outsiders, or rules that make the costs of starting a business excessive. Even Colbert might admit that Europe’s tax burdens are too onerous today, particularly since they are likely to have to rise in the future to meet the looming cost of the continent’s rapidly ageing populations.

For the liberals, even if the cycle swings back in their direction, the financial crisis and the recession have shown up defects in the way they too implemented their model. Getting regulation right matters as much as freeing up markets; an efficient public sector may count as much as an efficient private one; public investment in transport, schools and health care, done well, can pay dividends. The pecking order may change, but pragmatism and efficiency will always count.

Posted by Ricardo Valenzuela at 9:17 AM 0 comments Labels: economies, Europe’s

Off their trolleys

American consumers

Off their trolleys

American consumers struggle with their debts

WHETHER it is for affordable homes or cheap goods, Americans are peering through the wreckage of the credit crunch and starting to buy again. After falling sharply in the second half of last year, consumer spending rose in the first quarter, and even sales of homes and cars have edged up from deeply depressed levels. Anticipating a rebound, shares of retail companies, especially those selling inexpensive items, have soared.

Ben Bernanke, the Federal Reserve chairman, characterised the news on consumers as “somewhat better” on Tuesday May 5th. Still, that cautious endorsement qualifies as downright ebullient compared to the gloom of a few months ago. A Fed survey of bankers, released on Monday, gave a hint of good news for consumers; though banks are still tightening standards on consumer loans, fewer of them are doing so than three months before. Meanwhile, there has been a long-overdue flurry of activity in the Fed’s programme for restarting the securitisation market. On Tuesday it supported the issuance of $10.6 billion of securities backed by student, auto, credit-card, small-business and equipment loans.

But do not mistake a bottom for a vigorous rebound. Consumption may be growing again, but there is every chance it will remain depressed in coming years because of weak income growth, depleted wealth, and tightened credit. Since the early 1980s, spending by households on goods, services and homes has grown faster than GDP, making it the locomotive of American—and global—expansion. By 2006, it accounted for 76% of nominal GDP, the highest since quarterly data begin in 1947.

This was accompanied by a steady decline in the personal saving rate and a rise in household debt relative to income. By itself, this was not a problem; household debt has risen relative to income since the 1950s, as a growing share of the population bought homes with mortgages. Despite the higher debt burden, falling interest rates kept total household financial obligations—interest payments, rent, and leases—range-bound during the 1980s and 1990s.

An inflection point occurred around 2000. Income growth stagnated but debts continued to grow rapidly from 94% of income to 132% in 2007. The share of income devoted to servicing those obligations also jumped. A study in 2007 by Karen Dynan and Donald Kohn of the Federal Reserve attributed that partly to more of the population reaching home-buying age, and mostly to a rise in home prices which made it possible to borrow more.

Financial innovation also played a role, they say, as the industry devised new ways for Americans to borrow against their homes. One manifestation was the plethora of credit-card offers to even marginal borrowers: more than 8 billion poured through Americans’ mailboxes in 2006, according to Mintel Comperemedia, a consumer-research firm. From 2003 to the end of 2006, consumers borrowed almost $2 trillion against their properties via home-equity loans and “cash-out” mortgage refinancings. A dramatic reversal is now under way. Last year, household wealth fell by 18%, or by $11 trillion. Macroeconomic Advisers, a forecasting firm, estimates the resulting negative “wealth effect” will depress consumption by 2% this year.

The financial crisis has killed off many of the loan products that had expanded access to credit during the boom. Subprime mortgages have disappeared and refinancings that deliver cash to homeowners are subject to stricter underwriting standards and higher fees. In the first quarter, the credit-card industry sent out just one-quarter as many solicitations as it did a year earlier.

A more enduring restraint will be the pressure on consumers to reduce their debts to more manageable levels relative both to income and to the much lower value of their homes. This effect is difficult to quantify since so many factors determine consumers’ preferred saving rate and level of debt: assets, retirement goals, expected income, risk tolerance, access to credit, age, and so on. Some bearish analysts argue that debt ratios and saving rates have to return to their levels of the 1950s, but others argue it would be sufficient to return to their levels of 2000 for households to feel comfortable with their debts again.

This process, known as deleveraging, requires consumption to grow more slowly than income in coming years. The longer it takes for debt to return to more sustainable levels, the more it can occur through rising incomes. A sudden rush to return debt ratios to their level of 2000 would require ridding households of some $3 trillion in mortgage debt—an impossible task. More likely, mortgage debt will grow more slowly than income through a combination of lenders writing off impaired loans, homeowners paying down existing mortgages, and new homeowners taking out smaller mortgages than in the past. Bruce Kasman of JPMorgan Chase estimates that the most dramatic phase of rising saving has already occurred and spending will grow only a bit less income.

But Martin Barnes of BCA Research, a financial-forecasting service, is more pessimistic. For debt to return to a more sustainable level, real consumer spending would grow just 1.3% a year from 2009 to 2013, the weakest such five-year stretch since the 1930s. It could grow even more slowly if taxes rise more quickly, he reckons, or if stagnant productivity impedes real income growth.

This implies that for America to grow at a trend rate of about 2.5% something else will have to grow more quickly. Ideally that would be exports and investment. But given the torpor in the rest of the world that will not be easy.

Posted by Ricardo Valenzuela at 9:09 AM 0 comments Labels: Off, their trolleys

Day Ahead: Markets Up Ahead of Busy Day

Posted by Ricardo Valenzuela at 9:03 AM 0 comments Labels: Busy Day, Day Ahead: Markets

The ACLU Explains

Two Senators warn about releasing abuse photos.

Is embarrassing the military and the Bush Administration worth jeopardizing U.S. interests, or perhaps even the lives of American soldiers?

We ask because we are being taken to task by the American Civil Liberties Union for opposing the Obama Administration’s decision to release photographs collected as part of a military probe into prisoner abuse. In a letter published nearby, ACLU lawyers Jameel Jaffer and Amrit Singh write that our objections to the release are “disturbing, particularly because [they come] from a news organization.” Apparently, their idea of “all the news that’s fit to print” is, well, anything.

But that isn’t this newspaper’s motto. And even today, media organizations understand some news really isn’t fit to print, particularly the kind that puts lives in jeopardy. Some also understand that especially in war there are such things as legitimate government secrets, which serve the public interest precisely because they are secret.

In this case, it is difficult to see what public interest is served by the release of the photos. Mr. Jaffer and Ms. Singh claim they will allow the public to judge for itself whether the Bush Administration was telling the truth when it claimed the prisoner abuse “was aberrational and that it occurred in spite of policy.” But how exactly does releasing photos that depict only the abuse explain whether the abuse was aberrational or not?

On the contrary — and as with the case of Abu Ghraib — the chief effect of the photo dump, which will surely overwhelm front pages and Arab Web sites, will be to make every instance of abuse seem the norm. The fact that the photos are the product of investigations into accusations of abuse, and that our military punishes proven cases, will be a journalistic footnote.

The ACLU lawyers seem to think we object to this because it “will generate outrage against Americans.” But that’s not our objection. The real problem with releasing these photos begins with the likelihood that they will extract a toll on vital American interests, like getting better cooperation from Pakistan in the fight against the Taliban. More seriously, it also includes the possibility that they will extract a toll in American lives.

We’re not the only ones who worry about this. Yesterday, Senators Lindsey Graham of South Carolina and Joe Lieberman of Connecticut wrote a letter to President Obama urging him to “[pursue] all legal options to prevent the public disclosure of these pictures,” including if need be an appeal of lower court decisions to the Supreme Court.

“We know that many terrorists captured in Iraq have told American interrogators that one of the reasons they decided to join the violent jihadist war against America was what they saw on al-Qaeda videos of abuse of detainees at Abu Ghraib,” the Senators wrote. “Releasing these old photographs of detainee treatment will provide new fodder to al-Qaeda’s propaganda and recruitment operations, undercut the progress you have made in our international relations, and endanger America’s military and diplomatic personnel throughout the world.”

If the courts eventually order the release of the photos, so be it. Then the burden of the consequences will rest with the ACLU. But President Obama and the Pentagon should do whatever they can to postpone a day that will only help our enemies.

Posted by Ricardo Valenzuela at 9:01 AM 0 comments Labels: Explains, The ACLU

Regulation Didn’t Save Canada’s Banks

Our neighbors to the north keep government out of lending decisions.

MARIE-JOSéE KRAVIS

Canada’s five largest banks would pass the U.S. government stress test brilliantly. They were profitable in the last quarter of 2008, are well capitalized now, and have had no problems raising additional private capital. On average only 7% of their mortgage portfolios consisted of subprime loans (versus 20% in the U.S.). And no major Canadian bank has required direct government infusions of capital.

Advocates of increased regulation of U.S. financial markets have concluded that more stringent rules governing leverage and capital ratios account for Canada’s impressive performance. They champion such measures here. In a Toronto speech earlier this year about reforming the U.S. banking system, former Fed chairman and Obama administration adviser Paul Volcker said the model he is considering “looks more like the Canadian system than it does the American system.”

Nevertheless, Canadian banks operate in a very different context. Copying the Canadian banking system in this country, without understanding how its banking and housing sectors operate, would be a mistake.

Start with the housing sector. Canadian banks are not compelled by laws such as our Community Reinvestment Act to lend to less creditworthy borrowers. Nor does Canada have agencies like Fannie Mae and Freddie Mac promoting “affordable housing” through guarantees or purchases of high-risk and securitized loans. With fewer incentives to sell off their mortgage loans, Canadian banks held a larger share of them on their balance sheets. Bank-held mortgages tend to perform more soundly than securitized ones.

In the U.S., Federal Housing Administration programs allowed mortgages with only a 3% down payment, while the Federal Home Loan Bank provided multiple subsidies to finance borrowing. In Canada, if a down payment is less than 20% of the value of a home, the mortgage holder must purchase mortgage insurance. Mortgage interest is not tax deductible.

The differences do not end there. A homeowner in the U.S. can simply walk away from his loan if the balance on his mortgage exceeds the value of his house. The lender has no recourse except to take the house in satisfaction of the debt. Canadian mortgage holders are held strictly responsible for their home loans and banks can launch claims against their other assets.

And yet Canada’s homeownership rate equals that in the U.S. (Both fluctuate, in the mid to high 60% range.)

For obvious political reasons, debate in Washington spotlights the need for future financial regulation while glossing over the role of government housing and other regulatory policies in the current crisis. This is dangerous: Without a thorough review of relevant government housing policies, laws and regulations, layering new reforms on top of our current system may only set the stage for another housing crisis in the future.

In response to the current crisis the Canadian government has thus far bought about $55 billion (Canadian) of insured loans from financial institutions (a substantial sum, given that Canada’s economy is one-tenth the size of the U.S. economy). It has also played a central role supporting the availability of credit and removing potentially distressed assets from bank balance sheets. Still, these interventions have not arrested a substantial slump in Canadian GDP. Last week the Bank of Canada announced that first quarter 2009 GDP had fallen 7.3%. Bank of Canada Governor Mark Carney (Canada’s Ben Bernanke) explained the sharp slowdown in growth: “[I]f we had to boil it down to one issue, it is the slowness with which other G-7 countries have dealt with the problems in their banks.”

When it comes to comparing the track record of the U.S. and Canadian banking systems, it is worth noting that Canada’s regulations did not prohibit the sale or purchase of asset-backed securities. Early in this decade, Canada’s Toronto-Dominion bank was among the world’s top 10 holders of securitized assets. The decision to exit these products four to five years ago, Toronto-Dominion’s CEO Ed Clarke told me, was simple: “They became too complex. If I cannot hold them for my mother-in-law, I cannot hold them for my clients.” No regulator can compete with this standard.

Tighter leverage limits in Canada may have dimmed the incentives for its banks to pursue securitization as brashly as their American counterparts. But regulations cannot take all the credit. Even with leverage ratios held on average at 18 to 1 (versus 26 to 1 for U.S. commercial banks and up to 40 to 1 for U.S. investment banks), Canadian banks would not be as healthy as they are had they not disposed of their more problematic securitized assets four to five years ago. Nothing in Canada’s regulations banned risk-taking. Good, prudent management prevented excess.

Those who blame financial deregulation for the breakdown of U.S. markets should note that Canada shed its version of Glass-Steagall more than 20 years ago. Major banks thereafter rapidly bought and absorbed investment banks.

At that time, Canada established the Office of the Superintendent of Financial Institutions (OSFI) to provide common, consistent and more centralized regulation for federally regulated banks, insurance companies and pension funds. To this day OSFI is almost obsessively concerned with risk management, leaving social and economic objectives, such as access to affordable housing and diversity, to institutions better-suited to attain those goals.

Those desirous of importing Canadian banking regulations to the U.S. should first delve more deeply into the actual practices of our northern neighbor’s housing and financial system. Choosing selectively often leads to choosing poorly.

Ms. Kravis is a fellow at the Hudson institute.

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J00000012UTC 24, 2008 by chero

The Chicago Way, on Tape

This wiretap was golden.

The list of crooked politicians is long, and the list of stupid politicians even longer. But if the criminal allegations made yesterday against Illinois Governor Rod Blagojevich are proven in court, rarely will a politician have combined the two qualities with such efflorescence.

Rod Blagojevich.

The second-term Democrat knew that a grand jury probe was under way into corruption in Illinois politics, and that one of his fund raisers, Tony Rezko, had been convicted and is cooperating with prosecutors. Yet according to those prosecutors, Mr. Blagojevich talked openly in recent weeks about selling a U.S. Senate seat, trading government favors for campaign cash, and punishing the owner of the Chicago Tribune if it didn’t fire members of the newspaper’s editorial board.

The Governor’s comments were taped in court-approved wiretaps and include such self-incriminating classics as: “I’ve got this thing [the power to appoint Barack Obama's Senate replacement] and it’s [expletive] golden, and, uh, uh, I’m just not giving it up for [expletive] nothing. I’m not gonna do it. And, and I can always use it. I can parachute me there.” We recommend the entire 76-page FBI affidavit for every high school civics course as proof of the need for political checks and balances.

If convicted, Mr. Blagojevich would be the second consecutive Illinois Governor to be found guilty of a felony, and the fourth in 35 years. We’d ask if it’s something in the water, but that would be unfair to the Chicago River. It is certainly something in the Chicago political culture, where money and government power seem especially fungible.

Among the remarkable facts of the recent Presidential election is that Barack Obama emerged from this political culture virtually untainted — and with Chicago’s political mores all but unexamined by the press. Prosecutor Patrick Fitzgerald said yesterday there is no evidence that Mr. Obama knew about the Governor’s allegedly crooked ambitions. However, as a Chicago-area pol himself, Mr. Obama did help Mr. Blagojevich plot his first statehouse victory in 2002.

Now would be a good time for the President-elect to say that Mr. Blagojevich and his cronies should have nothing to do with naming Mr. Obama’s successor. And that, given the taint of corruption that now hangs over any choice, the state should hold a special Senate election.

Rod Blagojevich, the governor of Illinois, is arrested | The Chicago way | The Economist

Government Intervention and Market Volatility – Benjamin Weingarten

Tuesday, December 9, 2008

White House ‘agrees’ car bail-out

Any deal would still have to be passed by Congress

The White House and leading congressional Democrats have reached agreement on a $15bn (£10bn) bail-out for the “Big Three” US car firms.

Administration officials say the tentative agreement covers key points but details still need clarification.

General Motors and Chrysler say they risk ruin without the aid, while Ford says it may need funds in the future.

US President George W Bush is said to want strict conditions attached to any agreement to bail out the firms.

He is said to be seeking tough oversight for the three car-makers to ensure that the money is accompanied by sound financial recovery plans.

This follows criticism that the $700bn bail-out of the financial sector was insufficiently detailed.

‘Car Tsar’

Despite the continuing disagreements, analysts expect a deal to be agreed before the end of the week.

From left, GM's Richard Wagoner, Chrysler's Robert Nardelli, and Ford's Alan Mulally

The bosses of Ford, GM and Chrysler had been seeking more money

However, this would then have to be passed by both houses of Congress, before being finally signed off by Mr Bush.

And with the Democrats only having a majority of one in the current lame-duck Senate, some analysts say the bill may struggle to get through without extensive amendment.

“We want to complete this as soon as possible,” said Harry Reid, Democratic majority leader in the Senate.

“The American people want us to make a decision.”

Under the proposal, the government is expected to take non-voting shares in General Motors, Ford and Chrysler.

Also expected is the appointment of a “Car Tsar” to oversee the money.

The three firms had been calling for $25bn between them, and their bosses recently went before Congress to push their case.

‘Disappointed’

GM, Ford and Chrysler have all seen sales fall sharply this year in their home market.

While this decline reflects an industry-wide fall that has also hit European and Japanese carmakers in the US, the “Big Three” have also been criticised for offering too narrow a range of vehicles.

They have been said to be too slow in responding to the growing popularity of smaller, more fuel-efficient vehicles.

GM admitted on Monday that it had “disappointed” American consumers by letting “our quality fall below industry standards and our designs became lacklustre”.

The eurozone depends on a strong US recovery

By Martin Wolf

I think of it as an “oops” moment: the US goes into a recession; Europeans believe this deserved punishment has little to do with them; the European economy slows unexpectedly; the US throws everything at restoring growth; finally, the US recovers, pulling Europe behind it.

Yet this is not just a slow-down. It is also a financial crisis. What if the solvency of a eurozone member came into doubt? After all, spreads over rates on German bunds and the prices of credit default swaps have risen already, the most affected countries being Belgium, Greece, Ireland, Italy, Portugal and Spain (see charts).

Eurozone members are like local governments. If they were unable to refinance their debt, they would be forced to default or need outside rescue. True, even the Greek spread of 165 basis points does not imply a high probability of default. The actual rate of interest – 4.7 per cent – is not unmanageable either. Yet markets can shift at great speed. It is possible to imagine a “sudden stop” on higher-risk sovereign bonds. That would force the debt to become short term – a classic route to a crisis.

The apparent elimination of exchange-rate risk did not eliminate risk itself. Inside the eurozone, inflation and exchange-rate risks become credit risk, instead.

So what determines sovereign credit risk? The traditional European approach focuses only on visible fiscal deficits and debt. This is far too limited. That is not only because it ignores contingent public debt. It is even more because it ignores the national balance sheet and so the close links between private and public sector balance sheets. It also ignores the balance of payments. It is often said that the current account does not matter in a currency union. This is true: an exchange rate crisis is impossible. But it is also false: a credit crisis may happen instead.

If a country runs a current account deficit, residents must be selling financial claims to foreigners. If private parties are the sellers of claims, foreign suppliers of funds must believe in their solvency. If the public sector is the seller, suppliers must believe the same thing.

When the domestic counterpart of the external deficit is a private sector deficit, it is frequently a boom in the supply of non-tradeable services that drives the economy. Property bubbles are a part of this story – very much so in the recent cases of Ireland and Spain (and also in the US and UK).

So what happens if this boom collapses? The supply of creditworthy private issuers of financial claims shrinks and capital inflows become more expensive or more restricted. Three things will then happen: first, the economy will slow; second, the external deficit will shrink; and, third, the fiscal deficit will rise. The more determined any offsetting fiscal action, the smaller the shrinkage in the current account deficit and slow-down in the economy will be.

If a country has relatively weak international competitiveness, an inflexible labour market and an irrevocably fixed exchange rate, the end of the property boom will reduce domestic demand, without generating a significant offsetting expansion in net exports. The fiscal deterioration is then likely to be large and sustained.

Thus, as the private sector deficit moves into surplus, the public sector moves in the opposite direction. Ireland’s is a dramatic case: according to the Organisation for Economic Co-operation and Development’s latest Economic Outlook, the general government fiscal deficit will move from a surplus of 3 per cent of gross domestic product to a deficit of 7.1 per cent just between 2006 and 2009.

Spain’s fiscal deficit is forecast to move from a surplus of 2 per cent to a deficit of 2.9 per cent over the same period. Yet Spain still runs a large current account deficit (see chart). So the private sector also runs a sizeable deficit, forecast at 4.5 per cent of GDP in 2009. If that were to shrink faster than expected, very likely in today’s circumstances, the slowdown in the economy and jump in the fiscal deficit would be even bigger.

Other eurozone members running big current account and private sector financial deficits are Greece and Portugal. Meanwhile, Italy, Belgium and Greece have high public sector indebtedness. These six, then, are the vulnerable countries, with Greece much the most vulnerable.

So how likely is a fiscal crisis? The answer is that it depends on the length and depth of the eurozone’s recession, a member’s initial public debt position, the credibility of its fiscal authorities, its difficulty in achieving improvement in external competitiveness and, not least, on whether a crisis happens in any of these countries. Panic is contagious.

The decision by the European Central Bank to cut rates by 0.75 percentage points last week is at least recognition of the danger, though surely far too little far too late. But it is impossible to escape from the central problem: the characteristics of Germany as the eurozone’s anchor economy. For the problem of the eurozone is not just that it is an assemblage of countries, but that its most important country has such distinct features.

What are Germany’s characteristics? It has an overwhelmingly competitive manufacturing sector; it is a chronic surplus country, with structurally weak domestic demand (ameliorated briefly during unification); and it has managed to avoid any housing or domestic credit booms. Its elite appears indifferent to the country’s rate of economic growth, even in the medium term; it is obsessed with the dangers of inflation; and it believes that countries that spend more than their incomes are somewhat immoral.

Germans claim, with reason, that their country is a pillar of rectitude. But it can be hard for ordinary countries to live with such rectitude. Of course, the rest of the eurozone has chosen this option. But countries with structural surpluses, such as Germany, compel their partners to run the deficits Germans despise. In present circumstances, those deficits are evidently deflationary and could lead to waves of private, or even public sector, defaults.

Yet, would a member’s government be allowed to default? Or would there be a rescue and if so, by whom and at what price? It is conceivable that the world will find out. Maybe, fiscal federalism will be the outcome. But it might be much messier. Some countries might be badly damaged.

Yet a robust recovery would eliminate this danger. If it does arrive, there is no doubt where it will come from – not from Germany’s actions to sustain domestic demand, but from profligate “Anglo-Saxons”. Once again, Europeans will enjoy condemning the US for its hedonism, while taking full advantage of it – the customary “win-win” strategy for all.

American carmakers

A deal for Detroit?

Congress appears poised to agree upon a temporary bail-out for troubled American carmakers

THERE are two ways of fixing a broken-down car. A nut-and-bolt restoration of the whole vehicle would return it to top condition, whereas a patch-up of the worst problems might keep it on the road. Late on Monday December 8th congressional Democrats agreed in principle to opt for the latter fix, putting off big repairs, but making available $15 billion in emergency loans in exchange for some shares in the companies. It is unclear, however, whether the Bush administration will support the deal.

Car bosses have spent as much time in Washington, DC, as they have in Detroit of late, trying to convince lawmakers of the urgent need for cash to keep their industry alive. And they learned a little about politics along the way. A first visit to hold out the begging bowl was ill-received, not least because the beggars whizzed in on corporate jets. For the second round of congressional investigation they opted to drive in green vehicles. That piece of belated PR and the prospect that General Motors and Chrysler could go bust before the year ends prompted lawmakers to dip into a previously approved fund which is intended to help carmakers build more fuel-efficient vehicles.Detroit’s “Big Three” have not had it all their way. Between them they had asked for a $34 billion bail-out (in addition to the $25 billion fund to make their cars greener). And such is the plight of GM and Chrysler that Ford, in better shape than its rivals, seemed modest in its request merely for a $9 billion emergency credit line. Given the precarious cash position of Chrysler and GM the money will only help them to splutter and bang into the early days of the Obama presidency.

The intention of the Democrats’ draft legislation is to keep the carmakers solvent until March. By the end of that month they must submit detailed plans for turning themselves into leaner firms that produce the hybrid and electric vehicles that lawmakers assume Americans will want to buy. These plans will be overseen by a “car tsar”, who can demand the cash back if the carmakers fail to deliver the green reorganisation demanded. He will also have some power to knock heads together by convening meetings if the carmakers, union leaders, parts suppliers or shareholders stand in the way of the cost cutting and restructuring. And as part of the deal those private jets must go.

Sceptics will point out that it is most unlikely that the American car industry will fundamentally remake itself within four months, at a time of immense stress. The slow motion car crash that is Detroit has played out over several years. Ever-declining market share, to the benefit of foreign and non-union transplant manufacturers in America, has been met with foot dragging. The firms have struggled to design new models that would satisfy the changing taste of car buyers who began, at least when the price of fuel spiked this year, to care more about miles per gallon than cubic capacity of vast engines. Another difficulty is that union bosses have been slow to make concessions over benefits for workers and pensioners, although a deal struck in 2007 was a step in the right direction.

Perhaps now the unions can be persuaded to take further steps. And maybe the car companies can look to their European arms (where high taxes on fuel have long encouraged more efficient models) and bring smaller, less thirsty, cars in to their line-ups. But it seems unlikely that a complete remodelling will be possible by the end of March. Enormous doubt hangs over a scheme that at its core reckons that government direction can succeed where the forces of the market have failed.

And though investors have reacted with enthusiasm to the likelihood that Detroit will be thrown a lifeline when Congress votes on the matter, Mr Obama should be worried. Sales that were already plunging have fallen ever more rapidly as it has seemed that one or more of the car giants might go bust. That same threat still hangs over the car-buying public but has been extended until March. Who knows what dire straits the car firms will find themselves in by then? Mr Obama, who reckons that the Big Three are too big to fail, will have to dig deeper and deeper into the public purse just to keep Detroit running.

Riots in Greece

Anarchy in Athens

Riots in Greece put pressure on the government of Costas Karamanlis

GREECE prides itself on the robust quality of its democracy. Despite frustration at the number of traffic-choking demonstrations outside parliament every year—the reported average is two a week—politicians stress that modern Greeks’ enthusiasm for protesting underlines continuity with the golden age of ancient Athens.

Some demonstrations turn violent. Several times a year a group of hooded young men, who style themselves as “anarchists”, bring up the rear of a march. They carry metal bars and petrol bombs and ritual clashes with riot police ensue. Shop windows are smashed and tear gas fills Syntagma Square outside parliament for a few hours.

This week violence erupted on an unprecedented scale after Alexandros Grigoropoulos, a 15-year-old schoolboy, was shot dead by a policeman in Exarchia, a scruffy central district known as the anarchists’ home base, on Saturday December 6th. Shouting insults at passing patrol cars is a Saturday-night ritual for some young Athenians. But the last time police killed a teenager was in 1985. This time protests quickly spilled into main boulevards as anarchists torched cars, broke windows of shops decorated for Christmas and tossed petrol bombs inside. Beyond Athens demonstrators attacked police stations and government offices in a dozen cities.

By the evening of Tuesday, after four days of rioting, a respite still seemed far off. Hundreds of high-school students battled police after the teenager’s funeral in the Faliron suburb, while other protesters threw rocks at those on guard outside parliament. Appeals for calm by Costas Karamanlis, the Conservative prime minister, were ignored. Talks have failed between political leaders who were seeking a consensus to quell the unrest. George Papandreou, the Socialist opposition leader, has told Mr Karamanlis to resign and call a general election. “Effectively there is no government…we claim power,” he said.

Mr Karamanlis looks vulnerable. His New Democracy party controls just 151 seats in the 300-member parliament and trails by 4-5 percentage points in opinion polls. The prime minister’s personal approval rating has stayed ahead of Mr Papandreou’s, but if civil disorder continues for much longer that will probably slide too. Retailers and families that run small businesses are the backbone of support for the Conservatives and they are furious over the failure of police to protect their property. Worse, the latest upheaval comes on top of anger directed towards the government over a series of financial scandals. While demonstrators rampaged outside, a parliamentary committee was hearing evidence this week about an illegal exchange of land by Vatopedi monastery on Mount Athos. Senior cabinet ministers are alleged to have swindled taxpayers out of an estimated 100m euros ($Xm) while lining their own pockets.

Mr Karamanlis’s biggest mistake has been to ignore social reform, in particular of education, health and policing. As the global economic slowdown starts to have an impact on the country young Greeks see their parents struggling to pay bills. If one cannot afford to study abroad, a Greek university offers poor quality tuition and, unless one’s family can pull strings, few opportunities for getting a job afterwards. The unemployment rate for young graduates is 21%, compared with 8% for the whole workforce.

Weak policing has allowed the anarchists to flourish in Exarchia, which has become a haven for drug dealers and racketeers. Protesters have also exploited a constitutional loophole that bans police from entering a university campus. In the past few days demonstrators have regrouped behind barricades at the Athens Polytechnic and picked up fresh supplies of petrol bombs before venturing back on the streets.

Mr Karamanlis’s attempts to abolish “university asylum” two years ago failed because he could not attract the cross-party support needed to change the constitution. Another set of educational reforms collapsed because a majority of academics refused to raise teaching standards and submit themselves to peer reviews. As the demonstrators rampage through laboratories and lecture rooms, the professors, like the politicians, must wish that they had tried harder.

Stimulus Shouldn’t Be an Excuse for Pork

The nation’s mayors have presented a revealing wish list to Washington.

ROBERT POOLE

Dictionary.com defines infrastructure as “the fundamental facilities and systems serving a country, city, or area.” The nation’s mayors define it a bit differently.

David Gothard

On Monday, the U.S. Conference of Mayors went to Capitol Hill to ask for a handout, or as they put it: “We are reporting that in 427 cities of all sizes in all regions of the country, a total of 11,391 infrastructure projects are ‘ready to go.’ These projects represent an infrastructure investment of $73,163,299,303 that would be capable of producing an estimated 847,641 jobs in 2009 and 2010.”

A wish list that is 11,391 projects strong! What vital infrastructure projects would cash-strapped taxpayers get for their $73 billion? Here’s a sampling:

- Hercules, Calif., wants $2.5 million in hard-earned taxpayer money for a “Waterfront Duck Pond Park,” and another $200,000 for a dog park.

- Euless, Texas, wants $15 million for the Midway Park Family Life Center, which, you’ll be glad to note, includes both a senior center and aquatic facility.

- Natchez, Miss., “needs” a new $9.5 million sports complex “which would allow our city to host major regional and national sports tournaments.”

- Henderson, Nev., is asking for $20 million to help “develop a 60 acre multi-use sports field complex.”

- Brigham City, Utah, wants $15 million for a sports park.

- Arlington, Texas, needs $4 million to expand its tennis center.

- Miami, Fla., needs $15 million for a “Moore Park Community Center, Tennis Center and Day Care” facility. The city is also desperate for $3.6 million to build a covered basketball court and a new tennis court at Robert King High Park. Then there’s the $94 million Orange Bowl parking garage you are being asked to pay for.

- La Porte, Texas, wants $7.6 million for a “Life Style Center.” And Oakland, Calif., needs $1 million for Fruitvale Latino Cultural and Performing Arts Center.

And you thought infrastructure investment meant roads, bridges and schools. It is clear that any infrastructure stimulus money given to the country’s mayors will lead to thousands of tennis centers to nowhere. News alert for mayors: We are officially in a recession. American families have to get by with less, and so do American cities.

The country does indeed need to invest in critical infrastructure. We have a backlog of deferred maintenance on both highways and bridges. According to Reason Foundation’s Annual Highway Report, 24% of U.S. bridges were reported structurally deficient or functionally obsolete in 2006. At the current rate of repair it will take 62 years for those bridges to be brought up to date. But it won’t take six decades to fix them because the government doesn’t have the money; it will take that long because our political leaders don’t prioritize. Too often they choose ribbon-cutting ceremonies at sports complexes over repairing bridges.

The current centralized process of parceling out infrastructure and gas-tax money does not invest resources wisely, and “stimulus” handouts would be even more wasteful. Consider how the Los Angeles area is spending its transportation money. A 2006 study by University of North Carolina at Charlotte Prof. David Hartgen found that in Los Angeles less than 5% of the area’s workers use public transit to commute, yet over 50% (nearly $67 billion) of the area’s long-range plan (to the year 2030) money will be spent on transit projects. Planners admit the cash going towards those transit projects won’t significantly increase transit’s share of commuters, which means over half the spending won’t do anything to reduce the region’s infamous traffic jams, which drain the economy and hurt businesses.

Hartgen’s study showed we could eliminate severe congestion in all of the nation’s urban areas for $21 billion a year — less than we are spending on transportation today, and $52 billion less than the mayors just asked for. And by investing in the right projects we’d save 7.7 billion hours each year.

Reducing traffic congestion, which costs Americans well over $63 billion a year in wasted time and fuel, should be a primary criterion for any transportation project that is funded. Our economy depends on it.

Today, over 80% of all goods (by value) in this country are shipped by truck. Time is money. A national network of truck-only toll lanes would enable truckers to carry more goods, faster. In our 21st century economy, spurred by companies like Amazon.com, Apple and FedEx, truck lanes would do more for the economy than any cultural or aquatic center. And, perhaps most notably, taxpayers wouldn’t have to foot the bill alone. The private sector would pay to build the truck lanes in many major urban areas, recouping their money by charging tolls.

There is good evidence that well-targeted additions of capacity to congested urban freeway systems and truck-heavy interstate corridors would not merely have benefits greater than costs but could achieve commercial rates of return.

Right now the stock market is experiencing a flight to quality, as investors look for the best-run, most stable companies. Involving the private sector in infrastructure funding would induce a similar shift in our transportation investments.

Secretary of Transportation Mary Peters says there is over $400 billion in private capital available for high-priority U.S. infrastructure projects. That sum, if properly spent on the most-needed transportation projects, would transform our roads, transit systems and airports into a 21st century transportation network that would unleash the economy.

We can be sure the private sector won’t pay for everything on the mayors’ Christmas lists though. Since neither a massive subway system nor high-speed train system even exist in Northern California, investors will probably pass on the $200 million high-speed train station that San Francisco hails as “the Grand Central Station of the West Coast” in its ready-to-go list.

It was very nice of the country’s mayors to hand taxpayers a wish list worth $73 billion. But before taxpayers give them a dime, let’s see the mayors rank those 11,391 goodies — I mean “infrastructure” projects — based on effectiveness and potential return on investment for taxpayers.

Mr. Poole is founder and director of transportation at Reason Foundation (www.reason.org) where he has advised the last four presidential administrations on transportation issues.

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DECEMBER 9, 2008

J00000012UTC 24, 2008 by chero

Free lunches always leave a bad taste

by Tim Harford

It may seem easy to give things away, but it is not. The more attractive the gift, the more damage people will do to themselves, and each other, trying to get hold of it.
If that idea seems counterintuitive, it is nevertheless true, as the managers of Ikea, the furniture giant, can testify. They opened a new London store recently, offering opening night discounts of nearly 90 per cent on a limited number of leather sofas. The store closed 40 minutes later after 6,000 people tried to force their way through the doors; several had to be taken to hospital.
The press immediately blamed either the boorish stupidity of the British public or the hypnotic influence of the wily Swedes. But the ill-tempered scenes are not unique to Britain: at the grand opening of Jeddah’s Ikea last summer, two people died in the crowds queuing to get hold of $150 vouchers. Nor are these incidents the result of some quasi-religious shopping frenzy. The curse of the free lunch is at work.
If I were to announce that next Tuesday I would stand in Times Square handing out $100 notes, the result would be pure social waste, even if New Yorkers inexplicably decided to form an orderly queue. That queue would get longer and longer until latecomers decided that it was not worth camping out all night to get $100.
The man at the back of the queue would be spending $99 worth of his time to get hold of $100. In other words, it would cost me $100 to give this man a net gain of $1 – and on top of that I would have to worry about potential casualties. If instead I were to hand out $200 to each expectant New Yorker instead, the problem would get worse, not better.
This scenario may seem far-fetched, but the world is full of attempts to give money away. For obvious reasons, the generous donors are usually not companies such as Ikea, but governments.
Many of us are involved in a situation analogous to the queue in Times Square twice a day, when we commute. Almost everywhere, governments have decided that roads should be free or heavily subsidised – much like a leather sofa on opening night at Ikea. Since everybody gets to use a valuable product for free, the resulting congestion and road rage should hardly come as a surprise. The “free” roads of the big cities of every developed country in the world are choked with cars, and bumper-to-bumper traffic is already a problem in many cities in the developing world.
London is a partial exception, after Transport for London, the government agency in charge, decided to stop the free lunches. With rather more wisdom than the management of Ikea, it levied a “congestion charge” of £5 on any driver wishing to cross central London. In doing so, TfL demonstrated the inefficiency of road use up to that point: although traffic levels only fell by 15 per cent, delays caused by congestion decreased by nearly one-third.
Motorists are not the only ones suffering from the curse of the free lunch. It also torments parents trying to place their children in the limited number of high-quality “free” schools. They pay for the right to attend those particular schools not by having to queue, but through the housing market: the better the local school, the higher the property values. At least these payments, unlike the cost of queues or traffic congestion, are transfers from buyer to seller rather than pure waste. Yet it would be more sensible if the money were spent on better schools instead.
Government policies to subsidise important services such as roads and education usually make no more sense than Ikea inadvertently organising an opening-night riot. Sometimes the benefits are dispersed by overcrowding, as happens in the case of the roads. In other cases, as with education, the benefits are simply misdirected, going not to poor parents but to homeowners selling property close to good schools.
This is not to say that subsidies must be abolished. With real political leadership, it is possible to direct them fairly accurately at the poor. In many instances, the right way to do this would be for the government to let competing companies charge what the market will bear, and give cash or vouchers only to those who cannot afford the fees. Such schemes are transparent and trust the poor to make their own decisions; political elites therefore view them with suspicion. The free lunch remains popular, partly because it can be aimed at favoured constituencies, and partly because queues are simply seen as a sign that we need more subsidies for more roads and more schools, not fewer. It is time we started paying our own bills.

Is unemployment benefit a good thing after all?

By Tim Harford

In balancing these two effects, it’s hardly surprising that different societies have adopted very different systems. According to the Organisation for Economic Co-operation and Development, member governments spent an average of 0.75 per cent of gross domestic product on unemployment benefits in 2006. France spent nearly twice this sum, and Germany almost three times as much, while the US spent a third of the average, and the UK just over a quarter. Germany spent more than 10 times as much as the UK, relative to GDP.

Paying people to stay out of work is an example of that increasingly familiar phenomenon, “moral hazard”, but moral hazard can be more fearsome in the theorist’s imagination than it is in reality. Does unemployment benefit really encourage people to duck work? Unfortunately, the evidence suggests that it does: increases in benefits have repeatedly been linked with longer periods between jobs.

But new research from Raj Chetty, a young Berkeley economist, suggests that moral hazard may not be why more generous benefits seem to lead to more unemployment. Chetty realised that unemployment benefit does not merely pay people to stay out of work; it also protects them from having to rush into an unsuitable job. It is nothing to celebrate if unemployed engineers cannot afford to spend three months finding a job for which they are qualified, but are forced to work as estate agents to put food on the table. A longer gap between jobs is sometimes preferable.

This is an interesting theory, but distinguishing between moral hazard and the effect of having some cash to hand is tough. Chetty looked at sharp breaks in the unemployment insurance rules in the US, comparing one state’s rules with another’s, or examining moments when the rules changed. One suggestive finding is that when unemployment insurance becomes more generous, not everybody lingers on benefits. The median job-loser in the US has $200 when he loses his job and is unlikely to be able to borrow much, but some people have plenty of money in the bank when they find themselves unemployed. Chetty found that those with savings do not take any longer to find a job when paid more generous benefits, while those with little in the kitty when they lose their jobs do. This suggests that those without their own cash reserves are using unemployment benefits to buy themselves time to find the right job.

Of course, there may be many differences between people with savings and those without, so this merely suggests that Chetty is on to something. But there are other clues – for instance, Chetty and two colleagues looked at the system in Austria, where severance pay is due to anyone employed for more than three years. By looking at – for example – a factory closure in which lots of staff are fired simultaneously, they could treat severance pay almost as a randomised experiment. Those lucky enough to get severance pay spent more time looking for a new job, despite the fact that severance pay provides no direct incentive to stay out of work.

Unemployment benefit does encourage unemployment in the short term; but that may be no bad thing.

Daddy, Where Do Jobs Come From?

Jobs, it seems is becoming a very important issue as we seemed to have shed 5 million of them recently and are on the precipice of the worst recession since 1929. But fear not, for our president elect has a plan and it’s quite simple;

“More jobs.”

Yes, that’s about it, we’ll just “create” more jobs.

Now 3^rd grade logic would tell you something is wrong. You can’t put your finger on it. Maybe you can’t full explain it. But you have this twingling sensation in the back of your head that you know something just ain’t right. That it ain’t as simple as;

“Just creating more jobs.”

It’s the same kind of twingling sensation you got back in school when you said, “Well why don’t we just print off more money.”

You intuitively knew something had to be wrong with that solution, but you perhaps couldn’t explain why. And thus it’s the same thing with Barack’s plan to create new jobs.

His idea for this massive infrastructure (and Keynesian) investment gives us all the same twingling sensation in the back of our heads. Why, if it was that simple, to just build roads, bridges and splurge more on education, what were we getting all worried about in the first place? Why are the stock markets so low? Why don’t we create jobs right now today? And so, since we all intuitively know it can’t be that simple, let me explain why. Let me explain to you where jobs come from.

Jobs come from one thing; demand.

Demand for goods and services currently existing or yet to exist. For example I demand food, a good that already exists. I also demand a hovercar and a clone of Jennifer Anitson, a good and service that have yet to exist. Regardless, if the product or service exists or can be created, and there is demand for it, then there is the potential for jobs to be created.

But demand must be met with supply and here is where the actual jobs are created. In order to supply these goods and services an entrepreneur or a company must hire people to help provide those goods and services. This includes everybody from the head of the company managing the firm to the suppliers, vendors, laborers, admins, marketers, accountants and anybody else required to bring these services to reality. However, there is a key element to make this all happen and that is profit.

Oh yes, that “evil” profit.

For you see, no entrepreneur, nor company, nor corporation is even going to bother going through the trouble of setting up the venture in the first place unless they are actually paid for it. And before you start berating these “evil capitalists” to have the temerity to demand recompense so that they may earn a living, you might want to look at yourselves in the mirror because no laborer (let alone you) is going to work unless they are compensated too. So just accept the fact we’re all financial whores, not out of evil or greed, but because it’s necessary for us to live and survive.

Regardless, immediately we see a problem with, not so much Obama’s infrastructure plan, but his fiscal policy in that he is going to raise taxes on not only the rich who employ the majority of people, but also corporations. Envy them and hate them all you want, increasing taxes on them will lower the incentive for them to invest, let alone start a new venture in the first place. And with the rapidly integrating global economy, if they really do have a great idea, why would they set up shop here in the first place? Ireland has a 12.5% corporate tax rate. Dubai has 0%. Russia has a flat tax. And “communist” China has a 20% corporate tax rate.
The good ol’ US o’ A has a 39% corporate tax.

So even though we haven’t addressed Obama’s specific infrastructure jobs creation plan, it’s quite possible other parts of his fiscal policy will impair it or destroy more jobs than it creates, simply because it destroys the incentive to create jobs in the first place; profit.

As for the specific plan itself, it’s not an issue of whether it will create jobs as much as it is a question at what cost.

Understand that to finance this infrastructure plan Obama has two choices; taxation or borrowing. And both options are going to cost jobs as well as efficiency.

In taxing people (no matter how “rich” they are) that takes money that would have been invested or spent anyway which would have created jobs as well. So if you tax the “rich jewelry dealer” an extra $50,000 so 2 employees in Obama’s Civilian Conservation Corps can pour concrete for a bridge, that’s all fine and dandy except for the fact the jewelry dealer now had to lay off his assistant and his admin to compensate for the cut. Congratulations, you created a big fat zero net new jobs.

Borrowing is no better in that the money borrowed by the government to finance the infrastructure jobs creation plan could have been borrowed by a company, an entrepreneur or even an individual to be used to create a new company, expand a factory or just plain spent, all of which would have created jobs too. Congratulations. You not only borrowed money and destroyed as many jobs as you created, but you’ve managed to increase interest rates as well! Thanks!

But the real cost is this, and is often the forgotten about or never-thought about aspect of economics, and that is efficiency. Specifically, as it relates to production.

If the money was left in the hands of the people, the people could then spend or invest that money as they saw fit and to their best benefit. Allowing people to make their own decisions as to how to expend their resources is the best way to make sure the goods and services produced in the economy are those that most benefit the people and increase standards of living the most. Of course, people make mistakes. The sickening, gluttonous binge of using one’s home equity as an ATM machine which has brought upon this financial crisis in the first place is a perfect example where the people will make mistakes. However, for all their flaws, recessions and depressions, free markets, ie- the people have historically been proven to be the best determinants of what to be produced.

Governments have not. And herein lies the flaw in Obama’s advisor’s plan; taking massive amounts of resources either through taxation or borrowing, takes money out of the hands of individuals and puts it in the hands of government. People now no longer get to decide what to spend their now dwindling resources on, and are instead forced to spend it on roads, infrastructure, and schools they may not need.

Now people may rightfully point out that things like roads, bridges, infrastructure, etc., are hardly foolish investments, and they’re right. But again the question is at what cost? Who would be better judges of how to spend this money and who would do more to help the economy out of recession;

A handful of bureaucrats and former Fannie Mae and Freddie Mac advisors now consulting a no-real-world-experience-president-elect determining what the best use of your money is?

300 million Americans who are intricately familiar with their own personal financial situation and the problems/opportunities they face?

This is where the real costs come in that what determines our standards of living is whether we use our resources efficiently to produce the goods and services we NEED. We just promised $700 billion (more like $2 trillion) to bailout those same Harvard ef-ups who ran Wall Street and the government into the ground. Could the people not have used a $700 billion tax cut? Would that not have solved our little economic growth problem? No, we’re stupid, we don’t know what we’re talking about, now shut up and give us the money.

Obama’s infrastructure plan is no different (although, I will admit spending the money on bridges and roads is infinitely wiser than bailing out Ivy League deadbeats). We don’t know what’s best for us. You don’t need that money. Give it to us and we’ll build shinny new roads and bridges. Just what you wanted. No, not that new icky gross Pontiac Solstice that would ACTUALLY HELP OUT DETROIT WITHOUT A TAXPAYER BAILOUT. No Captain, that’s not what you want. You want an addition to the elementary school named after Barack Obama where a newly hired teacher will brainwash…errr….I mean “educate” the children about the evils of capitalism…errr…I mean “global warming.” That’s what you want.

It is this that is the true cost to this Keynesian nightmare. The loss of productivity and efficiency causing American’s standards of living to go down. Not because of a loss of jobs (for I’m optimistically assuming this infrastructure plan will ONLY destroy one job for each one it “creates”) but because the stuff we’re producing with it is not what the American people optimally want.

And finally, permit me a third point.

I know building bridges, though not optimal, is not a waste of money.

I know roads, albeit not optimal, are not a waste of money.

But notice how education was thrown in there?

Please. Please, just stop with the “we don’t spend enough on education.”

It’s a sickening lie and you’re not fooling anyone. By every measure, every stretch of the imagination we spend WAY TOO MUCH on education and the fact education is part of Obama’s jobs creation plan shows me just how inefficient this plan will be. Bridges, fine. Roads, fine. But more money for education would be on par with bailing out the losers of Wall Street and sub prime deadbeats.

Alas, appetizing as new roads and bridges are, it was the inclusion of education, above all else, that made me supremely confident the stork will not be bringing any new jobs to Obama with his little infrastructure plan.

Wall Street Bail-out and Economic Development

Read more! With the recent financial crisis in the United States, most of the debate we hear currently entails whether or not the government should be involved in some sort of bail-out. While this would be a major intervention, William Easterly, in a today’s op-ed in the Wall Street Journal, says that the U.S. will still remain largely capitalistic and the domestic effect is not the largest worry. To Dr. Easterly, the issue at hand is what message this policy choice sends to developing countries’ governments. While we may be choosing between some or more intervention, he contends that developing nations are choosing between free markets and government planning for economic growth.

For better or worse, our actions and beliefs today will affect the policies for many years to come of these countries. The point Easterly makes is an important one, and echos that of F.A. Hayek in “The Intellectuals and Socialism”. Whether you agree or disagree with government intervention, it is difficult to ignore the importance of the role our policy decisions play in steering developing governments’ future actions.

If any of you feel inspired by this issue or any development issues, there will be an opportunity for you to share your ideas to other students and non-profit organizations in an upcoming conference at Mason. A private consulting firm Midego Inc. from Fairfax, Virginia will be co-hosting the conference with the student group Global Health Students Beyond Borders in February. Here is more info:

“The conference is entitled “Breaking with Business As Usual” and the purpose of the conference is to bring together students and professionals from all disciplines to discuss and develop strategies to reach the Millennium Development Goals.

If you are not familiar with the MDGs, they are a set of 8 health, welfare and environmental sustainability goals set by the United Nations in the year 2000 and are aimed at improving the lives of the world’s poorest by improving issues related to education, poverty, public health and environmental degradation. Most of the worlds’ governments have pledged to supporting these goals, but are falling short in delivering on that promise. In order to move towards them innovative strategies must be developed.

We are calling for student poster or oral presentations – abstracts are due November 30th – see the attached guidlines. This is a 250 word abstract for either a poster or 10-minute presentation. Your ideas do not have to be tested and proven, we’re looking for new, innovative strategies. Take a look at the list of the MDG and their targets and I think you’ll see a lot that economic students would be interested in. Ideas I can think of off hand are providing micro-loans for small businesses, balancing economic growth with environmental conservation,and dealing with debt problems in developing nations. “

I know that many of you could offer new thinking on these topics, and I plan to propose a talk for the conference as well. If any of you have any questions about this conference or wish to get the application, you can email the Econ Society at gmueconsociety@gmail.com or email Midego Inc at sara@midego.com .

How to Recapitalize the Financial System

GREG MANKIW

There is broad agreement among economists that what the financial system needs right now is not only an injection of liquidity but also a recapitalization. The essence of the current financial crisis is that many firms bet that housing prices would not fall; the prices fell nonetheless; and now these firms have too little capital to perform the crucial function of financial intermediation.

(As an aside, one might ask, why did these firms make such bad bets? Essentially, it was a result of poor judgment among various private decisionmakers, encouraged by equally poor judgment of various public policymakers, many of whom were more interested in promoting homeownership among questionable borrowers than in the preserving the safety and soundness of the financial system. But this is not the time for recriminations. We have to face up to the problem sitting in our laps.)

The question for the moment is, How can we get capital back into the financial system? Ideally, it would be great if more Warren Buffetts would step up to the plate and recapitalize financial firms with private money. Unfortunately, that might not happen fast enough to prevent a major economic downturn.

Some economists have proposed forcing these firms to go raise more capital from private sources. But how exactly can the government do that? It is not entirely clear how, as a legal matter, that can be accomplished. Perhaps regulators can twist the arms of the financial institutions. Call it the Tony Soprano approach. “Nice bank you have here. I wouldn’t want anything bad to happen to it.”

Other economists have suggested that the government inject capital itself. That raises several questions. First, which firms? The government does not want to put taxpayer money into “zombie” firms that are in fact deeply insolvent but have not yet recognized it. Second, at what price should the government buy in? Third, isn’t this, kind of, like socialism? That is, do we really want the government to start playing a large, continuing role running Wall Street and allocating capital resources? I certainly don’t.

Here is an idea that might deal with these problems: The government can stand ready to be a silent partner to future Warren Buffetts.

It could work as follows. Whenever any financial institution attracts new private capital in an arms-length transaction, it can access an equal amount of public capital. The taxpayer would get the same terms as the private investor. The only difference is that government’s shares would be nonvoting until the government sold the shares at a later date.

This plan would solve the three problems. The private sector rather than the government would weed out the zombie firms. The private sector rather than the government would set the price. And the private sector rather than the government would exercise corporate control.

Why would an undercapitalized financial firm take advantage of this offer? Because it would need to raise only half as much capital from private sources, that financing should be easier to come by. With Warren Buffetts in scarce supply, the government can in effect replicate them, by pigging backing on what they do.

I believe that Treasury has the discretion to use some of the $700 billion recently approved by Congress to make these equity injections. I would recommend that the Treasury announce an upper limit, say, $300 billion, allocated on a first-come, first-served basis. The limit would encourage financial institutions to act quickly to get in before the door closed. Given how fast matters are deteriorating, the sooner capital gets back into the financial system, the better.

Conservatives Unite Against Bailouts

Written by Robert Romano

Yesterday, Americans for Limited Government President Bill Wilson, along with seventeen other conservative, limited government, and free market leaders, delivered an unyielding message to members Congress. It is an imperative message, and one that must become the clarion call of the opposition party during the next presidential administration: No more bailouts—especially not for the Big Three.

The fact is that it is time for some tough medicine for American businesses. This a recession, which so far as the history of economics goes, is not remarkable. During downturns, businesses will fail. In fact, it is during hard times that companies are often tested, and weaker brands will by virtue of marketplace dictates be forced to fold, or be sold. And it is no different with the Big Three. Should they fail, it will not mean the end of the American economy. It would simply mean the end of three businesses whose own indulgent behavior presaged their demise.

Lost in the public debate over bailing out the Big Three automakers is that these companies could be recapitalized with private investment. If only they were allowed under the lawfully-provided protection Chapter 11 bankruptcy offers to develop new business models that both adapt to current economic conditions and remove excesses, including the exorbitant union benefits the UAW has extracted from failed management of the companies.

In short, as the conservative leaders’ letter states, the bailout represents “an unfair imposition upon the American people who are in no way responsible for, and should not face the consequences of, the profligate behavior of Big Three corporate and UAW union management.”

And it is this principle that the conservative movement, and in extension the Republican Party, must stand for, and draw a line in the sand over: The American taxpayer cannot afford to perpetually finance failure. Whether it be failed government policies or business models, adding to the national debt in order to finance loans today for programs and companies that might fail by year’s end is simply asking too much.

Instead it is the interests of the American people to have an economy that can handle and absorb failure, because it is far outweighed by the innovation and ingenuity of the American entrepreneur. The same entrepreneur who invented the light bulb, the assembly line, the telephone, and television. And the same entrepreneur who, given the opportunity, can innovate the American auto industry and again make it competitive.

This formula for eventual success is quite simple: Congress only needs to do nothing. No more bailouts: It is time for Congress to let businesses know that they are on their own. Only then will they make decisions based upon their own survival, and not seek to perpetuate their own excesses at taxpayer expense.

Foggy Crystal Ball
China’s corrupt model produces toxic-baby formula but spic-and-span finances?

By Jonah Goldberg

These are humbling times for champions of the free market and American-style capitalism. The CEOs of the Big Three car companies are kneeling before Uncle Sam like Henry in the snows of Canossa. The stock market volatility these days is looking more and more like a death rattle. No one wants to check their 401(k) for fear of their face melting like that Gestapo guy in Raiders of the Lost Ark when he peeked inside the Ark of the Covenant.

But while we cheerleaders for economic liberty need to take our lumps and spend some time thinking about where things went wrong, it would be nice if the Chicken Littles spent a wee bit of time doing likewise.

Exhibit A: China. You can’t pick up a copy of Newsweek without reading something by Fareed Zakaria about how China will only get larger and larger in our rearview mirror. Five years ago, Goldman Sachs predicted that China’s GDP would overtake America’s by 2041. Now it thinks that China will reach us in 2027. (Of course, with a much bigger population, China’s per-capita wealth would be much lower than ours.) The National Intelligence Council’s new report, “Global Trends 2025: A Transformed World,” echoes these concerns.

Heck, maybe they’re all right. Maybe not. The simple fact is that no one knows.

But I’d bet against it.

First of all, there’s a long record of very smart people making very bad predictions. Just Google “bad predictions” and you’ll see what I mean. In 1943, the chairman of IBM said, “I think there is a world market for maybe five computers.” Legend has it the head of the U.S. Patent Office said in 1899, “Everything that can be invented has been invented.” Neville Chamberlain prophesied “peace in our time.”

And roughly two decades ago, the best and brightest were telling us that “Japan Inc.” was going to overtake America any day now.

“Future historians,” warned Harvard’s Ezra Vogel in 1986, “may well mark the mid-1980s as the time when Japan surpassed the United States to become the world’s dominant economic power.” Yale’s Paul Kennedy wrote a blockbuster of a book concluding that American policies should be designed to manage our decline “so that the relative erosion of the United States’ position takes place slowly and smoothly.” When Jacques Attali was head of the European Bank for Reconstruction and Development in 1991, he observed that America was becoming akin to “Japan’s granary, like Poland was for Flanders in the seventeenth century.”

Journalist James Fallows, political scientist Chalmers Johnson, and economist Lester Thurow were fawned over for their supposedly incontrovertible conclusion that Japan was the future. “The Cold War is over,” Johnson wrote, “and Japan won.”

Then, as you may have heard, the Japanese economy went kablooey.

The Japan example not only demonstrates that smart people can be wrong and that the elite chattering classes are prone to groupthink, but it helps illuminate why they are so prone to this sort of thing.

For more than a century, countless American intellectuals and business leaders have looked enviously at how foreign countries “planned” and “managed” their economies. Woodrow Wilson and the Progressives drooled over Otto von Bismarck, and today every self-proclaimed “global strategist” gazes at China’s managed capitalism like a kid with his nose pressed against a candy-store window.

Of course, China has made enormous progress since it decided that markets are a more desirable means of improving the lot of its citizens than organized mass murder. But China’s fans still have an enormous blind spot.

Ask yourself this: Why are we in this financial crisis?

Any short list of reasons would include a lack of transparency in markets and regulatory rule-making; collusion between business and government; the politicization of lending practices (including the socialization of risk and the privatization of profit through giant governmental entities like Fannie Mae); and, of course, simple greed.

Does anyone honestly think China doesn’t have these problems ten times over? It has no free press, no democratic accountability, and no truly independent regulators.

After every Chinese earthquake, we discover that safety inspectors couldn’t be trusted to oversee the construction of schools and hospitals. And we’re supposed to believe that China’s corrupt model produces toxic baby formula but spic-and-span finances?

There’s an honest debate about how much blame institutions like Fannie Mae and laws like the Community Reinvestment Act deserve for the financial crisis, but few honest observers dispute that they played some kind of deleterious role. Well, China’s entire economy is one big Fannie Mae, its laws one big Community Reinvestment Act.

I’m willing to bet that the bill for that comes due long, long, long before China catches up with the United States of America.

— Jonah Goldberg is the author of Liberal Fascism: The Secret History of the American Left from Mussolini to the Politics of Meaning.

Massive riots cripple Greece’s main cities

ATHENS, Greece (AP) – Greece’s interior minister says the massive protest riots in cities across the country are “unacceptable” but insists that police are doing all they can to protect people’s lives and property.Thousands of youths are rampaging through Athens, the northern city of Thessaloniki and several other cities in the third day of riots Monday after police shot and killed a teenager on Saturday.

Minister Prokopis Pavlopoulos spoke after the Greek government held an emergency meeting Monday night.

In the center of the Greek capital, hooded and masked protesters are throwing Molotov cocktails at riot police, who are responding with tear gas. Dozens of shops have been burned or smashed and looted.

THIS IS A BREAKING NEWS UPDATE. Check back soon for further information. AP’s earlier story is below.

ATHENS, Greece (AP)—Gangs of youths smashed their way through central Athens and Thessaloniki on Monday, torching stores and buildings after the fatal police shooting of a teenager sparked Greece’s worst rioting in decades.

Dozens of shops, banks and even luxury hotels had their windows smashed and burned in a night of lawlessness as youths fought running battles with riot police. Black smoke rose above the city center, mingling with clouds of tear gas.

Prime Minister Costas Karamanlis, whose increasingly unpopular government has already faced a growing number of sometimes violent demonstrations in recent months, called an emergency Cabinet meeting Monday night.

In Athens, rioters torched the capital’s massive Christmas tree in central Syntagma Square. As the hooded youths moved on, some protesters posed for photos in front of the blaze, and others sang the Greek version of “O Christmas Tree.”

The windows of two of Athens’ luxury hotels, the Athens Plaza and the Grande Bretagne on Syntagma Square, were smashed. A hotel guard at the Athens Plaza said its guests had been evacuated.

A lone man with a bucket of water struggled to extinguish a fire in the ground floor of the Foreign Ministry, opposite Parliament. Fires were also reported in the building of an airline and a Greek bank, as well as in tens of other stores in most of Athens’ major central streets.

Rioters, meanwhile, set up burning barricades across downtown streets.

Scenes of destruction also unfolded in Thessaloniki, where hundreds of masked and hooded youths hurled rocks and molotov cocktails at storefronts and riot police, who responded with tear gas.

The fire departments of both cities rushed to respond to the widespread destruction. In Athens, rioters surrounded one small fire truck as it tried to extinguish a blaze, smashing the truck’s windows before setting it alight.

Elsewhere, rioters looted a store selling hunting weapons and swords.

Greek media also reported fires and destruction in the central city of Larissa.

Massive riots first erupted Saturday across the country, from Thessaloniki in the north to the island of Crete in the south, after 15-year-old Alexandros Grigoropoulos was fatally shot by a police officer in Athens’ often volatile Exarchia district.

The circumstances surrounding the shooting are unclear, but the two officers involved have been arrested; one has been charged with murder and the other as an accomplice. A coroner’s report shows the boy was shot in the chest.

Schools were to shut Tuesday in mourning, while staff at universities declared a three-day strike.

The Police Officers’ Association has apologized to the boy’s family, and President Karolos Papoulias sent a telegram to his parents expressing his condolences.

“All the dangerous and unacceptable events that occurred because of the emotions that followed the tragic incident cannot and will not be tolerated,” Karamanlis said in a live televised address Monday morning. “The state will protect society.”

But his calls for calm went unheeded and the scenes of destruction are likely to further dent the government’s popularity.

In an outpouring of rage, high school and university students join self-styled anarchists in throwing everything from fruit and coins to rocks and Molotov cocktails at police and attacked police stations throughout the day.

“Cops! Pigs! Murderers!” protesters screamed at riot police.

Abroad, demonstrators raised banners at the Greek Embassy in London and the black-and-red anarchist flag at the Greek consulate in Berlin.

Separately, about 10,000 protesters from the Communist Party of Greece and another left-wing party marched through the center of Athens.

With the global financial crisis hitting Greek consumers, shop owners worried the violence would hurt consumer confidence.

“It comes at a time when we have been trying so hard to establish a Christmas spirit in the market,” said Vassilis Krokidis, head of the Piraeus Traders’ Association. “Our challenge remains getting through the economic crisis and saving the jobs of those who work in regular businesses.”

One assistant at a china shop watched in fear as rioters attacked her store.

“Nobody seems to care about the employees at the burnt shops, what will their fate be now over the Christmas season?” said the woman, who gave her name only as Eleni.

Although there is little public support for street violence or wanton destruction of property, there is a deep well of tolerance for demonstrations in Greece, where the right to protest is held dear.

Violence often breaks out between riot police and anarchists during demonstrations. Anarchist groups are also blamed for late-night firebombings of targets such as banks and diplomatic vehicles. The attacks rarely cause injuries.

The self-styled anarchist movement partly traces its roots in the resistance to Greece’s 1967-74 military dictatorship. The youths tend to espouse general anti-capitalist and antiestablishment principles, and have long-running animosity toward the police.

Illinois Gov. Blagojevich, chief of staff, arrested

Read about the latest developments

By Jeff Coen, David Kidwell and Monique Garcia

Gov. Rod Blagojevich arrives at the Tribune Tower on Monday for an interview at CNN’s Chicago office. (Tribune photo by Nancy Stone / December 8, 2008)

UPDATE: Gov. Rod Blagojevich and his chief of staff, John Harris, were arrested by FBI agents on federal corruption charges Tuesday morning.

Blagojevich and Harris were arrested simultaneously at their homes at about 6:15 a.m., according to Frank Bochte of the FBI. Both were transported to FBI headquarters in Chicago.

In one charge related to the appointment of a senator to replace Barack Obama, prosecutors allege that Blagojevich sought appointment for himself as secretary of Health and Human Services in the new Obama administration, or a lucrative job with a union, in exchange for appointing a union-preferred candidate.

Another charge alleges Blagojevich and Harris conspired to demand the firing of Chicago Tribune editorial board members responsible for editorials critical of him in exchange for state help with the sale of Wrigley Field, the Chicago Cubs baseball stadium owned by Tribune Co.

Blagojevich and Harris, along with others, obtained and sought to gain financial benefits for the governor, members of his family and his campaign fund in exchange for appointments to state boards and commissions, state jobs and state contracts, according to the charges.

“The breadth of corruption laid out in these charges is staggering,” U.S. Attorney Patrick Fitzgerald said in a statement.

“They allege that Blagojevich put a ‘for sale’ sign on the naming of a United States senator; involved himself personally in pay-to-play schemes with the urgency of a salesman meeting his annual sales target; and corruptly used his office in an effort to trample editorial voices of criticism.”

Blagojevich is scheduled to appear before U.S. Magistrate Judge Nan Nolan later today, according to Randall Samborn of the U.S. attorney’s office.

Click here for the latest updates from the Breaking News Center

FROM TUESDAY MORNING’S CHICAGO TRIBUNE

A three-year federal corruption investigation of pay-to-play politics in Gov. Rod Blagojevich’s administration has expanded to include his impending selection of a new U.S. senator to succeed President-elect Barack Obama, the Tribune has learned.

Federal authorities got approval from a judge before the November general election to secretly record the governor, sources told the Tribune, and among their concerns was whether the selection process might be tainted. That possibility has become a focus in an intensifying investigation that has included recordings of the governor and the cooperation of one of his closest friends.

The governor has not been accused of any wrongdoing. The specific contents of the recent recordings have not been disclosed. Blagojevich has said the appointment of a Senate successor, which is his choice alone, could come in a matter of weeks.

Speaking to reporters Monday for the first time since the Tribune revealed federal investigators had recorded him and others as part of their corruption probe, Blagojevich said his discussions were “always lawful.” He also defended close confidant John Wyma, whose cooperation with federal agents helped lead to the recordings, as “an honest person who’s conducted himself in an honest way.”

“I should say if anybody wants to tape my conversations, go right ahead, feel free to do it,” he said. “I appreciate anybody who wants to tape me openly and notoriously, and those who feel like they want to sneakily, and wear taping devices, I would remind them that it kind of smells like Nixon and Watergate.”

Unlike the recordings that the federal government has of Blagojevich, the tapes that led to President Richard Nixon’s 1974 resignation over the burglary of Democratic offices at the Watergate complex and the ensuing coverup were made by Nixon himself.

Regardless of “whether you tape me privately or publicly, I can tell you that whatever I say is always lawful and the things I’m interested in are always lawful,” Blagojevich said. “And if there are any things out there like that, what you’ll hear is a governor who tirelessly and endlessly figures out ways to help average, ordinary working people.”

Blagojevich’s comments came amid increasing concern by Democrats that the governor’s pending appointment of a Senate successor may become politically tainted as a result of the investigations surrounding his administration. Federal investigators have been looking into allegations of corruption regarding state jobs, appointments and contracts in connection with Blagojevich’s prolific fundraising.

Blagojevich has not been charged with any wrongdoing and contended that if federal investigators areƒs “going to those lengths and extents [of obtaining recordings], if in fact that’s true, that would suggest all the past has been pretty good.”

“I don’t believe there’s any cloud that hangs over me. I think there’s nothing but sunshine hanging over me,” the governor said.

Blagojevich made the remarks at a Monday morning visit to laid-off workers staging a sit-in at the Republic Windows & Doors plant on Goose Island.

Later Monday, he met for 90 minutes with Rep. Jesse Jackson Jr., the South Side and southwest suburban congressman who has been the most visibly active campaigner for the appointment to replace Obama. Jackson, who was among the last high-profile Senate successor candidates to speak with Blagojevich, has had disagreements with the governor and is not close to him.

Blagojevich issued a strong defense of Wyma and accused the Tribune of publishing misinformation and possibly defamatory material.

“To begin with, they didn’t get it right,” he said. “John Wyma’s lawyer put out a statement. The Tribune was wrong and very well may have defamed him.”

But the statement from Wyma’s lawyer did not directly address the Tribune story and instead appeared directed at media outlets and others who reported Wyma wore a wire.

The Tribune noted that Wyma’s cooperation with federal investigators helped lead to recordings of Blagojevich but did not report that he wore a wire.

Wyma’s lawyer also did not respond to the Tribune’s report that Wyma was cooperating with investigators. “John Wyma is a friend of mine, he was my chief of staff, and I’m sure whatever he does, he does ethically and follows the rules,” the governor said.

Blagojevich said he would not remove Wyma from his inner circle of advisers. He also told the Tribune that Wyma was not involved in the deliberations over an Obama successor. “No, I consider him a friend. and I don’t consider him as anything but a friend. And to someone who, as I’ve known him, always has been an honest person who’s conducted himself in an honest way,” Blagojevich said of Wyma. “That’s the John Wyma I know and it’s the John Wyma that [Obama's incoming chief of staff, Rep.] Rahm Emanuel knows and a lot of other people know.”

Blagojevich said he had last spoken to Wyma the day before Thanksgiving, when he offered holiday wishes and “talked a little bit about the plight of the Detroit Lions. He’s from Michigan.”

And the governor indicated he was not concerned about Wyma cooperating with federal investigators. “Look, I believe everybody should just tell the truth and pursue the truth and be truthful and then you do that and everything’s fine,” he said.

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J00000012UTC 24, 2008 by chero

The price of oil

Down it goes

The price of oil has fallen below $50 a barrel. Why that may not be entirely welcome news

A BARREL of oil could be bought for $47.36 in after-hours trading at the New York Mercantile Exchange on Monday December 1st. The price of oil is now at its lowest level in over three years and some $100 cheaper per barrel than at its peak in July. The latest drop came after members of OPEC, who had gathered for an emergency meeting in Cairo at the weekend, failed to agree to cut output quotas, despite tumbling demand. Many analysts expect the oil price to drop further.

Many will cheer the news. Governments that were struggling to deal with inflation earlier in the year are enjoying some relief. The world’s poorest, who spend as much as three-quarters of their income on getting enough to eat, were especially vulnerable to rising energy costs that helped to push up the price of food. Food riots erupted from Calcutta to Cameroon. With oil prices falling, and governments now more concerned about deflation than rising prices, those setting monetary policy have had no hesitation in cutting interest rates dramatically.

But not everything about a low oil price is a cause for cheer—nor is the dramatic volatility in the price a boon for consumers or producers. Most worrying is that the rapid recent decline is a symptom of a sharply worsening world economy: demand is dropping as economic activity stagnates, or slows, everywhere. More grim news about America’s economy sent the Dow Jones Industrial Average down by 7.7% on Monday with Japanese markets following suit.

Environmentalists are not happy either. The recent period of high prices curbed appetites for oil and other forms of energy that result in emissions of carbon dioxide into the atmosphere. Although some have argued that demand for petrol is inelastic (in the short term drivers supposedly find it difficult to change their behaviour, or improve the fuel efficiency of their vehicles), anecdotal evidence and recent research suggest that responses to high prices were quick and significant.

A drop in sales of fuel-guzzling SUVs in America and increased use of public transport over the past year have been widely noted. And as petrol prices rose, people were more likely to scrap old cars, to buy more fuel-efficient models and to drive less. The result was lower consumption of oil and greater fuel efficiency of the fleet. Elsewhere it helped that many governments which had kept prices at the pump low through subsidies, reduced these. As a result more drivers were faced with paying closer to the true costs of their petrol use. But lower oil prices may reverse some of these trends.

Those concerned about energy security have reason to worry, too. Despite plans to increase the use of renewable energy and nuclear power—in the rich world, at least—oil will continue to represent a large share of energy needs, especially for transport. The long-term supply depends on continued investments in oil production, which is discouraged by low or volatile prices. Saudi Arabia says that $75 a barrel is needed to encourage new oil production to prevent a possible shortage in the future. The International Energy Agency, a rich-country energy watchdog, estimates that fresh sources of oil that could provide the equivalent to four times the current Saudi output will have to be found to maintain present levels of supply by 2030. If prices are low, this is less likely to happen, making a painful shortage more likely later on.

The price of oil would ideally reflect not only its demand and supply but take into account the damage that its use inflicts on the environment. But when oil is cheap, the hard decisions about investing in alternatives, inventing more energy-efficient plants and machinery, or changing consumer behaviour, all of which would help the world can wean itself off oil, become that much easier to postpone.

Travels With Hillary

Two Secretaries of State for the price of one.

Barack Obama’s choice of Hillary Clinton to be his Secretary of State is either a political master stroke, or a classic illustration of the signature self-confidence that will come back to haunt him. We’re inclined toward the latter view, but then Mr. Obama is the one who has to live with her — and her husband.

The President-elect’s political calculation seems clear enough: Better to have the Clinton machine as allies than as critics on the outside of his Administration. His early choices are loaded with Clintonians of various stripes, from John Podesta to run his transition team, Rahm Emanuel as White House chief of staff, Eric Holder at Justice, and now the former first lady herself as chief diplomat.

This is startling for a candidate who explicitly promised Democrats in the primaries that he offered an escape from the Clinton political method. But perhaps Mr. Obama figures any disillusion will be minor and that this will unite the Democratic Party behind him. Much as retaining Robert Gates at the Pentagon may mute attacks from some Republicans, the choice of Mrs. Clinton will help to insulate Mr. Obama from attacks by fellow Democrats. He also disarms the Clinton campaign and fund-raising machinery for any potential challenge in 2012.

These political calculations must be predominant, because Mrs. Clinton brings no special policy expertise to the job. Her best attribute may be her undeniable work ethic. She has focused on foreign policy in her Senate committee assignments, but without much notable influence on policy or events. Her criticism of the Bush foreign policy has echoed the conventional view that the Administration wasn’t diligent enough in trying to talk to the Iranians, the North Koreans and other hard cases. In other words, Mrs. Clinton is likely to pick right up where Condoleezza Rice and Nick Burns left off trying to negotiate with these enemies in the second Bush term.

It’s also strange if Mr. Obama is trying to invoke the Clinton Presidency as a foreign-policy golden age. We recall it mostly as an era of illusory peace as problems festered with too little U.S. attention. Al Qaeda was left unchecked, Saddam Hussein banished U.N. inspectors and exploited Oil for Food, North Korea embarked on a secret nuclear program, Russia’s post-Cold War spring faded, and Pakistan’s A.Q. Khan spread nuclear-bomb technology around the world.

Mr. Obama’s biggest gamble is associating his Presidency with the Clinton political circus. At least as Secretary of State, Mrs. Clinton will have a specific role, as opposed to the ill-defined mandate of a Vice President. (Speaking of the Veep-elect, with Mr. Gates and the Clintons around, what’s left for Joe Biden to do? State was the job he’s long wanted, and he must be dying inside trying to abide by Team Obama’s gag order.)

But that still leaves Bill Clinton and his gift both of irrepressible gab and for inevitable controversy. His post-Presidency has been more or less a vast fund-raising operation — for himself, his library and legacy, and his charitable causes. Mr. Obama said yesterday that Mr. Clinton has agreed to disclose the 200,000 or so donors to his foundation, and what a list it is likely to be. Look for Arab sheikhs, Latin American monopolists and assorted dubious characters.

The potential for blatant conflicts of interest with Mrs. Clinton’s new role is great, and in appointing her Mr. Obama seems to be betting that the disclosure will diminish the problem. Given the Clinton history with the Riadys of Indonesia, Johnny Chung, the Lippo Group and Arkansas compadre Thomas “Mack” McLarty’s business travels through the Americas, we hope the President-elect knows what he’s getting into. The Senate has an obligation to inspect and make public the Clinton global fund-raising machine check by check, with names, dates and precise amounts.

In choosing Mrs. Clinton, Mr. Obama is also hiring someone he can’t easily fire. This is usually a mistake, as President Bush learned with Colin Powell. The ability to let an adviser take the blame for a policy blunder is crucial to protecting Presidential credibility. But if Mr. Obama tries to let Mrs. Clinton go, he will be taking on the entire Clinton entourage — not just Bill, but Carville, Begala, Ickes, Blumenthal, McAuliffe and so on. That same chorus will work to burnish her reputation via media leaks at the expense of her colleagues — and the President — when there is a mistake to explain.

Perhaps Mr. Obama will prove to be crafty enough to manage all of this and the other egos he is assembling. One good sign is that his choice as his National Security Adviser, former Marine General James Jones, is a commanding enough presence to mediate bureaucratic disputes. Mr. Bush and Ms. Rice never adequately did that in their first term.

On the other hand, the transition spin that Mr. Obama’s Cabinet choices are inspired by Abraham Lincoln’s “Team of Rivals” also suggest more than a little hubris. Honest Abe had to deal with jealous advisers and treacherous generals to win the Civil War. We’re not sure even that would be adequate preparation for the raucous, uncontrollable political entitlement that has always driven the Clintons.

Governors Against State Bailouts

Hard to believe, but not everyone in politics wants a free lunch.

RICK PERRY and MARK SANFORD

As governors and citizens, we’ve grown increasingly concerned over the past weeks as Washington has thrown bailout after bailout at the national economy with little to show for it.

In the process, the federal government is not only burying future generations under mountains of debt. It is also taking our country in a very dangerous direction — toward a “bailout mentality” where we look to government rather than ourselves for solutions. We’re asking other governors from both sides of the political aisle to join with us in opposing further federal bailout intervention for three reasons.

First, we’re crossing the Rubicon with regard to debt.

One fact that’s been continually glossed over in the bailout debate is that Washington doesn’t have money in hand for any of these proposals. Every penny would be borrowed. Estimates for what the government is willing to spend on bailouts and stimulus efforts for this year reach as much as $7.7 trillion according to Bloomberg.com — a full half of the United States’ yearly economic output.

With all the zeroes in the numbers, it’s no wonder Washington politicians have lost track.

That trillion-dollar figure is the tip of the iceberg when it comes to checks written by the federal government that it can’t cash. Former U.S. Comptroller General David Walker puts our nation’s total debt and unpaid promises, like Social Security, at roughly $52 trillion — an invisible mortgage of $450,000 on every American household. Borrowing money to “solve” a problem created by too much debt seems odd. And as fiscally conservative Republicans, we take no pleasure in pointing out that many in our own party have been just as complicit in running up the tab as those on the political left.

Second, the bailout mentality threatens Americans’ sense of personal responsibility.

In a free-market system, competition and one’s own personal stake motivate people to do their best. In this process, the winners create wealth, jobs and new investment, while others go back to the drawing board better prepared to try again.

To an unprecedented degree, government is currently picking winners and losers in the private marketplace, and throwing good money after bad. A prudent investor takes money from low-yield investments and puts them in those that yield better returns. Recent government intervention is doing the opposite — taking capital generated from productive activities and throwing it at enterprises that in many cases need to reorganize their business model.

Take for example the proposed Big Three auto-maker bailout. We think it’s very telling that each of the three CEO’s flew on their own private jets to Washington to ask for a taxpayer handout. No amount of taxpayer largess could fix a business culture so fundamentally flawed.

Third, we’d ask the federal government to stop believing it has all the answers.

Our Founding Fathers were clear and deliberate in setting up a system whereby the federal government would only step in for that which states cannot do themselves. An expansionist federal government of the last century has moved us light-years away from that model, but it doesn’t mean that Congress can’t learn from states that are coming up with solutions that work.

In Texas and South Carolina, we’ve focused on improving “soil conditions” for businesses by cutting taxes, reforming our legal system and our workers’ compensation system. We’d humbly suggest that Congress take a page from those playbooks by focusing on targeted tax relief paid for by cutting spending, not by borrowing.

In the rush to do “something” to help, federal leaders would be wise to take a line from the Hippocratic Oath, and pledge to do no (more) harm to our country’s finances. We can weather this storm if we commit to fiscal prudence and hold true to the values of individual freedom and responsibility that made our nation great.

Mr. Perry, a Republican, is the governor of Texas. Mr. Sanford, a Republican, is the governor of South Carolina.

Mumbai and Obama

Lessons in security and diplomacy.

President-elect Obama said yesterday that terrorists based in South Asia represent “the single, most important threat against the American people.” As he prepares to become responsible for American safety, we hope he’s also absorbing some of the lessons of the Mumbai massacre.

Mumbai obviously lacks the antiterror resources and police sophistication of New York City. Yet as a similarly open society, America is in many respects just as vulnerable as Mumbai to murderous attacks by gunmen on soft targets such as train stations, hotels and hospitals. Al Qaeda has so far avoided such attacks in the West, preferring more spectacular bombings. But the very “success” of the Mumbai attacks in capturing world attention and closing down a commercial center for three days might cause Islamists elsewhere to copy their method.

In the U.S., good intelligence has thwarted several armed terrorist attacks that we know about and, presumably, more that we don’t. Five men are currently on trial in Camden, New Jersey, charged with planning an attack on Fort Dix. Three men are serving time for a 2005 plot to blow up military sites, synagogues and other Jewish sites in southern California. The Obama team might want to reconsider their views on the Patriot Act, wiretapping, terrorist interrogation, and other measures that help law-enforcement officials gather crucial data that make it possible to stop such plots.

At his news conference, Mr. Obama declined to say whether the Indian government would be justified in pursuing terrorists in neighboring Pakistan — as he had suggested during the campaign that the U.S. do with al Qaeda, and as the U.S. is doing now with Predator attacks against al Qaeda and Taliban targets. The U.S. would be engaged in some “delicate diplomacy” in the coming days, he properly said, and it would be “inappropriate” for him to comment.

But soon enough he’ll assume the diplomatic challenge of keeping tensions between Pakistan and India from exploding. Pre-Mumbai, Pakistan’s new President, Asif Ali Zardari, had already pledged to improve ties with India. Post-Mumbai, he’s renewed that promise. The best outcome would be for Islamabad itself to take action against the terrorists who use Pakistan as a training ground and staging point for attacks on India.

Failing that, Indian Prime Minister Manmohan Singh will be under pressure to take the same kind of military action that Candidate Obama endorsed for the U.S. Yet an Indian incursion into Pakistan at the current moment, however justified in self-defense, might do more harm than good to Indian security. It could inflame anti-India sentiment in Pakistan, or perhaps it could lead to the fall of the Zardari government and the rise of former Prime Minister Nawaz Sharif, who is allied with Pakistan’s religious parties. In the worst case, the destabilization of Pakistan would create an opportunity for an Islamist takeover and all that would portend.

After months without a major attack, Mumbai has reminded everyone that the Islamist terror threat is far from defeated. So much the better if it serves as early instruction for the security team that Mr. Obama introduced yesterday.

We will bounce back sooner than people think

My hunch is that the financial markets will make a sharp recovery next year. But the overmortgaged West will pay a price

Martin Sorrell

W e now know that 2009 is going to be very, very tough, particularly the first half of it. A number of our clients are battening down the hatches and there is considerable gloom about.

I was in Washington last week for The Wall Street Journal CEO Council event. At it 95 chief executives were asked when they thought there would be a recovery. Half said in 2010, the other half 2011.

I think it will be sooner, because the market is missing the extent of the fiscal stimulus that the Obama administration is expected to announce. It will be colossal – the number $500 billion has started to appear in the past few days – although, for it to work, people must act together and not independently.

So, my guess is that by mid2009 we will see a very sharp comeback in the financial markets, although it will remain tough in the real world. By 2010 the world will start to pick up.

Of the four “Bric” economies – Brazil, Russia, India and China – India will do best next year. While its growth next year will be down on 2008, China will still grow by between 7-9 per cent. It must, to avoid social unrest. Brazil will grow by between 2-3 per cent, Russia will be under pressure, but the “next 11” countries – including Vietnam, Bangladesh, Mexico and Nigeria – have very reasonable growth prospects. But with the world economy growing by 1 per cent overall, it means that the West will be down – the US, the UK and the eurozone.

At the WSJ event, the speakers included Larry Summers, Henry Paulson and Robert Rubin. To a man, they all said that what the US needed was a sharp fiscal stimulus. Remember, all these people have influence on Barack Obama.

As close to Mr Obama’s inauguration on January 20 as possible, we will see that big package for stimulating the economy announced. It may take the form of a reduction in tax rates, Keynesian infrastructure projects or accelerated capital allowances for research and development.

As well as all that, we will see the US car industry bailed out. But this will happen before the inauguration because there are fears that General Motors will go under before Christmas. Politically, Mr Obama couldn’t have a black woman car worker being put out of work in Detroit while a white debt trader in New York is kept in work.

People also forget that in 2010 the new President faces midterm congressional elections. So he has only one year and nine months before he has to face the voters again – the political need to get a stimulus in place is huge. Think back to Bill Clinton in 1994 and George Bush in 2006. Both were caught out by the midterms, and this will weigh heavily on Mr Obama’s mind.

What concerns me, however, is that, while there will be a massive fiscal stimulus, there have been no commitments from the banks to start lending again.

It was also striking in Washington that, while those three wise men agreed that a stimulus was necessary, they did not focus on how it will be paid for in the longer term. We are mortgaging the future. Everyone in the US is concentrating on how to get through the present crisis – but ignoring the issue of how to pay for it.

By 2010 the West will be living with the long-term consequences of what has happened, and will be overborrowed. India, China and the other Brics will continue to pull away while we are increasingly indebted, having mortgaged our future.

This could result in capital-rich countries such as Russia, China and Japan having to support the dollar – just as the US supported sterling in the 1950s. And that could lead to situations such as the Suez crisis, where members of Eisenhower’s Administration called Anthony Eden to tell him “unless you end your Egyptian adventures, we are going to sell our sterling assets”.

India and China have been on the wrong side of history for the past couple of centuries, but now, things are going their way. We cannot fight that. For Britain, the risk is that we react to this by withdrawing, by becoming more protectionist, more populist in our economics.

The same applies to Western Europe. For my company WPP, there is no point in continuing to invest in Western Europe unless structural changes are made. For example, if we win a piece of business, we have to bear the severance costs of the company that lost the contract.

Western Europe is like an ageing company with huge healthcare and pension liabilities that are difficult to fund. That is why admitting Turkey to the EU should be a no-brainer. It is the gateway to the Middle East, has a young population, is highly entrepreneurial and would be a huge boost to the EU’s 450 million people.

In the UK, all the changes that Margaret Thatcher made have gone. When I visit Scotland and Wales, and see the extent to which local jobs depend on the public sector, it shows we have lost all the progress made under her. Governments can invest plenty of money on retraining people but, unless we can change more aggressively, we will be unable to compete. We are back where we were in the 1960s and 70s.

The exception to all of this is America. People wrote off the US in the 1980s and said that Japan would take over the world. But then along came Ronald Reagan. He changed the dynamics. What the world really needs right now is leadership in the Reaganite, Thatcherite, Blairite mould to lead us out of this crisis.

Mr Obama could be that person. I look at Barack Obama and it takes me back to when I was 18, to when John F. Kennedy was elected. Mr Obama is young, smart, a wonderful orator and represents a new hope, a new era. JFK was just the same and he changed the attitudes of my generation. That’s what the world needs now from Mr Obama.

“Freeconomy”- Living Life Without Money

A Bullish Black Friday

Brian S. Wesbury and Robert Stein,

Post-Thanksgiving shoppers spent more than expected.

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The current recession is unlike any other in the last couple of generations. Usually recessions happen because monetary policy gets tight or tax rates go up. Or, sometimes, like in the Great Depression, both of these plus rising trade barriers lead to a contraction in economic growth.

This time around, the recession is not due to tight monetary policy, higher tax rates or protectionism. It’s due to a sudden and sharp plunge in the velocity of money–what we have been calling “risk aversion hysteria.” This is where the speed with which money moves its way through the economy slows down as both consumers and businesses decide they want to increase their cash holdings.

Idiotic mortgage loans started the financial fire and overly stringent mark-to-market accounting rules acted as an accelerant, forcing financial firms to write down the value of their assets even when underlying mortgage cash flows were likely to grossly exceed fire-sale prices for mortgage securities.

When it appeared that money in banks and money market funds was no longer safe, consumers decided they would rather have money under mattresses instead of in bank accounts. This panic caused a sharp decline in consumer spending. Retail sales (excluding autos) grew 6% during the year ended in June, but just 1% during the year ended in November. With auto sales included, retail sales fell 4.1% in the year ended in November.

But fresh data on what’s been happening on Main Street the past few days suggest the plunge in velocity may be either coming to an earlier end than most analysts expected, or that velocity may even be accelerating.

The National Retail Federation (NRF) says the number of shoppers either in stores or accessing online retailers, from Black Friday through Sunday, was up 17% versus last year and that the average amount spent was up 7.2%. According to the NRF, shoppers were busy buying clothes and electronics. Meanwhile, ShopperTrak, which monitors sales at shopping centers and malls around the country, says Black Friday sales were up 3% versus last year.

Obviously, these figures should be greeted with caution. The NRF numbers are based on a poll of consumers, not actual sales volumes, and the ShopperTrak data is for Black Friday only. It is plausible that, with relatively few shopping days this year between Thanksgiving and Christmas, consumers are buying more on a per day basis but will not buy more during the holiday season as a whole.

Obama and jobs

Alfred Tella

President-elect Barack Obama has proposed a new fiscal stimulus plan designed, in his own words, to “save or create” 2.5 million jobs in the first two years of his administration.

The word “save” is worthy of note. It subtly introduces politics into what otherwise would have been an objective target capable of evaluation. No matter what the job count turns out to be in January 2011, it’s always possible – and unprovable – to say the jobs “saved” are 2.5 million more than would otherwise have been the case, i.e., without the stimulus. The “otherwise” scenario is, of course, an unknown quantity, whereas actual net job creation is statistically observable.

Is a two-year 2.5 million jobs program timid or ambitious? If successful, how much of a job market dent is it likely to make?

If jobs in the next few months continue to decline as they have in the last few months – not an unrealistic expectation in our current economic predicament – then in January 2009 when Mr. Obama takes office, the job count will be down to about 136.2 million, or 1.8 million below a year earlier.

As the recession has worsened, job losses have accelerated. Economists predict 2009 will be another year of declining employment, more severe than in 2008. In this time of unusual financial and economic turmoil, the downturn in the labor market looks to be long and deep, more like the recession of 1981-82 than the recession of 2001. The job recovery, when it comes, will more likely be gradual than robust.

In his effort to create jobs, particularly in 2009, the president-elect will be fighting an uphill battle. Population growth will continually add to the work force and, judging from worker behavior this year, labor force participation will remain high, making it harder to reduce unemployment.

In the current recession to date, the proportion of the working-age population in the labor force has held steady rather than declining as in past recessions, probably reflecting the unusual combination of job insecurity and uncertainty coupled with asset loss. A continuation of this trend means the participation rate will not shave the unemployment count as it has in past recessions, and more jobs will be needed to offset the pressures of population growth.

If, as expected, the recession persists throughout the first year of the Obama administration and the rate of job loss independent of the stimulus plan is comparable to the 1981-82 recession, then the predicted job total for January 2010 is about 133 million, or 3.2 million less than the job count at the beginning of Mr. Obama’s term. A job loss of that amount added to this year’s unemployment would be consistent with a jobless rate in excess of 8 percent.

Assuming there is a moderate economic recovery in the second year of Mr. Obama’s administration, there could be enough of a rise in jobs to offset an increase in jobseekers due to population growth. However, that would still leave the 8 percent-plus unemployment rate predicted for January 2010 about unchanged a year later. By this scenario, the net loss in jobs for the first two years of the Obama administration independent of the stimulus plan comes to about 2 million.

So if Mr. Obama’s stimulus package succeeds in “saving” those 2 million jobs and creates an additional half million to meet his overall goal of 2.5 million jobs, how pleased should we be?

By historical standards, a 2.5 million or 1.8 percent job-creation goal over a two-year period is a modest target. Some say it is deliberately modest so political credit can be claimed if the goal is surpassed. However, an economy with an unemployment rate two years into a new administration that is more than a percentage point higher than when Mr. Obama took office would not, in the eyes of many, be deemed an overwhelming achievement.

Nevertheless, in these difficult times whatever number of jobs that can be created in the next two years will be welcome, be it by the private sector or government. Every new job is a treasure and it’s less important who gets the credit for job creation than it is that the jobs become available and give a badly needed boost to the economy. Some of the jobs will leak to other countries, but that’s unavoidable. Including tax reduction as part of the recovery strategy will go a long way in helping to raise employment.

We can hope the new administration will avoid policies that further bind the “invisible hand” and instead allow the self-correcting forces in the marketplace to help return us to economic prosperity.

Alfred Tella is former Georgetown University research professor of economics.

How to Return to a Gold Standard

By Carlos Pedrera

Two weeks ago the leaders of the world met for what many referred to as Bretton Woods II. What transpired was one of the greatest misreads of cause and effect that the policy world has ever seen.

The G20 heads ostensibly got together to try and fix all the financial ills that have befallen us since the U.S broke the dollar’s link to gold in 1971. But judging by the news that leaked out, any policy that might result will surely bring more regulatory complexity to a world economy that presently needs less. In short, our leaders know not why we are struggling. The answer lies in a dollar that lacks definition.
The goal of Bretton Woods II should have been to repeat the result achieved during the 1944 confab, which was to link the value of the U.S. dollar to gold. If this should somehow happen going forward, the dollar would take on magnetic qualities for its ability to attract capital from around the world. Of perhaps greater importance, in one year’s time most of the world’s currencies would be linked to the U.S dollar at different ratios. As a result, currencies the world over would have a stable gold definition.

But didn’t the first Bretton Woods fail? And if we re-linked the dollar to gold, wouldn’t we be setting ourselves up for failure again? The great thing about history is that it can be studied to understand why we achieved a result that we did not expect. It has been known for quite some time why the original Bretton Woods system failed; therefore, we can create a new system that fixes those flaws.

The first mistake made under the old system had to do with the U.S. government being given full power to maintain the dollar link at 1/35th of an ounce of gold. This was not considered a flaw in 1944 because at the time, it was seemingly inconceivable that the U.S would decide to break the gold link by inflating in the way it did.

Nevertheless, this is exactly what happened in the mid to late 1960’s. At the core of the original 1944 world dollar standard was a convertibility feature that allowed foreign banks to exchange dollars for physical gold if the U.S started to inflate.

This basic form of convertibility served as an essential signal for U.S. monetary authorities when it came to knowing whether too many or too few dollars were being created. The system worked well for three decades due to the fact that the U.S kept its promise when it came to maintaining the integrity of the dollar-gold link.

With the dollar defined in terms of an historically stable commodity, the United States economy and economies around the world prospered tremendously in the 1950s and ‘60s. However, by the mid ‘60s, monetary authorities stateside began to break their promises with regard to the dollar, which set off a chain reaction throughout the dollar-linked world.

Simply put, the U.S turned on the dollar printing presses and refused to turn them off. And with the world awash in greenbacks, the aforementioned convertibility feature served its market purpose in revealing U.S. monetary error.

In short, by the late ‘60s and early ‘70s there was a marked increase when it came to foreign central bank redemptions of cash for physical gold. The signal to President Richard Nixon’s monetary authorities was that they had over-issued the dollar.

But rather than reduce dollar liquidity, or, restate the U.S.’s commitment to the gold/dollar standard, Nixon advised Fed Chairman Arthur Burns to continue printing money owing to the mistaken belief that money creation itself fostered economic growth. With an election looming, Nixon chose to sever the dollar’s link to gold on August 15, 1971. Nixon’s action devalued the U.S dollar and the inflation of the 1970’s began.

Fast forward to today, two issues need to be dealt with if the U.S wants to return to a commodity standard whereby the dollar is linked to gold. The first has to do with what is the appropriate gold-price target. Given the certain deflation that would result from a $35 gold fix, returning to the exact Bretton Woods standard would be highly inappropriate.

The second issue concerns how a new Bretton Woods-style monetary fix could avoid the mistakes of the late ‘60s and ‘70s where the lead country (the U.S.) over-issues the standard currency. Absent a credible commitment to maintaining a sound currency, any new system would quickly come undone.

What is the appropriate gold target price?

Long-term gold-price averages were calculated over different lengths of time below. The averages are the monthly mean price of gold using the London PM fix. The idea here is to let this market data tell us what the optimal gold price should be.

Long-term%20Average%20Price%20of%20Goldx2scaled.jpg

The first thing that becomes apparent when looking at these long-term averages is that the recent average prices are very high compared to the longer-dated ones. The second notable feature is the cluster of longer-term averages that includes the 15-year through 30-year averages, which all are in the $400/oz range. The third aspect is that the further we go out in time, the lower the mean price of gold.

Due to the volatility of floating exchange rates, returning to a specific optimum gold target will need to be a process, as opposed to the Treasury or Fed simply picking a gold price. The process will involve the utilization of longer-term averages to set up various stabilization zones. The zones will allow the price of gold to drift down and therefore allow the value of the dollar to increase. You can create a downward staircase approach in setting up the stabilization zones because of the sequential drop in the mean prices of gold.

As the above chart shows, each zone consists of the long-term averages. The high price for each zone is the shortest average in terms of time. The low price of each zone is a longer-term average, and therefore lower in price. To create symmetry a middle-price target is created. When two averages are very similar (8-year and 9-year) the longer dated average is used.

The Fed would target the middle price of each zone via open market operations. The price would float between the high and low end of each zone. If the gold price hits the high or low end of the band, then the Fed would act by driving the price back to the middle target price. Each stabilization zone would last one month.

To start this process, the Fed would state its intention of driving the gold price down to $635. This is exactly where the price will open because no one would be stupid enough to fight the Fed.

The process of setting the first trade as the middle price of each zone and letting the price float after will continue until the fifth zone is reached. If you start with the first trade in December, by April of 2009 the U.S would have optimum monetary policy for the first time in 37 years.

The great thing about the long-term mean prices is that they point us in the direction of picking the correct optimum target price. By setting the low end of the fifth zone as the 15-year average, we are also bringing in all the contracts created (and still in existence) over the last 30-years, because all mean prices between 15 and 30 years are $400 oz. This process would respect all the contracts set in dollars over the past 30 years.

Eventually the fifth zone would become permanent future monetary policy and gold prices would fluctuate between $420 and $400, with a middle target of $410. As you move from the first zone to the fifth zone, the volatility also sequentially falls. This means future gold volatility would range between 0% and 2.5%.

The result of eliminating monetary errors is that the wages that lag inflation would catch up to the ever-increasing prices that factor into daily living. Once this benefit is realized, the American people would act as a check on any FOMC seeking to impose monetary errors of inflation and deflation on the public’s wages and business contracts.

Stable monetary policy would also increase the forecasting ability of businesses. Prices often change due to monetary error, and when they do, false signals are sent to the marketplace, which exacerbates the business cycle. As time goes on, forecasting models will increase in accuracy: therefore, the business community will also act as a check on Fed activity when it comes to the dollar.

The Fed would become fully transparent by posting its daily open market operations on its website. Ultimately, these checks and balances on the Fed would get stronger as time goes on, thus making monetary errors a thing of the past.

Pedrera, an inventor with patent pending, has a master’s degree in trading and derivatives. He can be reached at cped1728@gmx.com

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J00000012UTC 24, 2008 by chero

Deepak Blames America

The media look within to explain the sick delusions of the Mumbai killers.

DOROTHY RABINOWITZ

If the Mumbai terror assault seemed exceptional, and shocking in its targets, it was clear from the Thanksgiving Day reports that we weren’t going to be deprived of the familiar, either. Namely, ruminations, hints, charges of American culpability that regularly accompany catastrophes of this kind.

Soon enough, there was Deepak Chopra, healer, New Age philosopher and digestion guru, advocate of aromatherapy and regular enemas, holding forth on CNN on the meaning of the attacks.

How the ebullient Dr. Chopra had come to be chosen as an authority on terror remains something of a mystery, though the answer may have something to do with his emergence in the recent presidential campaign as a thinker of advanced political views. Also commending him, perhaps, is his well known capacity to cut through all sorts of complexities to make matters simple. No one can fail to grasp the wisdom of a man who has informed us that “If you have happy thoughts, then you make happy molecules.”

In his CNN interview, he was no less clear. What happened in Mumbai, he told the interviewer, was a product of the U.S. war on terrorism, that “our policies, our foreign policies” had alienated the Muslim population, that we had “gone after the wrong people” and inflamed moderates. And “that inflammation then gets organized and appears as this disaster in Bombay.”

All this was a bit too much, evidently, for CNN interviewer Jonathan Mann, who interrupted to note that there were other things going on — matters like the ongoing bitter Pakistan-India struggle over Kashmir — which had caused so much terror and so much violence. “That’s not Washington’s fault,” he pointed out.

Given an argument, the guest, ever a conciliator, agreed: The Mumbai catastrophe was not Washington’s fault, it was everybody’s fault. Which didn’t prevent Dr. Chopra from returning soon to his central theme — the grave offense posed to Muslims by the United States’ war on terror, a point accompanied by consistent emphatic reminders that Muslims are the world’s fastest growing population — 25% of the globe’s inhabitants — and that the U.S. had better heed that fact. In Dr. Chopra’s moral universe, numbers are apparently central. It’s tempting to imagine his view of offenses against a much smaller sliver of the world’s inhabitants — not so offensive, perhaps?

Two subsequent interviews with Larry King brought much of the same — a litany of suggestions about the role the U.S. had played in fueling assaults by Muslim terrorists, reminders of the numbers of Muslims in the world and their grievances. A faithful adherent of the root-causes theory of crime — mass murder, in the case at hand — Dr. Chopra pointed out, quite unnecessarily, that most of the terrorism in the world came from Muslims. It was mandatory, then, to address their grievances — “humiliation,” “poverty,” “lack of education.” The U.S., he recommended, should undertake a Marshall Plan for Muslims.

Nowhere in this citation of the root causes of Muslim terrorism was there any mention of Islamic fundamentalism — the religious fanaticism that has sent fevered mobs rioting, burning and killing over alleged slights to the Quran or the prophet. Not to mention the countless others enlisted to blow themselves and others up in the name of God.

Nor did we hear, in these media meditations, any particular expression of sorrow from the New Delhi-born Dr. Chopra for the anguish of Mumbai’s victims: a striking lack, no doubt unintentional, but not surprising, either. For advocates of the root-causes theory of crime, the central story is, ever, the sorrows and grievances of the perpetrators. For those prone to the belief that most eruptions of evil in the world can be traced to American influence and power there is only one subject of consequence.

Accustomed as we are by now to this view of the U.S., it’s impossible not to marvel at its varied guises — its capacity to emerge even in journalism ostensibly concerning the absurd beliefs about the 9/11 attacks held by so many Muslims. It’s conventional wisdom in the region — according to a New York Times dispatch from Cairo, Egypt, last fall by Michael Slackman — that the U.S. and Israel had to have been involved in the planning, if not the actual execution of the assaults. No news there. Neither was the information that there was virtually universal belief in the area that Jews, tipped off, didn’t go to work at the World Trade Center that day. Or that the U.S. had organized the plot in order to attack Arab Muslims and gain access to their oil.

The noteworthy point here was the writer’s conclusion that the U.S. itself was to blame for the power of these beliefs. “It is easy for Americans to dismiss such thinking as bizarre,” Mr. Slackman allowed. But that would miss the point that the persistence of these ideas represents the “first failure in the fight against terrorism.” A U.S. failure? Nowhere in the extended list of root causes here was there any mention of the fanaticism and sheer mindless gullibility that is the prerequisite for the holding of such beliefs.

Its very ordinariness speaks volumes about this report. A piece written with evident serenity, the perversity of its conclusions notwithstanding, it’s one emblem among many of the adversarial view of the nation that is today entrenched in the culture. So unworthy is the U.S. — an attitude solidly established in our media culture long before the war on terror — that only it can be held responsible for the deranged fantasies cherished in large quarters of the Arab world. So natural does it feel, now, to hold such views that their expression has become second nature.

Which is how it happens also that the U.S. is linked to the bloodletting in Mumbai, with scarcely anyone batting an eye, and Larry King — awash perhaps, in happy molecules — thanking guest Dr. Chopra for his extraordinary enlightenment.

Ms. Rabinowitz is a member of The Wall Street Journal’s editorial board.

Mexico Has Made Big Strides on Economic Policy

Calderón was smart enough to hedge against falling oil prices.

By MARY ANASTASIA O’GRADY

Much has been written about the “cultural” divide between Norte Americanos and Latinos. But with the burst of the asset bubble, we’ve learned that politicians, north and south, react similarly in the face of economic crisis.

Mexico’s President Felipe Calderón.

This commonality occurred to me over breakfast in New York last week with Mexico’s minister of finance, Agustin Carstens. The University of Chicago-trained economist was explaining the rationale behind President Felipe Calderón’s “stimulus” package. I kept thinking about President-elect Barack Obama’s promised further spending spree on this side of the border. The Mexican version is not nearly as ambitious but the concept is the same. “He’s taking my money in order to spend it better than I can,” a Mexican friend shot back sardonically when I asked him his views on Mr. Calderón’s plan. We’re all keynesianos now.

The Keynesian theory, calling for government spending as a way to boost aggregate demand during economic downturns, has repeatedly failed to deliver on its promises. But it endures because of its political expediency. It is the best excuse ever invented to expand government. It is both frightening and discouraging to hear politicians offering more Keynes at a time when what is most needed is a way of restoring the appetite of the private sector for risk.

Yet the news from Mexico is not all bad. As I listened to Mr. Carstens discuss his government’s economic options, what also came through is how different Mexico is from 15 years ago. These changes may keep the country from backsliding under the strain of the current financial panic.

The Americas in the News

Get the latest information in Spanish from The Wall Street Journal’s Americas page.

To be sure, Mr. Carstens believes in the state’s capacity to stimulate economic activity. “If you can get the economy going and you have the instruments to do it, it is important that you use them,” he told me. Then he added a historic footnote: “But we have limits to how much we can borrow and finance prudently.” He went on: “Thinking that we are going to run a fiscal deficit without thinking of how we will finance it? That would be irresponsible.”

For a country that has repeatedly gotten itself into fiscal and monetary trouble by running up big budget deficits, this is a tectonic shift in thinking. It is true that Mr. Carstens’s predecessor, Francisco Gil-Diaz, also kept a tight grip on the purse strings during the government of Vicente Fox. But for a Mexican finance minister to be worried about excessive borrowing during a global economic slump of the magnitude now expected is a meaningful departure from tradition.

It isn’t the only new-found prudence in Mexico. Twenty five years ago when oil prices skyrocketed, Latin oil producers spent the windfall as fast as it flowed in — and more besides. Now Mexico takes a different approach. Earlier this year when Maya crude — Mexico’s main blend for export — was topping $120 per barrel, Mr. Carstens instructed his team to begin using derivatives to lock in a floor price of $70 per barrel. “Prices had risen to such a high level that the only direction left was down,” he explained to reporters in Mexico City last month.

With this hedge, Mexico has covered its net oil exports for 2009 at $70 while Maya crude is now trading around $45. What is important here is not that Mr. Carstens’s hedge worked but that this time an oil boom didn’t turn into a government binge.

Yet another big change in Mexico is on the trade front. By now most economists recognize that closing domestic markets in hard times only makes things worse. But candidate Obama’s campaign vow to force protectionist changes to the North American Free Trade Agreement demonstrates the constant temptation for politicians to protect special interest groups from foreign competition.

Yet while Mr. Obama and Congress are talking up more trade barriers, Mr. Calderón’s government is going the other way. At the Asia-Pacific Economic Cooperation summit in Lima, Peru, last month, the Mexican president warned that changes to Nafta would damage both sides of the border. Mexico has numerous free trade agreements but Mr. Carstens told me at breakfast that working to lower tariffs on imports from non-FTA countries is a Calderón priority.

With these advances Mexico may muddle through this recession. But there are also grave risks to its strategy. The much-touted reform of state-owned oil monopoly Pemex is too timid to boost output in the near term. Elsewhere Mr. Carstens says he is working toward eventual tax cuts and simplification of the tax code but adds that now is not the time to go there. The trouble is that as he waits for the right time, the private sector could decide that the cost of doing business in Mexico is just too high. That will leave Mexico more dependent on Mr. Carstens’s strategy of government spending out of the treasury and state-owned “development” banks. That would be a throwback to an unrewarding past.

Let’s Move Intelligence Out of the 1970s

By L. GORDON CROVITZ

The attacks last week in Mumbai and the heightened warnings during the holiday season for the New York City transportation system are reminders that terrorist threats remain. At a time when terrorists are fully up to speed — in Mumbai they used BlackBerrys to communicate — our efforts to prevent terrorism are still in an analog-era time warp.

The Mumbai killers communicated by BlackBerry.

Despite some intelligence reforms after 9/11, those charged with preventing terrorism in the U.S. are still not confident they have the means to prevent another domestic attack. The Obama team, which credits technology for its electoral win, should focus on getting the executive branch the up-to-date tools it needs to prevent terrorism, while protecting reasonable levels of privacy.

In a spectacular example of how Washington’s political compromises on intelligence look better on paper than they work in practice, New York City Police Commissioner Ray Kelly recently accused the Bush Justice Department of “doing less than it is lawfully entitled to do to protect New York City, and the city is less safe as a result.”

Mr. Kelly complained in a letter to Attorney General Michael Mukasey about the arcane legal hoops of the Foreign Intelligence Surveillance Act. This law, passed in 1978, created a special court to approve domestic surveillance. He accused the Justice Department of deciding against seeking permission for needed wiretaps out of too much worry about being turned down. He said Justice Department lawyers want “higher than appropriate standards of probable cause” before sending requests to the FISA judges.

Mr. Mukasey’s response, in an exchange of letters in late October that were recently leaked to the media, is that it’s better to send only very strong cases to the judges. The attorney general said that although New York City’s preferred approach “may lead to additional collection in the short term from the small percentage of applications that might be approved,” over time the “government’s credibility would be substantially undermined.” Mr. Mukasey didn’t put it this way, but these judges need to all but rubberstamp Justice Department requests because FISA puts them way out of their league. The judicial skill set will never include weighing intelligence risks or leveraging new technologies.

Of some 2,300 requests to listen in on people within the U.S. last year, only three were denied. So tactically, Mr. Mukasey has a good argument. The broader question is whether there’s a privacy-protecting alternative to law-enforcement officials’ bickering over how to fit today’s technology needs into yesterday’s legal process.

It took Nixon to go to China and a Bush administration attorney general to deny New York City’s wiretap requests, so perhaps a Democratic administration can prompt a new national debate about privacy versus security: Can we get the most of both by encouraging the use of modern technology?

In the 1970s, when FISA first limited executive-branch discretion on surveillance, eavesdropping meant listening in on known people who used land-line telephones for point-to-point calls or sent telexes to known addresses. The wiretap laws thus focus on known terrorists when the real challenge is to discover them. FISA, as Judge Richard Posner says, “requires that surveillance be conducted pursuant to warrants based on probable cause to believe that the target of surveillance is a terrorist, when the desperate need is to find out who is a terrorist.”

The NYPD-Justice dispute included requests from New York City to monitor “numerous communications facilities.” These reportedly included telephones in high-risk public places such as subway and train stations. Technology can now glean insights from aggregated data such as phone conversations. The problem is that the FISA framework doesn’t allow such blanket surveillance, the technology for which didn’t exist when the law was enacted.

This means we’re blocking intelligence agencies and local police from aggregating information and keeping it anonymous at the individual level until the point where bad actors and their plans are identified. Some civil libertarians would object that automated data mining of email and mobile phones would mean computers listening in on all of us. They would be right. But it’s not just technology that has changed since the 1970s. So has our attitude toward information. We’re all Web users, which has made us increasingly blasé about privacy.

Consider how much anonymous information we happily yield to the computer algorithms of commercial data-mining sites such as Google and Amazon, not to mention online banks, travel sites and political campaigns. We’d want much greater privacy controls from the government, but for now marketers in charge of directing online advertising to the right consumers can keep closer tabs on us than we allow those charged with preventing terrorism to do.

Reasonable people in this libertarian-sympathizing but security-minded country will always disagree about how to strike the privacy-security balance. But as the NYPD-Justice Department dispute reminds us, we should all be able to agree it’s absurd that preventing domestic terrorism is still regulated as if technology had stood still for the past several decades.

Lessons From 40 Years of Education ‘Reform’

Let’s abolish local school districts and finally adopt national standards.

LOUIS V. GERSTNER JR.

While the economic news has most Americans in a state of near depression, hope abounds today that the country may use the current economic crisis as leverage to address some longstanding problems. Nowhere is that prospect for progress more worthy than the crisis in our public education system.

Martin Kozlowski

So, from someone who realized rather glumly last week that he has been working at school reform for 40 years, here is a prescription for leadership from the Obama administration.

We must start with the recognition that, despite decade after decade of reform efforts, our public K-12 schools have not improved. We can point to individual schools and some entire districts that have advanced, but the system as a whole is still failing. High school and college graduation rates, test scores, the number of graduates majoring in science and engineering all are flat or down over the past two decades. Disappointingly, the relative performance of our students has suffered compared to those of other nations. As a former CEO, I am worried about what this will mean for our future workforce.

It is most crucial for our political leaders to ask why we are at this point — why after millions of pages, in thousands of reports, from hundreds of commissions and task forces, financed by billions of dollars, have we failed to achieve any significant progress?

Answering this question correctly is the key to finally remaking our public schools.

This is a complex problem, but countless experiments and analyses have clearly indicated we need to do four straightforward things to bring fundamental changes to K-12 education:

1) Set high academic standards for all of our kids, supported by a rigorous curriculum.

2) Greatly improve the quality of teaching in our classrooms, supported by substantially higher compensation for our best teachers.

3) Measure student and teacher performance on a systematic basis, supported by tests and assessments.

4) Increase “time on task” for all students; this means more time in school each day, and a longer school year.

Everything else either does not matter (e.g., smaller class sizes) or is supportive of these four steps (e.g., vastly improve schools of education).

Lack of effort is not the cause of our 30-year inability to solve our education problem. Not only have we had all those thousands of studies and task forces, but we have seen many courageous and talented individuals pushing hard to move the system. Leaders such as Joel Klein (New York City), Michelle Rhee (Washington, D.C.) and Paul Vallas (New Orleans) have challenged the system, and elected officials from both sides of the political spectrum have also fought valiantly for change.

So where does that leave us? If the problem isn’t “what to do,” nor is it a failure of commitment, what is stopping us?

I believe the problem lies with the structure and corporate governance of our public schools. We have over 15,000 school districts in America; each of them, in its own way, is involved in standards, curriculum, teacher selection, classroom rules and so on. This unbelievably unwieldy structure is incapable of executing a program of fundamental change. While we have islands of excellence as a result of great reform programs, we continually fail to scale up systemic change.

Therefore, I recommend that President-elect Barack Obama convene a meeting of our nation’s governors and seek agreement to the following:

- Abolish all local school districts, save 70 (50 states; 20 largest cities). Some states may choose to leave some of the rest as community service organizations, but they would have no direct involvement in the critical task of establishing standards, selecting teachers, and developing curricula.

- Establish a set of national standards for a core curriculum. I would suggest we start with four subjects: reading, math, science and social studies.

- Establish a National Skills Day on which every third, sixth, ninth and 12th-grader would be tested against the national standards. Results would be published nationwide for every school in America.

- Establish national standards for teacher certification and require regular re-evaluations of teacher skills. Increase teacher compensation to permit the best teachers (as measured by advances in student learning) to earn well in excess of $100,000 per year, and allow school leaders to remove underperforming teachers.

- Extend the school day and the school year to effectively add 20 more days of schooling for all K-12 students.

I can predict that three questions will be raised about these measures:

First, how can we set national standards when we have a strong tradition of local school autonomy? The answer is that the American people are way ahead of our politicians here: Poll after poll shows they support national standards.

Second, won’t this take many years to implement? No, if we follow a focused, pragmatic approach. While ideally we want all 50 states to participate, we can get started with 30. The rest will be driven to abandon their “see no evil” blinders by their citizens as the original group achieves momentum and success. Moreover, we do not have to start from scratch on the national standards. Experts can quickly develop an initial set just by drawing on existing domestic and foreign programs.

Third, how do we pay for all of this? In three ways: We will save billions by consolidating the operations of 15,000 school districts. The U.S. Department of Education can direct all of its discretionary funds to this effort. And we need to drive into the consciousness of every American politician that education is not an expense. It is, rather, the most important investment we can make as a country.

H.G. Wells remarked that “history is a race between education and catastrophe.” For the first time in America’s history, we may be losing that race. We can win, but we have to act quickly and decisively.

Mr. Gerstner, a former CEO of IBM, was chairman of the Teaching Commission (2003-2006), which reported on ways to improve the quality of public school teaching.

Why Are Wages Low in Developing Countries? – Art Carden –

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J00000011UTC 24, 2008 by chero

Thanksgiving, Socialism, and the Free Market
by Jacob G. Hornberger,

As Barack Obama prepares to assume the presidency, it would be appropriate today to remember that the original Thanksgiving celebrated the demise of the “spread-the-wealth” economic system that the colonists at Plymouth Rock initially established.

The story of socialism at Plymouth Rock is one that few Americans are taught in their public (i.e., government) schools. On landing at Plymouth Rock, the Pilgrims established an economic system in which all their crops would be owned in common and whose harvest would be distributed to each family in accordance with its needs. The colonists felt that such a socialist system would be consistent with their deep religious convictions.

There was one big problem, however, with this spread-the-wealth economic system: starvation. When everything was owned by everyone, people would look for excuses to avoid working in the fields and the harvests were not sufficient to keep everyone fed.

Finally, after repeated food shortages Plymouth Rock Governor William Bradford declared an end to socialism at Plymouth Rock. He announced that every family would be responsible for planting and harvesting its own crops and would be free to keep the bounty.

The result? No more starvation! Instead, a bountiful harvest and more than enough food for everyone.

And that’s what the first Thanksgiving was all about — to give thanks for the plentiful bounty that had been brought into existence through the “miracle of the market.”

While Barack Obama undoubtedly recognizes that socialism is a bad system, sadly he favors socialistic programs. While he would no doubt acknowledge that socialism brings impoverishment, as it did at Plymouth Rock, he thinks that by using coercion to “spread the wealth” from rich to poor and middle class, society will be better off.

How logical is that? Does it make any sense? If socialism brings starvation, why would socialistic programs bring anything but economic harm and lower standards of living?

Moreover, why would God create a system in which coveting and stealing the goods of the rich and spreading their wealth to others would bring positive results?

Today, let us not celebrate the socialistic, spread-the-wealth system that has plunged our nation into chaos, crisis, and destitution. Let us instead celebrate the system of economic liberty that the Pilgrims discovered at Plymouth Rock. They pointed the way to an economic system that brings prosperity and harmony and that is consistent with the laws of nature and the laws of God. Today, let us not only celebrate their achievement, let us also rededicate ourselves to restoring a free-market system to our land.

The Krugman Recipe for Depression

Massive government spending is no solution to unemployment.

AMITY SHLAES

Paul Krugman of the New York Times has been on the attack lately in regard to the New Deal. His new book “The Return of Depression Economics,” emphasizes the importance of New Deal-style spending. He has said the trouble with the New Deal was that it didn’t spend enough.

He’s also arguing that some writers and economists have been misrepresenting the 1930s to make the effect of FDR’s overall policy look worse than it was. I’m interested in part because Mr. Krugman has mentioned me by name. He recently said that I am the one “whose misleading statistics have been widely disseminated on the right.”

Mr. Krugman is a new Nobel Laureate, teaches at Princeton University and writes a column for a nationally prominent newspaper. So what he says is believed to be objective by many people, even when it isn’t. But the larger reason we should care about the 1930s employment record is that the cure Roosevelt offered, the New Deal, is on everyone else’s mind as well. In a recent “60 Minutes” interview, President-elect Barack Obama said, “keep in mind that 1932, 1933, the unemployment rate was 25%, inching up to 30%.”

The New Deal is Mr. Obama’s context for the giant infrastructure plan his new team is developing. If he proposes FDR-style recovery programs, then it is useful to establish whether those original programs actually brought recovery. The answer is, they didn’t. New Deal spending provided jobs but did not get the country back to where it was before.

This reality shows most clearly in the data — everyone’s data. During the Depression the federal government did not survey unemployment routinely as it does today. But a young economist named Stanley Lebergott helped the Bureau of Labor Statistics in Washington compile systematic unemployment data for that key period. He counted up what he called “regular work” such as a job as a school teacher or a job in the private sector. He intentionally did not include temporary jobs in emergency programs — because to count a short-term, make-work project as a real job was to mask the anxiety of one who really didn’t have regular work with long-term prospects.

The result is what we today call the Lebergott/Bureau of Labor Statistics series. They show one man in four was unemployed when Roosevelt took office. They show joblessness overall always above the 14% line from 1931 to 1940. Six years into the New Deal and its programs to create jobs or help organized labor, two in 10 men were unemployed. Mr. Lebergott went on to become one of America’s premier economic historians at Wesleyan University. His data are what I cite. So do others, including our president-elect in the “60 Minutes” interview.

Later, Lee Ohanian of UCLA studied New Deal unemployment by the number of hours worked. His picture was similar to Mr. Lebergott’s. Even late in 1939, total hours worked by the adult population was down by a fifth from the 1929 level. To be sure, Michael Darby of UCLA has argued that make-work jobs should be counted. Even so, his chart shows that from 1931 to 1940, New Deal joblessness ranges as high as 16% (1934) but never gets below 9%. Nine percent or above is hardly a jobless target to which the Obama administration would aspire.

What kept the picture so dark so long? Deflation for one, but also the notion that government could engineer economic recovery by favoring the public sector at the expense of the private sector. New Dealers raised taxes again and again to fund spending. The New Dealers also insisted on higher wages when businesses could ill afford them. Roosevelt, for example, signed into law first his National Recovery Administration, whose codes forced businesses to pay an above-market minimum wage, and then the Wagner Act, which gave union workers more power.

As a result of such policy, pay for workers in the later 1930s was well above trend. Mr. Ohanian’s research documents this. High wages hurt corporate profits and therefore hiring. The unemployed stayed unemployed. “If you had a job you were all right” — the phrase we all heard as children about the Depression — really does capture the period.

Why does all this matter today? Because lawmakers are considering new labor legislation containing “card check,” which would strengthen organized labor and so its wage demands. Because employees continue to pressure firms to spend on health care, without considering they may be making the company unable to hire an unemployed friend. Piling on public-sector jobs or raising wages may take away jobs in the private sector, directly or indirectly.

What the new administration decides about marginal tax rates also matters. Mr. Obama said in a Thanksgiving talk that he wanted to “create or save 2.5 million new jobs.” People who talk about saving new jobs are usually talking about the private-sector’s capacity to generate jobs in the future — not about the public sector alone. We know that the new administration is going to spend. But how? It can try to figure out a way to do that without hurting the private sector. Or it can just spend, Krugman-wise, and risk repeating the very depression we seek to avoid.

Ms. Shlaes is senior fellow at the Council on Foreign Relations and the author of “The Forgotten Man: A New History of the Great Depression” (HarperPerennial, 2008).

Adam Smith’s Return

Europe now likes free trade more than America. Alas, there could be a backlash in both places.

By Stefan Theil | NEWSWEEK

Newsweek.Widget.FontSizeSlider.init(document.getElementById(’FontSizeSlider’), 40, 9) Newsweek.Widget.SocialNetwork.init(); Newsweek.Widget.EmailArticle.init(); After decades of American support for the free movement of goods, services and capital around the world, the tables appear to have turned. Nowhere has public backing for free trade been shrinking as rapidly as in the United States. According to this year’s Pew Global Attitudes survey, only 53 percent of Americans agree that trade is good for their country, down from 78 percent in 2002. Contrast those numbers to the ones from Europe, where support for trade runs at 87 percent among Germans, 77 percent among Britons and 82 percent among the French. In countries like India, Korea and Nigeria, support for trade is even higher. Among the 24 countries surveyed, Americans lag behind everyone else in their support for continued free trade.

Fears that international trade could be the next casualty of the economic crisis have some of America’s closest allies seriously worried. Already, canceled orders have sunk shipping rates to 21-year lows, and World Bank head Robert Zoellick says trade will contract next year for the first time since 1982. Now leaders are especially nervous over incoming U.S. President Barack Obama’s campaign suggestions that he would review the North American Free Trade Agreement and put America’s other trade deals back on the negotiating table. In November, Britain’s Gordon Brown warned Obama that he must reject a “beggar-thy-neighbor protectionism that has been a feature in transforming past crises into deep recessions.” Germany’s Angela Merkel, whose country depends on exports for more than one third of its economy, has repeatedly cautioned that a backlash against trade is the last thing anyone needs in a global downturn.

It might come as a surprise that Europe, with its long socialist and mercantilist traditions, is now championing free trade, while free-market America faces a clamor for new barriers. In part, that’s because Europe has much more to lose from shrinking exports, especially now that the crisis is hitting more and more parts of the global economy. Foreign trade accounts for an average of 51 percent of GDP in European Union countries, compared with 13 percent in the United States. What’s more, while Europe has rapidly globalized, the share of the U.S. economy derived from trade has risen only slightly since 1992. European labor unions—and the politicians they help elect—find it harder to campaign against trade because their members’ livelihoods so obviously depend on it. American workers may also worry more about trade because they have fewer protections and get less help if they lose their jobs.

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On both continents, however, positive attitudes toward trade are unlikely to increase in economically harder times. “The last thing struggling workers and producers want is more intense world competition,” says Joe Guinan, a trade economist at the German Marshall Fund. Yet Brown and Merkel, along with Brazil’s Luiz Inácio Lula da Silva and India’s Manmohan Singh, are all stepping up pressure to complete the Doha round of trade talks, which collapsed in Geneva in July. Most countries today place far fewer restrictions on trade than they are technically allowed under international agreements. Average tariffs, for example, can triple around the world without a single treaty violation or recourse by trading partners. That alone—which is not even close to the 1930s-style trade war Brown alluded to when he warned Obama—would shrink global trade by $1.8 trillion and slash global GDP by $448 billion, or 0.8 percent, according to a soon-to-be-published study by the International Food Policy Research Institute. Those numbers dwarf the estimated $79 billion in estimated GDP gains from the Doha round. It’s an “insurance policy” to bring certainty to markets and prevent “systemic risk” from a backlash against trade, says Jennifer Hillman, a World Trade Organization appeals adjudicator.

While still unlikely, the risk of a global crackdown on trade is growing. Earlier this year, more than 30 countries slapped taxes on food exports or banned them outright in response to rising prices. More recently—notwithstanding Lula’s declamations on Doha—Brazil, along with Argentina, has been working on plans to raise tariffs on industrial goods. These developments seem to have helped push leaders of the G20 group of nations, meeting in Washington in November, to commit to holding off on any new trade restrictions for the next 12 months, though it’s unclear if Obama and the incoming U.S. Congress will feel bound by that agreement. Despite the added risks to the global economy, they might just prefer to listen to worried American workers instead of worried American allies.

‘Our Culture Is Better’

Champion of freedom or anti-Islamic provocateur? Both.

JAMES TARANTO

New York

By his own description, Geert Wilders is not a typical Dutch politician. “We are a country of consensus,” he tells me on a recent Saturday morning at his midtown Manhattan hotel. “I hate consensus. I like confrontation. I am not a consensus politician. . . . This is something that is really very un-Dutch.”

Zina Saunders

Yet the 45-year-old Mr. Wilders says he is the most famous politician in the Netherlands: “Everybody knows me. . . . There is no other politician — not even the prime minister — who is as well-known. . . . People hate me, or they love me. There’s nothing in between. There is no gray area.”

To his admirers, Mr. Wilders is a champion of Western values on a continent that has lost confidence in them. To his detractors, he is an anti-Islamic provocateur. Both sides have a point.

In March, Mr. Wilders released a short film called “Fitna,” a harsh treatment of Islam that begins by interspersing inflammatory Quran passages with newspaper and TV clips depicting threats and acts of violent jihad. The second half of the film, titled “The Netherlands Under the Spell of Islam,” warns that Holland’s growing Muslim population — which more than doubled between 1990 and 2004, to 944,000, some 5.8% of the populace — poses a threat to the country’s traditional liberal values. Under the heading, “The Netherlands in the future?!” it shows brutal images from Muslim countries: men being hanged for homosexuality, a beheaded woman, another woman apparently undergoing genital mutilation.

Making such a film, Mr. Wilders knew, was a dangerous act. In November 2004, Theo van Gogh was assassinated on an Amsterdam street in retaliation for directing a film called “Submission” about Islam’s treatment of women. The killer, Mohammed Bouyeri, left a letter on van Gogh’s body threatening Ayaan Hirsi Ali, the film’s writer and narrator.

Ms. Hirsi Ali, born in Somalia, had renounced Islam and been elected to the Dutch Parliament, where she was an ally of Mr. Wilders. Both belonged to the center-right People’s Party for Freedom and Democracy, known by the Dutch acronym VVD. Both took a hard line on what they saw as an overly accommodationist policy toward the Netherlands’ Muslim minority. They argued that radical imams “should be stripped of their nationality,” that their mosques should be closed, and that “we should be strong in defending the rights of women,” Mr. Wilders tells me.

This made them dissenters within the VVD. “We got into trouble every week,” Mr. Wilders recalls. “We were like children going to their parents if they did something wrong, because every week they hassled us. . . . We really didn’t care what anybody said. If the factional leadership said, ‘Well, you cannot go to this TV program,’ for us it was an incentive to go, not not to go. So we were a little bit of two mavericks, rebels if you like.”

Mr. Wilders finally quit the party over its support for opening negotiations to admit Turkey into the European Union. That was in September 2004. “Two months later, Theo van Gogh was killed, and the whole world changed,” says Mr. Wilders. He and Ms. Hirsi Ali both went into hiding; he still travels with bodyguards. After a VVD rival threatened to strip Ms. Hirsi Ali’s citizenship over misstatements on her 1992 asylum application, she left Parliament and took a fellowship at the American Enterprise Institute in Washington. Mr. Wilders stayed on and formed the Party for Freedom, or PVV. In 2006 it became Parliament’s fifth-largest party, with nine seats in the 150-member lower chamber.

Having his own party liberates Mr. Wilders to speak his mind. As he sees it, the West suffers from an excess of toleration for those who do not share its tradition of tolerance. “We believe that — ‘we’ means the political elite — that all cultures are equal,” he says. “I believe this is the biggest disease today facing Europe. . . . We should wake up and tell ourselves: You’re not a xenophobe, you’re not a racist, you’re not a crazy guy if you say, ‘My culture is better than yours.’ A culture based on Christianity, Judaism, humanism is better. Look at how we treat women, look at how we treat apostates, look at how we go with the separation of church and state. I can give you 500 examples why our culture is better.”

He acknowledges that “the majority of Muslims in Europe and America are not terrorists or violent people.” But he says “it really doesn’t matter that much, because if you don’t define your own culture as the best, dominant one, and you allow through immigration people from those countries to come in, at the end of the day you will lose your own identity and your own culture, and your society will change. And our freedom will change — all the freedoms we have will change.”

The murder of van Gogh lends credence to this warning, as does the Muhammad cartoon controversy of 2005 in Denmark. As for “Fitna,” it has not occasioned a violent response, but its foes have made efforts to suppress it. A Dutch Muslim organization went to court seeking to enjoin its release on the ground that, in Mr. Wilders’s words, “it’s not in the interest of Dutch security.” The plaintiffs also charged Mr. Wilders with blasphemy and inciting hatred. Mr. Wilders thought the argument frivolous, but decided to pre-empt it: “The day before the verdict, I broadcasted ['Fitna'] . . . not because I was not confident in the outcome, but I thought: I’m not taking any chance, I’m doing it. And it was legal, because there was not a verdict yet.” The judge held that the national-security claim was moot and ruled in Mr. Wilders’s favor on the issues of blasphemy and incitement.

Dutch television stations had balked at broadcasting the film, and satellite companies refused to carry it even for a fee. So Mr. Wilders released it online. The British video site LiveLeak.com soon pulled the film, citing “threats to our staff of a very serious nature,” but put it back online a few days later. (”Fitna” is still available on LiveLeak, as well as on other sites such as YouTube and Google Video.)

An organization called The Netherlands Shows Its Colors filed a criminal complaint against Mr. Wilders for “inciting hatred.” In June, Dutch prosecutors declined to pursue the charge, saying in a statement: “That comments are hurtful and offensive for a large number of Muslims does not mean that they are punishable.” The group is appealing the prosecutors’ decision.

In July, a Jordanian prosecutor, acting on a complaint from a pressure group there, charged Mr. Wilders with blasphemy and other crimes. The Netherlands has no extradition treaty with Jordan, but Mr. Wilders worries — and the head of the group that filed the complaint has boasted — that the indictment could restrict his ability to travel. Mr. Wilders says he does not visit a foreign country without receiving an assurance that he will not be arrested and extradited.

“The principle is not me — it’s not about Geert Wilders,” he says. “If you look at the press and the rest of the political elite in the Netherlands, nobody cares. Nobody gives a damn. This is the worst thing, maybe. . . . A nondemocratic country cannot use the international or domestic legal system to silence you. . . . If this starts, we can get rid of all parliaments, and we should close down every newspaper, and we should shut up and all pray to Mecca five times a day.”

It is difficult to fault Mr. Wilders’s impassioned defense of free speech. And although the efforts to silence him via legal harassment have proved far from successful, he rightly points out that they could have a chilling effect, deterring others from speaking out.

Mr. Wilders’s views on Islam, though, are problematic. Since 9/11, American political leaders have struggled with the question of how to describe the ideology of the enemy without making enemies of the world’s billion or so Muslims. The various terms they have tried — “Islamic extremism,” “Islamism,” “Islamofascism” — have fallen short of both clarity and melioration. Melioration is not Mr. Wilders’s highest priority, and to him the truth couldn’t be clearer: The problem is Islam itself. “I see Islam more as an ideology than as a religion,” he explains.

His own view of Islam is a fundamentalist one: “According to the Quran, there are no moderate Muslims. It’s not Geert Wilders who’s saying that, it’s the Quran . . . saying that. It’s many imams in the world who decide that. It’s the people themselves who speak about it and talk about the terrible things — the genital mutilation, the honor killings. This is all not Geert Wilders, but those imams themselves who say this is the best way of Islam.”

Yet he insists that his antagonism toward Islam reflects no antipathy toward Muslims: “I make a distinction between the ideology . . . and the people. . . . There are people who call themselves Muslims and don’t subscribe to the full part of the Quran. And those people, of course, we should invest [in], we should talk to.” He says he would end Muslim immigration to the Netherlands but work to assimilate those already there.

His idea of how to do so, however, seems unlikely to win many converts: “You have to give up this stupid, fascist book” — the Quran. “This is what you have to do. You have to give up that book.”

Mr. Wilders is right to call for a vigilant defense of liberal principles. A society has a right, indeed a duty, to require that religious minorities comply with secular rules of civilized behavior. But to demand that they renounce their religious identity and holy books is itself an affront to liberal principles.

Mr. Taranto, a member of The Wall Street Journal’s editorial board, writes the Best of the Web Today column for OpinionJournal.com.

What Newcomers Know About Thanksgiving

Immigrant students learn what makes America great.

MELANIE KIRKPATRICK

Queens, N.Y.

Study after depressing study finds that public schools are failing in their civic duty to transmit to students an appreciation of American history and ideals. That may be so. But on this Thanksgiving weekend, allow me to recount a good news story from a New York City high school for recent immigrants. There, a group of teenagers, born in the four corners of the world, have a lot to teach a native-born visitor about Thanksgiving and what it means to choose to come to this country. For them, the Pilgrims’ story mirrors their own stories.

Barbara Kelley

Newcomers High School is located in the New York City borough of Queens, where, according to the 2000 Census, 46% of the population of 2.2 million are immigrants. It is one of the most ethnically diverse counties in the country. Some 850 students attend Newcomers, says Principal Mary Burke. They hail from 60 countries and speak 40-plus languages. For most, this past Thursday marked their first or second Thanksgiving celebration.

Sophia Zannis teaches ESL — English as a Second Language — at Newcomers. She uses the Thanksgiving story to get her students talking and writing about why they came to the U.S. History teacher Tim Becker includes a unit on the holiday even though Thanksgiving isn’t part of the state-mandated curriculum for his 11th-grade class. It “reminds my students that they are not the first new Americans to have struggled to achieve their dreams,” he says, “and that others before them have overcome the challenges of living in a new country.”

Like the Pilgrims, most of the students at Newcomers say their families came here seeking better lives. The Pilgrims “were looking for something they didn’t have in England,” says a girl from Colombia. “When you come here it is the same. You have to face difficulties.” An Ecuadorian girl sitting near her agrees, “When they [the Pilgrims] came here, they felt alone and didn’t have friends. Me either.”

Virtually every student I talk to has a similar story: “My dad came here to have a better life,” says a girl from Ivory Coast. “He worked as a house boy. Now he works for the MTA [Metropolitan Transit Authority].” Or a boy from China: “My mother finished elementary school. Then there wasn’t any money for middle school. . . . She wanted to come here to make a better life for her children.” A Bangladeshi boy quotes the Declaration of Independence; his family came here for the purpose of “pursuiting the happiness.”

In Ms. Zannis’s class, we fall into a discussion of the virtues the Pilgrims exemplify and the personal characteristics they needed in order to survive the terrible winter of 1620-21, when half their number died. The words fly across the classroom: “Courage.” “Hard-working.” “Brave.” “Frustrated.” “Strong.” “Don’t give up.”

That, in turn, segues into a discussion of poverty in America and how it’s different from poverty in their home countries. The poor in this country seem “middle class,” says a boy from Mexico. Another Mexican, this time in Mr. Becker’s class, makes a similar observation. “In my country,” he says, the poor are “skinny. . . . Here it is different. They are fat. Food is very cheap here. . . . They can get a dollar meal.” The girl from Ivory Coast says it pains her to see Americans sleeping on the streets. The poor don’t sleep outdoors in her country, she says. “They sleep with family or friends. We see more poor people” in this country.

Newcomers High School also has students who, like the Pilgrims, came to the U.S. seeking freedom of worship. A boy who says he’s from Tibet notes that his family “couldn’t practice the religion of the Dalai Lama” in China. An Indonesian girl, who is Christian, tells of being persecuted by Muslims in her neighborhood and fearing for her safety. An Egyptian, also a Christian, says she feared being kidnapped and forced to convert to Islam. “We wanted to close all the bad pages of memory . . . and start a new page.”

The kids all seem familiar with Thanksgiving’s food traditions and more than half of those I speak to say they plan to celebrate at home with the festive bird. There are nontraditional foods on the menu too. A Polish girl mentions pierogies. A Chinese boy says his family will eat rice. When I ask whether it really matters what you eat on Thanksgiving, I get a bunch of “you gotta be kidding” looks. “Yes! It’s tradition!” shouts out one student.” “Remember the history of the country,” admonishes another.

The kids at Newcomers High School have an edge on their native-born peers: They know why they’re here — a knowledge that translates into an intense appreciation for their new country. I don’t know how Newcomers’ students would score if required to name the “Father of the Constitution” or to identify the opening words of the Declaration of Independence, as one test of general historical knowledge recently asked students elsewhere. Nor do I know whether the respect for different cultural traditions that the high school obviously fosters is accompanied by a curriculum that stresses American history, culture and heroes — the store of knowledge that binds us together as a nation.

But the young newcomers I interviewed in Queens had an essential, and very personal, understanding of the earliest story at the heart of the American experience. They understood the hurdles the English settlers had to overcome before they celebrated the First Thanksgiving and why it was worth it. “My story and their story was very much alike,” says a boy from Bangladesh. “Both groups suffered in their mother country . . . and arrived in the United States with a new hope in [their] heart, a new dream in [their] eyes.”

Ms. Kirkpatrick is a deputy editor of the Journal’s editorial page.

Singapore Strikes Again

The city-state resumes its campaign against the Journal.

Let us begin with an apology to our readers in Asia. Unless they are online, they will not see this editorial. For legal reasons, we are refraining from publishing it in The Wall Street Journal Asia, which circulates in Singapore.

Singapore’s Prime Minister Lee Hsien Loong.

Our subject is free speech and the rule of law in the Southeast Asian city-state — something on which the international press and Singapore’s government have often clashed. We can’t say which side would prevail if the Singapore public could hear an open debate, but the fact is that we know of no foreign publication that has ever won in a Singapore court of law. Virtually every Western publication that circulates in the city-state has faced a lawsuit, or the threat of one.

Which brings us to the ruling against us this week in Singapore’s High Court. Dow Jones Publishing (Asia) was found guilty of contempt of court for two editorials and a letter to the editor published in The Wall Street Journal Asia in June and July. The Attorney General, who personally argued the contempt case against us, characterized the articles as “an attack on the courts and judiciary of Singapore inasmuch as they impugn the integrity, the impartiality and the independence of the Court.”

In suing for contempt, Singapore chose to go after us for the most basic kind of journalism. The first editorial, “Democracy in Singapore,” reported on a damages hearing in a defamation case brought (and won) by former Prime Minister Lee Kuan Yew against opposition politician Chee Soon Juan. The second editorial, “Judging Singapore’s Judiciary,” informed readers what an international legal organization had said about Singapore’s courts.

Background Reading

Regarding the first editorial, we’ll note that court proceedings are privileged under Singapore law, which means they can be reported — though Singapore’s media rarely do the job. Mr. Chee wrote a letter in response to the first editorial, which we published and which is cited in the contempt charge. We also published two letters from Mr. Lee’s spokeswoman.

In the second editorial, we reported on the International Bar Association’s critical study of the rule of law in Singapore. This is the same outfit that held its annual conference in Singapore last year, a meeting that Mr. Lee himself touted as a sign of confidence in Singapore’s courts. The Law Society of Singapore is a member of the IBA. If reporting on what such a body says is contemptuous of the judiciary, then Singapore is saying that its courts are above any public scrutiny.

Again, we published a letter from the Singapore government responding to the editorial. This one was from the Law Ministry, which blasted the IBA report and us for repeating its “vague allegations.” The IBA then weighed in, in a posting on its Web site, saying it wished “to correct some inaccurate comments” in Singapore’s letter. It invites readers to read the report and “see for themselves” that its views are “based on comprehensive examples and evidence.” The IBA homepage is www.ibanet.org.

In his ruling, Justice Tay Young Kwang refers to us as a “repeat offender.” He’s right in the narrow sense that this isn’t the first time Singapore has pursued the Journal Asia for contempt. In 1985, the newspaper and its editors were sued over an editorial about legal actions against opposition politician J.B. Jeyaretnam. The editors apologized.

In 1989, the paper was sued for contempt again, this time over a news story that quoted Dow Jones’s then-president, Peter Kann. Mr. Kann had criticized a libel judgment won by Mr. Lee against the Far Eastern Economic Review, the Journal Asia’s sister publication. The paper, its editor, publisher, local distributor and local printer were all named. They lost.

We are not eager to return to that fractious era, when the Journal Asia had its circulation severely restricted in Singapore and the paper’s reporters were unwelcome. Since 1991, when the newspaper and Mr. Lee reached a settlement, our relationship with Singapore had been more or less stable until the latest contempt charge.

Meanwhile, in September, the Far Eastern Economic Review lost a defamation case brought by Mr. Lee and his son, current Prime Minister Lee Hsien Loong, over an interview it published with opposition leader Mr. Chee. The elder Mr. Lee has long used defamation suits to silence his critics in the press and among the political opposition.

As for this week’s contempt ruling, the first line of Justice Tay’s decision is revealing as a standard for Singapore justice. “Words sometimes mean more than what they appear to say on the surface,” he writes, going on to interpret the words as contemptuous because they had an “inherent tendency” to “scandalise the court.” The fine he levied, S$25,000 ($16,500), is the largest ever meted out for such an offense. Justice Tay expressed the hope that it will deter “future transgressions.”

We’ll pay the fine. We’ll also continue to express our views about politics, the courts and other subjects that we think our readers should know about. And we’ll let readers decide what to make of the judiciary in Singapore.

Free Trade versus Protectionism

by Walter Williams

There’s a growing anti-trade sentiment in our country. Much of the dialogue is grossly misinformed. Let’s try to untangle it a bit with a few questions and observations. First, does the U.S. trade with Japan and England? Put another way, is it members of the U.S. Congress trading with their counterparts in the Japanese Diet or the English Parliament? An affirmative answer is pure nonsense. When I purchased my Lexus, I had nothing to do with either the Japanese Diet or the U.S. Congress. Through an intermediary, a Lexus dealer, I dealt with Toyota Motor Corporation.

While it might be convenient to speak of one country trading with another, such aggregation can conceal a lot of evil, particularly when people call for trade barriers. For example, what would be a moral case for third-party interference, by either the Japanese Diet or the U.S. Congress, with an exchange between me and Toyota Motor Corporation? Some might reason that since Japan places restrictions on U.S. products entering their country, an appropriate retaliatory measure is not to allow Japanese products to freely enter the U.S. By the way, Japanese protectionist restrictions on rice imports force Japanese consumers to pay three or four times the world price for rice. How much sense does it make for Congress to retaliate against Japan by imposing restrictions on their products thereby forcing American consumers, say Lexus buyers, to pay higher prices? Should our rule be: If one country screws its citizens we should retaliate by screwing our citizens?

Since there is no moral argument for preventing one person from trading with another, anti-traders shift their argument to a patriotic appeal such as suggesting that we’re losing our manufacturing sector. That doesn’t square with the facts. According to a report given by Dr. William Strauss, senior economist for the Federal Reserve Bank of Chicago, titled “Is U.S. Losing Its Manufacturing Base?” the answer is no. In each of the past 60 years, U.S. manufacturing output growth has averaged 4 percent and productivity growth has averaged 3 percent. Manufacturing is going through the same process as agriculture. In 1900, 41 percent of American workers were employed in agriculture; today, only 2 percent are and agricultural output is greater. In 1940, 35 percent of workers were employed in manufacturing jobs; today, it’s about 10 percent. Again, because of huge productivity gains, manufacturing output is greater.

The decline in manufacturing employment is not limited to the U.S. Since 2000, China has lost over 4.5 million manufacturing jobs. In fact, nine of the top 10 manufacturing countries, which produce 75 percent of the world’s manufacturing output (the U.S., Japan, Germany, China, Britain, France, Italy, Korea, Canada, and Mexico), have lost manufacturing jobs but their manufacturing output has risen.

Despite the pretense of being a free trade nation, the U.S. has significant barriers to trade that come in the form of tariffs, quotas and steep regulatory barriers. Our restrictions are just not as onerous as many other countries but there’s a push to make them so. It’s simple politics. The people who face foreign competition, say management and workers in the auto industry, are well organized, have narrowly shared interests and the resources to have considerable clout in Washington to get Congress to enact trade barriers. Restricting foreign competition means higher prices for their products, and hence higher profits and fuller employment in their industry. The people who are benefited by foreign competition, say auto consumers, have widely dispersed interests; they are not organized at all and have little clout in Washington. You never see consumers descending on Washington complaining about cheap prices for foreign products; it’s always domestic producers who do the complaining.

The relationship between prosperity and economic freedom, including free trade, is a no-brainer. But if you need hard evidence, check out the Heritage Foundation’s “Index of Economic Freedom.” You’ll find that nations having the greatest measure of economic freedom are the most prosperous and peaceful.

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J00000011UTC 24, 2008 by chero

Menem charged with arms-smuggling

Mr Menem insists the arms shipments were legal

The former President of Argentina, Carlos Menem, has been formally charged with involvement in arms-trafficking.

Prosecutors said Mr Menem had illegally sold weapons to Croatia and Ecuador in the 1990s, when they were involved in conflicts. He denies the charges.

Mr Menem, who has been ill, took part in the session on a video-link from the northern province of La Rioja.

He governed Argentina from 1989 to 1999. He has been on trial, alongside 17 co-defendants, since October.

He and his co-defendants are accused of authorising the sale of weapons, including rifles, anti-tank rockets and ammunition, to Croatia and Ecuador between 1991 and 1995.

At the time, Croatia was under a UN arms embargo because of its involvement in the violent break-up of the former Yugoslavia, while in 1995 Ecuador was involved in a month-long conflict with neighbouring Peru.

Mr Menem has said he signed the decrees authorising the shipments but maintains they were legal as they were destined for Panama and Venezuela, which were both at peace.

Evidence about the true destinations first came to light in 1995.

Immunity

In 2001, Mr Menem spent several months under house arrest on similar charges, but he was set free by a panel of judges, most appointed during his presidency.

The case against him was filed again after President Nestor Kirchner, who was in office between 2003 and 2007, replaced all the judges.

If found guilty, Mr Menem could technically face a sentence of up to 12 years in prison.

However, as a serving senator – he represents the western province of La Rioja – Mr Menem is immune from imprisonment.

Prosecutors would either have to wait until his term in office expires, in 2014, or ask the Senate to pass a special motion to put him behind bars, the BBC’s Daniel Schweimler in Buenos Aires says.

Mr Menem insists he is the victim of a political campaign by current President Cristina Fernandez, wife of former President Kirchner.

Bernanke says banks ready to act

US Federal Reserve chairman Ben Bernanke

Mr Bernanke says policymakers are ready to take additional steps.

US Federal Reserve chief Ben Bernanke says that the world’s central banks are ready to take further action to ease troubled credit markets.

Speaking at a central bankers’ forum in Frankfurt, he warned that financial markets remained under “severe strain”.

The Fed cut interest rates last month in co-ordinated move along with other major central banks, including the Bank of England.

His comments raised expectations that US interest rates would be cut further.

‘Additional steps’

Mr Bernanke did note “tentative improvements” in credit markets but said that “monetary policy actions have not resolved the ongoing strains in financial markets”.

“Policymakers will remain in close contact, monitor developments closely, and stand ready to take additional steps should conditions warrant,” he added.

So far there is little evidence that policymakers have been able to avert a severe global downturn.

US retail sales fell sharply in October in the latest sign of weakening economic activity and eurozone economies have official entered a recession, according to official figures released on Friday.

Leaders of the G20 developed and emerging economies are meeting in Washington this weekend to discuss how to contain the financial crisis.

NEIL CAPUTO Podcasts – FOXNews.com

Podcasts – FOXNews.com

Global stock markets in 2008

The global financial turmoil seen during 2008 has led to extreme volatility on the world’s stock markets.

Below you can see how some of the main global stock indexes have fared during 2008 (graphs update automatically).

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FTSE 100 INDEX: JAN-DEC 2008

DOW JONES INDUSTRIAL AVERAGE: JAN-DEC 2008

DOW JONES INDUSTRIAL AVERAGE chart Jan-Dec 2008

NIKKEI 225 INDEX: JAN-DEC 2008

DAX INDEX: JAN-DEC 2008

CAC 40 INDEX: JAN-DEC 2008

BBC GLOBAL 30 INDEX: JAN-DEC 2008

Credit crisis: ‘The worst is over’

Steve Forbes, the publisher of Forbes magazine, is one of the few people remaining optimistic despite gloomy predictions about the global economy.

He talked to Matt Frei about how an economic recovery could be underway.

Economy boost for Spain and Italy

Italy and Spain have both been hit hard by the global economic slowdown.

Spain and Italy have announced plans worth billions of euros to kick-start their economies.

Italy approved an 80bn euro ($102bn;£66bn) emergency package that included tax breaks for poorer families, public works projects and mortgage relief.

Spain unveiled an 11bn euro plan aimed at creating 300,000 jobs.

The announcements are the latest in a series of attempts by EU governments to shore up their economies as the financial crisis bites.

Italian Prime Minister Silvio Berlusconi called on to Italians to keep on spending.

“We have helped citizens, the less well off, so that they can continue to consume,” he said.

“The intensity and duration of the crisis depends on all of us.”

Spain’s Prime Minister, Jose Luis Rodriguez Zapatero, said the money will be mainly invested in infrastructure and public works.

Spain’s unemployment reached 12.8% in October – the highest in the eurozone.

Construction crisis

The Spanish government said it would invest 0.8bn euros in the ailing car industry, which has been through a severe downturn and seen sales plummet 54.6% since the beginning of the year.

The construction industry has also been severely hit by the financial crisis, with property prices falling and companies slashing thousands of jobs.

The Spanish economy shrank by 0.2% in the third quarter, putting an end to 15 years of continuous growth.

The European Commission has demanded that each EU member must spend about 1.2% of Gross Domestic Product (GDP), or economic output, to fight the economic slowdown.

Spain’s plan is worth 1.1% of its GDP.

Germany launched a similar 50bn euro package, while next week France is expected to unveil economic measures worth 20bn euros.

Troops search Mumbai siege hotel

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Firefighters and troops inside the Taj Mahal hotel

Indian troops have been searching a landmark Mumbai hotel, hours after killing the last gunmen holding out.

Commandos said they had killed three militants inside the Taj Mahal Palace in an assault on the huge building.

Wednesday’s attacks on hotels, a rail station, a Jewish centre and other sites left at least 195 people dead.

India has blamed “elements with links to Pakistan”. Pakistan has pledged to act against any group found to have links to the militants.

Funerals have been held for some of the dead including Indian anti-terrorist squad chief Hemant Karkare.

See a detailed map of the area

The number of militants involved in the co-ordinated attacks remains unclear.

Indian police say they have arrested one suspected attacker.

They are investigating whether a trawler found abandoned with a corpse on board is linked to the attacks.

And they have played down early reports suggesting that British citizens were involved in the attacks.

President George W Bush pledged support to India, and said he was keeping President-elect Barack Obama fully informed.

Final assault

The final assault on the Taj Mahal hotel began shortly before 0730 (0200 GMT) on Saturday.

A suspected attacker, seen outside the station on 26 November 2008

In pictures: Calm returns

Mumbai police mourn their dead

‘Mumbai is in full mourning’

‘No evidence’ of UK Mumbai link

Heavy, sustained gunfire was heard as soldiers rushed into the lobby to flush out the remaining few gunmen.

“There were three terrorists, we have killed them,” the chief of India’s elite National Security Guard commandos, JK Dutt, said later.

“There was [a] lot of shooting. Grenades were lobbed and explosives were used by the terrorists.”

He said that the gunmen had set fire to hotel rooms whenever his commandos were bearing down on them.

Firefighters worked to contain fierce flames that billowed from the building’s lower floors.

The stand-offs began late on Wednesday when small groups of gunmen armed with automatic weapons and grenades opened fire indiscriminately at sites around the city, which also included a hospital and a cafe frequented by foreigners.

BOMB ATTACKS IN INDIA IN 2008

30 October: Explosions kill at least 64 in north-eastern Assam

30 September: Blasts in western India kill at least seven

27 September: Bomb blasts kills one in Delhi

13 September: Five bomb blasts kill 18 in Delhi

26 July: At least 22 small bombs kill 49 in Ahmedabad

25 July: Seven bombs go off in Bangalore killing two people

13 May: Seven bombs hit markets and crowded streets in Jaipur killing 63

Indo-Pakistan ties strained

Timeline: Mumbai attacks

Indian press criticises security

Most of the dead and the 295 injured are Indian citizens. At least 22 foreigners are known to have died, including victims from Germany, Japan, Canada, Australia, Italy, Singapore, Thailand and France. One Briton, Andreas Liveras, has been killed.

A claim of responsibility for this week’s attacks – the worst in India’s commercial capital since nearly 200 people were killed in a series of bombings in 2006 – was made by a previously unknown group calling itself the Deccan Mujahideen.

However, most intelligence officials are keeping an open mind as the attacks have thrown up conflicting clues, BBC security correspondent Frank Gardner says.

Crisis meeting

Indian Prime Minister Manmohan Singh has been holding an emergency meeting with his armed forces and intelligence chiefs to discuss the Mumbai attacks.

Mr Singh has already said he believes a group based outside India was behind the killings and senior Indian politicians say the only surviving gunman to be captured is from Pakistan.

Pakistani President Asif Ali Zardari pledged to act swiftly if given any evidence of involvement by Pakistani groups or individuals in the attacks.

His foreign minister, Shah Mahmood Qureshi, condemned the attacks as “barbaric”.

Earlier, Pakistan reversed a decision to send its intelligence chief to India to help with the investigation, following domestic criticism. It will instead send a lower-ranking representative.

Map of Mumbai showing location of attacks

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J00000011UTC 24, 2008 by chero

America’s economy

Adding to the stimulus

More unconventional measures to stimulate America’s economy

THE Federal Reserve’s interest-rate target is near zero. The recession is deepening. No wonder that speculation is mounting about when America’s economic policymakers will start using truly unconventional measures to stimulate the economy.

The answer is that they already have. Since early September, without any formal declaration, the Fed has radically expanded its balance sheet to counter the credit crunch. Under the guise of successive new programmes, each with a less memorable acronym than the last, the Fed is substituting its balance sheet with that of the contracting private financial system in the hope of keeping the economy from being starved of credit.

The current credit crisis is not a temporary shock like the September 11th 2001 terrorist attacks, which briefly severed the financial system’s internal plumbing. Rather, a radical reassessment of what constitutes acceptable levels of capital, leverage and interest rates is underway. Those financial institutions that have not failed are intent on reducing leverage—their volume of loans for each dollar of capital. The Fed has no hope of stopping this process; it is merely trying to slow it down by providing a home for the assets that the financial sector is shedding. The alternative is plunging asset values, a complete withdrawal of credit and economic catastrophe.

There is no predetermined end game. Ben Bernanke, the Fed chairman, has repeatedly promised to use “all of the powers at our disposal” to get credit flowing again. This week saw a slew of big new initiatives. The Fed and Treasury agreed to guarantee $306 billion of Citigroup’s assets. They then created a $200 billion facility to buy asset-backed securities. Most radically, the Fed promised to buy up to $500 billion of mortgage-backed securities (MBS) guaranteed by government-sponsored entities including now-nationalised mortgage agencies, Fannie Mae and Freddie Mac, and up to $100 billion of direct debt. The 30-year conventional mortgage rate fell to 5.8% on Wednesday from a little over 6% before the Fed’s announcement, according to Bankrate.com

The MBS purchases are significant; for the first time they turn the Fed into a direct lender to consumers. Many homeowners, though they do not know it, will now send their monthly mortgage payment to the Fed. The Fed will finance these programmes with newly created reserves; that is, it will print money. Its balance sheet, which has ballooned from $900 billion in August to $2.2 trillion now, could grow by an additional $800 billion, which would make it a larger lender than any commercial bank.

It is tempting to look to Japan for a road map to where the Fed goes next. Faced with sinking asset prices, insolvent banks, moribund growth and deflation, the Bank of Japan eventually lowered its policy rate to zero in 1999. In 2001 it then announced “quantitative easing”. Through large-scale purchases of government bonds it aimed to fill banks with excess reserves that it hoped they would lend out, to stimulate loan growth.

These routes are open to the Fed. It could cut its federal-funds rate target from 1% to zero, though that would make it hard for some parts of the money market to function. And it may not do much good, since the actual funds rate is already trading well below the 1% target. To give it more impact, the Fed could commit to keeping the funds rate at zero for some period of time or until the economy or inflation meet some predetermined conditions, though such a commitment could drag down yields on long-term Treasuries.

Alternatively, the Fed could target long-term rates via purchases of Treasury bonds, as it did from 1942 to 1951. That strategy might gain appeal if big government deficits start to force bond yields higher. Academics have concluded that Japan’s quantitative easing had little benefit except to buttress expectations that its policy rate would be zero for a long time.

Online advertising

Not ye olde banners

Internet advertising will be relatively unscathed in the downturn

AT THE beginning of the year Jeff Zucker, the boss of NBC Universal, a big television and film company, told an audience of TV executives that their biggest challenge was to ensure “that we do not end up trading analogue dollars for digital pennies”. He meant that audiences were moving online faster than advertisers, thus leaving media companies short-changed. Now, near the end of the year, the situation looks even worse, as the recession threatens to turn even the analogue dollars into pennies. Will this hasten the shift towards internet advertising, or will it decline too?

Advertising rises and falls with the economy, though how much is a matter of debate. Randall Rothenberg, the boss of the Interactive Advertising Bureau, a trade association for digital advertisers, points to the remarkable stability of advertising at about 2% of GDP since 1919, when the data began to be collected. This would suggest that ad budgets will move roughly in line with economic output.

But Mary Meeker, an internet analyst at Morgan Stanley, believes that modern ad budgets rise and fall much more than GDP does. According to her estimates, if the economy stops growing, ad spending is likely to fall by 4%. If the economy shrinks by 2%, overall ad spending may fall by 10%. As for the online segment, recent history is cause for pessimism. Between 2000 and 2002, during the dotcom recession, online ad spending in America fell by 27%.

Yet the web has changed a lot since 2002. Back then, gaudy display “banners” on web portals such as Yahoo! and MSN were the preferred technology. These still exist, but they now account for less than 20% of online ad spending. More than half goes to search advertising on Google and rival search-engines, which place small text ads next to results based on the keyword of the query, and charge only when a user clicks on them. In brand advertising, “rich media” ads are taking over from banners. These allow users to interact by clicking, so their engagement can be tracked.

All this makes spending on advertising much less speculative, so that it starts to be treated instead as a cost of sales. This is one reason why online advertising should suffer less than other sorts. This week eMarketer, a market-research firm, predicted that online-advertising spending in America, which makes up about half the global total, will increase by 8.9% in 2009, rather than the 14.5% it had forecast in August. The firm thinks search advertising will grow by 14.9% and rich-media ads by 7.5%, whereas display ads will grow by 6.6%. In short, online advertising will continue to expand in the recession—just not as quickly as previously expected.

Another reason for optimism, says Mr Rothenberg, is that online advertising is making obsolete the old distinction between marketing spending “above the line” and “below” it. In the jargon, above-the-line spending drives brand “awareness” (probably on television) or “consideration” by a consumer planning a purchase (probably in a newspaper). Such spending is often slashed in recessions. Below-the-line spending includes promotions or coupons to whet the consumer’s “preference” for the brand as he nears a purchase, or schemes such as frequent- flyer miles to increase his “loyalty” afterwards. These budgets are more robust.

Online marketing increasingly aims for awareness, consideration, preference and loyalty all at once. Mr Rothenberg gives the example of a rich-media ad for Kraft, a food company, in which a yummy image raises brand awareness, a click reveals a recipe that increases consideration, another click provides coupons and yet another click initiates a game that can be shared with friends. Marketing managers can therefore defend their online budgets as being both above and below the line.

The industry is also cautiously excited about two new forms of online advertising. The first is video. So far nobody has found a way to advertise inside online clips on a large scale. YouTube, which Google bought for no less than $1.65 billion two years ago, is “a huge end-user success,” says Eric Schmidt, Google’s boss, “and we’re awaiting the monetisation.” This is his way of saying that YouTube, despite showing 5 billion video clips a month, has trivial ad revenues. The site is experimenting with text “overlays” inside clips and sponsored videos for specific search terms, but it is early days. “If only we could schedule the revolution,” jokes Larry Page, one of Google’s founders.

If something close to one is in fact near, it may not come from YouTube. Ads on Hulu, a video site that is a joint venture between Mr Zucker’s NBC Universal and News Corp, another media giant, appear to be selling well. Hulu is different from other video sites in that it only shows professionally produced videos, such as programmes and films from NBC, Fox, MGM and Warner Brothers. It runs a relatively small number of short, fun “pre-roll” ads. These incorporate some of the advantages of the web. Viewers can, for instance, vote on how good a particular ad was.

The lesson appears to be that the problem was not the format but the fact that so much of the footage online, especially on YouTube, is “user-generated”. Brands are wary of putting their ads next to amateur clips because they may be boring or offensive. This is less likely to be a problem with professional content. From a small base, says Mr Rothenberg, online-video ads grew from 1% to 3% of all interactive ads in America in the first half of the year.

The other hope is for ads on social networks such as MySpace and Facebook. They are experimenting with a variety of advertising formats, though none has yet proved very successful. Their big weakness is that users go to social-networking sites to socialise, not to shop (as they might on search engines). Their biggest strength is that users spend so much time there. Two years ago 11% of time spent online was at Yahoo! and MSN, two web portals; now their share is down to 5%, and 5% of online time is spent at YouTube and Facebook.

Online traffic, in other words, is moving towards sites where advertising has so far proved ineffective and is therefore cheap. This, says Ms Meeker, presents an opportunity for innovation and arbitrage by clever marketing managers as they cut their conventional ad budgets. It may also provide a glimmer of hope for the advertising industry as it enters recession.

Battles rage for Mumbai hostages

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A day of explosions and gunfire at the Taj Mahal Palace hotel

Fresh explosions and gunfire have been heard at Mumbai’s Taj Mahal Palace hotel, one of several sites targeted in attacks that have killed at least 130.

Loud blasts have also rocked a Jewish outreach centre where commandos were attempting to free several hostages.

A 29-year-old rabbi and his wife were confirmed as being among five hostages killed inside Nariman House.

India’s foreign minister said “elements with links to Pakistan” were involved in the attacks on Mumbai.

See a detailed map of the area

However, his Pakistani counterpart has urged India not to bring politics into the issue, saying “we should join hands to defeat the enemy”.

The BBC’s Pakistan correspondent, Barbara Plett says there is a feeling among senior officials in Islamabad that India has acted too hastily in linking the Mumbai attackers to Pakistan.

In the UK, security officials said they were investigating reports that British citizens of Pakistani origin were involved.

Fearful residents say Mumbai will cope

In pictures

The stand-offs began late on Wednesday when gunmen armed with automatic weapons and grenades opened fire indiscriminately on crowds at a major railway station, the two hotels, the Jewish centre, a hospital and a cafe frequented by foreigners.Earlier, nearly 100 guests and staff – many of them westerners – were rescued from the Oberoi-Trident hotel, and the battle with gunmen there appeared to be at an end.

Around 370 people have been injured since Wednesday, while the death toll is expected to rise as more bodies are discovered.

Confirmation also came on Friday that two French and two US citizens had died in the violence. The US state department said Americans were still at risk in Mumbai.

One Indian security official said eight foreigners were known to have died, among them three Germans, a Japanese, Canadian and Australian. One Briton has also been killed.

‘Ultimate sacrifice’

As night fell at the end of a day of fighting around Nariman House, the New York-based Chabad-Lubavitch organisation confirmed that Rabbi Gavriel Holtzberg, 29, had been killed alongside his wife, Rivka.

The Holtzbergs had moved to India in 2003 from New York to run the Mumbai branch of the outreach organisation, which offers services and hospitality to passing Jewish travellers.

Rabbi Gavriel and Rivka Holtzberg (file pic, Chabad-Lubavitch)

Timeline: Mumbai attacks

In pictures: Mumbai crisis

Inquiry into ‘UK role’ in attack

The couple’s young son was evacuated from the building earlier in the day. There was no word on the identities of the others found dead on the premises.The couple “made the ultimate sacrifice,” said Rabbi Moshe Kotlarsky, of Chabad-Lubavitch.

Orthodox Jewish rescuers sent to Mumbai to assist also confirmed that five bodies had been found. Two kidnappers were also reported killed.

Having swooped at first light, commandos blew up a part of the wall of the fourth floor of the building, lowered down onto the roof by ropes from helicopters and dropping smoke bombs to create confusion.

The only people confirmed as leaving the building were a woman and the two-year-old child, although it was unclear whether they had managed to escape or were released.

Bodies

Indian security forces have said they believe at least one gunman with “two or more hostages” remains in the Taj Mahal Palace hotel.

Large explosions and gunfire have been ringing out from the building for most of the day after truckloads of commandos entered the hotel. A journalist and bystander outside the hotel were taken to hospital after being hit by shrapnel.

Indian commandos who managed to enter other parts of the Taj Mahal say they found at least 30 bodies in one hall.

The commandos also said the militants were well aware of the layout of the hotel, and that they had recovered a Mauritius identity card as well as guns and money.

FROM THE TODAY PROGRAMME

Earlier, the head of India’s National Security Guard, JK Dutt, said the Oberoi-Trident was “under our control”.

“We have killed two terrorists today,” he said. “There was lots of firing, they also lobbed hand grenades. Some of them are unexploded, we are going to defuse them – you may hear some sound of explosions.”

The relief of the guests was evident as 93 of them were escorted from the hotel on Friday morning following the lengthy siege. They included 20 Air France crew members.

One of those freed, Briton Mark Abell, spoke of his delight at seeing several heavily armed soldiers at his hotel door after spending more than 36 hours in his room.

But he was shocked by the state of the hotel. “The lobby was carnage, blood and guts everywhere. It was very upsetting,” he told the BBC.

Pakistani ‘link’

State home minister RR Patil, speaking out the Oberoi-Trident hotel, said a total of nine militants had been killed, along with 15 police officers and two commandos.

He said one of those arrested was a Pakistani citizen.

BOMB ATTACKS IN INDIA IN 2008

30 October: Explosions kill at least 64 in north-eastern Assam

30 September: Blasts in western India kill at least seven

27 September: Bomb blasts kills one in Delhi

13 September: Five bomb blasts kill 18 in Delhi

26 July: At least 22 small bombs kill 49 in Ahmedabad

25 July: Seven bombs go off in Bangalore killing two people

13 May: Seven bombs hit markets and crowded streets in Jaipur killing 63

Indo-Pakistan ties strained

Earlier, the Indian navy took control of two Pakistani merchant navy ships and began questioning their crews after witnesses said some of the militants came ashore on small speedboats.India’s Foreign Minister Pranab Mukherjee said preliminary evidence “leads us to believe that some elements in Pakistan may be connected to these events”.

But he added that it was too soon to give details.

Pakistani Foreign Minister Shah Mehmood Qureshi responded by saying: “This is a collective issue. We are facing a common enemy and we should join hands to defeat the enemy.”

The head of Pakistan’s powerful military intelligence agency, Ahmed Shuja Pasha, is due to travel to India to discuss the situation with his Indian counterparts.

India has complained in the past that attacks on its soil have been carried out by groups based in Pakistan, although relations between the two countries have improved in recent years and Pakistani leaders were swift to condemn the latest attacks.

A claim of responsibility for this week’s attacks – the worst in India’s commercial capital since nearly 200 people were killed in a series of bombings in 2006 – has been made by a previously unknown group calling itself the Deccan Mujahideen.

However, most intelligence officials are keeping an open mind as the attacks have thrown up conflicting clues, BBC security correspondent Frank Gardner says.

The Economics of Destutt de Tracy – Timothy D. Terrell

Turbulence Ahead

Some things to be thankful for in depressing times.

By PEGGY NOONAN

The hundred days are happening now. That’s the real headline on President-elect Obama’s series of news conferences and his announcements of intended administration policy, such as an economic stimulus package. We don’t really have to wait till after the inauguration on Jan. 20 for the new administration to begin. What the Obama transition has become is historically unprecedented. He is filling the vacuum created by a collapsed incumbency and an acute economic crisis. He is moving forward with what looks like a high, if ad hoc, awareness of the delicacy of the situation. He can’t seem presumptuous or aggressive: “We only have one president at a time.” At the same time he can’t hide. The White House exhibits chastened generosity, refusing to snipe, mock or attempt to undermine.

Mr. Obama’s cabinet picks and other nominations suggest moderation, also maturity, and his treatment of Joe Lieberman shows forbearance and shrewdness. Politics is a game of addition, take the long view, don’t throw anyone out as you try to hit 60. Most of all, leave Mr. Lieberman having to prove every day to the Democratic caucus that he really is a Democrat. There’s nothing in being a maverick now. Mr. Obama’s preternatural steadiness continues. It’s been a while since anyone called him Bambi or compared him to the ambivalent, self-torturing Adlai Stevenson. For all of which—and for the cooperation of the Bush administration, whose desire to be of assistance in what used to be called the transition is classy and a good example—one can be thankful.

We can be thankful we had an election whose outcome was clear, not murky and a continuing trauma. It is good that 2008 was a seven-point win by someone, and not a 50-50 contest forced into resolution in the courts. Imagine what it would be like now, the general tone and feeling of the country, if at this moment we were arguing over hanging chads and bent ballots. I am thankful that more than half the country is, in at least one area, politics, happy, and that the 46% who voted the other way accepted the outcome as America always has, peacefully and with good-natured resentment. So many are hoping for the best, as if hoping for the best is a function or an expression of patriotism, which to a degree it is.

I am thankful for something we’re not seeing. One of the weirdest, most perceptually jarring things about the economic crisis is that everything looks the same. We are told every day and in every news venue that we are in Great Depression II, that we are in a crisis, a cataclysm, a meltdown, the credit crunch from hell, that we will lose millions of jobs, and that the great abundance is over and may never return. Three great investment banks have fallen while a fourth totters, and the Dow Jones Industrial Average has fallen 31% in six months. And yet when you free yourself from media and go outside for a walk, everything looks . . . the same.

Everyone is dressed the same. Everyone looks as comfortable as they did three years ago, at the height of prosperity. The mall is still there, and people are still walking into the stores and daydreaming with half-full carts in aisle 3. Everyone’s still overweight. (An evolutionary biologist will someday write a paper positing that the reason for the obesity epidemic of the past decade is that we were storing up food like squirrels and bears, driven by an unconscious anthropomorphic knowledge that a time of great want was coming. Yes, I know it will be idiotic.) But the point is: Nothing looks different.

In the Depression people sold apples on the street. They sold pencils. Angels with dirty faces wore coats too thin and short and shivered in line at the government surplus warehouse. There was the Dust Bowl, and the want of the cities. Captains of industry are said to have jumped from the skyscrapers of Wall Street. (Yes, those were the good old days. Just kidding!) People didn’t have enough food.

They looked like a catastrophe was happening.

We do not. It’s as if the news is full of floods but we haven’t seen it rain.

I asked an economic expert a few weeks ago if a second Great Depression would come to look at all like that, like a catastrophe, and he said no, not at all. In 1930 we had no safety net. Unemployment benefits, food stamps, welfare, an interlocking system of city, state and federal services—these things will keep it from being so bad.

But in tough times we will surely expand unemployment benefits, and welfare, and food stamps and housing assistance, which will mean more and greatly accelerated spending, which will mean bigger and steeper deficits, and higher taxes, with the one feeding on the other, which may mean an economic death spiral comparable to, say, Britain in the decades after World War II, its economy mired and held down by government control and demands. It continued more than a quarter century, until the change of economic thinking encapsulated in the phrase “the Thatcher years.” Is that what this will be?

Anyway it is odd, surreal, to have the steady downbeat of Great Depression II all over the news, and few signs of GDII on the street, odd that the news we’re hearing is at odds with what our eyes are seeing, at least at the moment.

So where is GDII happening? Right now mostly in conversations between wives and husbands, in families and among friends, about selling, about digging in, about layoffs, and not taking chances, and reduced income, and fear.

As for what we see, in economic stories there’s always a lag. New York in 1990 did not know it was in the midst of coming levels of affluence unseen in all of human history. The storefronts in my neighborhood at that time were tatty, tired. At some point in the next 10 years everything in the neighborhood was updated and started to gleam. There were bright new awnings on the shops, and the windows shining. Everything was washed clean by affluence. The food stores on Lexington Avenue offered more and more varied fruit for sale in thicker stacks outside. Even the dogs were suddenly more beautiful, handsome brushed brown Labs and stately golden retrievers.

I suppose as months and years pass it will all gleam less, with a steady falling off from perfection. It will roughen.

We’ve gotten through roughness before. Of things to be thankful for, I personally include this. I traveled this year, and when I fly I say a prayer that has become a ritual: “Dear God, put your big hands under this plane and lift it up, and carry it forward through the air untouched and unharmed by other objects. And may its inner workings work. And put us down softly in our place of destination, and return us safely to our homes, and to those in whose lives we are enmeshed.”

It occurs to me that is perhaps how many of us are feeling about our country this Thanksgiving: Lord, thank you for our previous safety, and get us through this turbulence.

I close with a nod of small thanks for the title of a book I saw the other day called, “Are You There, Vodka? This is Chelsea.” The stewardess was reading it on a flight from Phoenix to Newark. She was laughing. It was nice.

Hillary of State

How much will this cost the Obama administration?

By KIMBERLEY A. STRASSEL

One rule of employee relations? Never hire someone you can’t afford to fire. Barack Obama’s offer to let Hillary Clinton be secretary of state has already been marked down as a brilliant co-option of his former rival. But nothing comes for free, and the question is just how big a price Mr. Obama will pay in the end.

For now, he is getting only praise for his surprise pick. The move fits neatly into the media narrative that Mr. Obama is drafting a team that will challenge his thinking. It’s also being described as a gesture that could heal party wounds and mollify Clinton supporters Mr. Obama never won to his side.

The actual motivation? Short term, Mr. Obama understands his real struggles are going to be in the Senate, where he will need 60 votes. Left there with nothing but a potential future run against Mr. Obama, Mrs. Clinton would be tempted to use her position to highlight her differences with the sitting president. Even as a junior senator, she could gum up his works. Mr. Obama does not need that.

The job at State all but eliminates this threat. As the nation’s top diplomat, Mrs. Clinton will be barred, both by law and by custom, from partisan politics. She’ll have to dismantle her extensive political operation, and end the patronage that has earned her continued loyalty.

There’s arguably also not enough time for Mrs. Clinton to make her mark as secretary of state, and find a reason to break with her boss, and piece back together her empire, and get into a presidential race. They both know that in taking this cabinet post, Mrs. Clinton is clearing herself from Mr. Obama’s political path.

Having lived with, up close, the Clinton political threat, Mr. Obama might be forgiven for agreeing to just about anything to forestall a repeat. But no one should forget that this is Mrs. Clinton we are talking about — with all her ambitions, all her frustrations, all her family relations and all her past. The price of neutralizing Mrs. Clinton as an outside rival, by bringing her inside, could make today’s bailouts look cheap.

The early media pronouncement is that Mr. Obama is getting, for this post of top diplomat, a woman with great “experience.” Oh, how short memories are. Mrs. Clinton staked her early primary claim on foreign policy. So determined was she to out-tough Mr. Obama that she walked into wild exaggerations — Bosnian sniper fire and Northern Ireland peace, to name a few.

Egged on by former Clintonite Gregory Craig (Mr. Obama’s newly picked White House general counsel), the media reported on just how little “experience” she’d had as the former first lady. Mrs. Clinton worked hard on foreign policy in the Senate, but it still remains far from clear how talented she’ll prove at this job. Mr. Obama is taking a flyer on one of his bigger promises — that of changing American foreign policy.

His onetime rival will also have plenty of leeway to go rogue. The State Department is traditionally hard to rein in, and Mrs. Clinton has insisted she also be free of traditional constraints. She’s demanded the right to staff her department with her own people. And while national security advisers are often more powerful than secretaries of state, she wants the ability to circumvent that position and go directly to Mr. Obama.

This is the stuff ugly internal disputes are made of.

As for the issues, there are plenty on which the rivals disagreed in the primaries, from how tough to be on Iran to how strongly to stand with Israel. And let’s not forget any differences between Mr. Obama and Bill Clinton — since no matter how many promises to the contrary, he will be co-secretary of state.

Speaking of Bill, Mr. Obama famously noted during the primary that it was time to move beyond the Clinton era. Instead, he’s dragging that baggage back into the White House living room. The Obama team is combing through the hundreds of thousands of donors to Mr. Clinton’s foundation. Those papers surely contain compromising conflicts. There was good reason the Clintons have always refused to make that information public.

Mr. Obama can now sit on those documents, renege on his pledges to be one of the most “transparent” presidencies in history, and endure the rightful outrage that will follow. Or he can release them, and guarantee a feeding frenzy. Either option will prove an unpleasant side story to his more pressing policy concerns. And that’s just the immediate issue. There are also the 1990s Clinton documents, which remain under wraps at the Clinton library, but not forever.

Having made the grand gesture, Mr. Obama can now only get rid of Mrs. Clinton at risk of another party rift. The president-elect now owns Mrs. Clinton’s past, and future, behavior. That could turn out to be some deal.

Detroit Needs a Selloff, Not a Bailout

Government can help get the Big Three’s assets into more productive hands.

ROBERT W. CRANDALL and CLIFFORD WINSTON

Congress was decidedly unimpressed by the three domestic auto makers’ plea for a bailout last week and responded by asking them to do the impossible: conjure up plans by Dec. 2 detailing how a bailout would revive them.

Martin Kozlowski

After more than three decades of denial about their long-term decline, Detroit’s car companies must now face the facts. A bailout will not revive them. Moreover, the leading alternative that has been proposed by others — bankruptcy — will not re-energize these companies sufficiently to reverse their decline.

In our judgment, based on experience elsewhere in American industry, the most constructive role the government can play at this point is to provide a short-term infusion of capital with strict repayment rules that will essentially require the auto makers to sell off their assets to other, successful companies.

Why is such a dramatic step necessary? For the unavoidable reality that the fundamental problem the auto makers face is not their pension, health-care or other legacy costs. It is that they are not making cars and trucks that enough Americans want to buy. And this has been true to some degree since the first energy shock hit the U.S. in the early 1970s.

In 1970, General Motors, Ford and Chrysler made about 90% of the new cars sold in the U.S. Today their share is closer to 40%. Their market share of light trucks has also declined, but less precipitously thanks to a 25% tariff on many imported light trucks.

How could a federal bailout or a bankruptcy reorganization change that? Pension and health-care liabilities have been a hindrance, but they haven’t blocked product innovation.

Bankruptcy has allowed some industries to turn themselves around. A decade ago more than 40% of the steel industry’s capacity was reorganized in bankruptcy. The result was the rationalization of capacity and new labor agreements that allowed three large players — U.S. Steel, Severstal and Mittal — to create a more efficient steel industry.

But this change occurred only after a dramatic restructuring of the industry in the face of fierce competition from new “minimills.” By the time the larger companies — Bethlehem, LTV, Weirton and others — collapsed into bankruptcy, they had already shed a vast amount of uneconomic capacity and ceded the production of certain types of products to the minimills.

Thus, the operations that Mittal, U.S. Steel and Severstal bought out of bankruptcy were the most efficient remnants and were devoted principally to making products used in motor vehicles, appliances and (to a lesser extent) construction. They did not have to build new blast or steel furnaces or revamp product lines. They simply had to rewrite labor agreements.

Similarly, the airline industry weathered a round of bankruptcies following 9/11. The problem then was overcapacity relative to what the changing market would bear. But economic recovery and lower labor costs negotiated in bankruptcy allowed most airlines to rebound because they did not have to face multiple carriers that offered better service and cheaper fares.

Detroit faces very different problems. It has had a persistent product-line problem that may be even more severe than its labor problems, and in any event will not be solved by getting UAW wage rates in line with those at the U.S. plants of Toyota, Honda, BMW and Nissan by 2010. The gaps between U.S. and foreign competitors simply have become too large to make up by reducing labor costs or rationalizing capacity. Even if the overall economy rebounds and gives Detroit auto makers some breathing room to emerge from bankruptcy, they will likely face similar — if not more severe — problems in the next recession.

In the end, the capital and labor of these companies need to be reallocated into better hands. To this end, we suggest that assistance of some form — short-term financing or government purchase of equity — be granted under the condition that the Detroit Three restructure their labor relations so as to be able to sell some or all of their major assets.

There are a number of potential buyers for these assets. Toyota’s market cap is $100 billion and Volkswagen’s market cap is $110 billion. Either could bid for these assets. Honda, Nissan and even U.S. companies in related sectors, such as Caterpillar or John Deere, are possible buyers.

Members of Congress need to accept that the best possible outcome is a fundamental change in direction for the American automotive industry — a change that includes making Detroit’s facilities more attractive to successful companies. A joint venture between GM and Renault-Nissan was briefly discussed last year, and Daimler-Benz’s majority ownership of Chrysler was abandoned this year. Both failed because the Detroit-based operations could not improve their labor relations measurably and otherwise restructure sufficiently to be competitive.

By establishing firm mileposts for asset divestitures from which the companies could repay government funds, taxpayers could be reasonably assured that their money is well spent. But if Congress enacts a bailout without our conditions, the U.S. taxpayer will likely be on the line not only for additional support in the next recession, but likely on a regular basis for the foreseeable future.

We do not generally support government assistance to failing companies. But we think that our proposal will cost taxpayers less and, in the long run, be more beneficial to labor and the overall economy than either a straight bailout or bankruptcy.

Messrs. Crandall and Winston are senior fellows at the Brookings Institution.

Obama’s War Cabinet

Gates and Jones are welcome signs of continuity.

The names floated for Barack Obama’s national security team “are drawn exclusively from conservative, centrist and pro-military circles without even a single — yes, not one! — chosen to represent the antiwar wing of the Democratic party.” In his plaintive post this week on the Nation magazine’s Web site, Robert Dreyfuss indulges in the political left’s wonderful talent for overstatement. But who are we to interfere with his despair?

If reports are correct, on Monday the President-elect will ask Robert Gates to stay on as Secretary of Defense and name retired Marine General James Jones as National Security Adviser. These are the Administration posts most critical to the successful conduct of wars in Iraq and Afghanistan, and to possible entanglements with Iran, North Korea and who knows who else. With these personnel picks, Mr. Obama reveals a bias for competence, experience and continuity. Hence the caterwauls from his left flank.

Robert Gates.

The Gates selection is an implicit endorsement of President Bush’s “surge” in Iraq and its military architect, General David Petraeus. More broadly, it recognizes that America will continue to deal with a daunting post-9/11 security environment. As a member of the Iraq Study Group, Mr. Gates was against the surge before Mr. Bush made support for it a condition of his taking the Pentagon job. But at Defense since late 2006, Mr. Gates has supervised the successful new counterinsurgency strategy in Iraq. He also championed a new generation of military leaders, chiefly General Petraeus, who now commands U.S. forces in the Mideast, and he has poured additional resources into Afghanistan.

On all of the above, continuity would be welcome. Recall that Candidate Obama opposed the surge, called for a speedy withdrawal from Iraq and brushed back General Petraeus’s pleas to rethink both during his summer visit to Baghdad. Presumably President-elect Obama gave Mr. Gates some reassurances about future policy and his ability to shape it without repudiating the Secretary’s record to date. Mr. Gates will also give Mr. Obama some political insulation if events go wrong; Republicans may be less willing to criticize a Defense Secretary who served GOP Presidents than they would some standard-issue liberal like Michigan Senator Carl Levin.

Gen. James Jones.

General Jones is also a reassuring get. In the campaign, the former Marine Commandant and NATO Commander never endorsed anyone, though possible Obama Secretary of State Hillary Clinton and John McCain both avidly courted him. The General comes from a fine tradition that puts national security above partisanship.

Here’s how he explained his then-controversial support for the surge to a Journal reporter in April: “Understand the fact that regardless how you got there, there is a strategic price of enormous consequence for failure in Iraq.” In his postmilitary life, he worked on energy at the U.S. Chamber of Commerce. On paper, General Jones sure beats Bill Clinton’s NSC advisers (Anthony Lake and Sandy Berger) and perhaps President Bush’s.

Both these men can help Mr. Obama check the worst reflexes of his anti-antiterror base. Starting in Iraq. Having pacified al Qaeda and the Sunni insurgency, America now has a chance to midwife Iraq into a stable and free ally in the middle of a bad neighborhood. Local and national elections due next year will require U.S. support and counsel, and any rash drawdown in troops would be dangerous.

Mr. Obama will have political running room. Americans are now preoccupied with the economy. His own pledge to remove most combat troops by 2010 leaves open exactly what he means by “combat” and “most.” The new status-of-forces agreement with Iraqi also commits the U.S. to leave by 2011. These decisions can now be made with a view to the realities in Iraq rather than to the American campaign trail.

There’s talk that Mr. Gates will serve a year, then hand over the reins to an Obama loyalist, but the U.S. needs more than a caretaker in that job. Mr. Gates is a savvy enough bureaucratic operator to fight his corner. Aside from Iraq, Mr. Gates has staked out positions — on missile defense in Eastern Europe, enlarging the military, and modernizing the U.S. nuclear arsenal — that are at odds with the Democratic establishment. He and his future boss agree that additional forces are needed for Afghanistan. Let’s hope that’s not a one-time policy accord.

Mr. Obama deserves credit for making flexibility a principle in assembling his Administration. As he said last year, “people should feel confident that we’ll be able to hit the ground running.” So far on security, not bad.

Thursday, November 27, 2008

Why fairly valued stock markets are an opportunity

By Martin Wolf

Pinn illustration

Every week, 50 of the world’s most influential economists discuss Martin Wolf’s articles on FT.com

We have bad news and good news. The bad news is that the world economy is teetering on the brink of what may well be the most damaging slowdown since the second world war. Policymakers around the world – particularly in the inordinately complacent surplus countries – do not begin to understand what this may mean. The good news is that, after an extended period of overvaluation, stock markets are, at last, attractively priced. This should have enticing implications for investors and even for audacious governments.

How does one measure fundamental value? The chart shows two such measures – “Q” and the “cyclically adjusted price earnings ratio” (Cape).

The first of these measures derives from the work of the late James Tobin, a Nobel laureate economist. Q is the ratio of the value of an individual stock (or of the stock market as a whole) to net assets, at replacement cost. Tobin initially proposed this ratio as a way of explaining investment. Andrew Smithers of London-based Smithers & Co, from whom I have obtained the data, realised that Q could be turned round, to value the stock market, instead: high Q then forecasts not so much an investment surge as a stock market fall, and vice versa. If the stock market values the net worth of a company at far more than it costs to re-create its assets, either assets should expand or the market valuation should fall. In practice, argues Mr Smithers, it is more likely that the market is wrong than the investment decisions of companies.

The second of these measures has been used, in particular, by Robert Shiller of Yale University. The denominator is a 10-year moving average of earnings, in real terms. The purpose of this adjustment is to eliminate the cyclical effects on earnings that make price/earnings ratios look low at cyclical peaks, when earnings exceed sustainable levels. At times of rapidly increasing leverage, such as the 2000s, cyclically unadjusted earnings are likely to prove particularly meaningless because they are intensely vulnerable to changes in economic conditions. Leverage, after all, works both ways.

These two indicators should, if properly measured, give much the same result. The chart, which measures Q and Cape, relative to their long-run averages for the US, shows that they do.

What, then, does it show? I would focus on five principal conclusions.

First, valuations show pronounced long-term cycles. They are not a “random walk”. But these cycles are so long that it is nigh on impossible for investors to bet successfully against them: they will run out of money before momentum-driven markets change their mind. This is why markets may be inefficient and yet private investors cannot easily make money betting against them.

Second, the market has seen three peaks since 1920: 1929, 1965 and, biggest of all, 1999 (on the Cape). Prolonged bear markets followed in all cases. Peaks were, in other words, bad times to “buy and hold” – the recommended strategy in the 1990s.

Third, the market has also seen two bear market troughs since 1920: 1932 and 1981. These were excellent times to buy stocks. It helps if purchasers are patient: the period from trough to subsequent peak was 33 years and 18 years, respectively.

Fourth, the US stock market has been in a bear market since 2000, with two downward legs, 2000-2002 and 2007 until now. In the first leg, corporate investment remained weak, as stock prices collapsed. In the second leg, the credit and housing bubbles – partly explained by the Federal Reserve’s response to that investment weakness – imploded. This story is normal: bear markets usually coincide with periods of recession (see chart).

Finally, today’s valuations are considerably below average for the first time since 1988, on the Cape, and 1991, on Q. This does not mean they could not fall far further and, in bad conditions, they are even likely to do so. But, unless one expects another Great Depression and world war, history suggests valuations should not remain below current levels for more than, say, 15 years or so. That may not sound very enticing. But it is a different story from what people like Prof Shiller and Mr Smithers argued back in 1999, when history suggested one might never see such valuations again. Rational people would buy now, not then. Rational people, alas, are rare. As Warren Buffett has argued, buy when “Mr Market” is scared, not when he is bold.

The average valuation of the US stock market corresponds to a real return of 6½-7 per cent, which implies an “equity risk premium” – a margin of return over risk-free government bonds – of about 4 percentage points. This has long seemed high. During the great bull market of the 1990s, some even argued that no such premium was justified. But if one has to ask why equity holders should be risk-averse, one need only look at history. For mortals (rather than immortal institutions), the risk of being caught in a bear market (that is, a period of below average valuations) for 15 years, as happened from 1973 to 1988, is scary. Anybody retiring today knows this.

Directly comparable data are unavailable for other markets. But data on ratios of stock market valuation to gross domestic product for the world, the European Union and the UK, since 1980, have a similar pattern to those of the US. Correlation across markets is so close that what applies to the US should apply to the rest. Japan is different, however. The valuation peak there was in 1990.

I draw four implications. The first is that investors with long time horizons (the relatively young, or institutions) are, for the first time in almost two decades, confronting attractive, although not sensationally attractive, market valuations. The second is that there are, nevertheless, formidable pressures for further falls in valuations, as leveraged players continue to be forced to offload assets at bargain prices. The third is that bottom-fishing investors may at last start to supply some of the equity capital that companies – particularly financial companies – need, once a floor on asset prices is at last set.

Finally, governments might sensibly act as stabilising speculators, as John Muellbauer of Oxford university and Michael Spence, the Nobel laureate from Stanford University, suggested in Tuesday’s Financial Times and on the Economists’ Forum, respectively. Governments have the deep pockets and the time horizon that is needed. They can offload what they buy when markets have recovered. To the extent that the collapse of markets is self-feeding, such actions should also stabilise the economy. Given the unprecedented actions taken in recent months, this no longer seems a policy step too far.

US stock market valuation

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NOVEMBER 26, 2008

J00000011UTC 24, 2008 by chero

Buffett Stock Picks Beat Financials Index as He Dodged Subprime

Nov. 26 (Bloomberg) — Billionaire Warren Buffett’s decision to increase his stake in financial companies led by Wells Fargo & Co. and U.S. Bancorp and avoid subprime lenders is paying off for Berkshire Hathaway Inc.

Berkshire’s bank-related investments rose 36 percent in the third quarter, while the 84-member Standard & Poor’s 500 Financials Index declined 0.1 percent. Berkshire, based in Omaha, Nebraska, ranked as the biggest shareholder of Wells Fargo and U.S. Bancorp at the end of September, according to data compiled by Bloomberg.

“In one word, I can sum it up: patience,” said William Frels, chief executive officer of Mairs & Power Inc. in St. Paul, Minnesota, which owns shares of Wells Fargo and U.S. Bancorp and has Berkshire stock in some client accounts. “Warren has the luxury of being able to exercise patience, where most of the other players are under the gun to make things happen and can’t sit around and wait for opportunities.”

A weighted basket of Berkshire’s financial stocks rose at an average quarterly rate of 2.3 percent during the past year through September, Bloomberg data show. The S&P financials dropped by an average 11.4 percent per quarter in the same stretch. The index slumped 60 percent this year as new home sales fell to the lowest in 17 years.

As chairman and chief executive officer of Berkshire, the 78-year-old Buffett makes most of the company’s investing decisions. Buffett, whom Forbes magazine calls the country’s wealthiest man, declined to comment for this story. Berkshire has gained at an average annual rate of 21 percent over the past two decades, exceeding the 12 percent advance of the S&P 500 Index.

Bank of America

Berkshire’s financial investments have dropped 32 percent since Sept. 30, excluding a $5 billion investment in Goldman Sachs Group Inc., reducing Buffett’s profits. The S&P financials index fell 41 percent in the period.

Berkshire’s third-quarter holdings, released this month, show the company trimmed its stake in San Francisco-based Wells Fargo by a tenth of one percent since June to 290.4 million shares, valuing the investment at $7.8 billion as of yesterday. Berkshire increased its holdings of Minneapolis-based U.S. Bancorp by 6.3 percent to 72.9 million shares. Berkshire kept its stake in New York-based American Express Co. at 151.6 million shares, remaining the credit-card company’s biggest investor.

The only financial company Berkshire moved away from in the third quarter was Charlotte, North Carolina-based Bank of America Corp., cutting its stake to 5 million shares from 9.1 million. Bank of America did what Buffett refused to do — buy Countrywide Financial Corp., the subprime lender plagued by tumbling home prices and record foreclosures.

Goldman Sachs Investment

Buffett said in October 2007 that he “never came close” to acquiring Countrywide shares. He also has denied reports he considered buying part of Bear Stearns Cos., the New York-based securities firm later bailed out by JPMorgan Chase & Co.

“The fact that he was smart enough to take a pass on so many deals that have gone sour indicates that he correctly saw that things were going to get worse,” said Whitney Tilson, managing director of New York-based hedge fund T2 Partners LLC, which has been adding to its Berkshire holdings.

The Goldman Sachs investment has yet to bear fruit. Berkshire agreed to buy $5 billion of the New York-based company’s perpetual preferred shares on Sept. 23 and received warrants for another $5 billion at $115 a share. The stock has since tumbled 43 percent to $71.78. Still, Buffett will get a 10 percent annual dividend on the preferred securities.

Stock Plunges

Berkshire Class A shares dropped by 32 percent this year, and 12 percent in October, the worst month since 2000, as the company’s profit fell for four straight quarters. Berkshire gained $8,900 yesterday to $96,400 in New York Stock Exchange composite trading. The company’s other financial investments are M&T Bank Corp., SunTrust Banks Inc., Torchmark Corp. and Wesco Financial Corp.

Buffett wrote in a New York Times column that he’s buying U.S. stocks and may shift his personal investments into equities.

“He’s right,” said Frels, 69, who entered the investing business in 1962. “With the decline, U.S. stock prices appear quite reasonable.”

U.S. Durable Orders Fall Twice as Much as Forecast (Update1)

Nov. 26 (Bloomberg) — Orders for U.S. durable goods fell twice as much as forecast in October as the credit freeze deepened and sales tumbled.

The 6.2 percent drop in bookings of goods meant to last several years was the biggest in two years and followed a revised 0.2 percent decrease in September, the Commerce Department reported today in Washington. A separate report from Commerce showed consumer spending fell by the most since the 2001 recession.

Companies are likely to keep cutting back as sales slump. Regional reports have shown further weakness in manufacturing this month as access to credit dried up, indicating declines in business investment will hurt economic growth through the rest of the year and into 2009.

“Businesses are accelerating the pace of jobs cuts and canceling investment plans,” Michelle Meyer, an economist at Barclays Capital in New York, said before the report. “The economy appears to have fallen into a deep recession.”

A Labor Department report showed that initial claims for unemployment insurance last week slipped to 529,000 from 543,000 the prior week, while remaining close to the highest level since 1992.

Treasuries Rally

Treasuries, which rose earlier in the day, stayed higher after today’s reports. Yields on benchmark 10-year notes fell to 3.09 percent at 8:48 a.m. in New York, from 3.12 percent late yesterday. Futures contracts on the Standard & Poor’s 500 Stock Index dropped 1.6 percent to 839.20.

Economists projected orders would fall 3 percent after a previously reported 0.9 percent increase in September, according to the median of 72 forecasts in a Bloomberg News survey. Estimates ranged from a drop of 6.5 percent to a gain of 0.5 percent.

Excluding demand for transportation equipment, which tends to be volatile, orders dropped 4.4 percent, also more than anticipated and the biggest decline since January 2002. Those bookings were projected to fall 1.6 percent, according to the Bloomberg survey.

Bookings for non-defense capital goods excluding aircraft, a measure of future business investment, decreased 4 percent, the biggest decline in almost two years. Shipments of those items, used in calculating gross domestic product, fell 2.4 percent following a 1.6 percent gain in September.

Transport Orders

Bookings for transportation equipment fell 11 percent, today’s report showed. Orders for commercial aircraft dropped 4.7 percent and those for automobiles declined 4.5 percent.

Boeing Co., the world’s second-largest commercial planemaker, said it received 14 orders for aircraft in October, down from 41 the previous month. A strike by 27,000 machinists at the Chicago-based company probably hindered demand. The walkout was resolved on Nov. 1.

Auto-industry figures released this month showed cars and light trucks sold at a 10.6 million annual pace in October, the lowest since April 1991.

National manufacturing reports signaled broad declines in bookings as companies failed to secure financing for big purchases. Manufacturing contracted in October at the fastest pace in 26 years, the Tempe, Arizona-based Institute for Supply Management reported earlier this month.

Regional Reports

Regional reports indicate the decline in manufacturing is accelerating. The New York Fed’s general economic index fell this month to the lowest level since record-keeping began in 2001. The Philadelphia Fed said manufacturing in its region shrank at the fastest pace in 18 years.

Today’s report may lead some economists to lower forecasts for growth in the fourth quarter. Preliminary figures on gross domestic product from the Commerce Department yesterday showed the economy contracted at a 0.5 percent annual rate from July through September. It was the second drop in a year and the biggest since the 2001 recession.

U.S. lawmakers postponed until December a vote on whether to give American automakers $25 billion in new federal loans. Senate Majority Leader Harry Reid and House Speaker Nancy Pelosi gave the companies a Dec. 2 deadline to present restructuring plans.

A slowdown in consumer spending and business investment is causing manufacturers to cut back. Fleetwood Enterprises, the third-largest U.S. maker of recreational vehicles, said it’s closing 8 of its 24 plants because of reduced demand for travel trailers and factory-built housing.

“In the current economic climate, it is essential that we match our production to demand,” Chief Executive Officer Elden Smith said in a Nov. 24 statement. “We must position Fleetwood to operate profitably under the present and foreseeable business circumstances.”

Fed Risks `Spitting in the Wind’ With New Aid Pledges (Update2)

Nov. 26 (Bloomberg) — The Federal Reserve’s new $800 billion effort to combat the financial crisis is designed to make credit more accessible to shaken consumers who aren’t sure they want more debt.

Households and lenders may not respond much because of the wealth destruction from plunging property and stock values, and the deepening economic slump, economists say. That means banks may end up returning the Fed’s new liquidity through deposits at the central bank.

“We are sort of spitting in the wind,” said Michael Darda, chief economist at MKM Partners LP in Greenwich, Connecticut. “Banks won’t be throwing a lot of loans out there when they fear — rationally — those loans may not be paid back.”

Policy makers aim to kick-start markets for loans to students, car buyers, credit-card borrowers and small businesses with a new $200 billion program. Backed in part by the Treasury, the Fed will become a new buyer in the market for consumer loans at a time when many traditional holders of the assets, such as off-balance sheet bank units, have collapsed or been dissolved.

The announcement of the new efforts yesterday came amid rising criticism that officials were excessively focused on saving Wall Street firms, with the Citigroup Inc. rescue Nov. 23 the latest example. President-elect Barack Obama said repeatedly in the past two days he’ll compose a plan to help “Main Street” as well as the financial industry.

1966 Powers

Obama and congressional Democrats have also pushed for a stronger response to the housing crisis. The Fed responded yesterday, invoking authority first granted in 1966 to buy $500 billion of mortgage-backed securities issued by Fannie Mae, Freddie Mac and Ginnie Mae.

Along with a $100 billion plan to buy the corporate debt of Fannie, Freddie and federal home loan banks, the step marks the central bank’s biggest foray into a type of quantitative easing. That’s an unorthodox monetary policy tool that goes beyond setting short-term interest rates. The central bank has already cut its benchmark rate to 1 percent.

“Rates are going to be kept down for a long time, the Fed’s balance sheet is going to be expanded for a long time,” said John Ryding, chief economist at RDQ Economics, New York. “It does, as we have argued, represent a very significant quantitative easing.”

Mortgage rates and yield premiums on Fannie and Freddie debt tumbled after the announcement. The average U.S. rate for a 30- year fixed mortgage ended at about 5.5 percent after starting the day at 6.38 percent, according to Bankrate Inc.

Markets React

The spreads on most of Fannie’s and Freddie’s $1.7 trillion of corporate debt and $4.1 trillion of mortgage-backed bonds over comparable Treasuries tumbled to the lowest levels since early October. The cost to protect against defaults on corporate bonds and on securities backed by commercial mortgages also declined.

The question remains whether the lower rates will have much impact on the flow of credit and the economy. While the Fed has expanded its balance sheet by $1.3 trillion so far, banks have left much of the liquidity on deposit at the central bank itself, as so-called excess reserves. The surplus stood at $604 billion on Nov. 19.

Bank regulators have tried to cajole lenders, saying they “expect” them to lend, in a guidance letter issued Nov. 12. The Fed’s most recent quarterly survey of bank loan officers showed that 70 percent of domestic firms had tightened lending standards for their best mortgage borrowers in the third quarter, and 60 percent had raised standards on credit-card loans.

`Non-Functioning’

“The root of the problem is our securitization markets are non-functioning,” said Josh Rosner, managing director at New York research firm Graham Fisher & Co. “We have capital problems at the banks so they can’t take over.”

While officials yesterday contested claims that the Fed is undertaking quantitative easing, they acknowledged that the central bank’s new actions will result in another injection of funds into the system. Officials said their objective is to affect credit markets rather than to target money supply.

The Bank of Japan is the only major central bank to deploy quantitative easing in modern times, from 2001 to 2006. Current Governor Masaaki Shirakawa said in May that the policy “was very effective in stabilizing financial markets,” while at the same time it had “limited impact” in resolving Japan’s economic stagnation of the time because banks wouldn’t lend and companies wouldn’t borrow.

Fed Meeting

Fed officials next meet on Dec. 16-17, when economists anticipate they will cut their target rate for overnight loans between banks to 0.5 percent. The central bank expanded the meeting to two days, making it likely that the Federal Open Market Committee will explore the options for conducting policy with rates near zero percent.

“We can’t look back to recent history” as a guide for what to do, Mark Gertler, a New York University economics professor who has collaborated with Fed Chairman Ben S. Bernanke on research, said in a Bloomberg Television interview. “We really do have to make it up as we go along.”

Yesterday’s announcements continue the trend of the Fed and Treasury taking on more risk with public money, while private sector balance sheets contract. Earlier this week, the two agencies and the Federal Deposit Insurance Corp. offered a backstop for a $306 billion portfolio of Citigroup assets.

The new programs bring the estimated total government commitment to ease credit to about $8.5 trillion, with $3.17 trillion being used to date.

`Too Early’

“It’s too early to tell whether the lending has increased or not,” David McCormick, Treasury undersecretary for international affairs, said in an interview with Bloomberg Television today. “We certainly expect that it will.”

Under the new Term Asset-Backed Securities Loan Facility, the Treasury will use taxpayer funds to protect the Fed against the first $20 billion of losses, or 10 percent, of $200 billion in exposure to AAA rated securitized consumer debt.

“I am willing to believe that these things that are rated AAA might have a maximum 10 percent loss if the assets behind them never changed,” said Ann Rutledge, a principal at R&R Consulting in New York, which specializes in structured finance. “The collateral in credit card asset-backed securities changes.”

Ratings may be harder to judge when credit quality is deteriorating. Also, the government has less information than issuers, who could back the bonds with assets that pose the most risk of declining quality, Rutledge said.

Officials yesterday said the risk of loss is minimal, and noted that the Fed will put haircuts on the value of the ABS that it takes on. Treasury Secretary Henry Paulson said the mortgage debt purchases are a “great investment for the taxpayer” because the government already stands behind Fannie and Freddie.

Obama Emulates FDR’s Kennedy Pick With Rubin Clan in ‘Henhouse’

Nov. 26 (Bloomberg) — In turning to Clinton administration veterans for his economic team, President-elect Barack Obama is banking that people who had a role in the current financial crisis will be best able to fix it.

Timothy Geithner, Obama’s choice for Treasury secretary, was involved in the decision to let Lehman Brothers Holdings Inc. go bankrupt, which exacerbated a global credit-market freeze. Lawrence Summers, his pick for White House economic adviser, ran the Treasury when Congress repealed the Glass- Steagall Act, breaking down walls between commercial and investment banking.

Presidents have always sought experienced hands, even if those hands aren’t always clean. The most extreme example might be Franklin D. Roosevelt’s selection of stock speculator Joseph P. Kennedy as the first chairman of the Securities and Exchange Commission.

“Kennedy may have been the fox in the henhouse, but he knew where the holes in the henhouse were,” said John Steele Gordon, an economic historian. “You certainly need people with experience in a situation like this, people who know what the hell they are doing.”

Obama, 47, acknowledged as much yesterday in naming Peter Orszag, a member of President Bill Clinton’s National Economic Council, as the next budget director.

“Peter doesn’t need a map to know where the bodies are buried,” he said. “We are going to hit the ground running.”

Few Choices

Obama didn’t have a lot of experienced hands to choose from, given that Clinton is the only Democratic president since 1981, said Gordon, the author of “Hamilton’s Blessing, the Extraordinary Times of Our National Debt.”

“Presidents generally reach back to past administrations,” he said. “Secretary of the Treasury is not exactly an entry-level job.”

Obama’s immediate goals will be far different from Clinton’s. Urged on by Robert Rubin, who became his Treasury secretary, Clinton came to office in 1993 determined to raise taxes and cut spending to reduce the federal deficit, then at a record $290.4 billion.

Obama, who inherits a recession that could be long and deep, will increase the deficit with an economic-stimulus package that may be as large as $700 billion, according to aides and lawmakers.

Jared Bernstein, a senior economist at the labor-oriented Economic Policy Institute in Washington, said the new economic team’s connection to Clinton, 62, may be a benefit in selling that plan.

‘Added Credibility’

“They’re associated with Rubinomics, balanced budgets,” Bernstein said. “That may give them added credibility” in making the case that more spending is needed.

The association works two ways. At the Treasury, Rubin fought proposals to regulate credit derivatives. That stymied Geithner, 47, when, as president of the New York Federal Reserve Bank, he tried in 2005 to reform the market for the exotic financial products that helped bring on today’s financial crisis.

Rubin also helped negotiate legislation to repeal Glass- Steagall, a Depression-era law that limited commercial banks to taking deposits and making loans. As Rubin’s deputy and then successor at the Treasury, Summers helped shepherd the repeal into law, leading to the creation of megabanks such as Citigroup Inc. that could create and trade securities.

Senior Adviser

After leaving the Treasury, Rubin, 70, became a senior adviser to the top executives at Citigroup, which on Nov. 23 became the latest financial institution to get a government bailout. U.S. regulators agreed to protect the bank from losses on $306 billion of troubled assets, including tens of billions related to its derivatives.

Critics say putting Rubin’s foxes back in charge of the henhouse violates Obama’s campaign promise to be an agent of change.

“Certainly you can’t get any farther away from a culture of change,” said Josh Rosner, a managing director at investment-research firm Graham Fisher & Co. in New York. “All of these folks are too tied to the roots of the problem.”

Geithner has been in the middle of the financial crisis since taking over as New York Fed president in 2003. He was the Fed’s chief liaison to the banking industry as subprime lending and securitization were taking off. Then last year, those securities began defaulting, threatening the stability of the banking system.

Takeover, Bailouts

Since then, Geithner has helped negotiate the takeover of Bear Stearns Cos. by JPMorgan Chase & Co., the bailouts of insurer American International Group Inc. and Citigroup, and the Lehman bankruptcy. Money markets froze, credit spreads soared and stocks tumbled after Lehman filed to liquidate on Sept. 15.

Bernstein said the Obama team’s involvement in the crisis may actually push them to take a stronger line on market risk. “You can bet they’ll be implementing new regulations, or making sure we implement the old ones.”

That doesn’t mollify some progressives who were hoping Obama’s election would mean a break from the emphasis Clinton and Rubin put on free trade and unfettered markets.

“The number of Clinton folks involved is somewhat surprising,” said Gabe Gonzalez, campaign director at the Center for Community Change, a grassroots organizing group based in Washington.

“The assumption we’re making is you’ve got a real crisis moment,” he said. “Regardless of what their policies may have been in the past, they’re going to have to respond to that.”

Consumer Spending in U.S. Falls 1%, Most in 7 Years (Update1)

Nov. 26 (Bloomberg) — Spending by U.S. consumers dropped in October by the most since the 2001 contraction, signaling the economy is sinking into a deeper recession.

The 1 percent decline in purchases followed a 0.3 percent drop in September, the Commerce Department said today in Washington. A separate report from Commerce showed business investment also tumbled last month.

The biggest consumer spending slump in three decades is likely to persist as home prices fall and job losses mount, threatening the holiday sales outlook at retailers from Zale Corp. to Best Buy Co. Faltering demand has caused the Federal Reserve, Treasury and President-elect Barack Obama to ratchet up plans to ease the credit crisis.

“Everybody is cutting back at the same time,” Christopher Low, chief economist at FTN Financial in New York, said before the report. “This takes us out of the generic recession category and puts us in the severe recession category.”

A Labor Department report showed that initial claims for unemployment insurance last week slipped to 529,000 from 543,000 the prior week, while remaining close to the highest level since 1992.

Treasuries, which rose earlier in the day, stayed higher after today’s reports. Yields on benchmark 10-year notes fell to 3.05 percent at 8:38 a.m. in New York, from 3.12 percent late yesterday. Futures contracts on the Standard & Poor’s 500 Stock Index fell 2.1 percent to 835.40.

Economists Forecast

Economists forecast spending would fall 1 percent, after according to the median of 72 estimates in a Bloomberg News survey. Projections ranged from declines of 0.4 percent to 2 percent.

The report showed incomes rose 0.3 percent after a 0.1 percent gain in September, and measures of inflation decelerated.

Orders for durable goods fell 6.2 percent last month, twice as much as forecast and the biggest drop in two years, Commerce reported separately.

Retailers are concerned about the November-December holiday season, which brings in one-third or more of annual revenue. Zale, the biggest U.S. jewelry chain by stores, yesterday rescinded its annual forecast, saying in a statement that it “does not believe it can reliably gauge likely holiday performance or sales in the balance of fiscal 2009.”

Today’s spending report also confirmed inflation is retreating as demand wanes. The price gauge tied to spending patterns fell 0.6 percent in October and was up 3.2 percent from the same month in 2007.

Inflation Measure

The Fed’s preferred gauge of prices, which excludes food and fuel, was unchanged. In the 12 months ended in October, the measure was up 2.1 percent, the smallest year-over-year gain since February.

Adjusted for inflation, spending fell 0.5 percent, a fifth consecutive decline. The last time price-adjusted spending dropped as many months in a row was in 1990-91.

The decrease in spending combined with the increase in incomes pushed the savings rate up to 2.4 percent from 1 percent in September.

Today’s report showed inflation-adjusted spending on durable goods, such as autos, furniture, and other long-lasting items, fell 3.8 percent last month. Purchases of non-durable goods decreased 0.6 percent, and spending on services, which account for almost 60 percent of all outlays, climbed 0.2 percent.

Quarterly Slide

Consumer spending dropped at a 3.7 percent annual pace in the third quarter, more than the government had previously forecast and the biggest plunge since 1980, revised Commerce figures showed yesterday. The economy shrank 0.5 percent, also faster than initially estimated.

The freeze in credit is restricting purchases of expensive goods from cars to homes. To lure buyers, Ford Motor Co., the second-biggest U.S. automaker, said it will offer employee pricing to all buyers from Nov. 19 through Jan. 5, on almost all 2008 and 2009 Ford, Lincoln and Mercury brand models.

The Fed yesterday announced two new steps to unfreeze credit for homebuyers, consumers and small businesses, committing up to $800 billion. Upon taking office next year, Obama is likely to propose an economic-stimulus package three times larger than the one contemplated only weeks ago, with the main focus on infrastructure projects, aides and lawmakers said this week.

Obama Names Volcker to Head Panel on Reviving Economy (Update3)
Nov. 26 (Bloomberg) — President-elect Barack Obama named former Federal Reserve Chairman Paul Volcker to head a new White House economic board that will propose ways to revive growth as the U.S. grapples with an “economic crisis of historic proportions.”

“At this defining moment for our nation, the old ways of thinking and acting just won’t do,” Obama said at a news conference in Chicago, his third in as many days.

Volcker, 81, will be chairman of the President’s Economic Recovery Advisory Board. The panel’s top staff official will be Austan Goolsbee, a University of Chicago economist who will also be a member of the president’s Council of Economic Advisers.

The panel, which will include experts from outside government, will meet about once a month and periodically brief Obama with advice on how to shore up financial markets. Volcker’s position will be part-time.

“Sometimes policymaking in Washington can become too insular,” Obama said. “The walls of the echo chamber can sometimes keep out fresh voices and new ways of thinking — and those who serve in Washington don’t always have a ground-level sense of which programs and policies are working.”

Treasury Secretary

Volcker, who throttled the economy to crush inflation in the 1980s, was an adviser to Obama during the presidential campaign. He was a candidate for Treasury secretary, a job that went to Federal Reserve Bank of New York President Timothy Geithner.

Volcker was appointed Fed chairman in August 1979 as the U.S. experienced a “crisis of confidence” under President Jimmy Carter.

With the president hobbled by a hostage crisis in Iran, long lines at gas stations and inflation of more than 10 percent, Volcker unleashed interest rates and began to clamp down on the quantity of money in the banking system.

Volcker has voiced his contempt for Wall Street’s risk- management and is likely to come to the job ready to impose tougher restrictions.

Banks have taken at least $685 billion in credit losses and write downs in a crisis that began with soaring default rates on high-risk mortgages and ended up redrawing the entire U.S. financial landscape.

Consumer Spending in U.S. Falls 1%, Most in 7 Years (Update1)

Nov. 26 (Bloomberg) — Spending by U.S. consumers dropped in October by the most since the 2001 contraction, signaling the economy is sinking into a deeper recession.

A Labor Department report showed that initial claims for unemployment insurance last week slipped to 529,000 from 543,000 the prior week, while remaining close to the highest level since 1992.

Economists Forecast

Economists forecast spending would fall 1 percent, after according to the median of 72 estimates in a Bloomberg News survey. Projections ranged from declines of 0.4 percent to 2 percent.

The report showed incomes rose 0.3 percent after a 0.1 percent gain in September, and measures of inflation decelerated.

Orders for durable goods fell 6.2 percent last month, twice as much as forecast and the biggest drop in two years, Commerce reported separately.

Inflation Measure

The Fed’s preferred gauge of prices, which excludes food and fuel, was unchanged. In the 12 months ended in October, the measure was up 2.1 percent, the smallest year-over-year gain since February.

Adjusted for inflation, spending fell 0.5 percent, a fifth consecutive decline. The last time price-adjusted spending dropped as many months in a row was in 1990-91.

The decrease in spending combined with the increase in incomes pushed the savings rate up to 2.4 percent from 1 percent in September.

Quarterly Slide

Tuesday, November 25, 2008

Fed Commits $800 Billion More to Unfreeze Lending (Update5)

Nov. 25 (Bloomberg) — The Federal Reserve took two new steps to unfreeze credit for homebuyers, consumers and small businesses, committing up to $800 billion.

The central bank will purchase as much as $600 billion of debt issued or backed by government-chartered housing-finance companies. It will also set up a $200 billion program to support consumer and small-business loans, the Fed said in statements today in Washington.

With today’s announcement, the central bank is starting to use some of the unorthodox policy tools that Chairman Ben S. Bernanke outlined as a Fed governor six years ago. Policy makers hope the initiatives will bring down the interest rates on mortgages and consumer loans, offsetting the withdrawal of private-sector financing.

“They’re trying to put funds into the system, trying to unfreeze these markets,” said William Poole, the former St. Louis Fed president, in an interview with Bloomberg Television. “Clearly, the Fed and the Treasury are beginning to take a large amount of credit risk.”

The Fed will purchase up to $100 billion in direct debt of Fannie Mae, Freddie Mac and Federal Home Loan Banks after the yield premiums on those securities jumped. It will also buy up to $500 billion of mortgage-backed securities issued by Fannie, Freddie and Ginnie Mae, a government agency that insures bonds.

Fannie and Freddie have about $1.7 trillion of corporate debt outstanding and $4.1 trillion of mortgage-backed securities.

Mortgage Rates

Rates on home loans haven’t fallen even after the Fed cut its key interest rate and yields on benchmark Treasuries tumbled. Average 30-year mortgage rates were 5.98 percent yesterday, little changed from the 2007 average of 5.95 percent, according to bankrate.com.

In that time, the Fed has cut its target rate for overnight loans between banks by 4.25 percentage points, to 1 percent. Bernanke said in a November 2002 speech that as the rate approached zero, the central bank could consider buying mortgage bonds or U.S. Treasuries to finance government spending.

Fannie and Freddie bonds rallied after the announcement. The yield premium on Fannie Mae’s five-year debt over similar- maturity Treasuries tumbled 0.34 percentage point, to 1.02 percentage point, by 2 p.m. in New York, according to data compiled by Bloomberg. Treasuries rallied, with yields on two- year notes tumbling 0.13 point to 1.15 percent, while the 10-year yield dropped 0.25 point to 3.08 percent.

“It’s very important that lending continue to be available” because “the economy is turning down pretty dramatically,” Treasury Secretary Henry Paulson said at a press conference in Washington. He also said $200 billion is just the “starting point” for the Fed’s program to buttress consumer and small-business loans.

Quantitative Easing

The Fed won’t be removing cash from other parts of the financial system to make up for the purchases, government officials told reporters on a conference call. They rejected any comparison with Japan’s so-called quantitative easing effort to combat deflation, saying that the Fed’s objective is to buttress credit markets rather than ramp up money.

“The aim of credit policy is focused on narrowing credit spreads, as opposed to expanding the money supply,” said Mark Gertler, a New York University economics professor who has collaborated with Bernanke on research. “The hallmark of this crisis is unusually high credit spreads which are dampening borrowing and spending across the economy.”

Under the Term Asset-Backed Securities Loan Facility, the Fed will lend up to $200 billion to holders of AAA rated asset- backed securities backed by “newly and recently originated” loans. Those include education-, car- and credit-card loans, and borrowing guaranteed by the Small Business Administration. The Fed hopes to have the TALF running by February.

Buyer Exodus

Private-sector ABS buyers have either disappeared or have shrunk their balance sheets, contributing to the market’s disruption, officials said. Traditional buyers included the structured investment vehicles, set up by Citigroup Inc. and other banks, that have been wound down in the crisis.

Even asset-backed securities that the government already stands behind have been hammered by the exodus of investors.

Bonds backed by payments on government-backed student loans made by the Federal Family Education Loan Program, or FFELP, are trading at 300 basis points more than the three-month London interbank offered rate, according to JPMorgan Chase & Co. data. The premium was 60 basis points in January.

“It can certainly improve credit conditions for consumers,” said Derrick Wulf, who helps manage $70 billion in mostly fixed-income assets at Dwight Asset Management Co. in Burlington, Vermont.

Beyond Banks

The asset-backed securities program is similar to the Fed’s effort to bring down the cost of financing for commercial paper, the short-term debt companies issue to finance payrolls and other expenses, because it goes beyond banks.

“What the Fed has been trying to do is get a sense of what works and what doesn’t work,” Wulf said. “One of the things that has worked is the commercial paper facility.”

“The cheaper that they could issue their debt, the more aggressively they should be able to buy mortgages in the secondary market,” said Alan Bosworth, director of agency trading at Vining Sparks in Memphis, Tennessee.

The Fed may hold the Fannie and Freddie debt and securities until they mature or sell them, with plans to be determined, government officials said on a conference call with reporters.

Treasury Buying

A separate Treasury program for buying debt linked with home loans has already quadrupled, from about $7 billion, a government official said on condition of anonymity.

The Treasury will provide $20 billion of “credit protection” to the Fed for the TALF, using funds from the $700 billion financial-rescue package. The Treasury said in a statement that the facility may expand over time and cover other assets, such as commercial and private residential mortgage- backed debt.

Under the TALF, the New York Fed will auction a fixed amount of loans each month for a one-year term. Assets will be held in a special-purpose vehicle. The program will stop making new loans at the end of next year unless the Fed Board of Governors extends the program.

Lenders providing credit under the TALF “must have agreed to comply with, or already be subject to,” executive- compensation restrictions in the October bailout law, the statement said.

Separately, in a sign of disagreement among Fed officials, seven of the 12 district banks opposed lowering the rate on direct loans to banks before the Oct. 28-29 policy meeting, the central bank said in meeting minutes released today.

Timing of Purchases

The Fed will start buying the direct debt of government- sponsored enterprises — Fannie,

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