"Trouble With Trade" - Krugman 12/28/07

I find it refreshing that Krugman does not shy away from the issue of international trade by falling back on an exclusively economics argument. It is mostly true from a "pure" (whatever that means) economic argument that trade is a net benefit at the highest aggregation of stakeholders. It is, however, also true that even if the trade maxim that "trade will occur when it is mutually beneficial for both sides," does not offer guidance with respect to the component parts of the two sides involved in a trade. If the USA trades with Vietnam, economic theory says that both will gain something (The US gains cheaper goods, Vietnam gains the wages) -- but what it doesn't do is consider the effects on the individual within both units of analysis. Consider to whom the biggest benefit accrues in the case of a lower cost computer component. The less educated, lower wage American who used to make this part is a net loser as he/she doesn't have a job -- and their only benefit is to get a computer cheaper (which probably isn't high on the unemployed person's list). The more educated, higher wage American keeps his or her job, even if they are in the industry, because this is where R&D are done -- and they get a lower cost computer. This lower cost computer may only cost them 1.7% of their gross annual income instead of the 2.0% it would have otherwise.

I want to be careful not to sound overly protectionist, because I think that possibility is effectively off the table and that it unneccesarily rejects the basic economic rights of the individuals in lower wage countries. I think Krugman sums it up well with the following:

So am I arguing for protectionism? No. Those who think that globalization is always and everywhere a bad thing are wrong. On the contrary, keeping world markets relatively open is crucial to the hopes of billions of people.

But I am arguing for an end to the finger-wagging, the accusation either of not understanding economics or of kowtowing to special interests that tends to be the editorial response to politicians who express skepticism about the benefits of free-trade agreements.

It is tiring to listen to the "you don't understand" economics folks chanting at the thrown of free markets, and though I do not espouse all of the solutions proposed by the competing interests - I find this pulk-pull to be critically important for the contemporary political arena to hash out. Let us make sausage!

Friedman is on book leave...

Today's NYT proclaimed that one of the duo on which this blog is focused is on book leave. This means a refocusing of the DBT is needed. I would love to proclaim that this has been the reason for my laxity in posting recently, but alas that was fecklessness. Hope the holiday/seasonal period is going well for all.

"After the Money's Gone" - Krugman 12/14/07

If the subprime/credit/liquidity crisis is of interest, I would recommend reading Krugman's column from this past Friday. There are a lot of angles to be considered in the current market shake-up and Krugman focuses his column on some of the long term impacts and why they can't be fixed by the Fed's rate cut presription.

Krugman describes two of the biggest problems with the current crisis in succinct manner:

First, we had an enormous housing bubble in the middle of this decade. To restore a historically normal ratio of housing prices to rents or incomes, average home prices would have to fall about 30 percent from their current levels.
Second, there was a tremendous amount of borrowing into the bubble, as new home buyers purchased houses with little or no money down, and as people who already owned houses refinanced their mortgages as a way of converting rising home prices into cash.

This means that when (probably not if) house prices return to the historical norm then those who borrowed for a lot of the house cost (i.e. subprime borrowers) will be left with a house that is worth less than the mortgage on it. This is negative equity, which can lead to more foreclosures-- which are less likely to be able to recoup the costs to the lender-- which means more bank right offs of bad loans. (The financial blog Calculated Risk mentioned by Krugman is a helpful site to peruse to understand the size and scope of the coming negative equity crisis.) This is another example of a vicious cycle argument of economics and I believe shows how a free market will from time to time go to far. I'm not sure what the end of this crisis will look like, but if home values fall 10-30% there will be a lot of problems for homeowners, lenders, borrowers, and the economy in general. (A potential positive side effect may be to inform homeowners that home equity loans to support personal consumption aren't a good idea in the majority of cases.) In addition, this will hopefully teach some a lesson that these bad lending, borrowing, and consumption practices can't always be fixed in a reactionary method by the Fed... we either need to regulate up front or accept these severe consequences as a part of the free market in real estate transactions...

Markets won’t start functioning normally until investors are reasonably sure that they know where the bodies — I mean, the bad debts — are buried. And that probably won’t happen until house prices have finished falling and financial institutions have come clean about all their losses. All of this will probably take years.

Meanwhile, anyone who expects the Fed or anyone else to come up with a plan that makes this financial crisis just go away will be sorely disappointed.

On Vacation

AM donkey is on vacation this week. Enjoy your early December. Remember the Neediest!