Arnold Kling  

Getting to Recovery

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Sense from Frank Rich... The Stimulus and Black Swans...

James Hamilton writes,


I have in my research instead stressed technological frictions. For example, when spending on cars abruptly falls, there is a physical, technological challenge with getting the specialized labor and capital formerly employed in manufacturing cars into some alternative activity. In my mind, it is a mistake to pretend that any federal program is capable of immediately re-employing those resources into an alternative, equally productive enterprise. More fundamentally, I have suggested that our present situation is as if someone had quite successfully sabotaged the basic functionality of our financial system. Until we once again have a financial sector that can successfully allocate credit to worthy projects, we're not possibly going to be able to produce as much in the way or real goods and services, no matter what the level of aggregate demand or stimulus package might be.

I agree with the point about technological frictions. I think the friction is worse now than it was fifty years ago, because the labor force has more advanced and specialized skills.

I disagree with his take on the financial sector. I am ready to throw the banks under the bus. My view is that the key to recovery is profitability in the nonfinancial sector. If firms are losing money, it's crazy to lend to them. Firms that are barely profitable don't want to borrow. So I would not be trying to prop up banks and push them to lend. That's not what is going to get us out of this mess. But more economists agree with Hamilton than agree with me. I am the outlier here.


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COMMENTS (8 to date)
von Pepe writes:

Hey look, I took a major Austrian insight and re-named it "technological frictions".

Appearantly there is specialized labor and capital. Maybe he will say this occurs in economies with division of labor.

Ironman writes:

Arnold wrote:

I agree with the point about technological frictions. I think the friction is worse now than it was fifty years ago, because the labor force has more advanced and specialized skills.

Yes and no. Speaking as someone directly impacted by the fallout in the automotive industry this year, I can personally vouch that the solution works.

Walt French writes:
In my mind, it is a mistake to pretend that any federal program is capable of immediately re-employing those resources into an alternative, equally productive enterprise.
Errm, isn't this a bit of a strawman? Most of our unemployment and retraining programs claim nothing of the sort, but rather, by providing insurance against loss of income from unfortunate concentrated investments in skills, help individuals diversify away risk without reducing individuals' risk taking, and without increasing societal risk. Absent this societally-provided insurance, individuals would separately have to self-insure (Shiller's various risk-sharing contracts having gotten essentially zero traction), tying up many times the financial assets in low-return savings, while still not providing the protection that a well-functioning society can. (Yes, not necessarily does. Those who repudiate the notion of a cooperative society should not be entrusted with the control of it.)

Having a society that provides such lender-of-last-resort and insurer-of-all-reinsurance would seem self-evidently valuable. The history of pre-FDIC banking, and pre-regulatory insurance are so full of fraud and loss that I cannot imagine why we wouldn't want those protections provided at the very small cost that we pay.

And if by "throw[ing] the banks under the bus," you mean to force a handover of the keys, I'm with you. But not because I'm PO'd at bankers; rather, their firms, the corporate persons, have willfully broken their contracts (to be able to repay depositors without Federal intervention) and the owners cannot be trusted with Other People's Money. Those owners are the shareholders, not just the managers to whom they gave reckless, unsupervised license.

We need to effect a handover from those who profiteered by excessive leverage, no matter whether the Fed and FDIC gave forebearance or not -- even Mr. Greenspan expected "discipline of the market" as a remedy to risk management problems. As Lehman indicated, it might be a tad delicate. But the goal of turning over banks to (new) owners who will operate under sensible rules should not be overlooked in the attempt at delicacy.

MattYoung writes:

Agree entirely.

James A. Donald writes:

Observe the example of Japan. Pouring stupendous amounts of "stimulus" on the economy has not resulted in growth, merely consumption and unsustainable government debt.

I conjecture that this is what happens when you stop the destruction part of capitalisms creative destruction. If no one important can fail, no one can succeed at anything important, we get stagnation at the top, and hence no growth.

Government can enable people to consume, but can only obstruct them from producing.

MattYoung writes:

I have to modify my agreement with Arnold.

I agree with him, except that the federal government should probably absorb 18% of the bank losses for, given the federal natural share, it is responsible for its share of losses.

Jeanne writes:

In respone to Geting to Recovery, I agree with James Hamilton, in his paper he investigates a general equilibrium model of unemployment and the business cycle in which specialization of labor plays a key role.
Although I would add that with the over-abunadance of skilled work force in a down sizing economy, the thought that "workers are unemployed either because they are in the process of relocating for a better job or because they are waiting for conditions in the depressed sector to improve" may be unrealistic, "the jobs here" are not available any longer and retraining is both an expensive and and somethimes lengthy process with no a guarantee of a new job in a new field.
We have been out sourcing so many jobs abroad to avoid the unions and high wages paid in the US,we do not have fall back jobs for workers.

Source:
James Hamilton,A Neoclassical Model of Unemployment and the Business Cycle,
Journal of Political Economy, 1988, vol. 96, issue 3, pages 593-617, Copyright 1988 by University of Chicago Press.


Babinich writes:

Why is it noted that the money the government spends as part of this stimulus package will not be offset by a reduction in private spending?

It is believed that spending will be possible by tapping into a pool of idle money.

From what source was this pool of idle money "filled"?

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