Finance Profits a Ripoff?

Yglesias » The Economics of Ripoffs:

The great genius of capitalism is facilitating mutually beneficial exchanges. I want a can of Diet Coke more than I want 8 pesos, so I hand 8 pesos over to a shopkeeper and he hands me a can of Diet Coke. Win-win. Then there’s fraud where you outright lie about what’s happening. That we understand, and it’s generally illegal.
But there’s this whole other world where, to a greater or a lesser extent, one party to the transaction is getting ripped off. We know this stuff happens. People buy lottery tickets, people put tokens into slot machines, and people pay fortune tellers. You can model all this behavior as self-interested and mutually beneficial by simply asserting that the people buying tickets are obtaining some large quantity of subjective utility from the lottery, but I think examining lottery marketing tends to cut against this interpretation. And this can move up from the realm of pure gambling. I saw a TV ad the other day marketing life insurance to AARP members. The idea of life insurance is that average payouts are less than average premiums (hence profit), but this bad investment may still be a good idea for your family because the economic impact of the loss of a breadwinner will be so devastating. But the whole logic of life insurance completely fails to apply to retired people.
I thought of this all recently in terms of continuing discussions of the mysterious sky-high profitability of the financial sector.
We often have this conceit that ripoffs are an economically marginal phenomenon that applies to, sure, tourists and gambling addicts and maybe naive poor people going to see tarot card readers. But if you look at the price premium people are willing to pay for “organic”-labeled products and the dubious science behind the theory that these products are superior to conventional varieties, I think it’s clear that yuppies aren’t immune to getting ripped off, either. And I think we should be open to the possibility that this is happening in finance. How much do the sundry pension fund beneficiaries, 401(k) holders, endowed nonprofit managers, etc. of the world really know about the investment game? Are they really that much more savvy and sophisticated than their working class lottery ticket buying peers? Or does their self-image as savvy sophisticates make them that much more prone to being ripped off? After all, Bernie Madoff was able to swindle a bunch of very sophisticated investors out of a great deal of money. He did it through actual, prosecutable, criminal fraud. But not every scam and ripoff is a fraud, and not everything that’s legal is a mutually beneficial transaction.

Median HH Income

Median income is down by 11% from its peak.  The median household is almost half way to the great depression. Felix Salmon:

Why has no one thought to do this before? Every month, the Current Population Survey goes out to a nationally representative sample of more than 50,000 interviewed households and their members. And in one of the questions, those households — or at least the households who didn’t answer the same question the previous month — are asked how much money they made, in total, over the past 12 months. That question has now been asked in 138 successive months, since January 2000. Which means that with a bit of clever analysis, it’s possible to put together an apples-to-apples comparison of what has happened to household income every month.
And when you do that, the results are very scary indeed.

 

...All of these numbers come from Gordon Green and John Coder, economists who both worked at the Census Bureau for more than 25 years. They’ve now set up a private company, Sentier Research, to collate these household income figures every month... Why is this work being outsourced to private-sector economists, rather than being done by the Bureau of Labor Statistics and published officially?

History of the 2008 Lesser Depression

This is an excellent history by Ezra Klein that explains what happened and the political struggles that shaped the outcome:  Could this time have been different?
Many commentators have critiqued Klein's article.  Krugman says Klein was not hard enough on Obama in a very I-told-you-so way that would be really annoying except that he really has been telling the same critique for a long time. He would never make it as a politician.  

IS LM Keynesian Links

Krugman Explains IS-LM

The BL-MP Model

 More on BL-MP

 IS-LM Watch: In the Country of the One-Eyed, the Self-Blinded Man Is in Bad Shape, or Something Department

The Tribal Dislike of John Hicks and IS-LM: History of Economic Thought Edition

 Hoisted from Comments: The Tribal Dislike of John Hicks and IS-LM

Something About Macro

Krugman: "I’d guess that at least half of university macroeconomists are either real business cycle types or take a Taylor-like position that they may be Keynesian in theory, but they oppose anything Keynesian in practice"

Krugman must be thinking about research macroeconomists in graduate schools.  The undergraduate textbooks never developed much interest in the real business cycle (RBC) theory.  Perhaps that is because RBC has no good applications and cannot be explained in simple terms that make any sense.  It requires too much mathematical abstraction to make sense and undergraduates would not be convinced without some stories to back it up. 

Regulatory Uncertainty Did Not Cause Recession

It's *Not* Regulatory and Tax Uncertainty.
If it were fear of Obama and Democratic policies, then the midterm elections would have seen economic boom because Democrats cannot do anything major anymore.
The recession would not have gone so far before Obama and the Democrats were elected.  
Business investment has already recovered more rapidly than it did in several past recessions.  Only housing investment remains depressed and it is difficult to understand why home buyers would be so worried about housing regulations when that is mostly regulated by state and local governments which vary widely in ideology and substance.

Mishel at the Economic Policy Institute has more:

Over at the American Enterprise Institute blog, James Pethokoukis responds to my recent paper, Regulatory uncertainty: A phony explanation for our jobs problem, and blog post. I presented evidence that trends in investment, private-sector job growth, unemployment, and work hours were not inferior in this recovery compared to other recent job-challenged recoveries. That is, I noted that this recovery fares well relative to the recoveries under George W. Bush and George H. W. Bush. If you look at what employers are doing rather than what trade associations are saying, you would see that uncertainty about regulations and taxation has not impeded job growth. What we are seeing is what you expect given the slow growth in GDP.
What was especially curious to me is that Pethokoukis has no counter-argument

Fiscal and Monetary Stimulus NOW!

Professional economic forecasters think that fiscal policy works: Paul Krugman directs us to a Goldman Sachs report.

http://www.project-syndicate.org/commentary/delong118/English  The calculations and logic of Keynesianism.
Martin Wolf:  Time to think the unthinkable and start printing again
a recent speech by Adam Posen (pdf), opens by speaking about how shy people are to do Keynsian or monetarist policies:

Both the UK and the global economy are facing a familiar foe at present: policy defeatism. Throughout modern economic history, whether in Western Europe in the 1920s, in the US and elsewhere in the 1930s, or in Japan in the 1990s, every major financial crisis-driven downturn has been followed by premature abandonment—if not reversal—of the macroeconomic stimulus policies that are necessary to sustained recovery. Every time, this was due to unduly influential voices claiming some combination of the destructiveness of further policy stimulus, the ineffectiveness of further policy stimulus, or the political corruption from further policy stimulus. Every time those voices were wrong on each and every count. Those voices are being heard again today, much too loudly. It is the duty of economic policymakers including central bankers to rebut these false claims head on. It is even more important that we do the right thing for the economy rather than be slowed, confused, or intimidated by such false claims.

A Special Finance Tax

The IMF is usually accused as being a conservative institution that favors elite bankers over the needs of everyday people.  Surprisingly, the IMF proposes taxing the finance industry to reduce financial excesses and pay for past bailouts:

The International Monetary Fund has proposed a set of broad taxes on the financial industry to guard against future crises, and the levies that would target "excess" profits and compensation as well as raise hundreds of billions of dollars in the United States alone.
In the agency's most detailed statement yet about how banks and finance companies should pay to offset their risk of failure, IMF staff outlined a possible "financial stability contribution" that would be based on the threat that a firm's collapse would pose to the economy. The levy, the IMF said, should raise an equivalent of at least 2 percent of a country's economic output -- around $300 billion in the United States -- and set it aside to underwrite the costs of putting failed institutions out of business.
A separate "financial activities tax" would impose taxes based on excess profit and perhaps pay, a proposal designed to discourage outsize executive bonuses and the sort of high-return but risky investments that helped drive the global economy into its worst recession in decades.

...[One purpose is] to recoup the public funds spent propping up the financial sector, and how best to raise money to pay for future problems.  The idea is a central issue in the financial reform debate under way in Washington and European capitals, where legislators have offered a range of measures: from a fee on large institutions, proposed by President Obama, to a tax on all financial transactions, being discussed in Europe.

...[The other purpose is] an effort to minimize the "systemic risk" posed by companies that grow so large that their failure can cascade into a larger crisis.
Taxing profits above a certain level "would become a tax on 'excess' returns in the financial sector," the staff paper said. "As such it would mitigate excessive risk-raking." The tax would also apply to "remuneration" -- possibly all the wages at a financial firm, but more likely executive pay and bonuses considered unreasonably high.