Deepish Thought

This gem is from an opinion piece published on CNN.com by a former Republican staffer turned lobbyist.  The subject is what the Obama administration can learn from the way Republicans were able to pass the Medicare prescription drug benefit:

Under the leadership of Speaker of the House J. Dennis Hastert, a veteran of many health care battles, and Senate Majority Leader Bill Frist, himself a physician, Republicans were able to get critical interest groups, including the usually left-leaning AARP and well-funded trade association PhRma, to join forces in support of the reform effort.

Yes, ladies and gentlemen, by truly heroic efforts Mr Hastert and Mr Frist managed to get the AARP to support a massive new benefit for seniors and, unbelievably, the pharmaceutical industry to support massive government subsidies for prescription drugs.  One wonders how on earth they were able to pull off such a herculean feat.

Of course, the President has in fact already lined up support from both the AARP and PhRma.  However, support from AARP members remains somewhat equivocal since funding for the plan relies on several hundred billion dollars in efficiencies (cuts) to Medicare.  If only he would follow the Republican example and drop even the pretense of making the plan fiscally sustainable perhaps all would be well.

Mark Thoma has published a detailed rebuttal of the idea that the the Waxman-Markey (carbon permits) bill is a massive corporate giveaway.  Mr Thoma’s reasoning is that:

The split over the entire period from 2012 to 2050 is 53.4% for consumers and public purposes, and 20.1% for private industry.

Assuming you believe Mr Thoma’s math, Waxman-Markey is actually a massive giveaway to consumers, special interests and private industry.  This is not exactly a compelling defense.

The problem with the bill is not the manner in which the giveaways are divided.  It’s the existence of giveaways.

The whole point of a cap and trade system is to price carbon emissions and thus incorporate the cost of CO2 emissions into the price of everything those emissions produce. Price signals can then drive innovation to minimize the carbon use and ensure that maximum economic benefit comes from the level of emission we believe is acceptable.   If carbon permits are given away, regardless of who exactly the giveaways are intended to benefit, this price mechanism is undermined.

The fundamental problem here is that American public would apparently like to believe that the transition to a low carbon economy can somehow be achieved without carbon based energy becoming significantly more expensive.   Unfortunately, there is no free lunch to be had here.  A major restructuring of the US economy isn’t going to occur unless the financial incentives surrounding energy use are significantly realigned.

What Congress should have done is create a fully auctioned cap and trade system, then used the resulting revenue to lower and simplify income taxes.  This would have shifted the burden of taxation from a earned income (generally considered a social positive) to a negative externality without increasing the overall tax burden on the economy.  Energy would get more expensive while labor gets cheaper.  It would also likely have created a broad base of political support for cap and trade.

Tragically, this is not what happened.  The administration, somewhat naively, expected their fully auctioned program to become a new and fruitful source of revenue to fund its ambitious spending plans.  When this proved politically unfeasible, the congressional leadership was allowed to use carbon credits giveaways to buy off opposition to the bill.  In its desperation to achieve legislative success, congress has not flinched at undermining the bill’s original objectives.  The revised bill is more politically palatable in that it apparently won’t really affect energy costs.  Of course, if energy costs aren’t affected there is very little chance the thing will actually work.

It is revealing that Congress choose to lard the bill with energy use regulations.  If the bill were going to effectively price CO2 emissions the regulations would be redundant.  Market forces would drive change without the need for mandates from Washington.  Clearly, even Congress doesn’t really believe that the cap and trade portion of the bill will drive change.

To be fair, the successful SO2 cap and trade scheme, on which the bill is based, gave away rather than auctioned SO2 emission rights.  The prospect of selling surplus SO2 credits, or the threat of having to buy extra credits, encouraged enough companies to find ways to limit SO2 output.  So Waxman-Markey may not be completely hopeless.

However, SO2 was a relatively minor problem that could be minimized without a wholesale restructuring of the US economy.  It is extremely difficult to believe that a similarly low key approach will yield the changes required to move us towards a low carbon economy.  For those of us who believe in harnessing the power of markets to solve environmental issues Waxman-Markey is a profound disappointment.

Today’s 30-year treasury bond auction apparently went smoothly, with prices even firming slightly in subsequent trading.   I confess that I don’t fully understand why there is such strong investor demand for long term (and thus inflation sensitive) treasury debt.  Some of the possible  explanations are:

1. The bond market is deeply pessimistic about the economy, meaning that deflation is a possible concern and holding 30 year government bonds with a 4.5% yield is actually quite attractive.
2. The bond market is very optimistic (snicker) about both the Fed’s ability to shrink its balance sheet  and government’s ability to bring the fiscal deficit under control when the economy improves, meaning that inflation is not a threat.
3. Global imbalances  have become, to an extent, self perpetuating.

The third explanation arises from an old, informal rule of banking, “If you owe a $100 the bank owns you.  If you owe a $100m you own the bank”.  My thinking here is that the United States has become a debtor that is too important to be denied credit.

Due to years of conscientious currency manipulation China (and other trade surplus nations) have accumulated enormous dollar assets.  Protecting the value of these assets is not an insignificant concern.  This means that US interest rates cannot be allowed to go up in any situation where the rise would not be accompanied by an offsetting rise in the dollar.

The 30 year bond auction was just such a situation.  A poor auction would have resulted in higher long term interest rates.  Normally higher rates would put upward pressure on the dollar.  However, right now, a bad auction would imply that the government is going to have difficulty funding the deficit, increasing the likelihood that the deficit will be monetized, which would be bad for the dollar.

So a bad auction would likely mean US interest rates up and the US dollar down, which is the worst possible combination if you happen to be a foreign power that owns a lot of dollar assets.

If you were such a power my guess is that ensuring a strong auction, by say bidding for a bunch of bonds, would start to look like a good idea.  Interestingly, indirect bidding (i.e. by foreign central banks) during the Treasury auction was described as “strong”.

Megan McCardle is rather disappointed with lack of followup to the moon landing.

What happened to the dream?  Government mismanagement, yes, but something more than that, too, some failure of imagination and will.

There are a couple of problems with this sentiment.  Foremost is the fundamental misunderstanding of what the Apollo program was really all about.  The United States didn’t go to the moon because of some insatiable human desire to “boldly go where no man has gone before”.  That is retrospective romanticism.

The United States really went to the moon out of fear.  Specifically the fear of Soviet domination of space.  President Kennedy launched the Apollo project based on the advice of NASA deputy director Hugh Dryden’s advice that a lunar landing was a sufficiently long term goal that NASA would have a chance to catch up with the Soviet’s technological lead and actually get there first*.

By the time Neil Armstrong made his famous footprint, the fear of  Soviet owned space had been thoroughly dispelled, and with it the driving force for human space exploration was lost.

There are many legitimate reasons to criticize NASA’s activities since the end of the Apollo program.  However, exploring the rest of the moon, or putting a man on Mars, were not realistically achievable goals.  The moon landing was a crash program put together in response to a perceived national emergency.  That level of effort was simply not sustainable indefinitely.  Adventurous spirit and scientific curiosity have never been enough to get political support for the kind of expenditures required to take further leaps into deep space.

It thus isn’t really accurate to call the lack of progress since 1969 a failure of imagination and will.  The last forty years have reflected the normal, frustratingly erratic,  progression of most human endeavors.  The 1960’s was the aberration.

My other issue is with the, “What happened to the dream?” question.  The idea seems to be that, in the absence of leadership from Washington, humanity’s future in space has been put on indefinite hold.

In truth, the dream is in very rude health.  The last decade has seen the birth of space tourism, the first private space flights and a burst of entrepreneurial enthusiasm.   If you really care about space exploration you would do well to keep an eye on the development of the private sector rather than NASA press releases.  If there is an economic return to be generated from commercial activities in space people will go there, even without government help.

We may very well see NASA astronauts back on the moon.  NASA planing says ‘yes’, a realistic assessment of the federal budget outlook says ‘not likely’.  Even if NASA never makes it back I’m pretty sure somebody will.  What’s more, we may all have the opportunity to participate, not by paying taxes, but by buying stock.

As an aside, we could pay $100-$150 billion (optimistically) for NASA to put a base on the moon sometime after 2020, or we could put aside say $50 billion as a kind of super X prize to be awarded to the first organization to sustain a human presence there for 12 months.  I know which alternative makes more fiscal sense for our cash strapped government.

* There are many non-fiction accounts of the 60’s space program.  However, perhaps the best way to capture the feeling of the time is to read Tom Wolfe’s famous novel The Right Stuff.  Or you can check out his recent Op Ed piece in the New York Times

The following is from Karl Rove‘s opinion piece in this morning’s Wall Street Journal (emphasis mine):

“So what’s a president to do when the promises he made about his economic stimulus program fail to materialize? If you’re Barack Obama, you redefine your goals and act as if America won’t remember what you said originally.”

Anyone who remembers the ex ante and ex post justifications for the Iraq war may appreciate the irony.

Atlantic blogger Megan McCardle doesn’t think much of the the ongoing discussion about whether or not the next President should meet with controversial foreign leaders.

To date, the current administration has been pretty resolute in its policy of not talking to people it doesn’t like.  This could reasonably be described as the angry two-year-old approach to foreign policy.

Unsurprisingly, the lack of invitations to the White House has not had a huge impact on the policies of Iran, Venezuela or North Korea.

To be fair, the President’s lack of involvement has little to do with the administration’s difficulties in dealing with the country’s various foreign antagonists.  The fact is, getting unfriendly regimes to do what you want is largely a question of leverage.  For various reasons, the US doesn’t have any.

Going further, the administration’s no talking policy isn’t quite as pigheadedly stupid as it sounds.  A meeting with the President can be a significant carrot.  It’s the kind of thing that you might reasonably want to hold back until the final stages of negotiation.

More importantly high level talks with dictatorships can be dangerous for the President.  In any high profile meeting the administration tends to be under enormous pressure to show results.  Dictators, who don’t have answer to voters or the press, have no such concern.   The playing field is thus not level, which can easily result in the good guys making concessions that they probably shouldn’t.

However, this is a concern that can easily be addressed.  We have tended to get very hung up on whether or not the President should speak to problematic foreign leaders.  What really matters is what the President would say. Obama could largely eliminate concerns about his engagement policy by addressing the issue along the following lines:

“Would I speak with President Ahmadinejad?  Certainly.  Communicating with foreign leaders is part of the President’s job.  Would President Ahmadinejad enjoy the conversation?  Probably not.  I would tell him in no uncertain terms that his country is on a dangerous path that could lead to conflict with the United States.

We should have no illusions that my words alone will change the policies of the Iranian government.  However high level engagement is one of the tools we have at our disposal.  I will not neglect any opportunity to communicate our views and apply pressure to the Iranian regime.  This is one of those times we need a full court press.”

Harvard economist Greg Mankiw supports the “plague on both your houses” view of Congress’ role in the Freddie & Fannie fiasco.

Events are moving so quickly that this post is already two massive bailouts behind the times. However, the quasi-nationalization of Freddie and Fannie is such a significant event in the history of finance and government that it bares belated comment.

One of the (many) great tragedies of the Bush administration is that its reputation for untrustworthiness, incompetence, and blatant political hackery became so overpowering that people stopped listening. So on the rare occasions when the administration displayed the foresight so conspicuously lacking in Iraq and New Orleans, nobody listened.

The Bush administration repeatedly warned that Freddie Mac and Fannie May were dangers to the stability of the financial system. Congress, determined to show that the administration doesn’t have a monopoly on self righteous, arrogant bungling, and always mindful of the flow of campaign contributions, chose not to listen. The result is that taxpayers are on the hook for Freddie and Fannie’s losses.

Congress has (shamefully) shown itself to be not so very different from the administration. When it came to Freddie and Fannie, Congress chose to believe what was personally and politically convenient, regardless of the evidence. Faced with a crisis, Congress reached for the quick fix solution of having Freddie and Fannie expand their operations, without considering the risk. Ignoring outside advice they took their cue from lobbyists who wanted to use the housing crisis to help Freddie and Fannie escape the restrictions imposed as a result of their respective accounting scandals.

Finally, Congress appears to be dead set on learning nothing from the experience. The political groundwork is already being laid for the resurrection of Fannie and Freddie. No doubt bigger, more political and even less transparent than before.

Perhaps the most depressing aspect of this whole sad saga is that it really deosn’t seem to matter much who controls Congress.  Between 2002 and 2006 the Bush administration and the Republican Congress put on a master class in bad government. Sadly, it appears from their recent performance that congressional Democrats were taking notes.

It appears that poor loser Boeing is going to appeal the Air Force’s decision to buy Northrop Grumman/Airbus tankers on the grounds that choosing the winner based on which proposal gave the best value for taxpayer money was patently unfair.

Whatever spurious reasons Boeing actually comes up with for challenging the contract, the real issue is whether the Air Force can weather the political storm it’s decision has created. The key concerns are jobs, the award of a lucrative contract to a foreign company and national security. All these concerns will receive plenty of air time, but none have any real foundation.

Perhaps the most ridiculous claim to date is that the decision will somehow cost thousands of American jobs. Both Boeing and Airbus have global supply chains with a high degree of overlap. US suppliers, who are barely keeping up with with demand for parts for civilian planes, may see a small decline in future orders from Boeing, which will likely be offset by increased orders from Airbus.

Boeing itself will have to shut down it’s 767 production line sooner than it might like. However this will only be a pause for retooling. The company currently has an epic backlog of civilian aircraft orders, which means that there is precisely zero chance of layoffs.

You could argue that Boeing might have hired more people in the future had it won. Of course these hypothetical jobs are balanced by the actual hiring Northrop Grumman will be doing in Alabama, where the Airbus tankers are to be assembled.

The national preference and national security concerns are only marginally less idiotic. EADS (the corporate parent of Airbus) is a joint French/German company. France and Germany are of course close NATO allies, who already have access to any military secrets likely to be involved in what is essentially a flying fuel truck.

If anything, the Airbus tanker represents a major opportunity to strengthen trans-Atlantic military co-operation. Committing to a partly European tanker is an obviously friendly gesture, which may will be reciprocated in the form of better access to the European market for US military suppliers. Over the long run, a reduction in irrational national preference biases in arms purchases would increase supplier competition and decrease costs for all NATO countries. In addition, it would likely result in greater commonality of equipment, and thus greater interoperability, amongst NATO forces.

Perhaps the most important aspect of the whole situation is that Air Force has demonstrated the ability to make a purchasing decision based solely on military considerations. This will, assuming the decision is allowed to stand, have a very salubrious effect on future acquisition contests. If suppliers get the idea that their efforts are best spent on engineering rather than lobbying, the result will be a military that is both better equipped and much less expensive.

The only real losers will be Boeing shareholders. Right from the start, Boeing’s tanker proposal was basically a scam designed to keep the obsolete 767 in production. This would have been a fabulous deal for Boeing. The development and tooling costs for the 767 were paid off long ago, so every additional 767 sold would have had a very pleasing effect on the bottom line.

While I’m sure Boeing stockholders are rooting for the Airbus deal to be overturned, such an outcome would be a travesty of justice and a gross insult to common sense. Still, this is an election year, so anything is possible.

The Iowa caucuses are done and results have confirmed that the nomination races are just about as wide open as they have ever been. This being the case, it seems like now would be a good time to consider how some interested observers who will not be voting in the remaining primaries would like the races to turn out.

If I were a Republican party strategist my choices for the Democratic nominee would be:

(1) John Edwards
(2) Hillary Clinton
(3) Barack Obama

Edwards is running to the left of the Democratic party, which puts him well to the left of the average general election voter. He also made his millions suing doctors, which would be a gift for Republican speech writers in an election where health care is shaping up to be a big issue.

Hillary of course would carry all the accumulated baggage from the Clinton administration. Republican campaigners would relish the opportunity to dust off all those old files and nothing would fire up the Republican base more than the prospect of a second Clinton presidency.

By contrast, Obama has a short political record, which makes inexperience the only real angle Republicans can attack. In addition, his likable personality and the historic nature of his candidacy could potentially generate enormous crossover appeal.

If I were a Democratic party strategist my choices for the Republican nominee would be:

(1) Rudi Giuliani
(2) Fred Thompson
(3) Mike Huckabee
(4) Mitt Romney
(5) John McCain

Giuliani has an erratic and abrasive personality, is widely disliked by socially conservative Republicans, who might well stay home rather than vote for him, and has a cupboard chock full of skeletons. If there is any Republican candidate more or less guaranteed to melt down it’s Rudi Giuliani.

Thompson is a notoriously lazy actor with an unimpressive political track record. He has loser written all over him (of course there is good chance he won’t be in the race much longer).

Huckabee is beloved by evangelical christians, but doesn’t really impress anyone else. However there is some danger for Democrats in a Huckabee candidacy. He does have a very likable personality and espouses populist positions that could generate some crossover appeal.

Romney is another candidate strongly disliked by parts of the Republican base. However he has deserved reputation for competence, was a Republican governor in a Democratic state, which indicates considerable ability to appeal to independents and moderate Democrats, and he has a bucket load of cash.

McCain would be a real threat in the general election. He was a vocal critic of the Bush administration, so it is difficult to hold him responsible for it’s mistakes. Generally speaking McCain has genuine crossover appeal, a reputation for taking principled stands and a done everything resume. There is also the military record to contend with. In addition, while he might not be trusted by social conservatives, they don’t despise him in they way they do pro-choice Giuliani. The only real knock on him as a general election candidate is that he’s about 2,000 years old.