Economic Something or Other

I read an article today that made me feel much better about what the Federal Reserve is currently doing to help the economy. In short they are doing two things:

  • Dropping loads of money into the economy to fight deflation.
  • Lending directly to non-bank entities

As some of you may recall this second point is something I suggested in my No Bailout post. The lending programs the article briefly mentions are exactly what the Fed should be doing right now. They are well within the Fed’s role as the lender of last resort. The Fed’s job, when facing deflation (a problem economists don’t really know how to solve directly) is to increase the money supply so drastically as to create inflation (a problem economists solve on a regular basis). Since the usual means of increasing the money supply, lending to banks, isn’t working because the banks aren’t lending, its perfectly reasonable to lend directly to others.

The other news this week is that Citibank accepted a bailout from the treasury. This is particularly unfortunate for me as I am both still against the bailout, as enacted, on principle and I am a Citibank customer at some level. I think the treasury’s approach to the bailout is all wrong. The only point of the bailout should be to get us, as an economy, through the shortage of credit until new credit suppliers can enter the market (which requires high interest rates). The goal should be to allow creative destruction of badly managed credit suppliers and only prop up the one or two best managed (as determined by least likely to go bankrupt), and we do that only because we need some credit in the mean time. It seems that the treasury’s idea is to prop up everyone. It may, hopefully as a customer, be the case that Citi is one of the two that should be propped up, but clearly AIG is not. AIG failed early (and often) clearly indicating it should be let die; even now, there still is no reason to throw good money in after bad.

The other bailout, the auto bailout, I’m totally against that as well. The situation with the auto companies is not at all like the banks. First and foremost there is a shortage in the credit market and a surplus in the auto market. The other big difference is that not all car companies are going to fail. The large foreign companies, Honda and Toyota show no signs of failure. This means that the public interest in having companies producing new cars will be served regardless of how the big three American companies do. I argue that there is not a public interest in American car companies existing compared to car companies in general, as that would imply a nationalist impulse that has no place in a worldwide capitalistic system. Since the public interest is served by spending zero public dollars, there is no reason to spend public dollars.

Many argue there is a public interest in protecting jobs, that is true, but misspoken. There is a public interest in having jobs. Protecting existing jobs is a bad idea; it decreases the rate of increase of the standard of living. If GM were to fail, all of a sudden there would be opportunity to start a car company in America and stand a chance a new entreat. Also, the other companies remaining in the market would be less likely to fail. If we were not in a credit shortage people would line up to replace GM with their own ideas. These new companies would still need parts suppliers, and dealerships and all the rest of the infrastructure. This will take time, years for sure, but its not like there won’t be others to produce cars and consume parts in the meantime.

Given the credit shortage it is hard to start a new business right now. That means markets can not properly respond to the long term pressures that they face. That is the problem we must solve, and are working to solve. We need to solve the credit shortage in order to allow new players to enter markets, then the market will resolve any problems in the auto or other industries.

This Newsweek story provides examples of past American industries that have undergone creative destruction. Despite coming at the topic from a more pragmatic, less theory and market driven it echos my main idea regarding the automakers.

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