The Slack Wire

Two, three, many Ecuadors

I had no idea that Ecuador had defaulted on its debt.

Felix Salmon’s Reuters piece is fascinating, not least for the tone of astonishment that “the country has won and the private sector has lost.” Aren’t small open countries like Ecuador helpless in the face of the mighty capital markets? Not at the moment:

[President Rafael] Correa didn’t pull the trigger until he could see the whites of his opponents eyes: he announced that he was defaulting on the 2012 global bonds at exactly the time that three huge hedge funds, which held Ecuador’s debt, were being forced by their prime brokers to liquidate their holdings. As a result, the selling pressure on Ecuadorean bonds sent them tumbling from the 70s to the 20s almost overnight.

They would have fallen further, into the waiting arms of a small army of hungry vulture funds… But then Ecuador pulled its next smart stunt: it used Banco del Pacifico, a large Ecuadorean bank, to start buying bonds at levels above 20 cents on the dollar. That was just high enough that the vultures didn’t want to amass a large position, and ensured that any future restructuring would face little organized opposition just because Ecuador’s bondholders were so fragmented. … And its final clever step was not to put forward a take-it-or-leave-it offer, as Argentina did, which would allow bondholders to agitate for a mass “no” vote. Instead, they just asked bondholders to name their price. Of course that’s what the bondholders did. None of them wanted to be left as holdouts.

The lack of solidarity among bondholders is noteworthy here (a group of disgruntled bond owners uses, telling if a bit comically, the slogan “United We Stand.”) Game theory might explain why most bondholders would take the country’s offer, but one suspects that in a different political conjuncture the game would work differently.

Also noteworthy is this: “Ecuador hasn’t been able to issue debt in years, so losing access was no big deal for Ecuador, as it would be for most other countries.” But why on earth should any country keep paying tribute to foreign bondholders if it won’t be seeing any more capital inflows?

Of course, Salmon might be wrong — which makes the case for default stronger, if anything. According to Marc Weisbrot, S&P raised the country’s bond rating following the default, and the price of non-defaulted government bonds rose sharply: “The debt reduction appears to have convinced foreign investors that Ecuador’s ability to repay its non-defaulted debt has increased.” It would be interesting to try to generalize this point. Even if you ascribe much more in the way of rational expectations to international lenders than I would, there is clearly some level of debt which is too high to be realistically serviced; in that case, repudiating some or all of the existing debt clearly improves repayment prospects for future debt.

On balance, despite all the huffing and puffing you hear in cases like this, it’s not clear that default has any repercussions on access to foreign loans. Jeffrey Sachs and Erika Jorgenson have an interesting paper that looks at the subsequent experience of Latin American countries that did, or did not, default on their debt in the 1930s. They find that “reputational effects on future access to credit … were low, so low as to be negative. … the costs of default in terms of future external financial flows were negligible. When the countries returned to international capital markets in the 1950s, no apparent systematic differences between the defaulters and nondefaulter emerges.”

Most likely the same will turn out to be true here: Post default, the income of a few wealthy bondholders will be a bit lower, the income of the citizens of Ecuador (or at least the government) will be a bit higher, and Ecuador’s capacity to borrow internationally will be unchanged.

Toward the end of his piece, Salmon quotes someone from Greylock Capital worrying that “as much as we can say this is an outlier, any country which runs into trouble has a great blueprint now of how to do it.” Let’s hope so!

Health bill thoughts

Short version: It’s an expansion of Medicaid, with some doodles in the margin.

Longer version:

Today, the US has the world’s highest medical spending and poor-to-mediocre health outcomes. It’s the only rich country where health coverage is provided by private insurers; where most people’s coverage is linked to their jobs; with a large number of people without health insurance; where millions of people lack any health coverage; and where medical problems often mean financial catastrophe. When this legislation is fully phased in, by 2016 or so … it still will be.

We know what the bill won’t do: fundamentally change the structure of health coverage and finance. But what will it do? My own bottom line is, Enough to be worth passing.

The bill’s provisions break down into half a dozen major categories: (1) new insurance regulations; (2) health insurance exchanges; (3) individual and employer mandates; (4) Medicaid expansion; (5) Medicare (and Medicaid) spending cuts; (6) tax on high-cost insurance policies, plus a bunch of other smaller taxes; and (7) a grab bag of experimental measures to improve the efficiency and quality of health care. And then there’s the provision that’s not there, (8), the public option. There are serious questions about the logic and impact of most of these provisions, many of which I have not seen analyzed seriously. As time and inclination permits, I’ll dig more into the most glaring ones. The bottom line, per the CBO, is that the uninsured would fall from 19 percent of the population today to 8 percent after 2015. [1]

I was thinking of walking through the major provisions of the bill one by one. But you can find that elsewhere. (Start here.) I might come back and write up a full summary, but in the meantime, I want to flag a half dozen important issues and questions that I haven’t seen discussed much elsewhere.

1. The individual mandate — is it really necessary to make community rating and related regulations work?
2. the distribution of new Medicaid spending, which is highly unequal between states.
3. The cuts in DSH payments, which could be catastrophic for some urban hospitals.
4. The crazy-quilt employer mandate.
5. Why the public option mattered.
6. How meaningful in practice are the limits on out-of-pocket costs, premiums, and medical loss ratios?
7. How much do insurance companies gain?

There are a couple other issues that have gotten a bit more discussion, where I don’t think I have anything much to add.

First, what is the role of insurance companies under this system? It seems they no longer have access to the two main choice variables on which they maximize profits currently: the terms on which they offer coverage, and the mix of benefits they will pay for. If they must offer policies on publicly-fixed terms with a publicly-set package of benefits, there’s no margin left for them to operate on. (Which doesn’t mean they won’t be profitable, just that their profit will depend on federal policy, not on factors under their direct control.) Two possibilities here: First, they will find ways to continue selecting healthier populations and limiting payments; the medical loss ratio restrictions won’t bind; in short, the status quo. Second, the insurance companies become essentially vestigial, simply taking a cut off the top of what is basically a public system. Purely parasitic insurance isn’t something anyone would propose, but it does have to be admitted it’s an improvement on insurance companies that take their cut and try to increase it by denying people health coverage.

Anyway, this is looking at the bill through the lens of universal reform — what is the logic of the system it creates? Whereas it plainly isn’t fundamental reform, and it doesn’t create a system with any particular logic, just tweaks the system that’s formed itself willy-nilly.

Second, the abortion restrictions. It’s clear that for some women, the bill will actually make things worse — it will restrict abortion coverage compared with the status quo. How much, for how many? I don’t know. But I did want to flag this lovely quote from The New Republic: “Poor people pay surprising amounts for cell phones and cable TV. They can be surprisingly resourceful in paying for abortions, too.”

[1] Also, at The New Republic, Jonathan Cohn writes, “For nearly a hundred years, the political system has been debating whether access to basic medical care should be a right all citizens enjoy. When reform passes, the political system will finally render its verdict: ‘yes.'” But 92% — or even 94%, if you don’t count undocumented immigrants — is not “all”. This kind of dishonest rhetoric has been all too common among those defending the bill.

How biologists think about genes

From Tangled webs: Tracing the connections between genes and cognition, by Simon E. Fisher:

The deceptive simplicity of finding correlations between genetic and phenotypic variation has led to a common misconception that there exist straightforward linear relationships between specific genes and particular behavioural and/or cognitive outputs. The problem is exacerbated by the adoption of an abstract view of the nature of the gene, without consideration of molecular, developmental or ontogenetic frameworks. … Genes do not specify behaviours or cognitive processes; they make regulatory factors, signalling molecules, receptors, enzymes, and so on, that interact in highly complex networks, modulated by environmental influences, in order to build and maintain the brain. …

What is a gene? Answering this question is far from trivial, but a useful operational definition might be ‘‘a stretch of DNA whose linear sequence of nucleotides encodes the linear sequence of amino acids in a specific protein’’. … It is important to realise that the appearance and biology of a mature organism is the result of a complex series of ontogenetic events unfolding over time, moderated by environmental and stochastic influences. Genomes are much more like knitting patterns or recipes than blueprints (although even the former are poor analogies for the peculiarities of the genome). …

The apparent ease of correlating genotype with phenotype without reference to molecular/developmental mechanisms promotes an erroneous impression of neurogenetics; one in which individual genes are able to mysteriously control specific behaviours or cognitive abilities, leading to talk of ‘‘language genes’’, ‘‘smart genes’’, ‘‘gay genes’’, ‘‘aggressive genes’’ and so on. It is indisputable that variations of gene sequence can contribute to variability in cognitive abilities and personality traits (sometimes in a dramatic manner) and that apparently straightforward genotype-phenotype correlations can sometimes emerge in our datasets. But the simplicity of these relationships is merely an illusion; genes do not (and indeed can not) specify particular behavioural outputs or cognitive processes, except in the most indirect way. … The gross activities of the human brain are the products of a complex interplay between factors at multiple levels; be they genetic, cellular, developmental, anatomical, or environmental, and the routes linking genes to cognition will inevitably be tortuous…

… the gap between genes and cognition can only be bridged by a thorough systems biology account of brain development and function. Even pure candidate gene approaches can be victims of the ‘‘abstract gene’’ perspective. In many cases, when researchers find statistical evidence to support association between a particular variant of a gene and a common trait, it is erroneously assumed on the basis of this that the variant is likely to be causative and that there is a simple pathway connecting gene to trait. … There is a large gulf between finding statistical evidence for a genotype-phenotype correlation and demonstrating a convincing causal relationship…

There is no doubt that the gene known as FOXP2 is relevant to linguistic ability. However, any characterisation of this as a ‘‘gene for grammar’’ clearly becomes untenable once we are able to view it within a more complete biological framework. … Reduced amounts of functional FOXP2 protein can lead to disordered brain development or function, in a manner that primarily interferes with speech and/or language abilities. … this is emphatically not the same as saying that FOXP2 is a ‘‘gene for speech’’ or a ‘‘gene for language’’… FOXP2 [also] regulates key pathways in the developing lung, heart and gut. …. The recycled use of the same regulatory factors to control multiple pathways in different developmental contexts is a common feature of complex biological systems; it is rare to find a transcription factor that has an exclusive role specific to only one context. Thus, calling FOXP2 a ‘‘language gene’’ makes no more sense than referring to it as a ‘‘lung gene’’… the data on FOXP2 from molecular and developmental biology confounds any expectations that one might have for a hypothetical ‘‘language gene’’; and the reason for this is that this entire concept is flawed, being rooted in an abstract view of the nature of the gene. …

Credit and car sales

Here’s another one for the file on credit availability and the downturn: How much has tighter financing contributed to the decline in car sales?

The conventional view is that auto sales, like other categories of consumer spending, have been sharply and directly reduced by the financial crisis. From today’s Wall Street Journal:

The hardest-hit markets since the crisis were ones at the heart of the financial problem — the “securitization” markets where loans for everything from mortgages to credit-card debt get sliced up and repackaged into complex securities.

The size of the market for securities backed by loans tied to homeowners’ equity has shrunk more than 40% since the second half of 2007. The market for securities backed by auto loans has shrunk 33%…

These securitization markets provided as much as 50% of consumer lending in the years leading up to the crisis, says Tim Ryan of the Securities Industry and Financial Markets Association, a financial-industry trade group. “Without [the securitization markets], it’s very difficult to replicate the amount of money moving into the economy,” he says.

I’ve been skeptical about this story in general, but let’s see how it holds up in this case. (Click the graph to make it readable; I’m still figuring out the mechanics of blogging.)


The top panel shows the real interest rate on new car loans, the second shows the average loan-to-value ratio, and the bottom shows monthly auto sales in millions, at a seasonally-adjusted annual rate. (Source: Table G.20 from the Flow of Funds; BEA via FRED.) The vertical lines mark business cycle peaks. To make the argument clear, here are the same graphs for just the past two years. The gray area in this one shows when the “Cash for Clunkers” program was in effect.

We see a few things here. First, while auto financing clearly did get tighter as measured both by interest rates and loan-to-value (the latter is a measure of credit availability), the decline in sales started first. Sales were already falling by the end of 2007, while there’s no sign of tighter credit until August 2008. So while the collapse of the secondary market for securitized auto loans may indeed have caused lenders to tighten their standards, it’s not clear that this was a major factor in reducing sales. Further evidence on this point: Auto credit tightened just as much in 2003-04, with no effect whatever on sales.

Second, while lending standards relaxed this past spring (the bailouts worked), easier credit didn’t get people into the dealerships. The spike in sales this summer was all about cash for clunkers; once that ended, sales collapsed, even though interest rates remained extremely low and credit availability, as measured by the loan-to-value ratio, remained fairly high (lower than in the 2000s, but similar to the 90s.) Interestingly, dealers seem to have tightened credit standards during the period of heightened demand in July and August; in this case, the real dog was wagging the financial tail.

So as far as cars go, we can conclude: The credit crisis may have contributed to the decline in real activity, but it wasn’t the sole or the decisive cause. And now that sales have collapsed, there’s no reason to think that credit conditions are what’s holding them down. If you want to support the auto industry, give people money to buy cars (or retrofit car factories to build windmills). Don’t try to revive the market for securitized auto loans.

Quoted for truth

“You can’t completely trust anyone who’s not a communist,” says Jim Crotty.

No you can’t — except one is often inclined to let the trust extend a generation down. Case in point: A. Hiring A. was, for better or worse, probably my biggest single contribution to the Working Families Party in my five years there. But the guy was a puzzle — his vibe was pure corporate-pragmatic — “we don’t really believe our own propaganda, do we?” he’d say — and yet he’d left a successful and presumably lucrative career in business (he’d been, inter alia, general counsel at the teen clothing chain Delia’s) to do grunt work in left-wing politics. And he was good at it!

So, a puzzle. So one day, driving back from Albany, E.B. and I started asking him about his background, where his politics came from. And come to find out, A.’s father was a Chilean communist, who’d fled the country after the coup against Allende. We looked at each other as if to say: Well, now it makes sense.

(EDIT: Names changed to abbreviations because these folks still work in politics and possibly don’t want to be outed as crypto-commies. Lame, I know.)

Getting it wrong on credit conditions

I’ve been obsessed for a while with the idea that credit availability is a much smaller factor in the current downturn than is widely believed — that the focus on bank balance sheets as a key constraint on output and employment is a symptom of the intellectual capture of economic discussions by Wall Street.

Here’s a perfect example from the generally good Gretchen Morgenson of the Times. Morgenson writes:

All that debt overhanging consumers and organizations is the pivotal reason we are still seeing a free fall in bank lending. And small businesses, which account for half of all jobs in this country, are taking the brunt of this credit contraction. Smaller banks are especially worried about their own balance sheets and aren’t making loans. This puts small businesses ­ important engines of growth ­ squarely on the brink.

In its survey, the [National Federation of Independent Businesses] asks small businesses how easy it is for them to get loans. The most recent data shows that credit tightness peaked earlier this fall ­ the worst levels in 23 years, Mr. Shepherdson says. Although credit continues to remain troublingly hard for small business to come by, that phenomenon is a largely untold story.

So let’s take a look at what that NFIB report actually says. Yes, on p.12-13 it reports that the net percent reporting easier credit conditions was -14 percent in October, compared with just -4 percent five years ago; in July, the percent saying they had satisfied their borrowing needs over the past three months bottomed out at 29%, with 10% saying their borrowing needs were not satisfied. (The balance didn’t need to borrow.)

But!

Turn to p. 14 and you see that the interest rate paid by small business on short-term loans was 6.0%, down from 9.5% in May 2007. On p.6, we learn that of the half of small business owners who report lower earnings this month, 62% say it’s because of reduced sales and another 8% to price cuts; only 13% cite rising costs, including labor, materials, taxes, and regulatory costs as well as finance costs. And then on p. 18 they ask small biz owners what is their most important problem. Sales, 33%; taxes, 22%; government regulation, 11%; competition from big business, 6%; and finally financing, tied with cost and and quality of labor at 4%. Compare this to the early 80s, when nearly 40% cited financing as their single most important problem.

Here’s how the NFIB itself summarizes these findings:

Overall, loan demand remains weak due to widespread postponement of investment in inventories and record low plans for capital spending. In addition, the continued poor earnings and sales performance has weakened the credit worthiness of many potential borrowers. This has resulted in tougher terms and higher loan rejection rates (even with no change in lending standards), and there is no rush to borrow money … It sounds like the Administration thinks the reason small firms are not hiring is that they are not able get credit. Although credit is harder to get, ‘financing’ is cited as the ‘most important problem’ by only four percent of NFIB’s hundreds of thousands of member firms. … Record low percentages cite the current period as a good time to expand, more owners plan to reduce inventories than to add to them, and record low percentages plan any capital expenditures. In short, the demand for credit is in short supply and failing to understand the more major problems facing small business leads to bad policy. … What small business needs is customers.

Gretchen Morgenson is one of the better business reporters out there, as far as I can tell. So how could she take a report that explicitly says that credit availability is not a major problem for small businesses and turn its findings around 180 degrees? And of course, this has implications for the shaping of policy. The NFIB’s story leads to the conclusion that what’s needed is government action to raise final demand. But in Morgenson’s version, it turns into an argument for further capital injections into the banking system instead. That’s how strong is the intellectual hegemony of finance. Stories that don’t end with the moral “… and so banks need more money” just do not get told.

GDP skepticism from the Fed

Interesting article by Bart Hobijn and Charles Steindel of the New York Fed, on alternative measures of GDP growth.

They make adjustments for three familiar problems — the non-inclusion of household labor, the calculation of government output as equal to cost, and the treatment of R&D (and other “intangible capital”) spending as an intermediate rather than capital good. The first issue is self-explanatory; the second is equivalent, for purposes of measuring growth, to an assumption of constant productivity in government; and the third means that R&D expenditures are not counted in final output. Hobijn and Steindel adjust for these problems by adding R&D-type expenditures to GDP; assuming that about one-quarter of women’s wages represents the market value of foregone household labor (don’t ask me how they came up with that number, or how they decided that men’s household labor has no value); and assuming that government productivity grows at the same rate as for the nonfarm business sector.

Their results? For 1983-2003, the adjusted and published series correlate almost exactly (0.99) at an annual level. (This isn’t surprising given how the adjusted series is constructed.) But over time, the divergence is significant — the upward adjustments for government productivity and the faster growth of R&D expenditures compared with GDP outweigh the downward adjustment due to a rising proportion of women in the workforce. So annual growth over those two decades runs about 0.5 percentage points, or 15 percent, higher with the adjusted series than with the published one. That’s not a trivial difference.

This is obviously of interest to anyone working on constructing alternative measures of GDP. But to me it raises bigger conceptual questions (questions that Hobijn and Steindel don’t get into, of course, since being mainstream guys they’re chasing the mirage of “welfare”). If short-term fluctuations are robust to alternative measurements but long-term growth is not, shouldn’t quantitative economics focus on the former? Is there a firm conceptual basis for talking about long-term growth as something we can even measure at all? Or was Keynes right when he said,

To say that net output to-day is greater, but the price-level lower, than ten years ago or one year ago, is a proposition of a similar character to the statement that Queen Victoria was a better queen but not a happier woman than Queen Elizabeth — a proposition not without meaning and not without interest, but unsuitable as material for the differential calculus.

Max Weber says…

What is the meaning of science as a vocation…? Tolstoi has given the simplest answer, with the words: ‘Science is meaningless because it gives no answer, the only question important for us: “what shall we do and how shall we live?”‘ That science does not give an answer to this is indisputable. …

Today one usually speaks of science as ‘free from presuppositions.’ Is there such a thing? It depends upon what one understands thereby. All scientific work presupposes that the rules of logic and method are valid; these are the general foundations of our orientation in the world; and, at least for our special question, these presuppositions are the least problematic aspect of science. Science further presupposes that what is yielded by scientific work is important in the sense that it is ‘worth being known.’ In this, obviously, are contained all our problems. For this presupposition cannot be proved by scientific means.

–“Science as a Vocation.”

This is why, altho I’m not personally religious, I can’t accept atheism as a principled position. Scientific knowledge is immensely useful and aesthetically satisfying, but people can live without it. What we cannot exist without is knowledge of “what shall we do and how shall we live.” Religion at least purports to give an answer to this question, science can’t. So if the two are really irreconcilable, science will have to go — at least until someone else can speak to that question with authority.

I ran across this quote recently in Alain Supiot’s Homo Juridicus and it inspired me to reread the Weber piece. What a wonderful essay. I particularly like — because I like anything I can take as a personal rebuke — his observation that “the dilettante differs from the expert … only in that he lacks a firm and reliable work procedure.” And his insistence — a genuine rebuke, to professors who try to use the lectern as a political platform — that political speech can take place only “where criticism is possible.”

Change we can believe in

“To be sure, Wall Street is not exactly as it was before the cataclysm of last year. Then, a dozen or so big banks formed the top tier. Now Goldman Sachs and JPMorgan Chase are clearly the strongest.”

In other news, the latest Employment Situation release from the BLS shows financial-sector earnings up over 4.9% year over year — the third highest (after professional service and fabricated metal products) of any industry reported. Compared with 1.7% for the private sector as a whole. Looks like it’s time for Geithner, Summers and co. to hang the “Mission Accomplished” banner out…

How to think about genes

Pre-scientific or magical thinking has several key features:

* The idea of a direct or intrinsic connection between things, i.e. that if two things influence each other or are associated in some way, they are bound by an occult link, are subject to the same invisible forces. One can instantly affect the other with nothing linking them.
* The idea that the visible characteristics of something are the expression of an invisible essence.
* The failure to distinguish between perceptions an reality, so that anything we see or imagine or experience is assumed to have an independent existence in the objective world.

Popular thinking about genetics has exactly these characteristics. Anything we can say about an organism, any description we give it, is reified as an objective trait of the organism. (As if the placement of an animal in Borges’ Library of Babel was a property of the animal.) These traits are then assumed to be present in the organism’s inner being, i.e. its genes. And the genes are then believed to produce and modify the trait by occult direct action, without any need for specific intermediate transmission mechanisms.

It’s just scholasticism. They said a person who behaved intelligently must have a property of intelligence. We say they must have a gene for it.

The alternative, scientific view insists that until we know the mechanism by which something happens, we don’t know anything about it at all. And there’s no expectation that the mechanism has any formal or inherent resemblance to the observed phenomenon.

The beginning of wisdom is that genes code for proteins. (Or for RNA.) The only thing a gene does is produce a particular protein. Nothing except the protein is the product of the gene, there’s no sense in which a gene is “for” anything else.

These proteins then participate in causal pathways. These pathways always involve the organism’s pre-existing physical state, the products of other genes, and the external environment, and almost always involve the organism’s behavior. Each protein may participate in many pathways, and at least as important, various pathways converge at points where they are interchangeable. Great proportions of this protein or that protein or this dietary change or that behavioral stimulus will all produce the exact same developmental response. And multiple points along the pathway may be sites of selective pressure – there is no sense in which the influence of the gene stops at the point we’ve chosen to identify as a “trait”.

There are many wonderful examples of what this means in practice in Mary Jane West-Eberhard’s Developmental Plasticity and Evolution. There she also makes the somewhat related point that organisms constantly lean on the self-organizing capacities of inorganic matter — another way the whole “code” metaphor is wrong.