The Christmas Economic Stimulus

Keynesian economists argue that when the economy is not providing enough jobs, the problem is a lack of demand. If more consumers were clamoring for additional goods and services, businesses would hire workers to provide them. If borrowers are tapped out, either overloaded with debt or saving more because of uncertainty, they cannot increase spending.

Governments, however, can usually continue borrowing even if individuals cannot. When the economy is in recession, the government can run a deficit, and spend the money to pump up demand. Once demand is higher, businesses will hire more workers. With more money in their pockets, workers will spend more, creating even more demand. Once the consumer demand recovers, government can then drop the deficit spending, as aggregate demand will have recovered. Keynes likened it to priming a pump.

This is the economic theory behind the various government stimulus packages that we have seen in the last few years. President Obama’s job program proposal was another along these same lines. It did not get off the ground, due both to partisan politics and a legitimate concern that the Federal government is already carrying too much debt.

It occurs to me, however, that the private sector is about to undergo a burst of increased demand. It’s called the Christmas selling season.

Goods are moving from the warehouses onto store shelves in anticipation of Black Friday. Retailers are hiring additional staff to handle the expected surge in buyers. And the increase in demand is not just limited to presents. At my employer, we are already making deposits for the caterer and DJ at our annual Christmas party. Folks are booking airline flights as they plan their holiday travel.

Viewed as a temporary increase in demand, the holiday season fulfills the same function of a government stimulus package. But we all know what happens after the first of the year. Seasonal workers get laid off. The inevitable credit card bills arrive, causing December’s free spending consumers to retrench in January. Economic activity drops back down again as people tighten their belts.

So when the private sector does a stimulus package, the effects are short term in nature. I wonder why we think it will be longer lasting when the government does it?

Austerity? We don't need no stinking austerity!

Paul Krugman has put out an op-ed piece in the New York Times accusing governments on both sides of the Atlantic of not doing enough to provide jobs for the unemployed. He believes that governments are sacrificing the welfare of their citizens because they are giving undue influence to the owners of capital. The interests of bondholders are being protected at the expense of ordinary people. He doesn’t quite use the phrase “sinister cabal of international financiers,” but he comes close.

I know the guy has a Nobel Prize in Economics and I don’t, but really, I think he’s overstating his case. Krugman argues that as long as the unemployment rate is high, governments need to do more deficit spending, even if printing money to pay the bondholders kicks off a higher inflation rate. And if a few governments have to default on their loans, well, that’s a small price to pay. Sure, the bankers will take losses, but look how much good they’ve done!

Maybe the politicians are reluctant to dig the financial hole deeper because they remember their grandmother’s telling them to always spend a little less than they earn. Maybe the politicians don’t want to saddle their children with huge debt payments. You know, principled arguments against taking on too much debt. Aw, who am I kidding, these are politicians I’m talking about. They probably are listening to the bankers.

Still, there is nothing sinister about not wanting to lose money. I’m not an international financier, but I’m not wild about losing money on bad investments. Let’s picture a conversation between an International Financier and a Liberal Politician:

LP: I know we’re borrowing 40% of every dollar we spend, but I’m thinking we need to increase our spending.
IF: If you continue to increase your debt, there’s a good chance you won’t be able to pay back the money you’re borrowing. If I don’t think I’m going to be paid back, I’m not going to loan you any more money.
LP: But you have to keep loaning me money. Even after this crisis is past, we’re still going to be spending more than we take in taxes.
IF: You’re very telegenic, and you’ve got charisma coming out your ears, but I don’t think you heard me. If I don’t think I’m going to be paid back, I’m going to stop loaning you money.
LP: But people need jobs!
IF: Not my problem. My problem is getting paid back with interest. If I loan you too much money, you won’t be able to pay it all back.
LP: You will get paid back! I own a printing press, and I can just print off more money. Problem solved.
IF: *sigh* If you print more money, than you set off inflation. If you have 8% inflation, and my bonds are drawing 4% interest, that is a negative 4% return. I don’t loan people money in order to lose it.
LP: So you’re telling me that if I increase our deficit spending, you’re going to cut me off.
IF: In a nutshell, yes.
LP: Well, I guess I can’t increase the amount of deficit spending then, even though I want to.

There is no great conspiracy here. Just a lot of people pointing out that even great nations have to eventually pay back the money they borrow, and that it is a bad idea to dig that hole deeper then you can climb out of.

It doesn’t really take a Nobel Prize to figure that out.

Summer Jobs IV

Our story thus far: My company took on two summer hires as part of a make work program, funded by the stimulus package. The original two, Frick and Frack, both quit within two weeks. Frack merely stopped showing up, and Frick quit after telling us that “we wanted too much work” out of him. We then brought in Heckyl and Jeckyl. Jeckyl was a no show on day one. Heckyl has stuck it out for three weeks so far.

When we called the agency administering the grant to ask for a Jeckyl (Mark II), we were told that they could not send anyone else out. The number of people working had already committed the money in the original grant. Given our results, I can only conclude that other employers were having an easier time holding on to their summer hires than we were. At some point I may seek some of the other employers out to find out what kind of results they were getting, and how their treatment of their summer hires differed from mine.

Meanwhile, Heckyl continues to clock in, somewhat to the surprise of the management team. He has only missed two days in three weeks, and he has called in both times. However, this week we did have the episode of the Morning Nap.

We ship our product in gaylords, big cardboard boxes about the size of a refrigerator box. This week we got some in that needed to be wiped down before we loaded product into them. So we tilted them over on their side, and Heckyl was assigned to wipe them out with a paper towels. Simple enough, right?

About twenty minutes later the regular employee who Heckyl is working with went looking for him. He couldn’t find Heckyl at first, until he spotted a foot emerging from the open end of the gaylord. Our guy went around to the open side, looked in and found Heckyl taking a nap at 10:30 in the morning. Our regular employee did what anybody would do in this circumstance: he pulled out a cell phone and snapped a picture of his napping coworker. Then he went and told his coworkers to check it out.

After about fifteen minutes, somebody went and found the Production Supervisor, Big T, and showed him. Big T did what anybody would do in this circumstance. He pulled out his cell phone and snapped a picture of Sleeping Beauty. Then Big T stepped back, had a forktruck fired up, and started shouting for someone to get the gaylords out of the area, while pounding his fist on the side of the cardboard box. Unsurprisingly, Heckyl emerged from the box, claiming that he was still working on this one.

Afterwards, Big T and I discussed what to do about it. Ordinarily, we would just escort Heckyl to the timeclock, watch him punch out, and wave bye-bye as he drove off into the sunset. Since he’s not on our payroll, however, we decided to let him off with a simple warning. I guess we’re no more careful with the taxpayer’s money than anybody else.

The funny thing about the whole situation is this: Heckyl has missed work twice, and been caught sleeping on the job in the middle of the morning. And of the five workforce program guys we’ve tried, he’s the star! No wonder these guys need the government to help them find a job.

Summer Jobs III

We now have completed three weeks of the Federal make work summer jobs program that was part of the stimulus package. Frick and Frack, the original two hires, have both flown the coop. Frack stopped showing up last Monday. Frick waited until last Wednesday to let us know that he was quitting the program.

So we went back to the well, and requested two more summer hires. After all, the grant money has to be spent. Let’s call the two new guys Heckyl and Jeckyl.

Heckyl came in last Wednesday and worked one day. He then had some kind of family emergency, and called in to let us know that he was going to skip Thursday. For regular hires, missing your second day of work is not a prescription for long employment, but Heckyl is only a part time summer hire, so what the heck.

Jeckyl stopped in last Thursday for a quick orientation, and was told to report to work Monday morning.

Fast forward to Monday morning. Wonder of wonders, Heckyl actually came back to go to work. Alas, Jeckyl was a no show. He probably developed a vision problem over the weekend: he just couldn’t see coming in to work.

This program is supposed to be reserved for the economically disadvantaged, job seekers between the age of 18 to 24. It’s easy to see why these jacklegs are in the economically disadvantaged category. When you only work a few days before quitting a job, it’s hard to get ahead in life. Even with the Federal government guaranteeing their paycheck, these clowns can’t hold a job long enough to get any usable experience.

This whole experience so far illustrates one of my general rules for predicting behavior:
Everyone wants a paycheck. Most people want a job. Some people want to work for a living.

So, we’ve put in a request for a new Jeckyl. We’ll call him Jeckyl II. I’ve a sneaking suspicion that we’ll be on to Tweedledee and Tweedledum before the summer is over.

Summer Jobs

We picked up a couple of summer interns at my company this week. They came to us through a government program that is part of the Obama stimulus package. Basically, the government pays their wages and picks up their benefits (worker’s comp, FICA taxes), put they actually work for us.

Free labor. What’s not to like, right?

Actually, it is kind of a tricky prospect, trying to get useful output out of these guys. Business was slower earlier in the year when we signed on for this program, and we were working reduced hours. I had a concern that our regular workforce would perceive the summer workers as competing with them for work.

Fortunately, business has picked up from the low point last winter. But these guys (let’s call them Frick and Frack) know nothing about working in an industrial facility. Zip, zilch, nada. So to get any more output out of them than pushing a broom, they will have to be trained. I can’t even let them mop the floor after they’ve swept it without proper training. Oily mop water from an industrial facility has to be properly disposed of.

It is the classic investment problem. I have to invest resources into training Frick and Frack in order to turn them into usable resources in their own right (or, as I like to call them, interchangeable worker units). To train them I have to take my regular folks off their jobs to do the OJT. Too much training, and I can’t get my money back out of them by increased productivity, especially since they’re only here for the summer. Also, I have to keep regular work going while they are being trained.

Still, I want them to get more out of their summer job than just pushing a broom. So I’m looking for that balance point where we teach them enough for them to say they have learned something, but at the same time keep the training short enough to get some payback off the investment in training.

In a larger sense, I want Frick and Frack to come out of this experience with more skills than they went in because they aren’t really free labor. After all, the government is picking up the check. Spending money just to create make-work jobs is a terrible use of the government’s limited resources. Spending the same money to help develop the next generation workforce makes a lot more sense to me.

After all, it’s my tax dollars at work.

Northern Trust: "I'm shocked, shocked to discover..."

There has been another dust up this week regarding a bank that received Federal money not spending their resources as the legislators would wish. Northern Trust Bank, a Chicago based institution, sponsored a golf tournament in Los Angeles last weekend. As part of their sponsorship, they paid for employees and clients (mostly clients) to fly in for the event. The bank paid for the guests to stay in expensive hotels, and sponsored lavish parties, headlined by the artists Chicago, Earth,Wind & Fire, and Sheryl Crow. Suffice it to say that big bucks were spent, and a good time was had by all.

Since Northern Trust was the recipient of $1.6 billion from last year’s Federal bailout package, outraged howls from Congress ensued when details about the swanky soirees hit the media. Representative Barney Franks, chairman of the House Banking Committee, fired off a letter to Northern Trust, castigating the bank for their “arrogance and irresponsibility” and demanding Northern Trust return to the Treasury a sum equal to what was spent on the event. The letter was cosigned by seventeen other Democratic congressmen.

This is the kind of political grandstanding that explains why politicians should not be in charge of the banking system in this country. Among all the screams of “an outrage, simply an outrage,” and “have they no shame,” several facts about the issue have been drowned out.

First, Northern Trust signed the five year sponsorship contract for this golf tournament in 2007, before the whole banking mess started. Furthermore, blocks of hotel rooms, caterers and bands for events like this are usually booked six months or more in advance, with sizable deposits paid. In other words, these expenses were committed to long before any of the Federal bailout package was even thought of, let alone handed out. What was Northern Trust supposed to do, break the contracts and lose all the prepaid expenses?

Even more important, keep in mind that Northern Trust did not ask for money from the Treasury. Northern Trust is a profitable bank. Even after all the prepaid expenses for the golf event, they earned over $600 million in 2008. They accepted the money from the Treasury’s Troubled Asset Relief Program (TARP) because they were asked to take the money.

The Treasury Department wanted all of the twenty largest financial institutions in the country to take money from the bailout fund. The idea was that if only banks in trouble got bailout funds, it would be a red flag to investors and depositors. The Treasury didn’t want to start a run on the very banks that most needed their help. So banks that did not need a capital infusion were arm-twisted into taking the money, right along with the banks that were on the edge of insolvency. In Northern Trust’s case, the TARP money came in the form of a loan, and they are paying almost $80 million a year back to the Treasury.

I borrowed money from a bank to buy my home. I make my mortgage payments on time, and have never been late. As long as I keep making those payments, I don’t think the bank has a right to tell me I can’t serve steak if I have a barbeque in my backyard. The same principle applies here. Congress (or more to the point, individual representatives) doesn’t have the right to tell profitable businesses how they should operate.

And here’s my final point on the Northern Trust story for today: when Northern Trust throws a big party in LA, doesn’t that stimulate the economy? If you are a hotel maid, or a catering server, or even a roadie for Sheryl Crow, aren’t you benefiting from these parties? Those people have jobs, and are probably grateful to be working in today’s economy.

The US government is about to start spending almost $800 billion on a stimulus package to put people to work. Maybe Congressman Franks should not be in such a big hurry to stop private institutions from doing the same thing.

Viscous circles, Virtuous Cycles, and the Stimulus

The US House passed a $813 billion dollar stimulus package spending bill yesterday. The vote went along party lines, with the Republicans, in a remarkable show of party unity, voting 100% opposed. It will now proceed on to the Senate.

There has been a steady drumbeat of bad economic news in the last few weeks, with a number of major companies, from Alcoa to Starbucks, announcing major job cuts. Both consumer and business confidence are at low ebbs. So I think a stimulus package is probably a good thing at this point. But I think there hasn’t been much discussion about the purpose behind the stimulus. Put another way, what is the stimulus intended to accomplish?

Most of the rhetoric has been about job creation. The debate has been couched in terms of what puts people back to work faster, spending or tax cuts. My perspective is that the emphasis on job creation is misplaced. As a conservative, I would argue that the purpose of government is not to guarantee everybody a job (an impossible task in any case). The major purpose of government is to safeguard our liberties, with a minor in promote the general welfare.

The purpose of the stimulus should be to create an inflection point in the general trend line of the economy. To do that, we need to break up the current negative feedback loop driving decision making.

I can see my mother now, saying “What the Hell does that mean?”

First, let’s talk about inflection points. Anytime you look at a graph, the line is trending downward over time, or it is trending upwards over time. If you have a graph that shows both, the spot where the trend changes from down to up or up to down is the inflection point. The economy is trending down right now, and from the news, it is trending down pretty steeply. What the stimulus should do is reverse that trend, to get the economy growing again. That will be difficult because the downward trend is being fed by a negative feedback loop.

Here is the mechanism at work: demand is soft, so companies layoff workers. Once they are laid off, those workers cut back on their spending. Since they are not spending, demand for products and services drops further. With lower demand, more companies announce layoffs, leading to another round of reduced spending, lower demand, and more layoffs. The cycle feeds on itself. Another term for a negative feedback loop is a viscous circle.

Adding to the problem are the effects of fear. People who haven’t lost their jobs yet say “I could be next,” and cut back on their spending as well to conserve cash. This is perfectly natural (by which I mean I’m doing it too), but it steepens the decline.

In a growing economy, as demand increases, businesses hire more employees. Those new employees start spending more, increasing demand, leading to more hiring, driving spending higher, and so on. This is a positive feedback loop, also known a virtuous cycle. Once businesses increase in confidence, they start investing in capital. Capital investment both drives the cycle higher and leads to productivity improvement, bringing higher standards of living as well as more jobs.

The emphasis on turning the economy around versus merely creating jobs is critical. A goal of job creation will lead to an expansion of government payrolls. The easiest way to make sure everyone has a job is to keep hiring. But once you add government positions, it is hard to remove them. You end up with higher government costs for the long term.

An emphasis on a short term surge to kick start the private sector leaves the long term heavy lifting to the private sector. And it is the private sector which will develop the productivity improvements that will raise living standards in the long run.

Closing Down

Chrysler has announced that starting tomorrow, they are closing all thirty of their manufacturing sites for a month. This is being billed as a cash conserving move on their part. This is being treated as a major news story, getting coverage on the networks and all the major newspapers. Of course, I have a reaction to this story. Ready? Wait for it.

Big, fat, hairy deal. Do they want us to think that this is a last ditch effort to save the company, because they didn't get their Federal bailout check?

My company shut down operations for the entire week of Thanksgiving. We came back to work on December 1, worked production until December 9, then closed up and sent the production associates home until January 5. Our maintenance crews are going home at the end of this week, and they'll be off for two weeks. So between November and December, we've taken four weeks off, just like Chrysler. We're doing this because orders are down, and you cannot keep building product when your customers aren't buying, just like Chrysler.

The difference is that we didn't issue a press release just because we are closing down for inventory reduction at the end of the year. We would rather be running production, but in today's environment, it is just a sound business decision, to cut production to balance inventories. You don't see us threatening the economy of Tennesse with collapse if we don't get a bailout.

In their campaign to get hold of Federal bailout money, the domestic car companies and the UAW have consistently presented the worst case scenario to support their claim on Federal money. "If you don't give us $30 billion, RIGHT NOW, we are going bankrupt, one out of every five Americans will be unemployed, and a new Great Depression will sweep the country."

It is the industrial equivalent of extortion. And it's getting old.

Be Calm

From all indications, the US economy is in bad shape. Unemployment is rising, as more companies announce layoffs. The fall in stock prices has gotten to the level that many of us have stopped looking at our 401K balances. The credit markets are still largely frozen up, making it difficult for even profitable companies to get financing for their operations. It is clear that we are in a recession, and by all indications it will be a bad one.

In the face of all this bad news, the cries for a new stimulus package from Washington have become louder and more insistent. Paul Krugman, the Nobel winning economist and New York Times columnist, is calling for an immediate fiscal stimulus of $300 to $600 billion. Gail Collins, another New York Times columnist, is calling on President Bush to resign as the only way to save the country. "Orderly transfer of power be damned! Save us, Obama, save us!" Any impediment to handing out the fat envelopes of government cash, such as the Constitution, is considered as perilous in this time of crisis.

Two things are being missed in the panicked rush to increase the national debt in the name of keeping the economy going.

First, it's not that bad out there. The unemployment rate has risen, that's true. But 93% of us still have jobs. Banks have had to write off hundreds of billions of dollars worth of bad mortgages, and a number of banks have failed, that's true. But not a single depositor has lost his savings. Credit has gotten scarcer and more expensive, that's true. But my credit card still works and I expect it to keep working, as long as I keep paying off the bill. Standards may be a bit higher, but banks are still making loans to individuals with good credit ratings. Corporate profits are down, but aside from financial services and the domestic auto makers, companies in most sectors are not losing money.

Perform a little thought experiment: when you drive past Wal-Mart, is the parking lot still full of cars? If you go out to eat at a restaurant, is the place half empty, or do you have to wait for a table? My experience has been that the economy is still functioning. It may be harder to make a buck, but rumors of a new Great Depression are greatly exaggerated.

The other factor that has been missed by the pundits is that gas prices have dropped in half over the last couple of months. Gasoline that was at $4 a gallon over the summer now costs under $2 at the pump. For the average household, this frees up between $50 and $100 a week. Between now and the end of the year that could be worth up to $500, with another chunk of budgetary relief in January. And another in February, and so on. Over the next few months, lower gas prices will but as much money back into the economy as any proposed stimulus package.

Money that isn't literally burned is availible for keeping mortgages current, and paying down credit card debt, and shopping for Christmas presents. All activities that will reduce the level of financial panic. We just have to be patient.

I keep reading the terms Bear Stearns and bailout used in the same sentence, or at least in the same paragraph. Usually the gist of these news stories is that Wall Street (i.e. Bear Stearns) got a bailout, therefore fairness demands that Main Street (i.e. the poor schlemiels who paid too much for their house) also get bailed out. I've got two problems with the folks who make this argument.

First of all, next month the Federal government is going to mail out checks of up to $1200 to almost everyone in America who filed a tax return. People who have not paid taxes in years, like many Social Security recipients, are being advised to file for 2007, in order to reserve their place at the public feeding trough. The cost of this government largesse will total $150 billion. Surely that's enough of a bailout to satisfy the most ardent of parachutist, isn't it?

But more to the point, it is hard to see how the Bear Stearns deal could be considered a Federal bailout in the first place. To make the deal go, the Fed gave $30 billion to JP Morgan Chase, the acquirer. In exchange, the Fed received a portfolio of Bear Stearns assets with a book value of $30 billion. For political reasons, the cash given to JP Morgan was called a loan, and the Bear Stearns assets were called collateral. Frankly, these assets are certainly not worth the book value in today's market. However, the Fed does not have to sell the assets on any timetable. In the fullness of time the Fed may be able to recover most of the money they put into the deal. There will almost certainly be an eventual loss, however, and that loss will be borne by the taxpayers.

The Fed took this action not to bailout Bear Stearns, but to keep the financial markets from freezing up in the panic that would have accompanied a bankruptcy filing by the fifth largest US investment bank. That panic would have hurt a number of large financial institutions. Institutions like the pension funds that pay pensions to retirees. Institutions like the insurance companies that pay to rebuild your house if it burns down. Institutions like municipal governments that issue bonds to build roads and sewage systems. Institutions that serve local Main Street interests.

Meanwhile, what happened to stockholders of Bear Stearns stock? Many of these stockholders were Bear Stearns' employees. As a matter of fact, the employees owned about 30% of the company. In January 2007 the stock was worth $170 per share. The Friday before the deal with JP Morgan, the stock was still worth $30 per share. The latest offer from JP Morgan was $10 a share.

So. over the weekend, two thirds of their equity was wiped out. Adding insult to injury, large numbers of the former owner/employees are facing pink slips in the very near future.

Calling this a bailout is like saying that what Henry the Eigth did to Anne Boleyn was a haircut.

Stimulus Package, Part III

Last week I caught an episode of Larry King Live on CNN. Larry had on a panel that included Dave Ramsey and Robert Kiyosaki (of Rich Dad, Poor Dad fame) to discuss the stimulus package proposed by Congress. One of the first questions was something along the line of "Do you think the stimulus package is a good idea?" None of the panelists thought that mailing out a bunch of tax rebates would actually pull the economy out of recession. But all of them agreed that "Congress had to do something."

I have two objections to the "They have to do something" line of reasoning.

First, I question the whole assumption that Congress has to do anything at all. As a fiscal conservative, I believe that the government should tread lightly in interfering with the economy. Smoothing out every vagery in the unemployment rate is not what the Founding Fathers had in mind when they established the Constitution to "promote the general welfare." Making the budget deficit worse than it already is strikes me as trading short term gain for long term pain.

But let's say we accept that Congress has to "do something." They're only our elected representatives, after all. No one expects them to display enough moral courage to stand in the way of buying off the voters in an election year. However, shouldn't they at least do something that was going to work? I have yet to read or hear one commentator that approves of the proposed stimulus package. No one thinks that the current plan will have the desired effect of pulling the U.S. out of recession. So why are we doing it?