Structural Shifts and Bailouts
Richard Florida, sounding a skeptical note about bailouts, says we need to look to structural shifts:
The bailouts and stimulus, while they may help at the margins, also pose an enormous opportunity costs. On the one hand, they impede necessary and long-deferred economic adjustments. The auto and auto-related industries suffer from massive over-capacity and must shrink. The housing bubble not only helped spur the financial crisis, it also produced an enormous mis-allocation of resources. Housing prices must come a lot further down before we can reset the economy – and consumer demand – for a new round of growth. The financial and banking sector grew massively bloated – in terms of employment, share of GDP and wages, as the detailed research of NYU’s Thomas Phillipon has shown – and likewise have to come back to earth.
I think we need to distinguish between the bailouts and the stimulus here. And then within bailouts, we need to distinguish between the auto bailout and the financial sector bailouts.
So, starting with bailouts. The problem comparing the two bailouts is that social justice considerations and economic considerations point in different directions here. The auto workers are sympathetic claimants in a way that nobody in the financial sector is. But Florida’s point about the need for structural shifts has a lot more force in the auto case. In principle, the funds spent (and to be spent in the future) on the auto bailout could have been put directly into auto workers’ pockets while Chrysler and GM were put into government-sponsored debtor-in-possession financing. That would have achieved similar social justice ends without retarding necessary sectoral adjustments toward a world in which somewhat fewer automobiles are made. That said, the total quantity of funds involved in the auto bailout has been relatively small compared to the financial bailouts.
On the financial bailouts, it’s true that the size of the financial sector needs to shrink. But the bailouts are not preventing that from occurring—it is shrinking. And hopefully it will continue to shrink, in relative terms, as we move into recovery. But the point I would make here is that it’s extremely difficult for the needed sectoral shifts to happen absent a functioning financial system. The point isn’t that we need looser credit card rules so that people can go back to spending money they don’t have on short-term consumption. But if we want there to be more employment in the future, people are going to need to start some new businesses. And some existing businesses that aren’t auto companies, banks, or homebuilders are going to have to expand. And it’s very hard to expand without the ability to access credit markets. When people say that we need to “get credit flowing again” I sometimes worry that they’re talking about re-inflating the housing bubble, or getting us back to households having negative savings. That’s credit. But credit that’s used to finance productive business activities is necessary for sustainable economic growth.
On stimulus, I think that how well this turns out will ultimately hinge to some extent on the success of the programs. In principle, the stimulus spending—which largely goes to infrastructure, to education, and to health care—ought to greatly facilitate economic transition to the kind of “creative” economy Florida’s envisioning. To the extent that that money winds up wasted on programs that are ineffective we will have bought short-term demand at the price of stalling on long-term adjustments. I’d still say that’s a price worth paying, all things considered, but obviously it’s a good deal worse than a scenario in which these investments turn out to pay off in the long-run in the form of a healthier, better educated population able to move on better transportation and take advantage of faster broadband.
20 Responses to “Structural Shifts and Bailouts”
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March 18th, 2009 at 2:06 pm
hmm two posts at 2:01 pm. someone’s stuffing their face at chipotle right now.
March 18th, 2009 at 2:07 pm
for background on Florida’s perspective on structural shifts etc, here’s Florida’s article from The Atlantic a couple of months ago
http://www.theatlantic.com/doc/200903/meltdown-geography
March 18th, 2009 at 2:28 pm
Yes, we need a functioning financial system, but the bail-outs don’t help, and may even harm, our financial system. The experience of every other country that has gone through this, as surveyed by the IMF and others, is that bank bail-outs don’t work. Propping up Citi & co. only prolongs the problem and creates greater uncertainty. Besides, we’re not talking about shutting down the banks, merely renegotiating their debts by converting some of it into equity. Not that mysterious really. But the people who lost this money would rather that the taxpayer take the hit and they are willing to throw up a mighty smokescreen to try to make that happen.
Think for a moment about Achmed Chalabi. You were incredulous that anyone couldn’t see through his obvious self-interest in lying about Iraq. For the sake of argument, what would Achmed Chalabi do if he were CEO of Citi or Goldman? What would he say? Is that different from what the actualy CEOs of Citi & Goldman are saying? Please just consider for a moment that the bankers do not have mainstreet America’s best interests at heart when the ask for a bail out. And please remember that Chalabi’s first scam was as a Jordanian banker.
March 18th, 2009 at 2:30 pm
I think MY still has a backwards perspective – the only way that that financial sector is more important than the automotive one is if we find a way to eat and breathe money.
The financial sector that you grew up with, Matt, is over, and the life supports are the last dying throes of a neo-liberalism that arose as the great compromise with Reagonomics. A rubust paleo-liberalism would recognize that the government endorsed and encouraged ties between the speculative economy and the median household has driven the entire country to the right for the past thirty years. The fact that it can’t go on any longer signals a new era.
The article in the NYT business section Sunday about the takeover of the railroads in the 70s – link here (http://www.nytimes.com/2009/03/16/business/16rail.html?dbk) offers the most sensible way out. We need a lot bigger government. We need massive government “interference” for the next decade in the private market. We need a taxpayer based recovery bank to insure a flow of funds to the remade auto section. We need at the end of it a green product that is significantly better than the 100 year old engineering we have under the hood of 99 percent of the cars on the planet.
The government has invested over time trillions of dollars in roads to make the car system work. This happened with a minimum of protest even from the loboto-right. Now, of course, we have the generation that grew up under Reagan and still thinks that monster was a great president crying Randian tears at the size of the government. Screw them.
The idea that the liberal moment will go down because the liberal party has to rescue Wall Street would be comic if it weren’t tragic. So responsible, these liberals! So braindead. So inured to the new feudalism, which they want to tweak for a few socially just modifications!
I imagine reality has to keep beating these people over the head until they understand that it – the whole glorious Great Moderation – is not coming back.
March 18th, 2009 at 2:32 pm
Re Matthew’s comment “But credit that’s used to finance productive business activities is necessary for sustainable economic growth.”
—————
Yeah. Too bad that Obama and the Democratic Congress gave $10 TRILLION to a parasitic ,bankrupt financial sector instead of funneling it to real businesses — like I recommended here 6 months ago.
But “productive business activities” that sustain our lives didn’t toss as much money to the Democratic Party in the last election as did AIG,etc.
March 18th, 2009 at 2:38 pm
Would Robert Rubin, Larry Summers, or Bill Clinton know a “productive business activity” if it bite them on the ass?
Is that what they think the organizations being bailed out are?
The Democratic Caucus is taking $Trillions out of the mouths of working class citizens and giving it to Wall Street parasites. It’s doing that out of corruption — which is why it has NO plausible rationale for the bailouts.
I say that as a registered Democrat who’s worked as a volunteer in the last 4 elections.
March 18th, 2009 at 2:52 pm
The auto and auto-related industries suffer from massive over-capacity and must shrink.
This is the same fool that thought the growth led by the financial industry was going to cause everyone to move to white collar jobs in finance. So now he notices finance sucks? Dude.
Meantime, yes, what DTM said: we have some overcapacity in autos. Whoopie. People like Florida have been arguing for trashing the industrial base so long, they don’t seem to notice that, absent finance, we got nothin’… and certainly no employment for the Richard Florida’s of the world.
max
['Man, that guy is annoying.']
March 18th, 2009 at 3:10 pm
But max, with all that new broadband just think of the boom in internet porn! Bread and circuses for our permanent underclass.
March 18th, 2009 at 3:11 pm
Ah, I see max got here ahead of me. But I just hope that Matt will remember this (extremely) sloppy bit of analysis the next time he reads something by Florida.
The man is somewhere between a one trick pony and a charlatan, and he made his reputation drawing conclusions from past events that have utterly failed to predict future events. It’s never been clear to me why he’s so widely cited, except for the fact that his conclusions are very flattering to opinion-makers.
March 18th, 2009 at 3:19 pm
Matt, what do you make of this?
TALF: ‘the great liquidation’ begins for hedge funds and shadow banks
Posted by Edward Harrison on 17 March 2009 at 11:09 am
An article in the Financial Times caught our eye that makes plain that the TALF (Term Asset Security Program) is a bailout for the shadow banking system (HT Tom). The bailouts for the banking industry continue unabated despite a change in Administration on January 20th. The Obama Administration has topped up bailout money for Bank of America, AIG and Citigroup, three of the weakest ‘too big to fail’ institutions without putting them through a bankruptcy process.
Now, the Federal Reserve and the Administration are set to move on the TALF program which we chronicled here in three earlier posts, “TALF: A bailout if one reads the fine print,” “TALF details suggest Obama doesn’t get it,” and “A few words from a reader on TALF mechanics.”
Here is what the FT had to say:
When a group of men who got rich by buying low and selling high want to make you their partner, hang on to your wallet. That bit of financial wisdom was amply demonstrated by the 97 per cent peak to trough drop in the common stock of Fortress Investment Group on its second anniversary as a public company last month. Leverage cuts both ways, and its impact has been almost entirely bad for the alternative asset manager with the low point being a temporary halt to redemptions at its Drawbridge hedge fund late last year.
But investors looking over the detritus left by the financial crisis seem suddenly to realise that, having survived so far, Fortress is ideally suited to reap a future bonanza. They looked past a hefty net loss for the fourth quarter and bid Fortress’ shares up as much as 40 per cent yesterday on hearing its optimism about participating in the first round of the term asset-backed securities loan facility. Fortress is one of a handful of groups that retain the size and credibility to play a role in what may prove to be a high reward and relatively low-risk exercise. Fortress executives dub the coming period “the great liquidation”.
Meanwhile, much of the bleeding has stopped in Fortress’ existing business. About 82 per cent of its capital is long-term in nature with an average remaining life of 9.2 years, leaving plenty of time for mark-to- market losses to be reversed. With important debt renegotiations and redemptions mostly behind it, nasty surprises are unlikely. Management’s optimism about the future of their hedge fund business may sound like bluster after huge outflows and no inflows recently, but it is not so implausible. If it can build new funds while using the taxpayer as a low cost prime broker, new investors should be willing to let bygones be bygones.
I won’t go into specifics here because we have chronicled that in the prior three posts. The crux of the matter is the ‘Great Liquidation.’ Financial service companies in the shadow banking system like Fortress are now able to rid themselves of a good portion of their Level-3 hard-to-price, so-called toxic assets. Now, mind you, these assets must be rated AAA and will be taken on as collateral for a haircut. But, I sense the Fed will be stuck with these assets for quite some time as the loans they are giving for them are non-recourse.
What was once ‘You Walk Away‘ for home owners on their non-recourse mortgages is now you walk away for hedge funds and broker-dealers.
Quoting a good friend, this is “a huge windfall for the hedge fund industry. This whole exercise is designed as much as possible to restore the status quo ante. That’s the real scandal.”
http://www.creditwritedowns.com/2009/03/talf-the-great-liquidation-begins-for-hedge-funds-and-shadow-banks.html
March 18th, 2009 at 3:33 pm
The problem with a “creative economy” is that it doesn’t have any answer about what to do with the large segment of the population that are non-college graduates.
Only about 25% of the adult working population has a Bachelor’s degree or higher. Let’s say that we could double that without watering down standards if we put a lot more money and effort into elementary education, reducing child poverty, cheaper college, removing all the lead paint from the slums, and so forth.
Great. That still leaves half the population without a degree. What do they do in the “knowledge economy”? The unspoken answer is that they become low-paid servants. In the long run, I don’t see this as being sustainable.
Some people, for various reasons, are simply not intellectually and/or temperamentally suited to a college education. We as a society need to provide these individuals with employment opportunities that allow them to live in dignity and raise families. The old manufacturing economy did this very well. The new “knowledge economy” – not so much.
March 18th, 2009 at 3:52 pm
Great. That still leaves half the population without a degree. What do they do in the “knowledge economy”? The unspoken answer is that they become low-paid servants. In the long run, I don’t see this as being sustainable.
It would be a lot more sustainable if we didn’t allow immigration of unskilled workers.
March 18th, 2009 at 6:21 pm
Run it and plumb it, to a large extent
March 19th, 2009 at 3:07 am
Heck, what do all the current people with degrees do if they can’t sell financial products for a living? What else are their business degrees good for?
March 19th, 2009 at 4:24 am
Richard Florida makes $35,000 per speech because he looks like Aaron Eckhart and he tells powerful people fashionable things that they want to hear. He makes Malcolm Gladwell look like David Hume.
March 27th, 2009 at 10:30 am
Keep working ,great job!
April 1st, 2009 at 1:51 am
General Motors is getting close to going bankrupt and to being liquidated. Ineptitude and greed of its management, its board, and its union are finally catching up with the former king of the automotive industry.
April 9th, 2009 at 2:57 am
FANTASTIC!
April 9th, 2009 at 10:25 pm
The style of writing is very familiar . Did you write guest posts for other blogs?
April 15th, 2009 at 12:22 pm
I’ll share it on Twitter.